10-K

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

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

For the fiscal year ended September 30, 2006

Commission File Number 1-32203

PROSPECT MEDICAL HOLDINGS, INC.

Delaware	33-0564370
(State or other jurisdiction of incorporation or organization)	(IRS Employer Identification No.)
400 Corporate Pointe, Suite 525 Culver City, California	90230
(Address of principal executive offices)	(Zip Code)
(310) 338-8677
(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

Title of each class:	Name of each exchange on which registered:
Common stock, Par value $0.01 per share	American Stock Exchange

Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. o Yes   x No

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act. o Yes   x No

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act 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. x Yes   o No

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o Yes   x No

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

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

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

The aggregate market value of common stock held by non-affiliates of the Registrant as of March 31, 2006 (the last business day of our most recently completed second fiscal quarter) was approximately $24,038,960 based upon the closing price for shares of our common stock as reported by the American Stock Exchange on such date.

As of December 19, 2006, 7,348,053 shares of the Registrant’s common stock were outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the proxy statement for the Registrant’s 2006 annual stockholders meeting, which will be filed with the Commission on or before January 28, 2007, are incorporated by reference in Part III of this report.

Table of Contents
Form 10-K

	PART I
Item 1.	Business	3
Item 1A.	Risk Factors	38
Item 1B.	Unresolved Staff Comments	51
Item 2.	Properties	51
Item 3.	Legal Proceedings	53
Item 4.	Submission of Matters to a Vote of Security Holders	53
	PART II
Item 5.	Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities	54
Item 6.	Selected Financial Data	55
Item 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operation	57
Item 7A.	Quantitative and Qualitative Disclosures About Market Risk	75
Item 8.	Financial Statements and Supplementary Data	75
Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	76
Item 9A.	Controls and Procedures	76
Item 9B.	Other Information	76
	PART III
Item 10.	Directors and Executive Officers and Corporate Governance	77
Item 11.	Executive Compensation	77
Item 12.	Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters	77
Item 13.	Certain Relationships and Related Transactions, and Director Independence	77
Item 14.	Principal Accounting Fees and Services	77
	PART IV
Item 15.	Exhibits and Financial Statement Schedules	77
Signatures		101

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PART I

Item 1.Business.

Prospect Medical Holdings, Inc. is a health care management services organization. We provide management services to affiliated physician organizations that operate as independent physician associations (“IPAs”) or medical clinics. Our affiliated physician organizations enter into agreements with health maintenance organizations (“HMOs”) to provide enrollees of the HMOs with a full range of medical services in exchange for fixed, prepaid monthly fees known as “capitation” payments.

The IPAs contract with physicians (primary care and specialist) and other health care providers to provide all of their medical services. The medical clinics employ their primary care physicians, which provide the vast majority of their medical services, while contracting with specialist physicians and other health care providers to provide other required medical services.

Through our two management subsidiaries—Prospect Medical Systems and Sierra Medical Management—we have entered into long-term agreements to provide management services to each of our affiliated physician organizations in exchange for a management fee. The management services we provide include negotiation of contracts with physicians and HMOs, physician recruiting and credentialing, human resources services, claims administration, financial services, provider relations, member services, case management including utilization management and quality assurance, data collection, and management information systems. For further discussion of these services, see Item 1, “Business—Management Services Agreements.”

Our two management subsidiaries currently provide management services to thirteen affiliated physician organizations, including Prospect Medical Group, eleven other affiliated physician organizations that Prospect Medical Group owns or controls, and one affiliated physician organization that is a joint venture in which Prospect Medical Group owns a 50% interest. We have utilized Prospect Medical Group, which was our first affiliated physician organization, to acquire the ownership interest in all of our other affiliated physician organizations. Thus, while Prospect Medical Group is itself an affiliated physician organization that does the same business in its own service area as all of our other affiliated physician organizations do in theirs, Prospect Medical Group also serves as a holding company for our other affiliated physician organizations. In addition to our two management subsidiaries, in connection with our November 1, 2005 acquisition of Genesis HealthCare of Southern California, we entered into a contract with an independent management company, American Medical Management. This contract expired on November 1, 2006.

Physician organizations, by California law, may only be owned by physicians. We have designated Jacob Y. Terner, M.D., our Chairman and Chief Executive Officer, to be the owner of all of the capital stock of Prospect Medical Group. As such he indirectly controls Prospect Medical Group’s ownership interest in each of our other affiliated physician organizations. Dr. Terner is also the Chief Executive Officer of Prospect Medical Group and all of our other affiliated physician organizations that Prospect Medical Group owns. Dr. Terner is the Chief Executive Officer of one of the two general partners of our joint venture affiliated physician organization.

We control each affiliated physician organization through an assignable option agreement that we have entered into through our management subsidiary, Prospect Medical Systems, with Dr. Terner and Prospect Medical Group. The assignable option agreement gives us the right to designate a successor physician to buy the capital stock of Prospect Medical Group from Dr. Terner for nominal consideration. The assignable option agreement allows us to control who owns the stock of Prospect Medical Group and indirectly control each affiliated physician organization that Prospect Medical Group controls. We refer to this arrangement as a “single shareholder model.”

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For financial reporting purposes, we are deemed to control Prospect Medical Group under U.S. Generally Accepted Accounting Principles (see Item 7, “Financial Information—Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies—Consolidation of Financial Statements”) and are therefore required to consolidate the financial statements of Prospect Medical Group with those of our management subsidiaries.

The thirteen affiliated physician organizations that we currently manage through our subsidiaries include Prospect Medical Group, which is an IPA wholly owned by Dr. Terner, eight IPAs wholly owned by Prospect Medical Group, two medical clinics wholly owned by Prospect Medical Group, one IPA in which Prospect Medical Group has a 55% controlling interest, and one IPA which is a joint venture in which Prospect Medical Group owns a 50% interest through another affiliated physician organization. In July 1999, we entered into the joint venture partnership agreement with an unrelated third party, AMVI/IMC Health Network, Inc. (“AMVI”), in order to aggregate sufficient Medicaid enrollees to qualify for participation in the CalOPTIMA Medicaid (Medi-Cal in California) program in Orange County, California. We own a 50% interest in the joint venture partnership, although our portion of the business is operated autonomously. In accordance with the joint venture partnership agreement, profits and losses are not split in accordance with the partnership ownership interest, but rather, are directly tied to the results of our portion of the business. Separate from any earnings we generate from our portion of the business within the joint venture, we also earn fees for management services we provide to our partner in the joint venture. We account for our interest in the joint venture using the equity method of accounting. We include in our financial statements only the net results attributable to those Medicaid enrollees specifically identified as assigned to us, together with the management fee that we charge for managing those Medicaid enrollees specifically assigned to the other joint venture partner. Operations for the joint venture are similar to our other affiliated physician organizations, with the distinction that all enrollees are Medicaid beneficiaries.

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Information about our thirteen affiliated physician organizations is listed in the table below:

Affiliated Physician Organizations of Prospect Medical Holdings

Name of Affiliated Physician Organization	Type	Owned By	Managed By(1)
Prospect Medical Group	IPA	Jacob Y. Terner, M.D. (100%)	Prospect Medical Systems
Prospect Health Source Medical Group	IPA	Prospect Medical Group (100%)	Prospect Medical Systems
Prospect Professional Care Medical Group	IPA	Prospect Medical Group (100%)	Prospect Medical Systems
Prospect NWOC Medical Group	IPA	Prospect Medical Group (100%)	Prospect Medical Systems
Santa Ana/Tustin Physicians Group	IPA	Prospect Medical Group (100%)	Prospect Medical Systems
Nuestra Familia Medical Group	IPA	Prospect Medical Group (55%)	Prospect Medical Systems
AMVI Prospect Health Network	IPA	Prospect Medical Group, through Santa Ana/Tustin Physician’s Group (50% joint venture)	Prospect Medical Systems
Sierra Primary Care Medical Group	Medical Clinic	Prospect Medical Group (100%)	Sierra Medical Management
Pegasus Medical Group	Medical Clinic	Prospect Medical Group (100%)	Sierra Medical Management
Antelope Valley Medical Associates	IPA	Prospect Medical Group (100%)	Sierra Medical Management
APAC Medical Group	IPA	Prospect Medical Group (100%)	Prospect Medical Systems
StarCare Medical Group	IPA	Prospect Medical Group (100%)	Prospect Medical Systems
Genesis HealthCare of Southern California(2)	IPA	Prospect Medical Group (100%)	Prospect Medical Systems

(1)Prospect Medical Systems and Sierra Medical Management are wholly owned direct subsidiaries of Prospect Medical Holdings.

(2)Acquired November 1, 2005. Operations included in our financial statements effective November 1, 2005.

Our affiliated physician organizations provided medical services to a combined total of approximately 171,000 HMO enrollees at September 30, 2006. AMVI Prospect Health Network enrollees include approximately 7,000 enrollees that we manage for our own economic benefit, and 7,100 enrollees that we manage for the economic benefit of our partner in this joint venture, for which we earn management fee income. Currently, our affiliated physician organizations have contracts with approximately twelve HMOs, from which our revenue is primarily derived. HMOs offer a comprehensive health care benefits package in exchange for a monthly capitation fee per enrollee, which does not vary regardless of the quantity of medical services required or used. HMOs enroll members by entering into contracts with employer groups or directly with individuals to provide a broad range of health care services for a prepaid charge, with

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minimal deductibles or co-payments required of the members. All of the contracts between our affiliated physician organizations and the HMOs provide for the provision of medical services to the HMO enrollees by the affiliated physician organization to the HMO enrollees in consideration for the prepayment of the fixed monthly capitation fee paid by the HMOs.

We, through our management subsidiaries, control the expense for the medical component of the costs of our affiliated physician organizations by “sub-capitating” all primary care physicians and many of the specialist physicians that provide the medical services to the HMO enrollees. Sub-capitation is an arrangement that exists when an organization being paid under capitated contracts with an HMO, in turn contracts with other providers on a capitated basis, for a portion of the original capitated premium. For those specialties for which we cannot, or do not, choose to obtain a sub-capitated contract, we negotiate discounted fee-for-service contracts. By contract, our affiliated physician organizations generally do not assume responsibility for the costs of providing medical services (“medical costs”) that occur outside of their service area, which has been defined as a 30-mile radius around the office of the HMO enrollee’s primary care physician. All non-emergent care requires prior authorization, in order to limit unnecessary procedures and to direct the HMO enrollee requiring care to the physicians of our affiliated physician organizations, and the most cost effective facility. Our affiliated physician organizations utilize board certified pulmonologists and internists, trained in intensive care to maintain control over the patient’s stay in the hospital, reducing unnecessary consultations and facilitating the patient’s treatment and discharge. We also review medical costs monthly on a region by region basis and compare those costs to the trend of patient utilization of medical services in each region. In those instances where the patient utilization is trending very low, we determine whether it would be less expensive for our affiliated physician organizations to pay their providers on a discounted fee-for-service basis rather than a fixed capitation payment for each enrollee per month. See Item 1, “Business—Risk Management.”

Our consolidated business has grown through the acquisition of IPAs by Prospect Medical Group. Our plan is for Prospect Medical Group to continue to acquire additional IPAs.

We believe that different IPAs present different medical cultures and are best served by local medical management. Therefore, we typically attempt to retain the senior medical management of the entities that we acquire or with which we affiliate.

We have chosen to concentrate our growth geographically by limiting our acquisitions to IPAs in Orange County, California and Los Angeles County, California.

Our profit growth as a consolidated business is primarily driven by increasing our revenue through acquisitions by Prospect Medical Group, and in parallel, reducing the administrative expenses of our affiliated physician organizations and management subsidiaries. We select our acquisition candidates based in large part on a history of profitable operations or where we can foresee a synergy, such as, opportunities for economies of scale through a consolidation of management functions, a competitive environment with respect to hospital and physician services, and a geographic proximity to current operations or a material share of the potential acquisition candidate’s own local market. Upon completion of every IPA acquisition, one of our management subsidiaries enters into a long-term management services agreement with the newly-acquired physician organization.

In effecting an acquisition, our affiliated physician organizations generally acquire medical assets, including such things as HMO contracts, provider contracts and patient records. If related non-medical assets are to be acquired as part of the acquisition, such as, management contracts, furniture, fixtures or equipment, non-medical personnel or real property leases, these are acquired by one of our management subsidiaries. In some cases, the stock of an acquisition candidate is acquired rather than its assets.

With respect to any acquisition of assets or stock of an acquisition candidate that is being acquired by one of our affiliated physician organizations, we, or one or more of our affiliated entities, may advance

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cash, or, in some cases, stock to that affiliated physician organization, for use in consummating the acquisition.

Advances from our management subsidiaries to the affiliated physician organization are covered by the terms of the respective management services agreement, which obligate the affiliated physician organization to repay the advance. Specifically, our management services agreements give the manager the authority to advance funds to the affiliated physician organization in order for the affiliated physician organization to meet its financial obligations. The management services agreements allow the manager and the affiliated physician organization to set the terms of such advances. The advances are deemed loans that are reflected as a payable or receivable, as applicable, in the financial statements of each entity and are repayable upon demand. Cash advances among our affiliated physician organizations are inter-company in nature and are eliminated in consolidation in our financial statements.

Furthermore, Prospect Medical Group, our affiliate physician organization which is the owner of all or a significant portion of the capital stock of each of our other affiliated physician organizations, has executed a security agreement with its manager, Prospect Medical Systems, covering all of Prospect Medical Group’s obligations to Prospect Medical Systems under its management services agreement. The collateral pledged under such security agreement is all accounts and other assets of Prospect Medical Group. The manager could technically foreclose on such collateral if its loan was not repaid. However, because of our affiliate relationship with the physician organizations that we manage, we are able to control the timing of the repayment of any loans by our affiliated physician organizations. The security interest of Prospect Medical Systems has, however, been subordinated to our loans under our senior secured credit facility until such time as the loans under that facility have been paid in full.

Advances from our affiliated physician organizationsto us or one of our management subsidiaries are covered by the terms of a cash management agreement, which obligates the recipient of the advance to repay it. These advances, like advances from our management subsidiaries to our affiliated physician organizations, are reflected in the financial statements of each entity as a payable or receivable, as applicable.

Our executive management team consists of seasoned operational, physician, financial, contracting, and administration executives, who have extensive experience in the healthcare industry. Jacob Y. Terner, M.D., our Chairman, Chief Executive Officer and a Director since November 1996, has held positions as a physician, medical professor, and corporate executive. Dr. Terner was a member of the voluntary faculty at the University of Southern California, School of Medicine for approximately thirty years and holds the title of Emeritus Clinical Professor of Obstetrics and Gynecology. Prior to his tenure with our company, Dr. Terner served as Chairman of the Board and Chief Executive Officer of Century MediCorp, Inc., a publicly-traded HMO and vertically integrated health-management organization until its October 1992 merger with Foundation Health Corporation. Each of our senior executives has more than ten years of general business and/or health care experience.

Our principal executive offices are located at 400 Corporate Pointe, Suite 525, Culver City, CA, 90230. Our telephone number is (310) 338-8677. Our web site address is www.prospectmedicalholdings.com. A copy of this filing is posted on our web site.

A chart of the organizational structures of both the company and Prospect Medical Group is set forth on the next page.

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ORGANIZATIONAL STRUCTURE OF OUR BUSINESS

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Summary of the Structure of our Business

1.Jacob Y. Terner is the nominee shareholder of PMG; CEO of PMH, SMM, and PHR; Secretary and Director of Nuestra Familia Medical Group, which is 55% owned by Prospect Medical Group; and CEO of Santa Ana-Tustin Physicians Group, which is a 50% joint venture partner in AMVI/Prospect Health Network.

2.PMG is an affiliated physician organization and owns 100% of the stock of all of our other affiliated physician organizations, 55% of Nuestra Familia Medical Group, and a 50% interest in AMVI/Prospect Health Network.

3.PMS, PMG and Dr. Terner are parties to an Assignable Option Agreement whereby PMS can change the owner/shareholder of PMG at any time. PMS and PMH are deemed to control all the affiliated physician organizations, except AMVI/Prospect Health Network, for financial accounting purposes, dictating a consolidation of the financial statements of all these entities with PMH and its management subsidiaries. We account for our interest in AMVI/Prospect Health Network using the equity method of accounting and we record only the net results derived from our specifically identified portion of the joint venture’s operations. In addition, we record the management fee revenue we earn for providing management services to our partner’s specifically identified portion of the joint venture operations.

4.All of the affiliated physician organizations operate as independent physician associations (IPAs) except Sierra Primary Care Medical Group and Pegasus Medical Group, which operate as medical clinics.

Managed Care Industry Overview

We operate our business in the rapidly evolving managed health care industry. Historically, the substantial majority of medical services were provided on a fee-for-service (indemnity) basis, with insurance companies or individuals assuming responsibility for paying all or a portion of such fees. The costs of medical services have historically risen at a higher rate than the consumer price index. As a result, insurers, employers, state and federal governments and other health insurance payers have sought to reduce or control the sustained increases in health care costs. The response to these cost increases has been a shift away from the traditional fee-for-service method of paying for health care to managed health care models, such as HMOs, that rely on the concept that pre-payment based on prior negotiation is an effective way of controlling health care costs.

HMOs offer a comprehensive health care benefits package in exchange for a fixed prepaid monthly fee or premium per enrollee that does not vary regardless of the quantity of medical services required or used. HMOs enroll members by entering into contracts with employer groups or directly with individuals to provide a broad range of health care services for a prepaid charge, with minimal deductibles or co-payments required of the members. HMOs contract directly with medical clinics, independent physician associations, hospitals and other health care providers to provide medical care to HMO enrollees. In California, it is customary for the HMOs to delegate the responsibility for managing the provision of medical services to independent physician associations or medical clinics with which the HMOs have contracts. In states such as California, a provider can only accept risk from an HMO for those services that the provider is authorized to perform within the scope of its licensure. For example, a physician organization cannot accept risk for the provision of hospital services, and a hospital cannot accept risk for professional medical services. The affiliated physician organization contracts with the HMOs provide for payment to the affiliated physician organizations of a fixed monthly fee per enrollee, which is called a capitation payment. Once negotiated, the total payment is based on the number of enrollees covered, regardless of the actual need for and utilization of covered services. Under these contracts, we, through our affiliated physician organizations and management subsidiaries, assume the financial risk that all

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necessary health care services and the management costs associated with the provision of those services can be provided at a cost less than the amount paid to our affiliated physician organizations by the HMOs.

The management services we provide, through our management subsidiaries, include the negotiation of contracts with physicians and HMOs, physician recruiting and credentialing, human resources services, claims administration, financial services, provider relations, member services, medical management including utilization management and quality assurance, data collection and management information systems. Physicians have not been equipped by training or experience to handle all of these functions. Accordingly, physicians have either hired staff and purchased the necessary equipment to support these functions within their practice, or hired an outside management company.

Physicians, including those in small to mid-sized physician groups, find themselves at a competitive disadvantage in the current managed care environment. They generally do not have a significant market presence and lack the capital to purchase sophisticated management information systems required to manage risk arrangements. Administrative burdens have been exacerbated by the presence of multiple HMOs, requiring physicians to comply with multiple formats for claims processing, credentialing and medical management. Additionally, a proliferation of state and federal regulations has increased the paper-work burden and hampered the application of the traditional controls used by managed care organizations. Physicians increasingly are responding to these pressures within the managed care industry by affiliating with organizations such as our company to mitigate their economic risk and perform the non-medical management and administrative tasks that arise from the delegated managed care model.

Our Strategy

Our business strategy is to target geographical regions with many IPAs and to achieve growth and scale within those regions, primarily through the acquisition of selected IPAs by Prospect Medical Group.

As of December 1, 2006 there were approximately 156 small, medium and large IPAs in California. Many of these IPAs cannot obtain or have been unwilling to pursue the acquisition of capital with which to enhance their facilities or the human resources and information technology in order to grow. Smaller IPAs are disadvantaged in that they have fewer members and revenue over which to spread high fixed costs and the increasing cost of governmental regulation. Additionally, and because of their size, many smaller IPAs do not have as much leverage in physician and HMO contracting. Owners of IPAs that fall into this category likewise may be more amenable to considering fair offers for their businesses.

As Prospect gets larger in the markets in which we operate, our increasing size should allow us to absorb the high fixed costs and cost of governmental regulation, while also providing additional leverage in our physician and HMO contracting.

To date, we have focused on acquisition candidates in Southern California. We have identified potential IPA acquisition candidates in Southern California having an aggregate of approximately 200,000 HMO enrollees, although no assurance can be given of our ability to acquire any of those IPAs. We select acquisition candidates based in large part on the following broad criteria:

·A history of profitable operations or a predictable synergy such as opportunities for economies of scale through a consolidation of management functions;

·A competitive environment with respect to a high concentration of hospitals and physicians; and

·A geographic proximity to current operations or a material share of the potential acquisition candidate’s own local market.

Our subsidiary Prospect Medical Systems conducts substantially all of its operations in Orange and Los Angeles Counties of Southern California, while our subsidiary Sierra Medical Management conducts certain medical management operations in the Antelope Valley region in northern Los Angeles County,

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and shares some functions with Prospect Medical Systems in Orange County. Our affiliated physician organizations are listed below:

Affiliated Physician Organizations	Percentage Owned By Prospect Medical Group, Inc.(1)			Area of Operations
Prospect Medical Group, Inc.(1)(4)		—		Orange, Los Angeles and Riverside Counties
Sierra Primary Care Medical Group, Inc.(2)		100	%	Antelope Valley (Los Angeles County)
Santa Ana-Tustin Physicians Group, Inc.(4)(5)		100	%	Orange County
Pegasus Medical Group, Inc.(2)		100	%	Antelope Valley (Los Angeles County)
Antelope Valley Medical Associates, Inc.(4)		100	%	Antelope Valley (Los Angeles County)
Nuestra Familia Medical Group, Inc.(4)		55	%	East Los Angeles
AMVI/Prospect Health Network(3)(4)		50	%	Orange County
Prospect Health Source Medical Group, Inc.(4)		100	%	West Los Angeles
Prospect Professional Care Medical Group, Inc.(4)(6)		100	%	North Orange County and East Los Angeles
Prospect NWOC Medical Group, Inc.(4)(7)		100	%	North Orange County
StarCare Medical Group, Inc.(4)(7)		100	%	North Orange County
APAC Medical Group, Inc.(4)(7)		100	%	Central Orange County
Genesis HealthCare of Southern California(4)(8)		100	%	Central Orange County

(1)A medical corporation owned by a single shareholder, currently, Jacob Y. Terner, M.D.

(2)Medical clinic.

(3)Joint venture partnership with AMVI/IMC Health Network to service only enrollees of CalOPTIMA which are all Medi-Cal enrollees. (Medi-Cal is the California Medicaid program.)

(4)IPA.

(5)Consolidated into Prospect Medical Group, Inc. (November 1998).

(6)Acquired September 30, 2003.

(7)Acquired February 1, 2004.

(8)Acquired November 1, 2005.

To support our growth strategy, we have invested over $2,000,000 in the expansion of our operational infrastructure implementing a sophisticated management information system called IDX Systems Managed Care Application (“IDX”). In February 2005, we paid $475,000 to renew all required IDX software licenses for a ten year period. In addition, we pay monthly IDX maintenance fees of approximately $16,000. IDX processes and monitors virtually all facets of our management operations, including claims management and eligibility. The IDX system provides timely operating information and trend data, to enable rapid and proactive management action, where necessary.

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Additionally, we have developed significant knowledge capital with separate departments to manage the key areas of our affiliated physician organizations operations. These departments include:

·Clinical operations, including case management, medically related member services and quality control;

·Claims, including financially related member services;

·Contracting and credentialing, including provider relations;

·Eligibility;

·Finance and accounting;

·HMO relations;

·Information technology;

·Physician networks, including business development and marketing.

On behalf of our affiliated physician organizations, we managed data for approximately 171,000 HMO enrollees as of September 30, 2006. We estimate that our IDX system has the capacity to process the data of at least an additional 350,000 HMO enrollees. Therefore, we believe that the cost per enrollee of adding a large number of new enrollees would be significantly less than our current cost per enrollee.

Our Market

Southern California is a mature managed care market. According to the California Department of Finance (Demographic Research Unit), the California population was approximately 37.2 million as of March 2006. According to the latest survey by Cattaneo and Stroud, Inc. (a for-profit California managed care industry research group funded, in part, by the California Healthcare Foundation), approximately 17.3 million individuals, or approximately 47% of California residents were enrolled in HMOs as of March 2006, representing a decrease of approximately 68,937 HMO enrollees compared to March 2005. HMO enrollment in California has declined slightly over the past three years, which has been attributed to the economy, unemployment, and a consumer move to preferred provider organizations (“PPOs”), which are another type of managed care plan modeled after the original fee-for-service indemnity plans, but requiring physicians to accept discounted fees. PPO customers experience higher premiums, co-payments and increased deductibles in exchange for the ability to choose their own physicians, whereas HMO enrollees receive virtually all necessary healthcare coverage with minimal co-payments.

Another reason we believe that California offers more economic opportunity for us is because physicians and hospitals have established practice and referral patterns that are consistent with providing services within a managed care framework. With a substantial portion of the California population utilizing either an HMO or a PPO (discounted fee-for-service), managed care is commonplace.

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So far Prospect Medical Group has limited its acquisition of physician organizations to the following organizations in Orange County, California and Los Angeles County, California:

		As of September 30, 2006
Affiliated Physician Organizations	Primary Care Physicians		Specialists		Enrollees	Area of Operations
Prospect Medical Group, Inc.		472		18085	31,500	Orange, Los Angeles & Riverside Counties
Prospect Health Source Medical Group, Inc.		179		4464	19,000	West Los Angeles
Sierra Primary Care Medical Group, Inc.(1)		97		4574	11,300	Antelope Valley (Los Angeles County)
Pegasus Medical Group, Inc.		101		4531	3,600	Antelope Valley (Los Angeles County)
Nuestra Familia Medical Group, Inc.		195		3775	5,000	East Los Angeles
Antelope Valley Medical Associates, Inc.		101		4547	7,200	Antelope Valley (Los Angeles County)
AMVI / Prospect Health Network(5)		804		4670	14,100	Orange County
Prospect Professional Care Medical Group(2)		336		7106	26,000	East Los Angeles & Orange County
Prospect NWOC Medical Group, Inc.(3)		257		6002	11,200	North Orange County
StarCare Medical Group, Inc.(3)(4)		318		5685	23,500	North Orange County
APAC Medical Group, Inc.(3)(4)		291		5490	2,700	Central Orange County
Genesis HealthCare of Southern California(6)		301		3389	16,300	North Orange County
Totals		3,452		72,318	171,400

(1)Excludes 11 full time physicians and 2 part time physicians employed by Sierra Primary Care Medical Group and Pegasus Medical Group.

(2)Acquisition completed as of September 30, 2003.

(3)Acquisition completed as of February 1, 2004.

(4)StarCare and APAC share specialist physicians.

(5)Includes approximately 7,000 enrollees that we manage for our own economic benefit, and 7,100 enrollees that we manage for the economic benefit of our partner in this joint venture, for which we earn management fee income.

(6)Acquisition completed as of November 1, 2005.

Enrollment Statistics
As of September 30

	1998	1999	2000	2001	2002	2003	2004	2005	2006
Commercial	83,000	87,000	83,000	105,000	102,000	136,200	168,500	144,900	140,300
Medicare	8,200	8,800	7,800	9,800	7,000	11,200	15,500	12,500	14,100
Medi-Cal	6,700	7,600	6,700	6,300	8,500	13,700	14,400	14,500	17,000
Totals	97,900	103,400	97,500	121,100	117,500	161,100	198,400	171,900	171,400

The Medi-Cal enrollment statistics above include both enrollees that we manage for our own economic benefit, and enrollees that, starting in 1999, we manage for the economic benefit of our partner in the AMVI/Prospect Health Network joint venture. The number of enrollees included in the above table

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for which we provide management services to our joint venture partner, but in which we have no beneficial ownership interest, was  4,000, 5,600, 7,100, 7,100, 7,300 and 7,100 as of September 30, 2000, 2001, 2002, 2003, 2004, 2005 and 2006, respectively.

Commercial and Medicare enrollment statistics for Genesis HealthCare of Southern California, as of its November 1, 2005 acquisition date, totaled approximately 14,900, and 1,100, respectively. Genesis has no Medi-Cal enrollees.

Revenue Concentration Statistics of our Affiliated Professional Organizations
For the Fiscal Years Ended September 30, 2004, 2005 and 2006

For the fiscal years ended September 30, 2004, 2005 and 2006 our affiliated physician organizations recognized capitation revenue of $125,860,567, $129,143,656 and $131,436,858, respectively. During those periods, the four largest clients of our affiliated physician organizations, PacifiCare of California, Health Net of California, Blue Cross of California and Blue Shield of California accounted for approximately 80%, 79% and 79% of total capitation revenue, respectively:

	Capitation Revenue					Capitation Revenue					Capitation Revenue
	Year Ended		% of Total			Year Ended		% of Total			Year Ended		% of Total
	September 30, 2004		Capitation Revenue			September 30, 2005		Capitation Revenue			September 30, 2006		Capitation Revenue
PacifiCare	$	40,903,464		32	%	$	40,155,679		31	%	$	39,337,714		30	%
Health Net	25,933,742			21	%	25,224,324			20	%	27,113,638			21	%
Blue Cross	19,899,135			16	%	21,365,598			17	%	20,948,066			16	%
Blue Shield	13,467,152			11	%	14,802,756			11	%	15,954,577			12	%
Totals	$	100,203,493		80	%	$	101,548,357		79	%	$103,353,995			79	%

See Item 1, “Business—Competition” and Item 1A, “Risk Factors”—for additional details regarding concentration.

As of December 1, 2006, our affiliated physician organizations were listed as having a combined market share (based on number of HMO enrollees served) of approximately 8.6 percent in Orange County (123,000—enrollees compared to 1,436,100 total enrollees in Orange County), and approximately 1.0 percent in Los Angeles County (48,400 enrollees compared to 4,659,820 total enrollees in Los Angeles County).

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Management Fees and Revenue Generation

We, through our management subsidiaries, provide management and administrative support services to each of our affiliated physician organizations in return for management fees generally ranging from 8.5% to 15% of each organization’s gross revenues. The specific management fee paid by each affiliated physician organization is set forth below:

Affiliated Physician Organization	Management Fee
Prospect Medical Group		15	%
Nuestra Familia Medical Group		12	%
AMVI/Prospect Health Network(1)		8.5	%
Prospect Health Source Medical Group		12.5	%
Prospect Professional Care Medical Group		15	%
Prospect NWOC Medical Group		15	%
Starcare Medical Group		15	%
APAC Medical Group		15	%
Sierra Primary Care Medical Group		15	%
Pegasus Medical Group, Inc.		15	%
Antelope Valley Medical Associates		15	%
Genesis HealthCare of Southern California		15	%

(1)AMVI/Prospect Health Network has an agreement with Prospect Medical Systems which is based upon a per member/per month management fee that equates to approximately 8.5% of AMVI/Prospect Health Network’s gross revenues.

In addition to the management fees described above, we also receive an incentive bonus based on the net profit or loss of each wholly-owned affiliated physician organization. With the exception of Prospect Health Source Medical Group, we are allocated a 50% residual interest in the profits above 8% of the profits or a 50% residual interest in the net losses, after deduction for costs to the management subsidiary and physician compensation. For Prospect Health Source Medical Group, we are allocated a 40% residual interest in its profits or losses.

Because of the ownership of a controlling financial interest by Prospect Medical Group or Dr. Terner in all of our affiliated physician organizations, other than AMVI/Prospect Health Network, should we determine that an adjustment to our management fees is appropriate (other than AMVI/Prospect Health Network), we are able to accomplish this adjustment due to our controlling financial interest in the affiliated physician organization. In the case of AMVI/Prospect Health Network, because Prospect Medical Group’s ownership interest is a 50% interest, in the event we determine that an adjustment of the management fee for AMVI/Prospect Health Network is appropriate, an adjustment would require negotiation with the joint venture partner.

Notwithstanding our ability to control the management fee adjustment process, we are limited by laws affecting management fees of health care management service companies. Such laws require that our management fees reflect fair market value for the services being rendered, giving consideration however to the costs of providing the services. Such laws also limit our ability to increase our management fees more frequently than once a year.

The management fees received by our management subsidiaries and the revenue of our affiliated physician organizations (other than AMVI/Prospect Health Network) are consolidated in our financial statements due to our controlling financial interest. In the case of AMVI/Prospect Health Network, only that portion of the results which are allocated to us are consolidated in the accompanying financial

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statements, together with the management fee that we charge our joint venture partner, AMVI, for managing AMVI’s share of the joint venture operations.

The management fee percentage listed above for the AMVI/Prospect Health Network joint venture approximates the following specifically determined management fees. There are two primary CalOPTIMA programs; basic Medi-Cal and a related program called Healthy Families, focused on health coverage for children. For the management services we provide to enrollees assigned to AMVI’s division of the joint venture, one of our management companies, Prospect Medical Systems, is compensated $3.00 per member per month for the Medicaid enrollees, and 11% of hospital capitation revenues received by them for Healthy Families enrollees. We record these amounts as revenue. For the management services we provide to enrollees assigned to our division of the joint venture, Prospect Medical Systems is compensated $4.70 per member per month for the Medicaid enrollees and 11% of hospital capitation revenues received for Healthy Families enrollees. We eliminate these intercompany amounts in consolidation. The fee we charge AMVI is lower than our own, as a result of matching a competing management services proposal that AMVI received from another management company. AMVI does not receive any management fees from the joint venture.

Revenues of our affiliated IPAs and affiliated medical clinics are generated under their contracts with the HMOs. Substantially all of the capitation revenue paid by the HMOs is received by our IPAs between the 10th and the 25th day of each month. The amount of the revenue is determined by the contract with the various HMOs, which pay the affiliated physician organizations a predetermined amount of money per enrollee, per month (known as a capitation payment).

Our management subsidiaries have the right, under their management services agreements, to control the depository accounts of the affiliated physician organizations they manage. Our management subsidiaries make disbursements on behalf of each affiliated physician organization to pay for all physician medical expenses for the HMO enrollees.

The payments include primary care and specialist sub-capitation, and fee-for-service payments for those physicians who are not sub-capitated. Sub-capitation is an arrangement whereby a physician accepts a single payment per patient per month which is a portion of the capitation payment received by the affiliated physician organizations from the HMO in exchange for which the physician provides all services in their area of expertise or specialty.

Risk Management

We must control the medical expense or medical risk of our affiliated physician organizations. We use sub-capitation as one technique to control this risk. Approximately 50% of the medical costs of our affiliated physician organizations are sub-capitated. Another 20% of the medical costs are not sub-capitated because the patient utilization is so low that sub-capitation would be counter-productive. The remaining 30% of the medical costs of our affiliated physician organizations are controlled in the following ways:

·FLEXIBILITY: As a general policy, we do not undertake the management of IPAs which we do not control through the single shareholder model. As a result, we can better control costs due to the absence of competing interests or diverse agendas between the affiliated IPAs and our management subsidiaries.

·SUB-CAPITATING AND CONTRACTING: For those specialties for which our affiliated physician organizations cannot or do not choose to obtain a sub-capitated contract, we negotiate discounted fee-for-service contracts. The reimbursement mode of these contracts is approximately 80% of the amount Medicare allows. Contracts are typically based on a percentage of the Medicare fee schedule.

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·SERVICE AREA RESTRICTION: In negotiating contracts for our affiliated physician organizations with the HMOs, we have been able to define the service area of our affiliated physician organizations as a 30-mile radius around the office of the HMO enrollee’s primary care physician. By contract, our affiliated physician organizations generally do not assume responsibility for medical costs that occur outside of their service area. The out-of-area and non-physician components of hospitalization costs are generally the responsibility of the HMO.

·REFERRAL REVIEW: All non-emergent care requires the prior authorization of our affiliated physician organizations. Consequently, our affiliated physician organizations have the ability to limit unnecessary procedures and to direct the enrollees requiring care to their contracted physicians and the most cost effective facility.

·AUTOMATION: Our information technology systems allow us generally to analyze medical cost distribution by the fifteenth day following the month in which claims are paid, facilitating a rapid response to any perceived distortion in medical costs.

·EFFICIENT USE OF HOSPITALS: Our affiliated physician organizations contract with hospitalists to see all of our physician groups’ patients who are hospitalized. Hospitalists are board certified pulmonologists and internists who are trained in intensive care. They effectively maintain control over the patient’s stay in the hospital, cutting down unnecessary consultations and facilitating the patient’s treatment and discharge.

In addition, our affiliated physician organizations’ agreements with HMOs and hospitals contain risk-sharing arrangements under which the affiliated physician organizations can earn additional compensation by coordinating the provision of high quality, cost-effective health care to enrollees, but they may also be required to assume a portion of any loss sustained from these arrangements. Risk-sharing arrangements are based upon the cost of hospital services or other services for which our physician organizations are not capitated. The terms of the particular risk-sharing arrangement allocate responsibility to the respective parties when the cost of services exceeds a budget, which results in a “deficit,” and permit the parties to share in any amounts remaining in the budget, known as a “surplus,” which occurs when actual cost is less than the budgeted amount. The amount of non-capitated and hospital costs in any period could be affected by factors beyond our control, such as changes in treatment protocols, new technologies and inflation. To the extent that such non-capitated and hospital costs are higher than anticipated, revenue paid to our affiliated physician organizations may not be sufficient to cover the risk-sharing deficits they are responsible for paying, which could reduce our revenues and profitability. It is our experience that “deficit” amounts for hospital costs are applied to offset any “surplus” amount we would otherwise be entitled to receive. We have historically not been required to reimburse the HMOs for any hospital cost deficit amount. Most of our contracts with HMOs specifically provide that we will not have to reimburse the HMO for hospital cost deficit amounts.

In addition to hospital risk-sharing arrangements, many HMOs also provide a risk-sharing arrangement for pharmaceutical costs. Unlike hospital pools where nearly all the HMO contracts mandate participation by our affiliated physician organizations in the risk sharing for hospital costs, a lesser number of the HMO contracts mandate participation in a pharmacy risk-sharing arrangement, and although (unlike hospital pools) our affiliated physician organizations are generally responsible for their 50% allocation of pharmacy cost deficits, the deficit amounts of pharmacy costs have to date not been material.

HMOs often insist on withholding negotiated amounts from the affiliated physician organizations’ professional capitation payments, which the HMOs are permitted to retain, in order to cover the affiliated physician organizations’ share of any risk-sharing deficits; and hospitals often demand cash settlements of risk sharing deficits as a “quid pro quo” for joining in these arrangements. Whenever possible, we seek to contractually reduce or eliminate our affiliated physician organizations’ liability for risk-sharing deficits.

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Our Affiliated Physician Organizations

Our affiliated physician organizations consist of affiliated IPAs and affiliated medical clinics. Our affiliated IPAs contract with physicians (primary care and specialist) and other health care providers, to provide all of their medical services. Our affiliated medical clinics employ their primary care physicians to provide the vast majority of their medical services, while contracting with specialist physicians and other health care providers to provide other required medical services.

All of our affiliated physician organizations enter into contracts with HMOs to provide medical services to enrollees of the HMOs. Most of the HMO agreements have an initial term of two years renewing automatically for successive one-year terms. However, because the HMO agreements generally do not provide for any increased capitation rates after the initial term, we generally renegotiate the HMO agreements on behalf of our affiliated physician organizations at the end of the initial term of such HMO agreements and enter into new agreements or amendments for additional two-year terms. This provides our affiliated physician organizations with more favorable rates than allowing their HMO agreements to renew pursuant to the automatic successive renewal provisions which would require our affiliated physician organizations to continue to provide services at the same rates as the initial term during such successive term(s).

The HMO agreements generally provide for a termination by the HMOs for cause at any time, although we have never experienced a for-cause termination. The HMO agreements generally allow either the HMOs or the affiliated physician organizations to terminate the HMO agreements without cause within a four to six month period immediately preceding the expiration of the term of the agreement.

Our management subsidiaries provide management services to our affiliated IPAs and affiliated medical clinics under management services agreements that transfer control of all non-medical components of the business of the affiliated physician organizations to our management subsidiaries to the full extent permissible under federal and state law. When combined with the single shareholder model, which includes the assignable option agreement among Prospect Medical Systems, Prospect Medical Group and Dr. Terner, we have an established affiliate relationship with our affiliated physician organizations.

As of September 30, 2006, our affiliated physician organizations employed 13 physicians (including two part time physicians), and had independent contracts with approximately 75,800 physicians.

The physicians of the affiliated physician organizations are exclusively in control of and responsible for all aspects of the practice of medicine, subject to specialist guideline referrals developed by multi-specialty medical committees composed of our contracted physicians and chaired by one of our medical directors.

We have entered into a management services agreement with each of our affiliated physician organizations, each of which is for a ten to thirty year term. When our existing affiliated physician organizations acquire other affiliated physician organizations that have contracts with HMOs, we enter into a management services agreement with each newly acquired affiliated physician organization as well.

The management of our affiliated physician organizations is conducted by our two management subsidiaries, Prospect Medical Systems and Sierra Medical Management.

Assignable Option Agreement

The assignable option agreement is an essential element of our “single shareholder model.” The assignable option agreement provides our management subsidiary, Prospect Medical Systems, the right at will and on an unlimited basis, to designate a successor physician to purchase the capital stock of Prospect Medical Group for nominal consideration ($1,000) and thereby determine the ownership of Prospect

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Medical Group. There is no limitation on whom we may name as a successor shareholder except that any successor physician must be duly licensed as a physician in the State of California or otherwise be permitted by law to be a shareholder of a professional corporation.

As a result of the assignable option agreement and our control of Prospect Medical Systems, we have control over the ownership of Prospect Medical Group. Because Prospect Medical Group is the owner of all or a significant amount of the capital stock of all of the other affiliated physician organizations, control over the ownership of Prospect Medical Group ensures that we can control the ownership of each of our affiliated physician organizations.

Execution of the assignable option agreement was a requirement of the management services agreement between Prospect Medical Systems and Prospect Medical Group. We paid nominal consideration ($100) for the assignable option agreement. The management services agreement and the assignable option agreement with Prospect Medical Group were executed in 1996 when we commenced our affiliation with Prospect Medical Group. The assignable option agreement terminates or expires coterminous with the management services agreement, which has a thirty-year term with successive automatic ten-year renewal terms. The assignable option agreement additionally provides that if the management services agreement is terminated for any reason, then Prospect Medical Systems’ assignable option is automatically and immediately exercised. Through Prospect Medical Systems, we intend to continue the term of the management services agreement with Prospect Medical Group for successive ten-year terms after the completion of the initial thirty-year term. We believe the automatic term renewal provisions of the management services agreement, coupled with the protections afforded us by the automatic option exercise provision in the assignable option agreement, will ensure the continued availability of the option under the assignable option agreement.

Jacob Y. Terner, M.D. is currently the sole shareholder, sole director and Chief Executive Officer of Prospect Medical Group, as well as a director and Chief Executive Officer of Prospect Medical Holdings, Inc., each of our management company subsidiaries except PMS, and each of our other affiliated physician organizations, except for AMVI/Prospect Health Network and Nuestra Familia Medical Group.

Furthermore, since Dr. Terner is also an officer and director of each of the company, our management subsidiaries and our affiliated physician organizations, Dr. Terner has a fiduciary duty to protect the interests of each entity and its shareholders.

At any time when Prospect Medical Systems determines that it is necessary to change the sole shareholder of Prospect Medical Group, with or without cause, Prospect Medical Systems may exercise its rights under the assignable option agreement and replace the sole shareholder of Prospect Medical Group with another licensed physician selected by our Board of Directors. Since we and Prospect Medical Systems are fully aware of the revenues which are earned by Prospect Medical Group (as well as the other affiliated physician organizations) and the expenses to be paid from such revenue, and further since we prepare regular financial statements and reports of Prospect Medical Group, we are confident that we would be well aware of any potential insolvency, liquidation or dissolution of Prospect Medical Group before it occurred, and if we were to conclude that this situation, or any other type of situation, necessitated the removal of Dr. Terner as the sole shareholder of Prospect Medical Group, then Prospect Medical Systems would exercise its option under the assignable option agreement and appoint a successor to Dr. Terner.

We believe, although there can be no assurance that in the event of a liquidation or bankruptcy of Prospect Medical Group, Prospect Medical Systems would likely be appointed to continue as the management company, thereby continuing to earn management service revenue. Additionally, as a result of the substantial amount that would be due to Prospect Medical Systems for the remaining term of its 30-year management services agreement, it is possible that they would become the single largest unsecured

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creditor of Prospect Medical Group, thus placing Prospect Medical Systems in likely control of a creditors committee.

Prospect Medical Group has executed an inter-company note and security agreement in favor of Prospect Medical Systems for advances made by Prospect Medical Systems to Prospect Medical Group. As a result of the security agreement, those obligations would make Prospect Medical Systems a secured creditor of Prospect Medical Group.

We believe that the cumulative effect of the assignable option agreement and the fiduciary duty imposed on the single physician shareholder of Prospect Medical Group is sufficient to safeguard our control over all business decisions of the affiliated physician organizations, including any currently unforeseeable insolvency, liquidation or dissolution of Prospect Medical Group.

Provider Agreements

The physicians of the affiliated physician organizations are exclusively in control of and responsible for all aspects of the practice of medicine, and are subject to specialist guideline referrals developed by multi-specialty medical committees composed of our contracted physicians and chaired by one of our medical directors. Each affiliated physician organization enters into the following types of contracts for the provision of physician and ancillary health services:

Primary Care Physician Agreement

A primary care physician agreement provides for primary care physicians contracting with independent physician associations to be responsible for both the provision of primary care services to enrollees and for the referral of enrollees to specialists affiliated with the independent physician association, when appropriate. Primary care physicians receive monthly sub-capitation for the provision of primary care services to enrollees. An independent physician association can terminate the primary care physician agreement immediately upon the occurrence of certain specified events, including suspension, restriction or revocation of the physician’s license to practice medicine in California, denial, restriction or revocation of medical staff privileges at any hospital for medical disciplinary reasons, and the loss of professional liability insurance. Either party to the primary care physician agreement may terminate the agreement without cause upon ninety days’ prior written notice.

Specialist Agreement

A specialist agreement provides for a specialty care physician contracting with the independent physician association to receive either sub-capitated payments or discounted fee-for-service payments for the provision of specialty services to those enrollees referred to them by the independent physician association’s primary care physician. An independent physician association can terminate the specialist agreement immediately upon the occurrence of certain specified events, including suspension, restriction or revocation of the physician’s license to practice medicine in California, denial, restriction or revocation of medical staff privileges at any hospital for medical disciplinary reasons, and the loss of professional liability insurance. Either party to a specialist agreement may terminate the agreement without cause, usually upon ninety days’ prior written notice.

Ancillary Provider Agreement

An ancillary provider agreement provides for ancillary service providers—generally non-physician providers such as physical therapists, laboratories, etc.—to contract with an independent physician association to receive either monthly sub-capitated, discounted fee-for service or case rate payments for the provision of service to enrollees on an as-needed basis. Generally, either party can terminate the ancillary provider agreement with or without cause upon sixty or ninety days’ written notice.

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Management Services Agreements

Our management subsidiaries, Prospect Medical Systems, and Sierra Medical Management, enter into exclusive ten to thirty year management services agreements with each of our affiliated physician organizations, pursuant to which we, through such subsidiaries, provide them with management and administrative support services in return for management fees generally ranging from 8.5% to 15% of each affiliated physician organization’s gross revenues. We also receive an incentive bonus approximating 40% of the profit of our affiliated physician organizations. In the event of a loss, our management fee is reduced by approximately 50% of the affiliated physician organization’s loss.

The management services agreements with our affiliated physician organizations that are 100% owned by Prospect Medical Group or Dr. Terner each have a thirty-year term and renew automatically for successive ten-year terms unless either party elects to terminate them 90 days prior to the end of their term. The management services agreements with those affiliated physician organizations in which we Prospect Medical Group has less than a 100% interest have different terms. Our contract with Nuestra Familia is for only ten years; however, because Prospect Medical Group is a 55% shareholder, any renewal or termination must be approved by us. Similarly, our joint venture with AMVI is year-to-year, but because Prospect Medical Group is a 50% owner of that joint venture, we cannot be terminated without approval of the board of directors, of which Prospect Medical Group represents 50%. The management services agreements are terminable by the unilateral action of the particular physician organization prior to their normal expiration if we materially breach our obligations under the agreements or become subject to bankruptcy-related events, and we are unable to cure the material breach within sixty days of the occurrence. All management fees are eliminated in consolidation in our financial statements.

Under the management services agreements, we, through our management subsidiaries, provide management functions only. Under these agreements, each affiliated physician organization delegates to us the non-physician support activities that are required by the affiliated physician organizations in the practice of medicine. The management services agreements require us to provide suitable facilities, fixtures and equipment and non-physician support personnel to each affiliated physician organization. The primary services that we provide under management services agreements include the following:

·Utilization Management and Quality Assurance.   We assist each affiliated physician organization with the development and implementation of a utilization and quality management plan. We implement systems, programs and procedures necessary for the affiliated physician organizations and their physicians to perform utilization and quality management, organize procedures for prior authorization of elective procedures, urgent and emergent outpatient ambulatory surgery and hospital procedures, assist the physicians with their prospective, concurrent and retrospective reviews of medical procedures in accordance with their policies and HMO health plan requirements, provide data on the use of outpatient and inpatient services by the physicians to the affiliated physician organizations and the use of non-contracted physicians, and assist the medical director and the utilization review/quality assurance committee of each affiliated physician organization in responding to HMO member grievances, based on the instructions of the medical director.

·Medical Management.   We have a medical management department that administers the processes by which referrals to specialists and ancillary health care providers are evaluated, coordinated and implemented on an ongoing basis for both acute illnesses and enrollees experiencing chronic disability, complex medical cases or problems requiring long-term care. The goal of medical management is to provide a continuum of quality care throughout the enrollee’s treatment period.

·Physician Contracting.   We negotiate agreements with primary care physicians, specialists and ancillary service providers on behalf of our affiliated physician organizations. We also negotiate

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agreements with hospitals and hospital based physicians for those hospital costs that are the financial responsibility of the affiliated physician organization.

·Physician Credentialing.   Our physician credentialing program seeks to screen physician’s credentials prior to their entry into the independent physician association network, and maintain credentialing standards once the physician has been accepted into the independent physician association through a re-credentialing process every three years. The physician credentialing program includes the investigation and verification of physicians’ qualifications, credentials, proof of malpractice insurance and medical staff privileges at the time they are brought into the network, as well as periodically reviewing competency and continuing medical education.

·HMO Contracting.   We evaluate, negotiate and administer agreements with HMOs on behalf of our affiliated physician organizations. The contracts with the HMOs generally contain two-year terms, and can be terminated by the HMO with cause, subject to notice provisions. The contracts can also generally be terminated without cause within four to six months immediately preceding the end of the term. Most of  our affiliated physician organizations’ HMO contracts have been in place for many years, and are renegotiated 90-180 days in advance of the contract expiration dates. Negotiations with HMOs cover various terms and conditions, including increased capitation rates and the division of financial responsibility, which describes the HMO enrollee’s covered benefits that our affiliated physician organizations will be financially responsible for, as opposed to the covered benefits which are the responsibility of the HMO.

·Claims Administration.   We possess complete medical claims processing capabilities including determining whether enrollees are eligible, whether services are authorized, identifying appropriate benefits, issuing payments to providers and analyzing encounter data.

·Financial Services.   We have exclusive decision-making authority with respect to the establishment and preparation of annual budgets for each of our affiliated physician organizations. In consultation with each affiliated physician organization, we establish bank accounts for the deposit of all sums received by each affiliated physician organization for services provided to its enrollees. In addition, we may endorse all checks made payable to each of our affiliated physician organizations and make deposits to its bank account, prepare financial statements on a monthly basis, calculate primary care and specialist sub-capitation payments, pay claims by non-capitated providers, invoice other payers for the coordination of benefits and other third party liability payments, such as workers’ compensation claims and automobile insurance claims, administer capitation and other distributions from HMOs including auditing and monitoring of HMO incentive payments, negotiate and settle the affiliated physician organization’s share of such payments, and establish and maintain reserves for our affiliated physician organizations.

·Provider Relations.   We maintain a provider relations department that orients individual providers to managed care policies and procedures, assists each of our affiliated physician organizations in developing and updating provider operations manuals, and resolves day-to-day operational situations that may arise.

·Management Information Systems.   Our management information system, IDX, is a software system specifically designed with a managed care application. The management information system maintains an on-line database that provides inpatient and outpatient utilization statistics and patient encounter reporting. Patient encounter reporting consists of the information received from each physician on patient encounter forms for each patient visit, which sets forth what services the patient received from the physician during that visit. Utilization statistics are the patterns of patient encounters for various procedures for specific segments of the patient population. The availability of timely information on utilization patterns improves physician effectiveness. This data also plays an integral role in the physician utilization control process by enabling the medical directors and

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utilization management nurses to monitor medical management decisions, evaluate patient outcomes and monitor utilization trends. In addition, the management information system is capable of performing various administrative functions including enrollee eligibility verification, outside service referrals and verifications, and claims processing.

·Patient Eligibility and Services.   We provide a variety of services related to patient eligibility, including obtaining eligibility lists from HMOs, assisting with the determination of eligibility of patients for health care coverage prior to the provision of medical services, maintaining a computerized eligibility database to distribute eligibility reports, and insuring that enrollee eligibility and HMO capitation payments are synchronized.

·Member Services.   Our staff is trained to aid patients in understanding managed care and the nature and extent of health plan coverage, assist patients in making informed decisions concerning their medical care and treatment alternatives, and provide support in resolving patient-physician difficulties and/or qualified financial issues.

·Physician Recruiting.   We seek to recruit primary care physicians in each of our affiliated physician organizations. Additionally, we add specialists in each of our affiliated physician organizations as vacancies arise or based upon financial considerations.

Marketing and Public Relations

Our marketing, public relations and advertising of health care services is conducted in accordance with the laws, rules, regulations and guidelines of all applicable governmental and quasi-governmental agencies, including but not limited to the Medical Board of California. In addition to primary care physician recruitment, our marketing staff seeks to increase enrollment through attendance at employer group health fairs and HMO enrollment meetings.

Competition

The managed care industry is highly competitive and is subject to continuing changes with respect to the manner in which services are provided and how providers are selected and paid. We are subject to significant competition both with respect to physicians affiliating with our physician organizations and in seeking contracts to manage other physician organizations. Generally, both we and our affiliated physician organizations compete with any entity that enters into contracts with HMOs for the provision of prepaid health care services, including:

·Other companies that provide management services to health care providers but do not own the affiliated physician organization;

·Hospitals that affiliate with one or more physician organizations;

·HMOs that contract directly with physicians; and

·Other physician organizations.

Additionally, our affiliated physician organizations compete with other medical practices in the areas in which we do business or expect to do business in the future. Pressures to reduce the cost of medical care, through legal reform of the health care system or through market forces such as the continued expansion of managed care, could adversely impact our revenues and the revenues of our affiliated physician organizations. Further, increased enrollment in prepaid plans due to health care reform, increased participation by physicians in group practices and other factors may attract new entrants into the managed care industry, resulting in increased competition.

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We believe that we offer competitive services in the Southern California managed care market based upon three primary factors:

·Stability.   When physician groups fail or are perceived to be on the brink of failure (a condition of material breach in virtually all HMO contracts), HMOs respond by canceling their contract with the failed group and transferring the enrollees to other physician organizations. Physicians in the failing organization will have their patients assigned to other doctors in unrelated physician organizations, often causing significant economic hardship. We attempt to keep our affiliated physicians apprised of our financial and operational strength to assure our contracted physicians that their income streams are protected and not in jeopardy. We achieve this through our provider relations contacts and by our consistent record of timely payments, and by meeting health plan guidelines for tangible net equity and current IBNR (incurred but not reported) claims calculations. In the past, we have acquired and restructured several weak or failing physician organizations, which further demonstrated our ability to survive in the competitive managed care business.

·Competitive Compensation.   Relative to other organizations, we offer competitive reimbursement to our primary care physicians, including a bonus distribution to those physicians in our networks. The amount of the bonus distribution varies with each affiliated physician organization depending on profitability and the level of acquisition debt assigned to each IPA. In certain of our affiliated physician organizations, specialty physicians have also received bonuses.

·Service.   We attempt to provide the highest quality of service to both providers and patients. Emphasis is placed on telephone answering etiquette. Referrals to specialists are made in a timely manner. Many specialist visits do not require prior authorization or a referral request, but rather a simple patient permit form when completed by the primary care physician, allowing direct access, without delay, to the more commonly used specialists. As stated above, we maintain separate departments of provider and customer (patient) relations to help maintain the quality of our service.

There is competition for patients and primary care physicians in every market in which our affiliated physician organizations operate. The number of significant competitors varies in each region. The following summary of information about our competitors and their estimated enrollment in various markets is based on a recent report published by Cattaneo and Stroud, Inc., consultants to the California managed care industry. Enrollment numbers that follow differ from updated enrollment numbers of our affiliated entities provided elsewhere in this filing, due to differing dates of presentation.

Based on the December 2006 Cattaneo and Stroud estimates, total HMO enrollment in Los Angeles County was approximately 4,761,320 of which Prospect had approximately 48,400 enrollees, or approximately 1%. HMO enrollment in Orange County was estimated at approximately 1,437,400  of which Prospect had approximately 123,000 enrollees, or approximately 8.6%.

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In Los Angeles County, California our largest competitors include:

Competition	Estimated Enrollment	% of Total Enrollment of Major Competition Including Prospect
Healthcare Partners Medical Group	425,400		9.1	%
Heritage Provider Network	288,000		6.2	%
La Vida Medical Group	167,800		3.6	%
Facey Medical Foundation	118,000		2.5	%
Los Angeles County Dept of Health Services	92,000		2.0	%
Lakeside Medical Group	88,500		1.9	%
Community Medical Group of the West Valley	82,050		1.8	%
Health Care LA, IPA	87,850		1.9	%
All Others including Kaiser	3,261,820		70.0	%
Sub-Total	4,611,420		99.0	%
Prospect Health Source Medical Group	19,000
Sierra Primary Care Medical Group	11,300
Antelope Valley Medical Group	7,200
Pegasus Medical Group	3,600
Nuestra Familia Medical Group	5,000
Prospect Professional Care Medical Group	2,300
Sub-Total—Prospect	48,400		1.0	%
Grand Totals	4,659,820		100	%

In Orange County, California our largest competitors include:

Competition	Estimated Enrollment	% of Total Enrollment of Major Competition Including Prospect
St. Joseph Heritage Healthcare	187,900		13.1	%
Monarch Healthcare	175,100		12.2	%
Greater Newport Physicians Medical Group	113,300		7.9	%
Bristol Park Medical Group	91,400		6.4	%
All Others including Kaiser	745,400		51.9	%
Sub-Total	1,313,100		91.4	%
Prospect Affiliates
Prospect Medical Group	31,500
AMVI/Prospect Health Network	14,100
Prospect Professional Care Medical Group	23,700
Prospect NWOC Medical Group	11,200
Star Care Medical Group	23,500
APAC Medical Group	2,700
Genesis HealthCare of Southern California	16,300
Sub-Total—Prospect	123,000		8.6	%
Grand Totals	1,436,100		100	%

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According to Cattaneo and Stroud, between 1996 and December 1, 2006, 186 medical groups and independent physician associations throughout California have closed, with 46.2% of the closures due to financial problems. This has reduced the number of competitors in our service area and in our opinion, this consolidation among physician organizations will likely continue. Cattaneo and Stroud reports that, at December 1, 2006, there were 309 medical groups and independent physician associations in California, including 156 small, medium and large, independent physician associations.

Additionally, the California Department of Managed Health Care (“DMHC”) has mandated certain financial statement solvency requirements of medical groups and independent physician associations including cash to claims ratios, positive working capital and positive tangible net worth for all groups. We believe a number of smaller groups will not be able to achieve the financial solvency requirements of the DMHC, which will create additional consolidation opportunities for us.

Based on the December 2006 statewide Cattaneo and Stroud statistics, we believe that the combined enrollment of our affiliated physician organizations is the eighth largest in California.

Physician Organization	Service Area	Estimated Enrollment
Kaiser Foundation	California		6,335,200
HealthCare Partners Medical Group	Los Angeles County Orange County		425,400
Hill Physicians Medical Group	Alameda County Contra Costa County Placer County Sacramento County San Francisco County Solano County		392,800
Brown & Toland Medical Group	Marin County San Mateo County San Francisco		256,900
Heritage Provider Network	Los Angeles County Riverside County San Bernardino County		255,300
Primecare Medical Network	Los Angeles County Riverside County San Bernardino County		222,800
St. Joseph Heritage Medical	San Bernardino County Orange County		187,900
Prospect Medical Group and Subsidiaries	Los Angeles County Orange County		176,100
Monarch Healthcare	Orange County		175,100
Sharp Community Medical Group	San Diego County		169,000
La Vida Medical Group	Los Angeles County		167,800

Some of our competitors are larger than us, have greater resources and may have longer-established relationships with buyers of their services, giving them greater leverage in contracting with physicians and HMOs. Such competition may make it difficult to enter into affiliations with physician organizations on acceptable terms and to sustain profitable operations.

Los Angeles and Orange Counties are very large regions, and there are areas or cities within each county that may have IPAs larger than our affiliated physician organizations.

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Regulation

Both we and our affiliated physician organizations are subject to numerous federal and state statutes and regulations that are applicable to the management and provision of health care services and to business generally, as summarized below.

Corporate Practice of Medicine and Professional Licensing

Federal and state laws specify who may practice medicine and limit the scope of relationships between medical practitioners and other parties. Under these laws, we are prohibited from practicing medicine or exercising control over the provision of medical services. We do not employ physicians to provide medical services, exert control over medical decision-making or represent to the public that we offer medical services. We have entered into management services agreements with our affiliated physician organizations that reserve exclusive control and responsibility for all aspects of the practice of medicine and the delivery of medical services to the physician organizations. Some states have interpreted management agreements with physicians as unlawful fee splitting. Although the laws in these states have been subjected to limited judicial and regulatory interpretation, we believe that our contractual arrangements with physician networks, hospitals, or physician groups are appropriate and that we are in compliance with applicable state laws in relation to te corporate practice of medicine and fee-splitting. However, regulatory authorities or other parties, including our affiliated physicians, may assert that, despite these arrangements, we are engaged in the corporate practice of medicine or that our contractual arrangements with our affiliated professional contractors constitute unlawful fee-splitting, in which case we could be subject to civil or criminal penalties, our contracts could be found legally invalid and unenforceable (in whole or in part) or we could be required to restructure our contractual arrangements with our affiliated professional contractors.  Moreover, changes in the corporate practice of medicine or fee-splitting laws may require modifications in our relationships with our clients.

State law also imposes licensing requirements on individual physicians and on facilities operated by physicians. Federal and state laws regulate HMOs and other managed care organizations with which physician organizations may have contracts. Some states also require licensing of third-party administrators and collection agencies. This may affect our operations in states in which we may seek to do business in the future. In connection with our existing operations, we believe we are in compliance with all such laws and regulations and current interpretations thereof. Our ability to operate profitably will depend, in part, upon our ability and the ability of our affiliated physician organizations to obtain and maintain all necessary licenses and other approvals and operate in compliance with applicable health care laws and regulations, including any new laws and regulations or new interpretations of existing laws and regulations.

Anti-Kickback

Federal law commonly known as the “Anti-kickback Statute” prohibits the knowing or willful offer, solicitation, payment or receipt of anything of value (direct or indirect, overt or covert, in cash or in kind) which is intended to induce the referral of patients covered by federal reimbursement programs, or the ordering of items or services reimbursable under those programs. This law also prohibits remuneration that is intended to induce the recommendation of, or furnishing, or the arranging for, the provision of items or services reimbursable under federal reimbursement programs. This law has been broadly interpreted by a number of courts to prohibit remuneration that is offered or paid for otherwise legitimate purposes if the circumstances show that one purpose of the arrangement is to induce referrals. The penalties for violations of this law include criminal sanctions and exclusion from federal healthcare programs.

To address concerns about the implementation of the Anti-kickback Statute, the federal government adopted regulations with exceptions, or “safe harbors,” for some transactions and activities that will not be deemed to violate the Anti-kickback Statute, such as sales of physician practices, management and personal services agreements, employee relationships, and referrals within group practices consisting of

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“active” investors. The failure to qualify under a safe harbor, while potentially subjecting the activity to greater regulatory scrutiny, does not render the activity illegal per se. One safe harbor on which we rely applies to management contracts meeting specified criteria.

There are several aspects of our relationships with physicians to which the Anti-kickback Statute may be relevant. The government may construe some of the marketing and managed care contracting activities that we historically performed as arranging for the referral of patients to the physicians with whom we had a management agreement.

We believe our business activities are not in violation of the Anti-kickback Statute. Further, we believe that the business operations of our affiliated physician organizations do not involve the offer, payment, solicitation or receipt of remuneration to induce referrals of patients, because compensation arrangements between the physician organizations and the primary care physicians who make referrals are designed to discourage referrals to the extent they are medically unnecessary. These physicians are paid either on a sub-capitation or fee-for-service basis and do not receive any financial benefit from making referrals.

Noncompliance with, or violation of, the Anti-kickback Statute can result in exclusion from the Medicare and Medicaid (Medi-Cal in California) programs and civil and criminal penalties. Many states, including California, have similar anti-kickback prohibitions with similar penalties. Although we believe our activities to be in compliance, if we were found to be in violation of the anti-kickback legislation, we could suffer civil penalties, criminal fines, imprisonment or possible exclusion from participation in the reimbursement programs, which could reduce our revenues, increase our costs and decrease our profitability.

Self-Referral

The Stark Self-Referral Law prohibits a physician from referring a patient to a health care provider for some designated health services reimbursable by the Medicare or Medicaid programs if the physician has a financial relationship with that provider, including an investment interest, a loan or debt relationship or a compensation relationship. The designated services covered by the law include, among others, radiology services, infusion therapy, radiation therapy, outpatient prescription drugs and hospital services. In addition to the conduct directly prohibited by the law, the statute also prohibits “circumvention schemes” that are designed to obtain referrals indirectly that cannot be made directly. The penalties for violating the law include a refund of any Medicare or Medicaid payments for services that resulted from an unlawful referral, civil fines and exclusion from the Medicare and Medicaid programs.

The self-referral prohibition applies to our services, and we believe our relationships comply with the law. We believe our business arrangements do not involve the referral of patients to entities with whom referring physicians have an ownership interest or compensation arrangement within the meaning of federal and state self-referral laws, because referrals are made directly to other providers rather than to entities in which referring physicians have an ownership interest or compensation arrangement. We further believe our financial arrangements with physicians fall within exceptions to state and federal self-referral laws, including exceptions for ownership or compensation arrangements with managed care organizations and for physician incentive plans that limit referrals. In addition, we believe that the methods we use to acquire existing physician organizations and to recruit new physicians do not violate such laws and regulations. Nevertheless, if we were found to have violated the self-referral laws, we could be subject to denial of reimbursement, forfeiture of amounts collected in violation of the law, civil monetary penalties, and exclusion from the Medicare and Medicaid programs, which could reduce our revenues, increase our costs and decrease our profitability. Many states, including California, have similar self-referral laws that provide for similar penalties.

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Fraud and Abuse

Existing federal laws governing Medicaid, Medicare and other federal health care programs, as well as similar state laws, impose a variety of fraud and abuse prohibitions on the Company. These laws are interpreted broadly and enforced aggressively by multiple government agencies, including the Office of Inspector General of the Department of Health and Human Services (the “OIG”), the Department of Justice and various state authorities. In addition, in the Deficit Reduction Act of 2005, Congress created a new Medicaid Integrity Program to enhance federal and state efforts to detect Medicaid fraud, waste and abuse and provide financial incentives for states to enact their own false claims acts as an additional enforcement tool against Medicaid fraud and abuse.  Violations of these laws are punishable by substantial penalties, including monetary fines, civil penalties, criminal sanctions (in the case of the anti-kickback law), exclusion from participation in government-sponsored health care programs, and forfeiture of amounts collected in violation of such laws, any of which could have an adverse effect on our business and results of operations.

HIPAA Administrative Simplification and Privacy Requirements

The Administrative Simplification Provisions of HIPAA require the use of uniform electronic data transmission standards for health care claims and payment transactions submitted or received electronically. These provisions are intended to encourage electronic commerce in the health care industry. On August 17, 2000, the Department of Health and Human Services (“HHS”) published final regulations establishing electronic data transmission standards that all health care providers must use when submitting or receiving certain health care transactions electronically. We were required to comply with the standards by October 16, 2003.

HIPAA also requires HHS to adopt standards to protect the privacy and security of individually identifiable health-related information. We were required to comply with privacy regulations released by HHS by April 14, 2003. The privacy regulations regulate the use and disclosure of individually identifiable health-related information, whether communicated electronically, on paper or orally. The regulations also provide patients with significant new rights related to understanding and controlling how their health information is used or disclosed. HHS released final security regulations on February 20, 2003. The security regulations became mandatory on April 20, 2005 and require health care providers to implement administrative, physical and technical practices to protect the security of individually identifiable health information that is maintained or transmitted electronically.

Our affiliated physician organizations are covered entities subject to these regulations. As a business associate of such entities and contracted health plans, we are also subject to many HIPAA requirements pursuant to a business associate contract required between covered entities and their business associates. We are also subject to state regulations regarding privacy and medical information.

Violations of HIPAA could result in civil penalties of up to $25,000 per type of violation in each calendar year and criminal penalties of up to $250,000 per violation. In addition, there are numerous legislative and regulatory initiatives at the federal and state levels addressing patient privacy concerns. We will continue to remain subject to any federal or state privacy-related laws that are more restrictive than the privacy regulations issued under HIPAA. These statutes vary and could impose additional penalties.

We believe we have achieved compliance with the privacy and electronic health care transaction standards of HIPAA. To date, the cost of compliance with these regulations has not been material. We believe that the ongoing cost of compliance with these regulations will not have a material adverse effect on our business, financial position, results of operations or cash flows.

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False Claims Act

We are also subject to federal and state laws prohibiting individuals or entities from knowingly and willfully making claims for payment to Medicare, Medicaid, or other third party payers that contain false or fraudulent information. These laws provide for both criminal and civil penalties. Health care providers submitting claims that they knew or should have known were false or fraudulent, or for items or services that were not provided as claimed, may be excluded from Medicare and Medicaid participation, may be required to repay previously collected amounts, and may be subject to substantial civil monetary penalties.

Antitrust

Federal and state antitrust laws prohibit agreements in restraint of trade, the exercise of monopoly power and other practices that are considered to be anti-competitive. We believe that we are in material compliance with federal and state antitrust laws in connection with the operation of our physician relationships.

Health Plan Licensing and Regulation

The California Department of Managed Health Care (“DMHC”) is responsible for licensing and regulating health plans in California under the Knox-Keene Health Care Service Plan Act of 1975.

Our affiliated physician organizations contract with health plans (also known as ““HMOs’’) to provide physician and certain ancillary services to the health plans’ enrollees. The Knox-Keene Act imposes numerous requirements on health plans regarding the provision of care to health plan enrollees. HMOs, in turn, require their contracted physician organizations to comply with those requirements where applicable. Health plans also require their contracted physician organizations to ensure compliance with applicable Knox-Keene Act requirements on the part of the organizations’ sub-contracted physicians. Thus, our physician organizations are indirectly subject to many of the requirements of the Knox-Keene Act. While health plans are bound by the provisions of the Knox-Keene Act directly, our physician organizations are bound by many of these same provisions as embodied in their contracts with plans.

Our affiliated physician organizations typically enter into contracts with HMOs, pursuant to which the affiliated physician organizations are paid on a capitated (per member/per month) basis. Under capitation arrangements, health care providers bear the risk, subject to specified loss limits, that the total costs of providing medical services to members will exceed the premiums received. Because they are compensated on a prepaid basis in exchange for providing or arranging for the provision of health care services to assigned patients, the physician organizations may be deemed, under state law, to be in the business of insurance. If the physician organizations are deemed to be insurers, they will be subject to a variety of regulatory and licensing requirements applicable to insurance companies or HMOs, resulting in increased costs and corresponding reduced revenue for us.

Financial Solvency Regulations

The DMHC has instituted financial solvency regulations mandated by California Senate Bill 260. The regulations are intended to provide a formal mechanism for monitoring the financial solvency of capitated physician groups. Management believes that our affiliated physician organizations that are subject to these regulations will be able to comply with them. However, these regulations could limit the company’s ability to use its cash resources to make future acquisitions.

Under the regulations, our affiliated physician organizations are required to comply with specific criteria, including:

·Maintain, at all times, a minimum “cash-to-claims ratio” (where “cash-to-claims ratio” means the organization’s cash, marketable securities and certain qualified receivables, divided by the

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organization’s total unpaid claims liability. The regulations require a cash-to-claims ratio of 0.60 beginning January 1, 2006; 0.65 beginning July 1, 2006; and 0.75 beginning January 1, 2007.

·Submit periodic reports to the DMHC containing various data and attestations regarding performance and financial solvency, including IBNR (incurred but not reported) calculations and documentation, and attestations as to whether or not the organization was in compliance with Knox-Keene Act requirements related to claims payment timeliness, had maintained positive tangible net equity; and had maintained positive working capital.

In a case where an organization is not in compliance with any of the above criteria, the organization would be required to describe in the report submitted to the DMHC the reasons for non-compliance and actions to be taken to bring the organization into compliance.

Further, under these regulations, the DMHC will make public some of the information contained in the reports, including, but not limited to, whether or not a particular physician organization met each of the criteria.

In the event we are not able to meet certain of the financial solvency requirements, and fail to meet subsequent corrective action plans, we could be subject to sanction, or limitations on, or removal of, our ability to do business in California.

Our cash-to-claims ratio on September 30, 2006, was 1.46.

Government Investigations

The government increasingly examines arrangements between health care providers and potential referral sources to ensure that they are not designed to exchange remuneration for patient care referrals. Investigators are increasingly willing to look behind formalities of business transactions to determine the underlying purpose of payments. Enforcement actions have increased and are highly publicized.

In addition to investigations and enforcement actions initiated by governmental agencies, we could become the subject of an action brought under the False Claims Act by a private individual on behalf of the government. Actions under the False Claims Act, commonly known as “whistleblower” lawsuits, are generally filed under seal to allow the government adequate time to investigate and determine whether it will intervene in the action, and defendant health care providers often have no knowledge of such actions until the government has completed its investigation and the seal is lifted.

To our knowledge, we, and our affiliated physician organizations, are not currently the subject of any investigation or action under the False Claims Act. Any such future investigation or action could result in sanctions and unfavorable publicity that could reduce potential revenues and profitability.

Balanced Budget Act

Each state operates a Medicaid (Medi-Cal in California) program funded in part by the federal government. The states may customize their programs within federal limitations. Each state program has its own payment formula and recipient eligibility criteria. In recent years, changes in Medicare and Medicaid programs have resulted in limitations on, and reduced levels of, payment and reimbursement for a substantial portion of health care goods and services. For example, the federal Balanced Budget Act of 1997 (even after the restoration of some funding in 1999) continues to cause significant reductions in spending levels for the Medicare and Medicaid programs.

Laws governing Medicare, Medicaid and other governmental programs may change, and various administrative rulings, interpretations and determinations make compliance difficult. Any changes could materially increase or decrease program payments or the cost of providing services. Final determinations of government program reimbursement often take years because of audits, providers’ rights of appeal and

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numerous technical requirements. We believe we make adequate provision for adjustments. However, future reductions in reimbursement could reduce our revenues and profitability.

Health Care Reform

The U.S. health care industry continues to attract much legislative interest and public attention. In recent years, an increasing number of legislative proposals have been introduced or proposed in Congress and in some state legislatures that would effect major changes in the health care system. Proposals that have been considered include changes in Medicare, Medicaid and other programs, cost controls on hospitals and mandatory health insurance coverage for employees. The costs of implementing some of these proposals would be financed, in part, by reduction of payments to health care providers under Medicare, Medicaid, and other government programs. We cannot predict the course of future health care legislation or other changes in the administration or interpretation of governmental health care programs. However, future legislation, interpretations, or other changes to the health care system could reduce our revenues and profitability.

General Regulatory Requirements

The health care industry is governed by a framework of federal and state laws, rules and regulations that are extensive and complex and for which, in many cases, the industry has the benefit of only limited judicial and regulatory interpretation. If we or one of our affiliated physician organizations is found to have violated these laws, rules or regulations, our business, financial condition and results of operations could be materially adversely affected. Moreover, health care continues to attract legislative interest and public attention. Changes in health care legislation or government regulation may restrict our existing operations, limit the expansion of our business or impose additional compliance, requirements and costs, any of which could have a material adverse effect on our business, financial condition, results of operations and the trading price of our stock. In addition to the regulations referenced above, our operations may also be affected by changes in ethical guidelines and operating standards of professional and trade associations such as the American Medical Association. Changes in existing ethical guidelines or professional organization standards, adverse judicial or administrative interpretations of such guidelines and standards, or enactment of new legislation could require us to make costly changes to our business that would reduce our profitability.

Insurance

We maintain general liability, property, automobile and workers’ compensation insurance as well as directors and officers insurance, which includes employee practices liability insurance. Our annual policy limits are $1,000,000 per occurrence and $2,000,000 in the aggregate for general liability coverage, $7,150,000 for property coverage, $1,000,000 for automobile coverage, the amounts required by state law for workers’ compensation, $1,000,000 for employment practices liability and $7,000,000 in the aggregate (primary and excess) for directors and officers liability.

Our affiliated physician organizations, Prospect Professional Care Medical Group, Inc., AMVI/Prospect Health Network, Antelope Valley Medical Associates, Nuestra Familia Medical Group, Inc., APAC Medical Group, Inc., Prospect Health Source Medical Group, Inc., Prospect NWOC Medical Group, Inc., Santa Ana-Tustin Physicians Group, Inc, StarCare Medical Group, Inc., Pegasus Medical Group, Inc. Sierra Primary Medical Group, Inc., Genesis HealthCare of Southern California and Prospect Medical Group, Inc. maintain managed care errors and omissions insurance (professional liability) in a minimum coverage amount of $1,000,000 per claim and $3,000,000 in the aggregate. The managed care errors and omissions policy also provides directors and officers insurance for the corporate entity in a minimum coverage amount of $1,000,000 per claim and $1,000,000 in the aggregate.

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We also require the physicians that our affiliated physician organizations contract with as independent contractors to maintain malpractice insurance with minimum policy limits of $1,000,000 million per claim and $3,000,000 in the aggregate. The employed physicians at Sierra Medical Group and Pegasus Medical Group are currently insured under policies with annual policy limits of $1,000,000 per claim and $3,000,000 in the aggregate, that cover malpractice on a “claims made” basis, which includes vicarious coverage for each entity (covers the corporate entity as well as the physician).

Our insurance, and the insurance of our affiliated physician organizations, contain customary exclusions and exceptions from coverage. Additionally, we are at risk for our self-insured retention (“deductible”) on certain policies such as $1,000 for our property policy and $75,000 for the managed care errors and omissions insurance.

We believe that the lines and amounts of insurance coverage that we and our affiliated physician organizations maintain, and that we require our contracted physician providers to maintain, are customary in our industry and adequate for the risks insured. We cannot assure, however, that we will not become subject to claims not covered or that exceed our insurance coverage amounts.

History and Development of Our Business

In October 1986 Prospect Medical Group was formed by physician shareholders of another professional corporation called Yorba Linda Medical Group to provide a vehicle for the physician shareholders to focus on managed care, while Yorba Linda Medical Group continued its focus on fee-for-service patients. Our Chief Executive Officer prior to Dr. Terner, Dr. DeNicola, was a shareholder of Yorba Linda Medical Group and Prospect Medical Group. In 1996 the shares of Prospect Medical Group owned by all of the Yorba Linda Medical Group physicians (other than Dr. DeNicola) were redeemed and the former shareholders were issued shares of common stock of Prospect Medical Systems, which is now one of our management subsidiaries. Prospect Medical Systems had been formed in 1995 to acquire all of Prospect Medical Group’s non-professional assets and assume all of its administrative and management functions. Prospect Medical Systems had nominal operations until 1996.

As part of the 1996 transaction with Prospect Medical Group and Prospect Medical Systems, a wholly owned subsidiary of the company was merged into Prospect Medical Systems, with Prospect Medical Systems being the surviving corporation and a wholly owned subsidiary of the company. The company, then called Med-Search, Inc., changed its name to Prospect Medical Holdings. Med-Search, Inc. was incorporated on May 12, 1993 as a Delaware corporation and was the successor by merger to a corporation called Energy Search Inc., a Utah public corporation. Prior to the 1996 merger, we, as Med-Search, provided managed care and medical practice management services to a California professional corporation, Interstate Care Providers, doing business in Ventura County, California.

The physician shareholders of Prospect Medical Systems ultimately exchanged their shares in Prospect Medical Systems with those of Prospect Medical Holdings. The exchange of shares was treated as a reorganization of companies under common control. As the shareholders of Prospect Medical Group became the majority stockholders in the merged company through these transactions, under applicable financial reporting requirements, Prospect Medical Group is considered the predecessor entity to the company for periods prior to July 31, 1996 for financial statement reporting purposes.

Following the 1996 merger, we began to implement our growth strategy through a series of acquisitions and affiliations, primarily through Prospect Medical Group.

Since the 1996 merger, Prospect Medical Group has acquired twelve physician organizations for the aggregate consideration of approximately $48,608,000 in cash, promissory notes in the aggregate principal amount of $3,500,000 and the issuance of approximately 830,000 shares of our common stock. These acquisitions, summarized below, have provided us with substantial concentration of managed care enrollees in our three service areas of Southern California—North and Central Orange County, West Los Angeles and the Antelope Valley region of Los Angeles County.

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On July 14, 1997, Prospect Medical Group acquired Santa Ana-Tustin Physicians Group for cash consideration of $5,000,000. At that time, Santa Ana-Tustin Physicians Group had approximately 12,000 HMO enrollees. Concurrent with the acquisition, Santa Ana-Tustin Physicians Group executed a management services agreement with Prospect Medical Systems.

In August 1997, Prospect Medical Group purchased a small independent physician association, Sequoia Medical Group, with approximately 800 HMO enrollees, which was fully consolidated into Prospect Medical Group for cash consideration of $24,750 and an assumption of liabilities in the approximate aggregate amount of $35,000.

On September 25, 1997, Prospect Medical Group acquired all of the outstanding stock of Sierra Primary Care Medical Group for $5,625,000 in cash, a promissory note in the principal amount of $2,250,000, and options to purchase 31,500 shares of our common stock at an exercise price of $5.00 per share. At that time, Sierra Primary Care Medical Group had approximately 15,000 HMO enrollees. Concurrently, through the merger of Sierra Medical Management with a wholly owned subsidiary of the company, we acquired Sierra Medical Management, which provided the non-physician related management services for Sierra Primary Care Medical Group, for consideration of $625,000 in cash, a promissory note in the principal amount of $250,000, 600,000 shares of our common stock then valued at $2.00 per share, and options to purchase 3,500 shares of our common stock. Sierra Medical Management became a wholly owned subsidiary of Prospect Medical Holdings as a result of the merger.

On October 31, 1997, Prospect Medical Group created a wholly owned subsidiary, Pegasus Medical Group, to acquire the assets of A.V. Western Medical Group, Inc. for aggregate cash consideration of $700,000. A.V. Western Medical Group, Inc. had approximately 5,000 HMO enrollees. Concurrently, Pegasus Medical Group signed a management services agreement with Sierra Medical Management.

On June 1, 1998, Prospect Medical Group formed Antelope Valley Medical Associates, in order to acquire the assets of Antelope Valley Medical Group, Inc. for cash consideration of $25,000. Antelope Valley Medical Group, Inc. had approximately 12,000 HMO enrollees and some exclusive contracts with primary care physicians. At the time of the acquisition of Antelope Valley Medical Group, we through our management subsidiary, Sierra Medical Management, acquired certain assets of the related management company of Antelope Valley Medical Associates for cash consideration of $475,000, a promissory note in the principal amount of $500,000 and the issuance of 200,000 shares of common stock of Prospect Medical Holdings valued at a price of $5.00 per share. Antelope Valley Medical Associates signed a management contract with Sierra Medical Management.

On January 1, 1999 and May 1, 1999, Prospect Medical Group divested its medical clinics located in Orange County and Santa Barbara County, California. The medical clinics had been acquired as part of the original Prospect Medical Group acquisition.

On June 1, 1999, Prospect Medical Group completed its acquisition of the assets of Premier Medical Group, Inc., a Central Orange County, California independent physician association for consideration of $630,000 in cash. Concurrent with its closing, approximately 3,200 HMO enrollees were transferred to and consolidated with Prospect Medical Group.

On July 1, 1999, Prospect Medical Group issued notice to HMOs and contracted providers in Ventura County and Santa Barbara County, California that it was terminating all activities in both counties. This decision was based upon management’s determination that we could not obtain a material share of, or earn a profit in, those regions.

On December 6, 1999, Prospect Medical Group completed an acquisition of assets from Sherman Oaks Affiliated Physicians, Inc., located in the San Fernando Valley section of Los Angeles County for payment of $28,000 in cash and assumption of $151,800 in debt owed to Sherman Oaks Hospital and Health Center by Sherman Oaks Affiliated Physicians. Prospect Medical Group also assumed the provider

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contracts and the name of this start-up independent physician association venture, which had no HMO contracts and no enrollees at the time of acquisition.

On December 10, 2000, the U.S. Bankruptcy Court in the Central District of California approved the sale of the assets of Health Source Medical Group to Prospect Medical Group for consideration of $1,000,000, and the sale was effective on January 1, 2001. Concurrent with the acquisition of the assets, Prospect Health Source Medical Group was formed as a subsidiary of Prospect Medical Group and the assets of Health Source Medical Group were transferred to Prospect Health Source Medical Group. At the same time, Prospect Health Source Medical Group entered into a management agreement with Prospect Medical Systems. At that time, Prospect Health Source Medical Group had approximately 35,000 HMO enrollees.

Health Source Medical Group owned two medical clinics that Prospect Medical Group acquired as part of the asset purchase. We sold these medical clinics in May and July of 2001 for nominal cash consideration, with an agreement by the purchasing physicians to assume all liabilities for the medical clinics and an agreement to maintain an exclusive contract with Prospect Health Source Medical Group.

On September 30, 2003, Prospect Medical Group completed the acquisition of Professional Care Medical Group for cash consideration of $7,050,000. As a result of the acquisition, Professional Care Medical Group became a wholly owned subsidiary of Prospect Medical Group operating under the name “Prospect Professional Care Medical Group.” At the same time, Prospect Professional Care Medical Group entered into a management agreement with Prospect Medical Systems. At the time of the acquisition, Prospect Professional Care Medical Group had approximately 45,000 HMO enrollees.

On February 1, 2004, Prospect Medical Group completed the acquisition of Northwest Orange County Medical Group for consideration of $50,000 in cash and Prospect Medical Systems completed the acquisition of the related management company rights of the manager of Northwest Orange County Medical Group for cash consideration of $1,950,000. As a result of the acquisition, Northwest Orange County Medical Group became a wholly owned subsidiary of Prospect Medical Group operating under the name “Prospect NWOC Medical Group. At the same time, Prospect NWOC Medical Group entered into a management agreement with Prospect Medical Systems. At the time of the acquisition, Prospect NWOC Medical Group had approximately 14,000 HMO enrollees.

On February 1, 2004, Prospect Medical Group completed the acquisitions of StarCare Medical Group and APAC Medical Group, which were “sister” medical groups owned by the same physician for an aggregate cash consideration of $4,050,000, and Prospect Medical Systems acquired the related management company named Pinnacle Health Resources and its management contract rights for cash consideration of $4,450,000 (collectively the “Gateway Acquisition”). As a result of the Gateway Acquisition, StarCare Medical Group and APAC Medical Group became wholly owned subsidiaries of Prospect Medical Group and Pinnacle Health Resources became a wholly owned subsidiary of Prospect Medical Systems. Management of StarCare Medical Group and APAC Medical Group was transferred from Pinnacle Health Resources to Prospect Medical Systems during fiscal 2004. At the time of the Gateway Acquisition, the combined enrollment of StarCare Medical Group and APAC Medical Group was approximately 44,000 HMO enrollees.

StarCare Medical Group owned three clinics at the time of the acquisition. On April 1, 2004, we sold the three clinics for cash consideration of $300,000, promissory notes in the aggregate amount of $1,068,247 and the assumption by the buyers of all operating commitments pertaining to the medical clinics. We retained StarCare Medical Group in its capacity as an IPA. As a condition of StarCare Medical Group’s sale of the medical clinics, the acquiring buyer executed a provider agreement with StarCare Medical Group in StarCare’s capacity as an IPA, which includes, among other things, specific non-diversion and non-solicitation language as to the enrollees served by StarCare Medical Group.

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On November 1, 2005, Prospect Medical Group completed the acquisition of Genesis HealthCare of Southern California for consideration of $8,000,000 in cash. As a result of the acquisition, Genesis HealthCare of Southern California became a wholly owned subsidiary of Prospect Medical Group. At the same time, Genesis HealthCare of Southern California entered into a management agreement with Prospect Medical Systems. At the time of the acquisition, Genesis HealthCare of Southern California had approximately 16,000 HMO enrollees.

Executive Officers

The following table summarizes the name, age, title and business experience for the past five years of each of our executive officers. Other than as described below, no family relationships exist between or among any of our officers and directors.

Name	Age	Position
Jacob Y. Terner, M.D.	72	Chairman, Chief Executive Officer and Director
Catherine S. Dickson	37	President, Chief Operating Officer and Director
Mike Heather	48	Chief Financial Officer
R. Stewart Kahn	55	Executive Vice President and Secretary
Linda Hodges	62	Executive Vice President of Compliance
Michael A. Terner	45	Vice President, HMO Contracting and Health Plan Relations
Donna Vigil	58	Vice President, Finance

Jacob Y. Terner, M.D.   Jacob Y. Terner, M.D. has served as our Chairman, Chief Executive Officer and a member of our Board of Directors since July 31, 1996. Dr. Terner is also the Chief Executive Officer and a Director of each of our management subsidiaries and is the Chief Executive Officer, President, Treasurer and a Director of each of our affiliated physician organizations except for AMVI/Prospect Health Network, which is a joint venture partner where Dr. Terner is Chief Executive Officer, President, Treasurer and a Director of one of the two general partners; Sierra Primary Care Medical Group, where Dr. Terner serves as Chief Executive Officer, Treasurer and a Director; and Nuestra Familia Medical Group, where Dr. Terner serves as Secretary and a Director. Dr. Terner held the position of Clinical Professor of Obstetrics and Gynecology at the University of Southern California, School of Medicine from 1972 to 2001. Dr. Terner is currently Emeritus Clinical Professor of Obstetrics and Gynecology. Dr. Terner also served as Chairman and Chief Executive Officer of Century MediCorp, Inc., a publicly-traded, integrated health-management organization from June 24, 1988 until its October 1992 merger with Foundation Health Corporation. Following this merger, Dr. Terner was named to Foundation’s Board of Directors and served as its Executive Vice President and as a Director until his resignation in December 1992. Dr. Terner is also a Director of Brotman Medical Center, Inc.

Catherine S. Dickson.   Catherine S. Dickson serves as our President and Chief Operating Officer, positions she has held since July 2003. In February 2004, Ms. Dickson was elected as a member of our Board of Directors. Ms. Dickson is also the President and Chief Executive Officer of Prospect Medical Systems. Prior to Ms. Dickson’s appointment as our President and Chief Operating Officer, Ms. Dickson served as Vice President of Contracting and Credentialing for Prospect Medical Systems since February 2000. Ms. Dickson has been with Prospect Medical Systems since January 1998. Ms. Dickson has significant experience across a broad range of managed care divisions, including contract negotiation and implementation, claims adjudication, eligibility, utilization management and credentialing. Before joining Prospect Medical Systems, Ms. Dickson served as an Associate Contract Administrator for Orange Coast Managed Care Services, Inc., the health care management company for the Sisters of St. Joseph Health Organization Independent Physician Association.

Mike Heather.   Mike Heather was appointed Chief Financial Officer of the company and each of our management subsidiaries in April 2004. Mr. Heather also serves as Chief Financial Officer of each of our

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affiliated physician organizations except for AMVI/Prospect Health Network, which is a joint venture partner where Mr. Heather is Chief Financial Officer of one of the two general partners. Most recently, Mr. Heather served as Co-Chief Executive Officer of WebVision, Inc. from March 2001 to June 2002, and Chief Financial Officer from June 2000 through June 2002. Prior to joining WebVision, Mr. Heather was a Partner at Deloitte & Touche which he joined in 1980, and was the founder and Partner-in-Charge of the HealthCare Services Practice of Deloitte & Touche in Orange County from June 1992 to June 2000.

R. Stewart Kahn.   R. Stewart Kahn has served as our Executive Vice President since March 1998 and as our Secretary since July 1998. Mr. Kahn is also the Executive Vice President and Secretary of each of our management subsidiaries, and is the Secretary of each of our affiliated physician organizations except for Nuestra Familia Medical Group, where Mr. Kahn serves as Vice President, and AMVI/Prospect Health Network, which is a joint venture partner where Mr. Kahn is the Secretary of one of the two general partners. Mr. Kahn has responsibility for mergers and acquisitions and day-to-day business operations of the company and its management subsidiaries. From 1987 to 1999, Mr. Kahn was the President and Chief Executive Officer of Legend Capital Corporation, a consulting firm specializing in financial, marketing, lending and accounting services to the health care industry. Mr. Kahn has more than 30 years of experience in the commercial finance and equipment leasing industry and is intimately familiar with asset based lending, leveraged buyouts, merger and acquisition financing, and contractual and business matters.

Linda Hodges.   Linda Hodges has served as our Executive Vice President of Compliance since August 1, 2003. Previously, Ms. Hodges served as President and Chief Operations Officer of Prospect Medical Systems from November 1998 to July 2003, and she has performed a number of other senior management functions for Prospect Medical Systems since 1996. Ms. Hodges has over 20 years of health care related experience in management and operations. Ms. Hodges has also served in positions such as Interim Chief Executive Officer of VivaHealth Plan, Executive Director of Foundation Health Corporation (Southern California Region), and President of Loma Linda Health Plan, a wholly owned subsidiary of Century MediCorp, Inc.

Donna Vigil.   Donna Vigil has served as our Vice President of Finance since April 2004, prior to which she served as our Chief Financial Officer commencing July 1998. Ms. Vigil served as Chief Financial Officer of NetSoft, a privately held, $20 million software development company with five European subsidiaries, from October 1989 to September 1997. Ms. Vigil was Acting Chief Financial Officer/Consultant of Strategic HR Services, for the staffing division of a large real estate developer in Southern California, from October 1997 to May 1998.

Michael A. Terner.   Michael A. Terner has served as our Vice President of HMO Contracting and Health Plan Relations since October 1, 2003. From 1998 to 2003, Mr. Terner was a portfolio manager for Ocean Park Capital Management, LLC, a private investment company. From 1994 through 1998, Mr. Terner was an independent financial consultant for various entities including Prospect Medical Holdings and the Columbia Charitable Foundation. From 1991 to 1993, he was the Business Development Executive with Century Medicorp, and from 1990 to 1991, Mr. Terner was involved in the health care consulting practice of KPMG Peat Marwick. From 1983 to 1988, Mr. Terner was a risk arbitrage trader with LF Rothschild, Unterberg and Laterman Co. Mr. Terner received his MBA from the Anderson Graduate School of Management at UCLA in 1990, and his BA Degree from Harvard College in 1983. Mr. Terner is the son of Jacob Y. Terner, our Chief Executive Officer.

Terms of Office

Officers are elected by and serve at the discretion of our Board of Directors. They hold office until their successors are chosen and qualified, or until they resign or have been removed from office. The Board of Directors may appoint, or empower the Chief Executive Officer to appoint or terminate, such other officers and agents as the business of the corporation may require, each of whom shall hold office for

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such period, and have such authority, and perform such duties as are provided in our Bylaws, or as the Board of Directors may from time to time determine.

Item 1A.Risk Factors

Our business is subject to a number of risks, including those described below.

Decreases in the number of HMO enrollees using our provider networks reduce our profitability and inhibit future growth.

During recent periods, the number of HMO enrollees using our provider networks has declined (not taking into account our recent acquisitions of additional affiliated physician organizations), and management currently anticipates that this trend will continue. The profitability and growth of our business depends largely on the number of HMO members who use our provider networks. We seek to maintain and increase the number of HMO enrollees using our provider networks by monitoring enrollment of the HMOs with which our affiliated physician organizations have contracts, affiliating with additional IPAs and acquiring other management companies. If we are not successful, we may not be able to maintain our profitability or to continue to grow our business in the future. For the years ended September 30, 2002, 2003, 2004, 2005 and 2006, the decrease in the number of HMO enrollees using our provider networks was 3,600, 1,400, 20,700, 26,500 and 16,400 respectively. Estimated revenue reductions associated with the enrollment decreases for those periods were approximately, $3,500,000, $400,000, $8,200,000, $11,100,000 and $3,800,000, respectively. These estimates assume that enrollment decreased ratably during the indicated periods and, as such, represent approximately 50% of the lost revenue that will be experienced in subsequent periods, when the enrollment decline is in effect for the whole period.

Our working capital deficit could adversely affect our ability to satisfy our obligations as they come due.

We have historically been in a negative working capital position. Having a working capital deficit may signal an impaired ability to pay debts as they come due.

We had negative working capital of $3,141,414, $681,960 and $123,898 as of September 30, 2004, 2005 and 2006, respectively. This represents the difference between our current assets and our current liabilities. The negative working capital is the result of a reduction in cash and cash equivalents that have been used to reduce our bank debt and current liabilities incurred in operations and acquisitions, primarily related to medical expense claims.

As of the fiscal years ended 2004, 2005 and 2006, our indebtedness for capital leases, subordinated seller notes, and notes to our bank totaled $15,008,554, $8,166,667 and $12,000,000. We have historically used cash reserves and cash flow from operations and equity offerings to reduce our indebtedness and fund acquisitions. This, and our recording of reserves for incurred but not reported healthcare expense claims, have been the primary reasons for our negative working capital position at September 30, 2004, 2005 and 2006.

If the value of our goodwill and intangible assets with indefinite useful lives becomes impaired, the impaired portion will have to be written off, which could materially reduce the value of our assets and reduce our net income for the year in which the write-off occurs.

Our intangible assets represent a substantial portion of our assets. As of September 30, 2006, goodwill totaled $37,838,169 and other intangible assets totaled $1,738,475 for a combined total of $39,576,643 and represented approximately 59% of our total assets.

In June 2001, the Financial Accounting Standards Board (“FASB”) issued two standards related to business combinations. The first statement, SFAS No. 141, “Business Combinations,” requires all business combinations after June 30, 2001 to be accounted for using the purchase method and prohibits the

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pooling-of-interest method of accounting. SFAS No. 141 also states that acquired intangible assets should be separately recognized upon meeting certain criteria. Such intangible assets include, but are not limited to, trade and service marks, non-compete agreements, customer lists and licenses.

The second statement, SFAS No. 142 “Goodwill and Other Intangible Assets,” requires that upon adoption, amortization of goodwill and indefinite life intangible assets will cease and instead, the carrying value of goodwill and indefinite life intangible assets will be evaluated for impairment at least on an annual basis, or more frequently if certain indicators are encountered. We have adopted SFAS No. 142. A two-step impairment test is to be used to identify potential goodwill impairment and to measure the amount of goodwill impairment loss to be recognized (if any). The first step of the goodwill impairment test, which is used to identify potential impairment, compares the fair value of a reporting unit with its carrying amount, including goodwill. If the fair value of a reporting unit exceeds its carrying amount, goodwill of the reporting unit is considered not impaired, thus the second step of the impairment test is unnecessary.

Any finding that the value of our goodwill and intangible assets has been impaired would require us to write off the impaired portion, which could significantly reduce the value of our assets and reduce our net income for the year in which the write-off occurs. To date, since we adopted SFAS No. 142 for our fiscal year ended September 30, 2002, no impairment has been found and no write-off has been required.

We may not be able to make any additional significant acquisitions without first obtaining additional financing and obtaining the consent of our commercial lender.

Although we have no specific agreements for additional acquisitions of affiliated physician organizations pending, the implementation of our long-term growth strategy depends on additional acquisitions in the future. These future acquisitions may require additional capital resources. No assurance can be given that needed capital will be made available to us.

To finance our ongoing capital requirements, we may, from time to time, issue additional equity securities or incur additional debt. A greater amount of debt or additional equity financing could be required to the extent that our common stock fails to achieve or to maintain a market value sufficient to warrant its use in future acquisitions or to the extent that physician organizations or their related management companies are unwilling to accept common stock in exchange for their businesses. Our ability to issue debt instruments or equity securities in a public or private sale is restricted by the loan agreement with our commercial lender, Residential Funding Corporation. The loan agreement restricts us from using any loan proceeds for acquisitions and prohibits us from borrowing outside of the loan agreement, for acquisitions or otherwise, without the prior written consent of the lender. The loan agreement also prohibits us from using the proceeds of any sale of equity securities except to pay down indebtedness under the loan agreement. Thus, we must obtain the written consent of our lender before we use any loan proceeds for acquisitions and before we issue any debt or equity securities to raise financing for acquisitions. Our lender may grant or withhold such consent in the lender’s sole discretion. If our commercial lender is unwilling to consent to our use of loan proceeds or our issuance of debt or equity securities to finance acquisitions, we may have to abort any growth plan that depends on the use of funds from such debt or equity securities. Even if we obtain required consents from our lender, we may not be able to obtain additional required capital on acceptable terms, if at all. To the extent that additional capital is not available, we may be required to limit our plans for growth. In addition, any capital we may be able to raise could result in increased leverage on our balance sheet, additional interest and financing expense, decreased operating income to fund future expansion, and/or dilution of existing equity owners.

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If we are not able to comply with the financial covenants and other conditions required by our loan agreement with our commercial lender, our lender could require full repayment of the loan, which would negatively impact our liquidity and preclude us from making further acquisitions.

We are subject to certain financial covenants and other conditions required by our loan agreement with Residential Funding Corporation (“RFC”), including a maximum senior debt/EBITDA ratio, minimum fixed charge coverage ratio, minimum consolidated net worth, minimum liquidity and a limit on capital expenditures. We exceeded the 1.50 maximum senior debt/EBITDA ratio as of September 30, 2004 and December 31, 2004. Our actual senior debt/EBITDA ratio as of those two dates was 1.57 and 1.51, respectively. RFC waived these covenant violations effective April 7, 2005 and, in addition, agreed to exclude certain items from the covenant computations for a twelve month period, which enabled us to meet the minimum fixed charge coverage ratio at December 31, 2004. Effective September 30 2006, in order to enable the Company to meet the minimum fixed charge coverage ratio, RFC amended the loan agreement to lower the required ratio through December 2006, and made certain allowances in the manner in which that ratio is calculated. There can be no assurance that we will be able to meet all of the financial covenants and other conditions required by our loan agreement. RFC may not grant waivers of future covenant violations and could also require full repayment of the loan, which would negatively impact our liquidity and preclude us from making further acquisitions.

Substantially all of our revenues are generated from contracts with a limited number of HMOs, and if our affiliated physician organizations were to lose HMO contracts or to renew HMO contracts on less favorable terms, our revenues and profitability could be significantly reduced.

After a recent consolidation of HMOs, there are now only four large and five smaller HMOs doing business in California, which magnifies the risk of loss of any HMO contract by our affiliated physician organizations. The potential for risk is also magnified because HMO contracts generally have only a one year term, may be terminated earlier without cause upon notice, and, upon renewal, are subject to annual negotiation of capitation rates, covered benefits and other terms and conditions.

We are particularly at risk with respect to the potential loss or renewal on less favorable terms of contracts that our affiliated physician organizations have with four of these HMOs—PacifiCare of California, Blue Cross of California, Health Net of California and Blue Shield of California.

For the fiscal year ended September 30, 2006, contracts with our four largest HMO clients accounted for approximately 79% of our enrollment, of which our contract with PacifiCare of California accounted for approximately 22% of our enrollment, our contract with Health Net of California accounted for approximately 23% of our enrollment, our contract with Blue Cross of California accounted for approximately 20% of our enrollment, and our contract with Blue Shield of California accounted for approximately 14% of our enrollment. During the fiscal year ended September 30, 2006, our contract with PacifiCare of California accounted for $39,337,714 in revenue, or 30% of our total capitation revenue, our contract with Health Net of California accounted for $27,113,638 in revenue, or 21% of our total capitation revenue, our contract with Blue Cross accounted for $20,948,066 in revenue, or 16% of our total capitation revenue and our contract with Blue Shield of California accounted for $15,954,577 in revenue, or 12% of our total capitation revenue. For the fiscal year ended September 30, 2006, PacifiCare, Blue Cross, Health Net and Blue Shield accounted for combined revenue of $103,353,995, or approximately 79% of our total capitation revenue.

For the fiscal year ended September 30, 2005, contracts with our four largest HMO clients accounted for approximately 75% of our enrollment, of which our contract with PacifiCare of California accounted for approximately 22% of our enrollment, our contract with Health Net of California accounted for approximately 18% of our enrollment, our contract with Blue Cross of California accounted for approximately 19% of our enrollment, and our contract with Blue Shield of California accounted for

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approximately 16% of our enrollment. During the fiscal year ended September 30, 2005, our contract with PacifiCare of California accounted for $40,155,679 in revenue, or 31% of our total capitation revenue, our contract with Health Net of California accounted for $25,224,324 in revenue, or 20% of our total capitation revenue, our contract with Blue Cross accounted for $21,365,598 in revenue, or 17% of our total capitation revenue and our contract with Blue Shield of California accounted for $14,802,756 in revenue, or 11% of our total capitation revenue. For the fiscal year ended September 30, 2005, PacifiCare, Blue Cross, Health Net and Blue Shield accounted for combined revenue of $101,548,357, or approximately 79% of our total capitation revenue.

The loss of contracts with any one of these HMOs could significantly reduce our revenues and profitability.

We have one year automatically renewable contracts with PacifiCare of California, Blue Cross of California, Health Net of California and Blue Shield of California, unless either party provides the other party with 180-days’ notice of such party’s intent not to renew. Under limited circumstances, the HMOs may immediately terminate the contracts for cause; otherwise, termination for cause requires 90 days’ prior written notice with an opportunity to cure. There can be no assurance that we will be able to renew any of these contracts or, if renewed, that they will contain terms favorable to us and our affiliated physician organizations.

Our profitability may be reduced or eliminated if we are not able to manage health care costs of our affiliated physician organizations effectively.

Our success depends in large part on our effective management of health care costs, through control over our affiliated physician organizations through the single shareholder ownership model, controlling utilization of specialty care and other ancillary care and purchasing services at competitive prices. Under the single shareholder model, we have the right, under an assignable option agreement, to designate the sole owner of all of the stock of Prospect Medical Group, which is one of our affiliated physician organizations and also serves as a holding company for all of our other affiliated physician organizations. Our ability to designate the sole owner of Prospect Medical Group gives us the ability to control the management and business policies of our affiliated physician organizations (except for one in which we have only a 50% joint venture ownership interest), including policies for the management of health care costs.

We attempt to control the health care costs of our affiliated physician organizations’ HMO enrollees by emphasizing preventive care, monitoring compliance with pharmacy formularies (i.e., a list of approved pharmaceutical drugs that the HMOs will provide an enrollee at a lesser cost than other drugs), entering into risk sharing agreements with hospitals that have favorable rate structures, and requiring prior authorization for specialist physician referrals. If we cannot continue to improve our management of health care costs, our business, results of operations, financial condition, and ability to satisfy our obligations could be adversely affected.

Under all current HMO contracts, our affiliated physician organizations accept the financial risk for the provision of primary care and specialty physician services, and some ancillary health care services. If we are unable to negotiate favorable prices or rates in contracts with providers of these services on behalf of our affiliated physician organizations, or if our affiliated physician organizations are unable to effectively control the utilization of these services, our profitability could be reduced or eliminated. Our ability to manage health care costs is also diminished to the extent that we are unable to sub-capitate the specialists in our service areas at competitive rates. To the extent that our HMO enrollees require more frequent or extensive care, our operating margins may be reduced and the revenues derived from our capitation contracts may be insufficient to cover the costs of the services provided. If our medical costs substantially exceed our revenues we may be required to infuse additional capital to maintain our provider network and HMO contracts, and there are no assurances that we will achieve profitability after the infusion of capital.

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Our revenue and profitability could be significantly reduced and could also fluctuate significantly from period to period under Medicare’s new Risk Adjusted payment methodology.

In calendar 2004, CMS began a four year phase-in of a revised compensation model for Medicare beneficiaries enrolled in Medicare Advantage plans. Previously, monthly capitation revenue was based on age, sex and location.

CMS’s revised payment model seeks to compensate Medicare Managed Care organizations based on the sickness (“acuity”) of each individual enrollee. Health Plans/IPA’s with sicker enrollees will receive more, and those with healthier enrollees will receive less. This is referred to by CMS as “Risk Adjustment.”

Significant ongoing office visits by members, and submission of encounter data is required in order to receive incremental revenue, or not lose revenue for any given member. This requires a great deal of continuous effort on our part, and co-operation on the parts of our contracted physicians and members. We have not always been able to gain this co-operation from the contracted physicians and members, or devote the resources necessary to obtain incremental Risk Adjustment revenue, or avoid having previously received revenue taken back from us.

Additionally, because of the time required by CMS to process all of the submitted encounter data from all participating entities, we typically do not find out until the latter part of the calendar year what adjustments will be made to our Medicare revenue for the year, at which time those adjustments to revenue, which have historically been very significant, are recorded.

In fiscal 2005, we received approximately $4.0 million in incremental Risk Adjustment revenue for calendar 2005. This was primarily received in our fiscal fourth quarter and was recorded in that quarter. In fiscal 2006, we were required to give back approximately $1.5 million in Risk Adjustment revenue. Again, this adjustment became known, and was recorded, in our fiscal fourth quarter, even though the majority of the adjustment related to earlier periods.

Given the deadlines for submitting data to CMS, and CMS’s processing time in order to calculate these Risk Adjustment revenue changes, we have no way of reliably estimating the impact of Risk Adjustment until such time as those adjustments are made known by CMS. As such, retroactive Risk Adjustments will be recorded each year in the quarter they become known, notwithstanding that a significant portion of those adjustments will relate to earlier periods. These adjustments will continue to be significant.

Our operating results could be adversely affected if our actual health care claims exceed our reserves.

Historically, we have not had adequate cash resources to retire one hundred percent (100%) of our incurred but not reported (i.e., accrued or “IBNR”) medical claims. As of September 30, 2004, 2005 and 2006 we could retire approximately 156%, 147% and 146%, respectively, of our accrued medical claims and other health care costs payable using all of our cash and cash equivalents. This percentage will fluctuate as of the particular cut-off dates depending on the IBNR calculations as of each date, the timing of the actual disbursement of claims checks near those dates, the status of specifically reserved items as of those dates, the level of borrowings made as of the given dates and whether there have been any recent acquisitions, and the amount of cash included as part of those acquisitions.

Historically, we have been able to satisfy our claims payment obligations each month out of cash flows from operations and existing cash reserves. However, due to the historical inadequacy of our aggregate cash reserves, in the event that our revenues are substantially reduced due to a loss of a significant HMO contract or other factors, our cash flow may not be sufficient to pay off claims on a timely basis, or at all. If we are unable to pay claims timely we may be subject to HMO de-delegation wherein the HMO would take away our claims processing functions and perform the functions on our behalf, charging our affiliated physicians a fee per enrollee, a requirement by the HMO to comply with a corrective action plan, and/or a

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termination of the HMO contract, which could have a material adverse effect on our operations and results of operations.

We estimate the amount of our reserves for submitted claims and IBNR claims primarily using standard actuarial methodologies based upon historical data. The estimates for submitted claims and IBNR claims liabilities are made on an accrual basis, are continually reviewed and are adjusted in current operations as required. As of September 30, 2004, 2005 and 2006, we estimated our IBNR at $13,323,622, $11,532,328 and $11,400,000 respectively. Given the uncertainties inherent in such estimates, the reserves could materially understate or overstate our actual liability for claims payable. Any increases to these prior estimates could adversely affect our results of operations in future periods.

We may be exposed to liability or fail to estimate IBNR claims accurately if we cannot process our increased volume of claims accurately and timely.

We have regulatory risk for the timely processing and payment of claims. If we are unable to handle increased claims volume, or if we are unable to pay claims timely we may become subject to an HMO corrective action plan or de-delegation (which means that an HMO takes away the claims processing function of the affiliated physician organization and performs that work itself, charging the affiliated physician organization a fee per HMO enrollee per month during which the service is handled by the HMO) until the problem is corrected, and/or termination of the HMO agreement, which could have a material adverse effect on our operations and profitability. In addition, if our claims processing system is unable to process claims accurately, the data we use for our IBNR estimates could be incomplete and our ability to estimate claims liabilities and establish adequate reserves could be adversely affected.

Medicare and private third-party payer cost containment efforts and reductions in reimbursement rates could reduce our revenue and our cash flow.

The health care industry is experiencing a continuing trend toward cost containment as government and private third-party payers seek to impose lower reimbursement and utilization rates and to negotiate reduced payment schedules with health care providers. Changes in Medicare payment rates have reduced fee-for-service payments to physicians. These trends may result in a reduction from historical levels in per patient revenue received by our affiliated physician organizations.

Risk-sharing arrangements that our affiliated physician organizations have with HMOs and hospitals could result in their costs exceeding the corresponding revenues, which could reduce or eliminate any shared risk profitability.

Most of our affiliated physician organizations’ agreements with HMOs and hospitals contain risk-sharing arrangements under which the affiliated physician organizations can earn additional compensation by coordinating the provision of high quality, cost-effective health care to enrollees, but they may also be required to assume a portion of any loss sustained from these arrangements, thereby reducing our net income. Risk-sharing arrangements are based upon the cost of hospital services or other services for which our physician organizations are not capitated. The terms of the particular risk-sharing arrangement allocate responsibility to the respective parties when the cost of services exceeds a budget, which results in a “deficit,” and permit the parties to share in any amounts remaining in the budget, known as a “surplus,” which occurs when actual cost is less than the budgeted amount. The amount of non-capitated and hospital costs in any period could be affected by factors beyond our control, such as changes in treatment protocols, new technologies and inflation. To the extent that such non-capitated and hospital costs are higher than anticipated, revenue paid to our affiliated physician organizations may not be sufficient to cover the risk-sharing deficits they are responsible for, which could reduce our revenues and profitability. It is our experience that “deficit” amounts for hospital costs are applied to offset any future “surplus” amount we would otherwise be entitled to receive. We have historically not been required to

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reimburse the HMOs for any hospital cost deficit amount. Most of our contracts with HMOs specifically provide that we will not have to reimburse the HMO for hospital cost deficit amounts.

HMOs often insist on withholding negotiated amounts from the affiliated physician organizations’ professional capitation payments, which the HMOs are permitted to retain, in order to cover the affiliated physician organizations’ share of any risk-sharing deficits; and hospitals often demand cash settlements of risk sharing deficits as a “quid pro quo” for joining in these arrangements. Net risk-pool surpluses (deficits) were $(21,610), $1,151,373 and $3,346,204 for the fiscal years ended September 30, 2004, 2005 and 2006, respectively.

In addition to hospital risk-sharing arrangements, many HMOs also provide a risk-sharing arrangement for pharmaceutical costs. Unlike hospital pools where nearly all of the HMO contracts mandate participation by our affiliated physician organizations in the risk sharing for hospital costs, a lesser number of the HMO contracts mandate participation in a pharmacy risk-sharing arrangement, and although (unlike hospital pools) our affiliated physician organizations are generally responsible for their 50% allocation of pharmacy cost deficits, the deficit amounts of pharmacy costs have to date not had a material effect on our revenue.

To date, we have not suffered any losses due to hospital risk arrangements other than offsets (for deficit amounts) against any future surpluses we otherwise would have received. To date our aggregate losses in connection with our pharmacy risk sharing arrangements have been insignificant. Whenever possible, we seek to contractually reduce or eliminate our affiliated physician organizations’ liability for risk-sharing deficits and with respect to pharmacy pools, eliminate their participation in such pools. Notwithstanding the foregoing, risk-sharing deficits could have a significant impact on our future profitability.

If we do not successfully integrate the operations of acquired physician organizations into our service network, our costs could increase, our business could be disrupted, and we may not be able to realize the anticipated benefits from those acquisitions.

Our strategy for growth is primarily to acquire additional IPAs that specialize in managed care and to realize economies of scale from those acquisitions. However, even if we are successful in acquiring a new physician organization, we may not be successful in integrating its operations into our operating systems. It may be difficult and time consuming to integrate the acquired organization’s management services, including information systems, claims administration, and case management, as well as administrative functions, and, while at the same time managing a larger entity with a differing history, business model and culture. Management may be required to develop working relationships with providers with whom they have had no previous business experience. Management also may not be able to obtain economies of scale from utilizing existing specialists for enrollees in our same service networks. Integration of acquired entities is vital for us to be able to operate effectively and to control medical and administrative costs. If we are not successful in integrating acquired operations on a timely basis, or at all, our business could be disrupted and we may not be able to realize the anticipated benefits of our acquisitions, including cost savings. There may be substantial unanticipated costs associated with acquisition and integration activities, any of which could result in significant one-time charges to earnings or otherwise adversely affect our operating results.

When we acquire operations that have historically operated at a loss, we may not be able to reverse those losses and operate those businesses at a profit, which could reduce our earnings.

From time to time, Prospect Medical Group may acquire the assets of a physician organization that has historically operated at a loss, such as the acquisition of the assets of Health Source Medical Group. We have instituted measures intended to reduce any operating losses and to operate acquired businesses profitably, such as we have done with the acquisition of the assets of Health Source Medical Group. We

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attempt to reduce operating losses of such acquired businesses by negotiating better capitation rates from the HMOs, negotiating better pricing with the specialist physicians by trading patient volume in exchange for a sub-capitation payment or discounted pricing, and consolidating administrative and back-office functions. Although we were successful in the turn-around of Health Source by employing these strategies, no assurance can be given that we can repeat our performance in the event we acquire another physician organization that has historically operated at a loss. In the event we are not able to reverse those trends and operate the assets profitably, our net earnings could be reduced.

If we are unable to identify suitable acquisition candidates or to negotiate or complete acquisitions on favorable terms, our prospects for growth could be limited.

Although we are regularly in discussions with potential acquisition candidates, it may be difficult to identify suitable acquisition candidates and to negotiate satisfactory terms with them. If we are unable to identify suitable acquisition candidates at favorable prices our ability to grow could be limited.

Any acquisitions we complete in the future could potentially dilute the equity interests of our current stockholders or could increase our indebtedness and cost of debt service, thereby reducing our net income and profitability.

If we issue common stock or other equity securities as consideration for future acquisitions, the issuance of equity could have a dilutive effect on the earnings and market price of our common stock. If we borrow to finance future acquisitions, our indebtedness and cost of debt service could increase, which would reduce our net income and profitability.

We operate in a competitive market; increased competition could adversely affect our revenues.

The managed care industry is highly competitive and is subject to continuing changes in the ways in which services are provided and providers are selected and paid. We are subject to significant competition both with respect to physicians affiliating with our affiliated physician organizations, and in seeking contracts to manage other IPAs.

Some of our competitors have substantially greater financial, technical, managerial, marketing and other resources and experience than we do and, as a result, may compete more effectively than we can. Companies in other health care industry segments, some of which have financial and other resources greater than we do, may become competitors in providing similar services. We may not be able to continue to compete effectively in this industry. Additional competitors may enter our markets and this increased competition may have an adverse effect on our business, financial condition, and results of operations.

Failure to comply with federal and state regulations could result in substantial penalties and changes in business operations.

We and our affiliated physician organizations are subject to numerous federal and state statutes and regulations that are applicable to health care organizations and businesses generally, including the corporate practice of medicine prohibition, federal and state anti-kickback laws and federal and state laws regarding the use and disclosure of patient health information. If our business operations are found to be in violation of any of the laws and regulations to which we are subject, we may be subject to the applicable penalty associated with the violation, including civil and criminal penalties, damages, fines, and increased legal expenses, we may be required to make costly changes to our business operations, and we may be excluded from government reimbursement programs. The laws and regulations that we and our affiliated physician organizations are subject to are complex and subject to varying interpretations. Any action against us or our affiliated physician organizations for violation of these laws or regulations, even if we successfully defended against it, could cause us to incur significant legal expenses and divert management’s attention from the operation of our business. All of these consequences could have the effect of reducing our revenues, increasing our costs, decreasing our net income, profitability and curtailing our growth.

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For a more detailed discussion of the various federal and state regulations to which we are subject, see Item 1, “Business—Regulation.”

Future reforms in health care legislation and regulation could reduce our revenues and profitability.

Although we cannot predict what future reforms may be proposed or adopted with respect to health care legislation and regulation, proposals that have been considered include changes in Medicare, Medicaid and other programs, a prescription drug benefit for Medicare, cost controls on hospitals and mandatory health insurance coverage for employees. The costs of implementing some of these proposals could be financed, in part, by reduction of payments to health care providers under Medicare, Medicaid, and other government programs. Future legislation, regulations, interpretations, or other changes to the health care system could reduce our revenues and profitability.

The California Department of Managed Health Care (“DMHC”) has instituted financial solvency regulations mandated by California Senate Bill 260. The regulations are intended to provide a formal mechanism for monitoring the financial solvency of capitated physician groups. Management believes that our affiliated physician organizations that are subject to these regulations will be able to comply with them. However, these regulations could limit the company’s ability to use its cash resources to make future acquisitions.

Under the regulations, our affiliated physician organizations are required to comply with specific criteria, including:

·Maintain, at all times, a minimum “cash-to-claims ratio” (where “cash-to-claims ratio” means the organization’s cash, marketable securities and certain qualified receivables, divided by the organization’s total unpaid claims liability. The regulations require a cash-to-claims ratio of 0.60 beginning January 1, 2006; 0.65 beginning July 1, 2006; and 0.75 beginning January 1, 2007.

·Submit periodic reports to the DMHC containing various data and attestations regarding performance and financial solvency, including IBNR (incurred but not reported) calculations and documentation, and attestations as to whether or not the organization was in compliance with Knox-Keene Act requirements related to claims payment timeliness, had maintained positive tangible net equity; and had maintained positive working capital.

In a case where an organization is not in compliance with any of the above criteria, the organization would be required to describe in the report submitted to the DMHC the reasons for non-compliance and actions to be taken to bring the organization into compliance.

Further, under these regulations, the DMHC will make public some of the information contained in the reports, including, but not limited to, whether or not a particular physician organization met each of the criteria.

In the event we are not able to meet certain of the financial solvency requirements, and fail to meet subsequent corrective action plans, we could be subject to sanction, or limitations on, or removal of, our ability to do business in California.

Our cash-to-claims ratio at September 30, 2006, was 1.46.

Whenever we seek to acquire an IPA, an HMO that has a contract with that IPA could potentially refuse to consent to the transfer of its contract, and this could deter us from completing the acquisition or could deprive us of the enrollees and revenues associated with that HMO contract if we chose to complete the acquisition without the HMO’s consent.

IPA contracts with HMOs typically include provisions requiring the physician group to obtain the HMO’s consent to the transfer of their contract with the IPA before effecting any change in control of the

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IPA. As a result, whenever we seek to acquire an IPA, the acquisition may be conditioned upon the IPA’s ability to obtain such consent from the HMOs with which it has contracted. Therefore, an acquisition could be delayed while an HMO seeks to determine whether it will consent to the transfer of the IPA. While in our experience the HMOs limit their review to satisfying their regulatory responsibility to ensure that, following the acquisition, the IPA post-acquisition will meet certain financial and operational thresholds, the language in many of the HMO agreements give the HMO the ability to decline to give their consent if they simply do not want to do business with the acquiring entity. If an HMO is unwilling for any reason to give its consent, this could deter us from completing the acquisition, or, if we complete an acquisition without obtaining an HMO’s consent, we could lose the benefit of the enrollees and revenues associated with that HMO’s contract.

Our profitability could be adversely affected by any changes that would reduce payments to HMOs under government-sponsored health care programs.

Although our affiliated physician organizations do not directly contract with the Centers for Medicare & Medicaid Services (a federal agency within the U.S. Department of Health and Human Services), during the fiscal year ended September 30, 2004, our affiliated physician organizations received $43,490,025 or approximatley 35% of capitation revenues, derived from payments made to the affiliated physician organizations from HMOs that contract with Medicare, Medicaid and other government-sponsored health care programs. Consequently, any change in the regulations, policies, practices, interpretations or statutes adversely affecting payments made to HMOs under these government-sponsored health care programs could reduce our profitability. A continuing decline in enrollees in Medicare Advantage could also have a material adverse effect on our profitability.

For the year ended September 30, 2005, our affiliated physician organizations received $46,791,854 in revenues from HMOs that contract with Medicare, Medicaid and other government-sponsored health care programs, which represents approximately 37% of capitation revenues.

For the year ended September 30, 2006, our affiliated physician organizations received $45,397,090 in revenues from HMOs that contract with Medicare, Medicaid and other government-sponsored health care programs, which represents approximately 35% of capitation revenues.

Our revenues and profits could be diminished if we lose the services of key physicians in our affiliated physician organizations.

Substantially all of our revenues are derived from management agreements with our affiliated physician organizations. Key physicians in an affiliated physician organization could retire, become disabled, terminate their employment agreements or provider contracts, or otherwise become unable or unwilling to continue generating revenues at the current level, or practicing medicine within the physician organization. Enrollees who have been served by such physicians could choose to enroll with competitors physician organizations, reducing our revenues and profits. Moreover, we may not be able to attract other physicians into our affiliated physician organizations to replace the services of such physicians.

Because our business is currently limited to the Southern California area, any reduction in our revenues and profitability from a local economic downturn would not be offset by operations in other geographic areas.

To date, we have developed our business within only one geographic area to take advantage of economies of scale and the mature managed care market of Southern California. Due to this concentration of business in a single geographic area, we are exposed to potential losses resulting from the risk of an economic downturn in Southern California. If economic conditions deteriorate in Southern California, our enrollment and our revenues may decline, which could significantly reduce our profitability.

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We are required to upgrade and modify our management information systems to accommodate growth in our business and changes in technology and to satisfy new government regulations. As we seek to implement these changes, we may experience complications, delays and increasing costs, which could disrupt our business and reduce our profitability.

We have developed sophisticated management information systems that process and monitor patient case management and utilization of physician, hospital and ancillary services, claims receipt and claims payments, patient eligibility and other operational data required by management. These systems may require modifications, improvements or replacements as we expand and as new technologies become available. We may also be required to modify our management information systems in order to comply with new government regulations. For example, regulations adopted under the federal Health Insurance Portability and Accountability Act of 1996 beginning in August 2000 have required us to begin complying with new electronic health care transactions and conduct standards, new uniform standards for data reporting, formatting and coding, and new standards for ensuring the privacy of individually identifiable health information. This required us to make significant changes to our management information systems, at substantial cost. Similar modifications, improvements and replacements may be required in the future at additional substantial cost and could disrupt our operations during periods of implementation. Moreover, implementation of such systems is subject to the availability of information technology and skilled personnel to assist us in creating and implementing the systems. The complications, delays and cost of implementing these changes could disrupt our business and reduce our profitability. During the years ended September 30, 2004, 2005 and 2006, we estimate that the costs incurred by us to upgrade and modify our management information system exclusive of any employee expense have totaled approximately $540,000, $230,000 and $210,000. These amounts do not include any of the costs associated with running our company’s information systems department, which currently approximate $2 million annually.

If we were to lose the services of Dr. Terner or other key members of management, we might not be able to replace them in a timely manner with qualified personnel, which could disrupt our business and reduce our profitability and revenue growth.

The success of our business depends, in part, on the continued contributions of key members of our management, including our Chairman and Chief Executive Officer, Jacob Y. Terner, M.D., our President and Chief Operating Officer, Catherine Dickson and our Chief Financial Officer, Mike Heather. If for any reason we were to lose the services of any key member of management, we would need to find and recruit a qualified replacement quickly to avoid disrupting our business and reducing our profitability and revenue growth. We compete with other companies for executive talent, and it may not be possible for us to recruit a qualified candidate on a timely basis, or at all. Currently, we do not maintain any life insurance on our key management personnel, and the only members of our management team that have employment agreements at this time are Dr. Terner and Mr. Heather. Although we have not entered into an employment agreement with Ms. Dickson, our Board of Directors has approved the payment to her of six months’ salary as a severance package in the event we terminate her employment.

On June 30, 1997, Dr. Terner consented, without admitting or denying any of the allegations in a complaint relating to an insider trading investigation by the SEC, except as specifically set forth therein, to the entry of a final judgment of permanent injunction and other relief. The SEC’s investigation involved the trading of Century MediCorp stock in June and July 1992 by persons other than Dr. Terner prior to the public announcement of Century MediCorp’s merger with Foundation Health, a California Health Plan. The judgment permanently restrained and enjoined Dr. Terner from employing any fraudulent device, scheme or artifice, making material misstatements or omitting material statements of fact or engaging in fraudulent or deceitful acts, practices or courses of business in violation of Section 10(b) of the 1934 Act and Rule 10b-5 thereunder. No allegations were made that Dr. Terner had personally engaged in the trading of Century MediCorp stock, or that Dr. Terner personally profited from any such alleged trading.

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Dr. Terner was further ordered to pay a civil penalty in the amount of $225,750 under the Insider Trading and Securities Fraud Enforcement Act of 1988.

We and our affiliated physician organizations may become subject to claims of medical malpractice or HMO bad-faith liability claims for which our insurance coverage may not be adequate. Such claims could materially increase our costs and reduce our profitability.

Each of our affiliated physician organizations is involved in the delivery of health care services to the public and, therefore, is exposed to the risk of professional liability claims. The HMOs require our affiliated physician organizations to indemnify the HMOs for losses resulting from the negligence of physicians who were employed by or contracted with the physician organization. Claims of this nature, if successful, could result in substantial damage awards to the claimants, which may exceed the limits of any applicable insurance coverage. Insurance against losses related to claims of this type can be expensive. Moreover, in recent years, physicians, hospitals and other participants in the health care industry have become subject to an increasing number of lawsuits alleging medical malpractice, HMO bad-faith liability and related types of claims based on the withholding of approval for or reimbursement of necessary medical services. Many of these lawsuits involve large claims and substantial defense costs. Although we do not engage in the practice of medicine or the provision of medical services, we may also become subject to legal claims alleging that we have committed medical malpractice or we may become a defendant in an HMO bad-faith liability claim.

Our employed physicians at Sierra Medical Group and Pegasus Medical Group are currently insured under policies that cover malpractice on a “claims made” basis, which includes vicarious coverage for each entity. We also carry a policy of managed care errors and omissions insurance, in amounts management deems appropriate, based upon historical claims and the nature and risk of our business. In addition, each of the independent physicians that contract with our affiliated physician organizations is required to maintain professional liability insurance coverage of the physician and of each employee, servant and agent of the physician. Nevertheless, there are exclusions and exceptions to coverage under each insurance policy that may make coverage for any claim unavailable, future claims could exceed the limits of available insurance coverage, existing insurers could become insolvent and fail to meet their obligations to provide coverage for such claims, and such coverage may not always be available or available with sufficient limits and at reasonable cost to adequately and economically insure us and our affiliated physician organizations’ operations in the future. A malpractice or an errors and omissions judgment against us or any of our affiliated physician organizations could materially increase our costs and reduce our profitability.

Fluctuations in our quarterly operating results may make it difficult to predict our future results of operations, which could decrease the market value of our common stock.

Our results of operations for any quarter are not necessarily indicative of results of operations for any future period or full year. Our quarterly results of operations may fluctuate for a number of reasons. Our annual and interim financial statements contain accruals that are calculated quarterly for estimates of incentive payments to be made by the HMOs to our affiliated physician organizations based upon hospital utilization to budgeted costs. Quarterly results have in the past, and may in the future, be affected by adjustments to such estimates for actual costs incurred. We are subject to quarterly variations in our medical expenses due to fluctuations in patient utilization, legislative and regulatory developments, general economic conditions, CMS risk adjustment calculations, and the capitated nature of our revenues. Historically, the affiliated physician organizations and HMOs generally reconcile differences between actual and estimated amounts relating to HMO incentive payment arrangements by the third quarter of each calendar year. In the event that the affiliated physician organizations and HMOs are unable to reconcile such differences, extensive negotiation, arbitration or litigation relating to the final settlement of these amounts may occur. Any delay in the settlement of these amounts may result in our being unable to

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record anticipated income. As our network expands to include additional IPAs, the timing of these reconciliations may vary; this variation in timing may cause our results not to be directly comparable to corresponding quarters in other years. Our financial statements also include estimates of costs for covered medical benefits incurred by enrollees, which costs have not yet been reported by the providers (incurred but not reported claims). While these estimates are based on information available to us at the time of calculation, actual costs may differ from our estimates of such amounts. If the actual costs differ significantly from the amounts we have estimated, adjustments will be required and quarterly results may be affected. Quarterly results may also be affected by movements of HMO members from one HMO to another, particularly during periods of open enrollment for HMOs, which occur primarily in September, October and January of each year. Additionally, the completion of acquisitions causes fluctuations in our quarterly results, as results of the acquired entities are consolidated with our results for periods following the acquisitions. These factors can make our quarterly results not be directly comparable to the results in corresponding quarters of other years, making it difficult to predict our future results of operations. As a result, our results of operations may fluctuate significantly from period to period, which could decrease the value of our common stock.

The NASD has conducted an informal inquiry regarding trading in our common stock.

On February 3, 2004, we received a notice of inquiry from the National Association of Securities Dealers, Inc., concerning trading in our common stock that took place around the time that we announced the first closing of a private placement of our Series A Preferred Stock. We responded to an NASD request for documents on February 12, 2004 and have received no further contacts from the NASD since that date. However, it is possible that the NASD could continue its inquiry or open a formal investigation the NASD, or other government agencies, could initiate enforcement proceedings if the NASD concluded that improprieties occurred in connection with the trading.

If we are not able to develop or sustain an active trading market for our common stock, it may be difficult for stockholders to dispose of their common stock.

Our common stock was the subject of limited and sporadic trading on the OTC Bulletin Board from 1996 to 1999. No liquid trading market has existed for our common stock since 1999. Trading of our common stock on the American Stock Exchange began on May 11, 2005. It is uncertain whether we will be able to continue to meet the requirements for listing on the American Stock Exchange, or an alternative exchange or market, or that an active trading market for our common stock will develop. If we do not maintain our American Stock Exchange listing or listing on another exchange or market and an active market in our common stock does not develop, it may be more difficult for stockholders to dispose of their common stock and could diminish significantly the market value of our common stock.

Even if an active market develops for our common stock, the market price of our stock is likely to be volatile.

Historically, the market prices for shares of health care companies, and smaller capitalization companies generally, have tended to be volatile. It is likely that the market price for our common shares will also be volatile. The price for our common stock may be influenced by many factors, including announcements of legislation or regulation affecting the health care industry in general and reimbursement for health care services in particular, the depth and liquidity of the market for our common stock, investor perception and fluctuations in our operating results and market conditions.

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If our common stock becomes subject to the SEC’s penny stock rules, our stockholders may find it difficult to sell their stock.

If we do not maintain the American Stock Exchange listing for our common stock or a listing of our common stock on another national securities exchange or on NASDAQ, and if the trading price of our common stock is less than $5.00 per share, our common stock will become subject to the SEC’s penny stock rules. Before a broker-dealer can sell a penny stock, the penny stock rules require the firm to first approve the customer for the transaction and receive from the customer a written agreement to the transaction. The firm must furnish the customer a document describing the risks of investing in penny stocks. The broker-dealer must tell the customer the current market quotation, if any, for the penny stock and the compensation the firm and its broker will receive for the trade. Finally, the firm must send monthly account statements showing the market value of each penny stock held in the customer’s account. These disclosure requirements tend to make it more difficult for a broker-dealer to make a market in penny stocks, and could, therefore, reduce the level of trading activity in a stock that is subject to the penny stock rules. Consequently, if our common stock becomes subject to the penny stock rules, our stockholders may find it difficult to sell their shares.

Item 1B.Unresolved Staff Comments

Not applicable.

Item 2.Properties.

Properties

We do not own any real property. We, or our affiliated physician organizations, currently lease space for administrative and medical offices, some of which is shared space, as follows:

Medical or Independent Practice Association Offices

			Lease Term; Renewal	Current Monthly Rent
Prospect Medical Group(1)	Santa Ana, CA	Shares space with Prospect Medical Systems	5 years; 2010		$	42,978
Sierra Primary Care Medical Group(3)	Lancaster, CA	Shares space with Antelope Valley Medical Associates and Sierra Medical Management	6.5 years; 2012		$14,809
Sierra Primary Care Medical Group(3)	Palmdale, CA	Medical Clinic	5 years; 2007		$	13,906
Pegasus Medical Group(3)	Palmdale, CA	Medical Clinic	5 years; 2007		$	7,812

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Administrative Offices

			Lease Term; Renewal	Current Monthly Rent
Prospect Medical Holdings(4)	Culver City, CA	Corporate headquarters	7 years; 2012		$	5,311
Prospect Medical Holdings	Santa Ana, CA	Warehouse/ Storage Space	5 years; 2009		$	17,134
Prospect Medical Systems(2)	Santa Ana, CA	Shares space with Prospect Medical Group	5 years; 2010		$	42,978
Prospect Medical Systems(2)	Santa Ana, CA	Shares space with Prospect Medical Group	5 years; 2011		$	20,400
Sierra Medical Management(3)	Lancaster, CA	Shares space with Sierra Primary Care Medical Group and Antelope Valley Medical Associates	6.5 years; 2012		$	14,809
Sierra Medical Management(3)	Lancaster, CA	Shares space with Sierra Primary Care Medical Group	1 year; 2007		$	1,700
Sierra Medical Management(3)	Lancaster, CA	Shares space with Sierra Primary Care	3 year; 2009		$	1,350

(1)Prospect Medical Group includes all affiliated physician organizations that are wholly-owned subsidiaries of Prospect Medical Group.

(2)On January 27, 2004, Prospect Medical Systems executed a 6th Addendum to its office lease that provided for an increase in space of 5,298 square feet effective November 1, 2004, at which date, the base rent increased to $42,978.

The Company leased additional space in July, 2006 adjacent to the Santa Ana facilities for approximately 12,015 square feet. The lease agreement term is for a 60 months, through 2011, with starting monthly lease payments of approximately $20,400 .

(3)Sierra Primary Care Medical Group, Antelope Valley Medical Associates and Pegasus Medical Group have their own facilities through Sierra Medical Management but they each share certain services provided by Prospect Medical Systems.

(4)On August 31, 2005 the Company entered into a new lease for its corporate headquarters. The Company moved to these new premises effective October 31, 2005. The prior corporate headquarters’ lease expired effective September 30, 2005.

We believe that this office space is sufficient for our operational needs for the foreseeable future, although we may need to acquire additional space to accommodate our plans for future growth, if successful.

Employees

At September 30, 2006, we and our affiliated physician organizations had a total of 367 employees. The employees are not subject to any collective bargaining agreements. We believe that employee relations are good.

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Item 3.Legal Proceedings.

We and our affiliated physician organizations are parties to legal actions arising in the ordinary course of business. We believe that liability, if any, under these claims will not have a material adverse effect on our consolidated financial position or results of operations.

Item 4.Submission of Matters to a Vote of Security Holders

No matter was submitted to a vote of stockholders through the solicitation of proxies or otherwise during the fourth quarter of our fiscal year ended September 30, 2006.

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PART II

Item 5.Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Our common stock began trading on the American Stock Exchange under the symbol “PZZ” on May 11, 2005.

Prior to our listing on the American Stock Exchange, there was a limited market for our common stock. From 1996 to 1999, our common stock was the subject of very limited and sporadic trading on the OTC Bulletin Board. During the year 2000 through the end of 2003, there was virtually no trading in our common stock. The Pink Sheets reported that limited trading of our common stock resumed in January 2004 and continued on a limited basis until our stock became listed on the American Stock Exchange.

The following table sets forth the quarterly high and low sales prices for our common stock since trading on the American Stock Exchange commenced:

Date Range	High Sales Price			Low Sales Price
2005
Third Quarter (beginning May 11, 2005)		$	6.50		$	5.45
Fourth Quarter		$	5.74		$	4.00
2006
First Quarter		$	6.00		$	4.26
Second Quarter		$	7.25		$	4.80
Third Quarter		$	6.31		$	5.15
Fourth Quarter		$	6.15		$	5.50

As of December 20, 2006, we had approximately 251 record owners and approximately 657 beneficial owners of our common stock.

On February 3, 2004, we received a notice of inquiry from the National Association of Securities Dealers, Inc., concerning the recent trading in our common stock. We responded to an NASD request for documents on February 12, 2004 and have received no further contacts from the NASD since that date.

We have not paid any cash dividends in the past and do not plan to do so in the near future. Under our credit facility, we are prohibited from declaring or paying any dividends or distributions of earnings to our stockholders.

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Item 6.Selected Financial Data

Selected Financial Data

Set forth below is our selected consolidated financial data for the five fiscal years ended September 30, 2006 derived from our audited consolidated financial statements. You should read the selected consolidated financial data in conjunction with our consolidated financial statements and related notes included herein and with “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Amounts are in thousands except for per share and enrollment data:

	Year Ended September 30
	2002			2003(1)			2004(2)			2005			2006(3)
Statement of Operations Data:
Revenues	$	69,170		$	66,542		$	129,516		$	133,518		$	135,796
Cost of revenues	49,929			46,740			95,975			96,371			97,184
Gross margin	19,241			19,802			33,541			37,147			38,612
Operating expenses
General and administrative	17,248			18,200			24,335			27,229			30,205
Depreciation and amortization	580			540			733			948			1,513
	17,828			18,740			25,068			28,177			31,718
Operating income from unconsolidated joint venture	511			728			207			88			1,400
Operating income	1,924			1,790			8,680			9,058			8,294
Investment income	151			59			76			400			913
Interest expense	(322		)	(195		)	(91		)	(958		)	(1,107		)
Interest expense, net	(171		)	(136		)	(15		)	(558		)	(194		)
Equity in losses, and write down, of unconsolidated investment	—			—			—			(1,000		)	—
Income before income taxes	1,753			1,654			8,665			7,500			8,100
Income tax provision	(483		)	(683		)	(3,525		)	(3,415		)	(3,194		)
Minority interest	(9		)	(16		)	(13		)	(12		)	(16		)
Net income	$	1,261		$	955		$	5,127		$	4,073		$	4,890
Basic earnings per share	$	0.26		$	0.23		$	1.19		$	0.83		$	0.71
Diluted earnings per share	$	0.26		$	0.22		$	0.68		$	0.48		$	0.60

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	As of September 30
	2002		2003(1)		2004(2)		2005		2006(3)
Balance Sheet Data:
Assets:
Cash and Cash Equivalents	$	4,566	$	6,517	$	20,330	$	16,949	$	16,623
Other Current Assets	2,931		2,151		4,218		5,702		8,145
Fixed Assets	1,114		1,022		1,606		1,202		1,286
Other Assets (Primarily Goodwill)	17,300		24,899		34,134		33,878		40,603
Total Assets	$	25,911	$	34,589	$	60,288	$	57,731	$	66,657
Liabilities and Shareholders’ Equity:
Current Liabilities	$	17,075	$	25,364	$	27,689	$	23,332	$	24,892
Long-Term Liabilities	2,861		2,003		9,648		7,398		7,880
Minority Interest	74		80		64		65		82
Total Shareholders’ Equity	5,901		7,142		22,887		26,936		33,803
Total Liabilities and Shareholders’ Equity	$	25,911	$	34,589	$	60,288	$	57,731	$	66,657
HMO Enrollment:(4)(5)
Commercial	102,000		136,200		168,500		144,900		140,300
Medicare	7,000		11,200		15,500		12,500		14,100
Medi-Cal	8,500		13,700		14,400		14,500		17,000
Total Enrollment	117,500		161,100		198,400		171,900		171,400

(1)The balance sheet and operating results of Prospect Professional Care Medical Group have been included in the consolidated balance sheet as of September 30, 2003, the date of acquisition, and in the consolidated statements of income as of and for periods after September 30, 2003.

(2)The balance sheet and operating results of Prospect NWOC Medical Group, Inc., StarCare Medical Group, Inc., APAC Medical Group, Inc. and Pinnacle Health Resources have been included in the consolidated financial statements for periods after their February 1, 2004 date of acquisition.

(3)The balance sheet and operating results of Genesis HealthCare of Southern California have been included in the consolidated financial statements after its November 1, 2005 acquisition date.

(4)Enrollment as of September 30, 2003 includes approximately 45,000 enrollees acquired through the purchase of Prospect Professional Care Medical Group that occurred on that date.

(5)The Medi-Cal enrollment statistics above include both enrollees that we manage for our own economic benefit, and enrollees that, starting in 1999, we manage for the economic benefit of our partner in the AMVI/Prospect Health Network joint venture. The number of enrollees included in the above table for which we provide management services to our joint venture partner, but in which we have no beneficial ownership interest, was 5,600, 7,100, 7,100,7,300 and 7,100 as of September 30, 2002, 2003, 2004, 2005, and 2006 respectively.

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Item 7.Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion of our financial condition and results of operations should be read together with the financial statements and related notes included in this registration statement. This discussion and analysis contains forward-looking statements that involve risks and uncertainties. Our actual results may differ significantly from the results discussed in the forward-looking statements. Factors that might cause or contribute to such a difference include, but are not limited to, those discussed under “Risk Factors” and elsewhere in this registration statement.

Executive Overview

General Operations

We are a Southern California health care company that provides management and administrative services to affiliated physician organizations that have entered into agreements with HMOs to provide medical services to approximately 171,400 HMO enrollees (as of September 30, 2006) in Orange and Los Angeles counties.

In managing the affiliated physician organizations, we remain sensitive to local custom and practice, while centralizing, for the most part, the management functions in our Santa Ana, California operations center.

Highlights of Performance (Year Ended September 30, 2006 as compared to 2005)

·The member months decreased by approximately 0.3% compared to the prior year.

·Revenue increased by approximately 2% compared to the prior year.

·The medical cost ratio decreased from 72.62% to 72.23% compared to the prior year.

·General and administrative expenses increased approximately 11% compared to the prior year.

·Operating income decreased by approximately 8% compared to the prior year.

·Diluted earnings per share increased by 25% compared to the prior year.

·Total cash and cash equivalents decreased by $325,898, or approximately 2% compared to the prior year.

·Total bank debt increased by $3,833,333 or approximately 47% compared to the prior year.

Highlights of Performance (Year Ended September 30, 2005 as compared to 2004)

·The member months increased 2% compared to the prior year.

·Revenue increased by approximately 3% compared to the prior year.

·The medical cost ratio decreased from 75% to 73% compared to the prior year.

·General and administrative expenses increased approximately 12% compared to the prior year.

·Operating income increased by approximately 4% compared to the prior year.

·Diluted earnings per share decreased by 29% compared to the prior year.

·Total cash and cash equivalents decreased by $3,381,450, or approximately 17% compared to the prior year.

·Total bank debt decreased by $6,841,887 or approximately 46% compared to the prior year.

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We consider the following economic or industry-wide factors relevant to our business:

·The Medicare Prescription Drug, Improvement, and Modernization Act of 2003, which was signed into law on December 8, 2003 and made significant changes to the Medicare program, particularly by increasing drug reimbursement rates, appears to be creating a renewed energy on the part of the HMOs to recruit senior enrollees. Since senior enrollees have traditionally been profitable, if this trend persists, it would have a positive effect on our gross revenues and operating profit.

·HMOs are making attempts to lower medical insurance costs to businesses by introducing a variety of Preferred Provider Organizations (“PPO”) and PPO-like products. These products, which carry lower premiums, but higher out of pocket costs, tend to reduce HMO enrollment and could negatively affect our gross revenue and operating profit.

·If unemployment in Southern California went up, or a major employer scaled back local operations, or relocated, the HMOs would have lower enrollment and revenues, which in turn would impact our operations.

Additionally, the central element of our business plan is to grow both revenues and profits by acquisition of IPAs. In California there are approximately 156 IPAs (including IPAs that may also operate a medical clinic) that have managed care membership. Identification and successful pursuit of the appropriate acquisition candidates presents material opportunities, challenges and risks.

In the short term, should we fail to identify suitable acquisition candidates and consummate the acquisitions such failure would negatively impact our growth. Over the long term, should we be unable to successfully integrate acquisitions into our business, thereby losing significant portions of the value anticipated from the acquisitions, or should we consummate acquisitions that turn out to be unsuitable or unprofitable our earnings and goodwill value would be diminished.

Operating Revenues

Approximately 97% of our fiscal 2006 revenues were from the capitation payments made each month by HMOs to our affiliated physician organizations, for HMO enrollees who have chosen or been assigned to one of our affiliated physician organizations, to provide for their professional medical care. The predominant method of receiving our capitation payments is by a ready funds wire into the accounts of our affiliated physician organizations, generally between the 10th and 25th day of each month.

We receive management fees from non-affiliated physician organizations, from Brotman Medical Center (in which we have a minority interest), and from our partner in the AMVI/Prospect joint venture. The fee is either a fixed percentage of revenue of the non-affiliated physician organization, or a fixed per-member-per-month payment.

Our two group medical practices, Sierra Primary Care Medical Group and Pegasus Medical Group also generate fee-for-service billings, which are reimbursed by Medicare, Medicaid (Medi-Cal in California), private indemnity health insurance, and cash payments by patients.

For the year ended September 30, 2006, as compared to 2005, we experienced a slight increase in revenues, primarily due to the Genesis acquisition in November 2005 and net increases in risk pool revenue. These increases were offset by declines in enrollment.

For the year ended September 30, 2005, as compared to 2004, we experienced a slight increase in revenues, primarily due to inclusion of full 12 months of revenue from our 2004 acquisitions and net increases in our Medicare enrollees’ Risk Adjustment factors. These rate increases were offset by declines in enrollment.

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Medical Expenses

Our medical costs include monthly sub-capitation and fee-for-service payments to primary care and specialist physicians, and ancillary service providers, who have executed contracts with our affiliated physician organizations; fee-for-service payments to physicians who provide care for our patients and do not have a contract with our affiliated physician organizations; and salaries, benefits and other compensation paid to physicians that are employees of our affiliated physician organizations (Sierra Primary Care Medical Group and Pegasus Medical Group). Our medical expenses also include an estimate of claims that have been incurred but not reported (“IBNR”) to us.

We have established systems to monitor the availability, appropriateness and effectiveness of the patient care provided through out affiliated physician organizations. We collect utilization data for each of our affiliated physician organizations that we use to analyze over-utilization or under-utilization of services and assist our contracted and employed physicians in providing appropriate care for their patients, and improving patient outcomes in a cost efficient manner.

Operating Expenses

Our operating expenses are the general and administrative costs of managing our physician organizations. These costs include salaries, benefits and other compensation for our employees, insurance, rent, operating supplies, legal and accounting, and marketing.

Cash Flow

Our primary source of cash is derived from HMO capitation payments to our affiliated physician organizations. Because our capitation payments are paid between the 10th and the 25th day of each month, and a substantial portion of our expenses are paid in arrears, we tend to accumulate cash. Our primary use of cash is to pay medical expenses.

In order to complete acquisitions and fund our growth, we have, from time to time, borrowed money from commercial banks and other sources, and sold shares in our company.

Since 1996, when we made our first acquisition, we have borrowed a total of $12.5 million from Comerica Bank, $3.0 million from sellers of acquired businesses and $1.76 million from certain of our shareholders. Through August 2004, substantially all of the Comerica borrowings and all of the seller and shareholder borrowings had been repaid, primarily using cash flow generated by operations. In September 2004 we entered into a new $15 million credit facility with GMAC Residential Funding Corporation. This facility was increased by $4 million in connection with the November 2005 acquisition of Genesis HealthCare. See “—Liquidity and Capital Resources—Credit Facilities” below.

On March 31, 2004, we completed a private offering of our Series A Convertible Preferred Stock (“Series A Preferred Stock”) at $5.50 per share, raising total gross proceeds of $12,458,802 ($10,019,741, net of offering costs) from an aggregate of 182 investors, all of whom were accredited. Each share of Series A Preferred Stock sold in the offering automatically converted into common stock on July 27, 2005 when the common stock underlying the Series A Preferred Stock became registered for resale under the Securities Act of 1933.

Critical Accounting Policies

The accounting policies described below are considered critical in preparing our consolidated financial statements. Critical accounting policies require difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. The judgments and uncertainties affecting the application of these policies include significant estimates and

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assumptions made by us using information available at the time the estimates are made. Actual results could differ materially from those estimates.

Consolidation of Financial Statements

As discussed further in Note 1 to our consolidated financial statements, under applicable financial reporting requirements, the financial statements of the affiliated physician organizations with which we have management services agreements are consolidated with our own financial statements. This consolidation is required under EITF Issue No. 97-2, “Application of FASB Statement No. 94 and APB Opinion No. 16 to Physician Practice Management Entities and Certain Other Entities with Contractual Management Arrangements” issued by the Emerging Issues Task Force of the Financial Accounting Standards Board because we are deemed to hold a controlling financial interest in such organizations through a nominee shareholder. We can, through an assignable option agreement, change the nominee shareholder at will on an unlimited basis and for nominal cost. There is no limitation on our designation of a nominee shareholder except that any nominee shareholder must be a licensed physician or otherwise permitted by law to hold shares in a professional medical corporation. We have also concluded that under Interpretation No. 46, “Consolidation of Variable Interest Entities, an interpretation of ARB No. 51” (FIN 46) we are required to consolidate our affiliated physician organizations. The operations of our affiliated physician organizations have a significant impact on our financial statements. All inter-company accounts and balances have been eliminated in consolidation.

Revenue Recognition

Our revenue consists primarily of capitation payments for medical services provided by our affiliated physician organizations under contracts with various HMOs, or under fee-for-service arrangements. Capitation revenue under HMO contracts is prepaid monthly to the affiliated physician organizations based on the number of enrollees assigned to physicians in our affiliated physician organizations.

Capitation revenue paid by HMOs is recognized in the month in which the affiliated physician organization is obligated to provide services. Capitation revenue may be subsequently adjusted to reflect changes in enrollment as a result of retroactive terminations or additions. Such retroactive terminations or additions have not had a material effect on capitation revenue.

Variability in capitation revenue has increased beginning in calendar 2004, when Medicare began a four year phase-in of a revised capitation model referred to as “Risk Adjustment.” Under the new model, capitation with respect to Medicare enrollees is subject to subsequent adjustment by CMS for the acuity of the enrollees to whom services were provided. Capitation for the current year is paid based on data submitted for each enrollee for the preceding year. Capitation is paid at interim rates during the year and is adjusted in subsequent periods (generally in the fourth quarter) after the final data is compiled. Positive or negative capitation adjustments are made for seniors with conditions requiring more or less healthcare services than assumed in the interim payments. Since we do not currently have the ability to reliably predict these adjustments, periodic changes in capitation amounts earned as a result of Risk Adjustment are recognized when those changes are communicated from the health plans, generally in the fourth quarter of the fiscal year to which the adjustments relate. We recorded a $1.5 million reduction in revenue in the fourth quarter of fiscal 2006 for risk adjustment factors and a $4 million increase in capitation in the comparable 2005 period.

Fee-for-service revenues are recognized when the services have been performed, net of allowances to reduce billed amounts to estimated contractually entitled amounts. The effect of changes in estimates for contractual allowances has not had a material effect on fee-for-service revenues. All receivables are recorded net of an allowance for bad debts. Uncollectible amounts are reported as bad debt expense and included in general and administrative expenses.

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We also earn additional incentive revenue or incur penalties under HMO contracts by sharing in the risk for hospitalization based upon inpatient services utilized. Except for two contracts where we are contractually obligated for down-side risk, shared risk deficits are not payable unless and until we generate  future risk sharing surpluses. Risk pools are generally settled in the following year. Management estimates risk pool incentives based on estimated hospital utilization and associated costs compared to budget and, if available, interim risk pool settlements reported by health plans. These estimates are inherently uncertain and could differ significantly from actual results. Differences between actual and estimated settlements are recorded when the final outcome is known. We also receive incentives under “pay-for-performance” programs for quality medical care based on various criteria. Pay-for-performance payments are generally recorded in the third and fourth quarters of our fiscal year when such amounts are known since we do not have the ability to reliably estimate these amounts. Risk pool and pay-for-performance incentives are affected by many factors, some of which are beyond our control, and may vary significantly from year to year.

Management fee revenue is earned in the month the services have been delivered.

Accrued Medical Claims

Our affiliated physician organizations are responsible for the medical services their contracted or employed physicians provide to an assigned HMO enrollee. The cost of health care services is recognized in the period in which it is provided and includes an estimate of the cost of services which have been incurred but not reported. The determination of our claims liability and other healthcare costs payable is particularly important to the determination of our financial position and results of operations and requires the application of significant judgment by our management, and as a result, is subject to an inherent degree of uncertainty.

Accrued medical claims, which do not include payments to our sub-capitated physicians, consist of actual claims reported but not paid and estimates of claims incurred but not reported (“IBNR”). We, together with our independent actuaries, estimate IBNR using estimates and assumptions that consider, among other things, contractual requirements, historical utilization trends and payment patterns, medical inflation, product mix (HMO commercial, senior and Medi-Cal enrollees), enrollment and other relevant factors.

These accruals are continually monitored and reviewed, and as claims settlements are made or accruals adjusted, differences are reflected in current operations. Changes in assumptions for medical costs caused by changes in actual experience could cause these estimates to change significantly in the near term. Our reserve models use lag-based incurred claim estimates and trended per member per month estimates, which are the most significant assumptions in determining our claims liability. The model considers claims payment data for the past 25 months. For the months of service five months prior to the reporting date and earlier, we estimate our outstanding claims liability based upon actual claims paid, adjusted for estimated completion factors. Completion factors seek to measure the cumulative percentage of claims expense that will have been paid for a given month of service as of a date subsequent to that month of service. Completion factors are based upon historical payment patterns. For the four months of service immediately prior to the reporting date, actual claims paid are not a reliable measure of our ultimate liability, given the delay inherent between the patient/physician encounter and the actual submission of a claim for payment. For these months of service we estimate our claims liability based upon trended per member per month (“PMPM”) cost estimates. These estimates reflect recent trends in payments and expense, ultilization patterns, authorized services and other relevant factors.

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The following table presents the components of the change in accrued medical claims for the three years ended September 30, 2006:

	Year Ended September 30
	2004			2005			2006
IBNR at Beginning of Year	$	10,557,426		$	13,323,622		$	11,532,328
Health Care Claims Expense Incurred During the Year:
Related to Current Year	44,699,711			46,030,847			50,587,185
Related to Prior Year	(2,327,044		)	(855,164		)	(854,595		)
Total Incurred	42,372,667			45,175,683			49,732,590
Health Care Claims Paid During the Year
Related to Current Year	(33,295,082		)	(35,266,828		)	(39,488,526		)
Related to Prior Year	(7,268,752		)	(11,700,149		)	(11,242,787		)
Total Paid	(40,563,834		)	(46,966,977		)	(50,731,313		)
IBNR Acquired During the Year, net	957,363			—			866,395
IBNR at End of Year	$	13,323,622		$	11,532,328		$	11,400,000

Acquisition balances represent medical claims liabilities of acquired entities as of the applicable purchase date. Our strategy of growth by acquisition increases the complexity and variability already inherent in our claims estimation process. Our business in general, and this area of our business in particular, is subject to uncertainty as to the outcome and estimation of medical claims, which uncertainty is additionally impacted by our acquiring and integrating businesses previously not operated by us. Following an acquisition, we ensure that the IBNR methodology and calculations for the acquired business are consistent with our own methodology and calculations. Our IBNR models consider claims payment data for the current month and the prior 24 months. During the 25-month period following our acquisition, and to the extent that the prior owners’ experience and management of medical expenses was different from ours, actual experience under our management and contracting will be reflected in the IBNR calculations. We attempt to be consistently conservative in reserving for known and anticipated medical claims liabilities. This requires additional emphasis for recently acquired businesses. The favorable change in estimates related to prior years claims in the above table reflect additional provisions for adverse deviation, which is consistently maintained.

We believe that the amount of our accrued medical claims is adequate to cover our ultimate liability for incurred claims as of September 30, 2006 however, actual claims payments may differ from our estimate. Assuming a hypothetic 1% variance in our estimate of accrued medical claims, our pre-tax profit for the years ended September 30, 2004, 2005, and 2006, would increase or decrease by approximately $133,236, $115,323, and $114,000 respectively.

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The following tables reflect (i) the change in estimated claims liability as of September 30, 2006 that would have resulted had we changed our completion factors for all applicable months of service included in our IBNR calculation (i.e., for the preceding 5th through 25th months) by the percentages indicated; and (ii) the change in estimated claims liability as of September 30, 2006 that would have resulted had we changed our trended PMPM factors for all applicable months of service included in our IBNR calculation (i.e., for the preceding 1st through 4th months) by the percentages indicated.

Increase (Decrease) in  Estimated  Completion Factors	Increase (Decrease) in  Accrued Medical Claims Payable
(3)%		$	3,400,000
(2)%		$	2,300,000
(1)%		$	1,100,000
1%		$	(1,100,000	)
2%		$	(2,300,000	)
3%		$	(3,400,000	)

Increase (Decrease) in Trended PMPM Factors	Increase (Decrease) in Accrued Medical Claims Payable
(3)%		$	(600,000	)
(2)%		$	(400,000	)
(1)%		$	(200,000	)
1%		$	200,000
2%		$	400,000
3%		$	600,000

In addition to contractual reimbursements to providers, we also make discretionary incentive payments to physicians, which are in large part based on the pay-for-performance and shared risk revenues and favorable senior capitation risk adjustment payments. Since we record these revenues generally in the third or fourth quarter of each fiscal year when the incentives and capitation adjustments due from the health plans are known, we also record the discretionary physician bonuses in the same period. In fiscal 2004 and 2005, we recorded discretionary incentive payments to providers totaling $1,286,000 and $2,579,000, respectively. No discretionary incentives were recorded in fiscal 2006. Since incentives and risk adjustment revenues form the basis for these discretionary bonuses, variability in earnings due to fluctuations in revenues are mitigated by reductions in bonuses awarded.

We also regularly evaluate the need to establish premium deficiency reserves for the probability that anticipated future health care costs could exceed future capitation payments from the HMOs. To date, we have determined that no premium deficiency reserves have been necessary.

Goodwill and Intangible Assets

In June 2001, the Financial Accounting Standards Board (“FASB”) issued two standards related to business combinations. The first statement, SFAS No. 141, “Business Combinations,” requires all business combinations after June 30, 2001 to be accounted for using the purchase method and prohibits the pooling-of-interest method of accounting. SFAS No. 141 also states that acquired intangible assets should be separately recognized upon meeting certain criteria. Such intangible assets include, but are not limited to, trade and service marks, non-compete agreements, customer lists and licenses.

The second statement, SFAS No. 142, “Goodwill and Other Intangible Assets,” requires that upon adoption, amortization of goodwill and indefinite life intangible assets will cease and instead, the carrying value of goodwill and indefinite life intangible assets will be evaluated for impairment on at least an annual

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basis, or more frequently if certain indicators are present. Such indicators include adverse changes in market value and/or stock price, laws and regulations, profitability, cash flows, our ability to maintain enrollment and renew payor contracts on favorable terms. A two-step impairment test is used to identify potential goodwill impairment and to measure the amount of goodwill impairment loss to be recognized (if any). The first step consists of estimating the fair value of the reporting unit based on recognized valuation techniques, which include a weighted combination of (i) the guideline company method that utilizes revenue multiples for comparable publicly-traded companies, and (ii) a discounted cash flow model that utilizes future cash flows, the timing of those cash flows, and a discount rate (or weighted average cost of capital which considers the cost of equity and cost of debt financing expected by a representative market participant) representing the time value of money and the inherent risk and uncertainty of the future cash flows. If the estimated fair value of the reporting unit is less than its carrying value, a second step is performed to compute the amount of the impairment by determining the “implied fair value” of the goodwill, which is compared to its corresponding carrying value.

The affiliated physician organizations, which share similar economic and operational characteristics, comprise a sole reporting unit. Our valuations have concluded that the fair value of Prospect Medical Holdings exceeded its carrying value, thus goodwill of Prospect Medical Holdings was not considered impaired during each fiscal year test, since we adopted SFAS No. 142 for our fiscal year ended September 30, 2002.

Legal and Other Loss Contingencies

We are subject to contingencies, such as legal proceedings and claims arising out of our business. In accordance with SFAS No. 5, “Accounting for Contingencies”, we record accruals for such contingencies when it is probable that a liability will be incurred and the amount of loss can be reasonably estimated. A significant amount of management estimation is required in determining when, or if, an accrual should be recorded for a contingent matter and the amount of such accrual, if any.

Acquisitions

During the three years ended September 30, 2006, we completed several business combinations. These business combinations are all accounted for using the purchase method of accounting, and accordingly, the operating results of each acquisition have been included in our consolidated financial statements since their effective date of acquisition. The purchase price for each business combination was allocated to the assets, including the identifiable intangible assets, and liabilities, based on estimated fair values. The excess of purchase price over the net identifiable assets acquired was allocated to goodwill and other intangible assets. Prior to October 1, 2001, goodwill was amortized over a useful life of 20 years. In accordance with SFAS No. 142, we no longer amortize goodwill. In accordance with SFAS No. 141, identifiable intangible assets was originally being amortized over a useful life of seven to ten years. During 2005, management determined that the useful life of identified intangibles was shorter than originally expected and the useful life was reduced to five years. The reduction in estimated useful life and related amortization period, resulted in increased amortization of approximately $99,267 in fiscal 2006.

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The following table summarizes all business combinations for the five years ended September 30, 2006.

Business Combinations	Effective Date	Purchase Price			Location
Prospect Health Source Medical Group, Inc.	January 1, 2001		$	1,000,000	West Los Angeles
Prospect Professional Care Medical Group, Inc.	September 30, 2003		$	7,050,000	Orange County and East Los Angeles
Prospect NWOC Medical Group, Inc.	February 1, 2004		$	2,000,000	North Orange County
StarCare Medical Group, Inc. APAC Medical Group, Inc. Pinnacle Health Resources	February 1, 2004		$	8,500,000	North Orange County
Genesis HealthCare of Southern California	November 1, 2005		$	8,000,000	Central Orange County

The assets we acquire in our acquisitions include cash, and HMO and provider contracts, tradename and covenants not-to-compete. We require that our acquisition targets have cash or a combination of cash and current assets equal current liabilities, and tangible net worth. The difference between the net worth of each acquisition and our purchase price is allocated to goodwill and identifiable intangible assets.

Enrollment

The following table presents our enrollment, inclusive of Medi-Cal lives we manage for the AMVI/Prospect Health Network joint venture, as of September 30, 2005 and 2006, and the percentage change in enrollment between these dates:

	2005	2006	% Change
Commercial	144,900	140,300		(3	)%
Medicare	12,500	14,100		13	%
Medi-Cal	14,500	17,000		17	%
Total	171,900	171,400		(0.3	)%

The following table presents our enrollment, inclusive of Medi-Cal lives we manage for the AMVI/Prospect Health Network joint venture, as of September 30, 2004 and 2005, and the percentage change in enrollment between these dates:

	2004	2005	% Change
Commercial	168,500	144,900		(14	)%
Medicare	15,500	12,500		(19	)%
MediCal	14,400	14,500		1	%
Total	198,400	171,900		(13	)%

The decrease in enrollment as of September 30, 2006 compared to September 30, 2005 is attributable primarily to decreased membership associated with physicians contracted to our IPAs, offset by increases in enrollment through the acquisition of Genesis HealthCare of Southern California.

The decrease in enrollment as of September 30, 2005 compared to September 30, 2004 is attributable primarily to decreased membership associated with physicians contracted to our IPAs, with the largest decreases being in the recently acquired IPAs where assimilation and integration into the Prospect operations platform continued in fiscal 2006.

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Results of Operations

The following tables are provided to facilitate the discussion of our operations for each of the three years in the period ended September 30, 2006.

	Year Ended September 30
	2005			2006			Increase (Decrease)			%
Revenues:
Capitation Revenue	$	129,143,656		$	131,436,858		$	2,293,202		2	%
Fee for Service Revenue	2,232,059			2,074,104			(157,955		)	(7	)%
Management Fees	806,788			1,233,027			426,239			53	%
Other Operating Revenue	1,335,876			1,052,288			(283,588		)	(21	)%
Total Revenues	133,518,379			135,796,277			2,277,898			2	%
Operating Expenses:
Medical Costs	96,371,197			97,184,202			813,005			1	%
General and Administrative	27,228,736			30,205,352			2,976,616			11	%
Depreciation and Amortization	948,017			1,513,170			565,153			60	%
Total Operating Expenses	124,547,950			128,902,724			4,354,774			3	%
Operating Income from Unconsolidated Joint Venture	87,516			1,400,492			1,312,976			1500	%
Operating Income	9,057,945			8,294,046			(763,899		)	(8	)%
Interest Expense, net	(558,278		)	(194,013		)	364,265			(65	)%
Equity in Losses, and Write Down, of Unconsolidated Investment	(1,000,000		)	0			1,000,000			(100	)%
Income Before Taxes	7,499,667			8,100,033			600,366			8	%
Income Tax Provision	3,415,178			3,193,522			(221,656		)	(6	)%
Minority Interest	11,930			16,476			4,546			38	%
Net Income	$	4,072,559		$	4,890,035		$	817,476		20	%
Diluted Earnings Per Share	$	0.48		$	0.60		$	0.12		25	%
Medical Cost Ratio	73		%	72		%

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	Year Ended September 30
	2004			2005			Increase (Decrease)			%
Revenues:
Capitation Revenue	$	125,860,567		$	129,143,656		$	3,283,089		3	%
Fee for Service Revenue	2,546,444			2,232,059			(314,385		)	(12	)%
Management Fees	841,152			806,788			(34,364		)	(4	)%
Other Operating Revenue	268,274			1,335,876			1,067,602			398	%
Total Revenues	129,516,437			133,518,379			4,001,942			3	%
Operating Expenses:
Medical Costs	95,975,041			96,371,197			396,156			0	%
General and Administrative	24,335,510			27,228,736			2,893,226			12	%
Depreciation and Amortization	732,806			948,017			215,211			29	%
Total Operating Expenses	121,043,357			124,547,950			3,504,593			3	%
Operating Income from Unconsolidated Joint Venture	206,634			87,516			(119,118		)	(58	)%
Operating Income	8,679,714			9,057,945			378,231			4	%
Interest Expense, net	(15,086		)	(558,278		)	(543,192		)	3601	%
Equity in Losses, and Write Down, of Unconsolidated Investment	—			(1,000,000		)	(1,000,000		)	(100	)%
Income Before Taxes	8,664,628			7,499,667			(1,164,961		)	(13	)%
Income Tax Provision	3,524,704			3,415,178			(109,526		)	(3	)%
Minority Interest	12,681			11,930			(751		)	(6	)%
Net Income	$	5,127,243		$	4,072,559		$	(1,054,684	)	(21	)%
Diluted Earnings Per Share	$	0.68		$	0.48		$	(0.20	)	(29	)%
Medical Cost Ratio	75		%	73		%

Fiscal Year Ended September 30, 2006 Compared with Fiscal Year Ended September 30, 2005

Our total revenues for 2006, the largest portion of which is capitation revenue, increased to $135,796,277 compared to $133,518,379 for 2005, or an increase of 2%, primarily as a result of (i) the Genesis HealthCare of Southern California acquisition completed November 1, 2005, which increased revenue in 2006 by $10,459,374, and (ii) higher capitation rates in fiscal 2006 on our core businesses (exclusive of acquisitions), which contributed $6,313,472 in increased capitation, offset by decreases in capitation rates for senior enrollees arising from Medicare’s moving to paying capitation on a risk adjusted basis. We received and recorded as a reduction to revenue approximately $1.5 million in the fourth quarter of fiscal 2006 from HMOs for risk adjustment factors, compared to positive capitation revenue adjustments of $4 million in the fourth quarter of fiscal 2005. Since this revenue could not previously be estimated by us, we recorded it upon receipt from the HMOs. Rate increases were partially offset by a decline in revenue associated with decreased enrollment in our core operations in the current period. During the year ended September 30, 2006, the number of enrollees decreased by approximately 16,400, resulting in an estimated revenue decrease of $15,770,481 during the year.

Management fees, which represent approximately 1% of total revenues for both 2006 and 2005, increased by approximately 53% primarily as a result of a new MSO agreement with Brotman Hospital and the OneCare product line.

Other operating revenue was $1,052,288 during 2006, compared to $1,335,876 for 2005, which decrease primarily results from decreased pay for performance monies received from our contracted HMOs for providing, then demonstrating, higher levels of care to their enrollees. These incentives are

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generally received in the third and fourth quarters of our fiscal year and are recorded when such amounts are known.

The cost of medical services for 2006 increased to $97,184,202 compared to $96,371,197 for 2005, or an increase of $813,005. The overall increase in medical costs is the result of the Genesis HealthCare of Southern California acquisition which we operated for eleven months in fiscal 2006 ($8,682,912), increases in per member per month medical costs of $7,042,966 offset by enrollment declines in our core business ($12,333,874) and a decrease in discretionary physician bonuses of $2,579,000. Our medical cost ratio (computed as medical costs to total capitation and fee-for-service revenue) for the 2006 period was approximately 72.8% and the medical cost ratio for the 2005 period was approximately 73.4%. The primary components of the difference were the result of the following factors. Approximately 1% of the net decrease resulted from approximately $1,200,000 decrease in capitation expense incurred on our specialist providers primarily because the Genesis acquisition had proportionately less capitated specialist contracts. Approximately 2% of the net decrease in medical cost ratio resulted from approximately $2,600,000 lower physician bonus expense reflecting lower pay-for-performance and risk pool incentives and negative capitation risk adjustments in fiscal 2006. We also recorded higher healthplan payments/recoveries for stop-loss insurance in 2006 along with a decrease in the level of certain pharmacy and injectible costs. Our non-capitated medical costs increased by approximately $4,600,000 in relation to revenues and increased the medical cost ratio by approximately 3% compared to the prior period due to higher claims per member rates due to increases in fee-for-service contract rates, a proportionately higher percentage of fee-for-service contracts in the Genesis acquisition and conversion of some provider contracts from capitation to fee-for-service.

General and administrative expenses for 2006 increased to $30,205,352 from $27,228,736 in 2005, or an increase of 11%. As a percentage of our total revenues, our general and administrative expense was 22% for 2006 compared to 20% for 2005. The increase in general and administrative expenses was primarily the result of increases in staffing and fringe benefit costs, related primarily to staffing increases to integrate prior acquisitions and prepare for future acquisitions. We also had increased costs for outside services related to Sarbanes-Oxley Act compliance, information technology consulting, and increased management fees related to Genesis.

Operating income decreased to $8,294,046, or a decrease of approximately 8%, for 2006, as compared to $9,057,945 for 2005, primarily as the result of a decline in members and the increase in general and administrative costs.

Income from unconsolidated joint venture increased to $1,400,492 in fiscal 2006 from $87,516 in fiscal 2005, as a result of increased profitability from the participation in the CalOptima OneCare program for Medicare/MediCal eligible beneficiaries effective January 1, 2006.

Depreciation and amortization expense for 2006 was $1,513,170 compared to $948,017 for 2005, or an increase of 60%, as a result of increased amortization of certain assets acquired in connection with the Genesis acquisition completed in 2006. The increase was also due to accelerating, effective April 1, 2005, the rate of amortization of identifiable intangibles acquired in the February 1, 2004 acquisitions of Northwest Orange County and Gateway Medical Group and affiliates, as well as depreciation expenses associated with increased capital expenditures.

Interest expense (net of investment income) for 2006 decreased to $194,013 compared to $558,278 for 2005, as a result of the higher yields on our investments, partially offset by additional interest on the $4 million GMAC Residential Funding Corporation credit facility to finance the November 2005 Genesis acquisition.

Our income tax expense for 2006 of $3,193,522 decreased $221,656 from $3,415,178 for 2005, or a decrease of approximately 6%. Our effective tax rate was 39% in 2006 and 46% in 2005. Our 2005 effective tax rate was higher primarily due to a valuation allowance we established in 2005 against any potential

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benefit we may derive from the capital losses we sustained from our unconsolidated equity investment in Brotman Medical Center.

Our net income for 2006 was $4,890,035 or $.60 per diluted share, as compared to $4,072,559, or $0.48 per diluted share, for 2005, which decrease is the result of the changes discussed above.

Fiscal Year Ended September 30, 2005 Compared with Fiscal Year Ended September 30, 2004

Our total revenues for 2005, the largest portion of which is capitation revenue, increased to $133,518,379 compared to $129,516,437 for 2004, or an increase of 3%, primarily as a result of acquisitions during the fiscal year 2004 being included for the full twelve months of 2005 and increases in capitation rates for senior enrollees arising from Medicare’s moving to paying capitation on a risk adjusted basis. We received and recorded as revenue approximately $4 million in the fourth quarter of fiscal 2005 from HMOs for risk adjustment factors. Since this revenue could not previously be estimated by us, we recorded it upon receipt from the HMOs. Rate increases were partially offset by a decline in revenue associated with decreased enrollment in the current period. During the year ended September 30, 2005, the number of enrollees decreased by approximately 26,500, resulting in an estimated revenue decrease of $11,100,000 during the year.

Management fees, which represent approximately 1% of total revenues for both 2005 and 2004 decreased by approximately 4% primarily as a result of matching the pricing of competitor’s bids for performing these management functions.

Other operating revenue was $1,335,876 during 2005, compared to $268,274 for 2004, which increase primarily results from increased pay for performance monies received from our contracted HMOs for providing, then demonstrating, higher levels of care to their enrollees.

The cost of medical services for 2005 increased to $96,371,197 compared to $95,975,041 for 2004, or an increase of $396,156. The overall increase in medical costs is the result of the acquisitions of four physician organizations during 2004, which were owned in eight months for 2004 and twelve months in 2005. Our medical cost ratio for the 2005 period was approximately 73% and the medical cost ratio for the 2004 period was approximately 75%. Approximately 1% of the net decrease in our medical cost ratio resulted from lower capitation expense incurred on our primary care physician providers and approximately 2% of the net decrease resulted from lower capitation expense incurred on our specialist providers. Our non-capitated medical costs increased in relation to revenues and increased the medical cost ratio by approximately 1% compared to the prior period.

General and administrative expenses for 2005 increased to $27,228,736 from to $24,335,511 in 2004, or an increase of 12%. As a percentage of our total revenues, our general and administrative expense was 20% for 2005 compared to 19% for 2004. The increase in general and administrative expenses was primarily the result of increases in staffing and fringe benefit costs, related primarily to staffing increases being to integrate prior acquisitions and prepare for future acquisitions.

Operating income increased to $9,057,945, or an increase of approximately 4%, for 2005, as compared to $8,679,714 for 2004, primarily as the result of economies of scale we were able to achieve with the acquisition of four physician organizations.

Depreciation and amortization expense for 2005 was $948,017 compared to $732,806 for 2004, or an increase of 29%, as a result of increased amortization of certain assets acquired in connection with the acquisitions that were completed in 2004.

Interest expense (net of investment income) for 2005 increased to $558,278 compared to $15,086 for 2004, as a result of the GMAC credit facility entered into primarily to fund the acquisition of four

69

physician organizations. Partially offsetting this increase was an increase in interest income as a result of increased cash balances in investment accounts and money market funds.

Our income tax expense for 2005 decreased to $3,415,178 compared to $3,524,704 for 2004, or a decrease of approximately 3%, as a result of decreased taxable income. Our effective tax rate was 46% in 2005 and 41% in 2004. The increase in our tax rate is primarily related to the valuation allowance we established against any potential benefit we may derive from the capital losses we sustained from our unconsolidated equity investment in Brotman Medical Center.

Our net income for 2005 was $4,072,559, or $0.48 per diluted share, as compared to $5,127,243 or $.68 per diluted share, for 2004, which decrease is the result of the changes discussed above.

Liquidity and Capital Resources

General

We require capital primarily to facilitate our acquisition strategy and to develop the infrastructure necessary to effectively manage our affiliated physician organizations.

Our primary sources of cash have been funds provided by borrowings under our credit facility, by the issuance of equity securities, and by cash flow from operations. Our primary sources of cash from operations are healthcare capitation revenues, fee-for-service revenues, risk pool payments and pay-for-performance incentives earned by our affiliated physician organizations and management services revenues earned by our management subsidiaries.

Our primary uses of cash include healthcare capitation payments made by our affiliated physician organizations, healthcare claims payments made by our management subsidiaries, administrative expenses, repayment of borrowings, acquisitions, costs associated with the integration of acquired businesses and information systems development costs. Our affiliated physician organizations generally receive capitation revenue in advance of having to make capitation and claims payments to their providers.

Our investment strategies are designed to provide safety and preservation of capital, sufficient liquidity to meet cash flow needs, the integration of investment strategy with our business operations and objectives, and attainment of a competitive after-tax total return. At September 30, 2006, we invested a substantial portion of our cash in a portfolio that included Federal Home Loan bonds with an average maturity of approximately 60 days, and overnight and high yield money market funds. All of these amounts are classified as current assets and included in cash and cash equivalents in the accompanying balance sheets. A substantial portion of our recurring cash requirements is funded by advances from our management subsidiaries and affiliated physician organizations, some of which are subject to financial stability, tangible net worth and other requirements of the HMOs with which we do business. As of September 30, 2006, our subsidiaries were in compliance with these requirements. We are required by some of our HMO contracts to set aside certain amounts in restricted certificates of deposit to secure our ability to pay medical claims. These restricted certificates of deposit, with an average maturity of approximately 115 days as of September 30, 2006, are included in investments in the accompanying financial statements.

The affiliated physician organizations must also comply with a minimum working capital, tangible net equity (TNE), cash to claims ratio and claims payment requirements prescribed by the California Department of Managed Health Care. TNE is defined as net assets less intangibles and amounts due from affiliates, plus subordinated obligations. At September 30, 2006 the affiliated physician organizations were in compliance with these regulatory requirements. Barring any change in regulatory requirements, we believe that we will continue to be in compliance with these requirements at least through the end of fiscal 2007. We also believe that our cash resources and internally generated funds will be sufficient to support our operations, regulatory requirements and capital expenditures for at least the next 12 months.

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Certain details of cash flows from operating activities, investing activities and financing activities for the fiscal years ended September 30, 2006 and 2005 are described below.

In the future, we expect some level of increasing cash flow from operations due to the inclusion of earnings from the November 1, 2005 acquisition of Genesis HealthCare, some additional savings derived from the elimination of duplicate functions and related costs, and some amount of revenue enhancements as a result of increased rates from HMO contract renewals. These expected positive impacts on operating cash flows derived from acquisitions will be partially offset by ongoing loss of member enrollment, especially at newly acquired medical groups undergoing transition to our operating model and platform. Also, if our profitably increases, we will incur, and have to fund, an increased tax burden. With each new acquisition, we also acquire new operating and other obligations, which have to be funded. Since we target profitable companies, we currently expect that the additional obligations resulting from our recent acquisitions will be serviceable through cash flow generated by those acquired entities.

Additional liquidity and capital resource considerations in the future include the anticipation that we will be investing significantly more in property, improvements and equipment as we integrate future acquisitions. These additional investments in technology and automation will be funded from existing cash reserves and cash generated from operations. Because any future acquisitions will be funded through some combination of cash, borrowings and our stock, we continue to evaluate a variety of equity and borrowing sources.

We are also periodically required to provide letters of credit in favor of the HMOs with which we do business. Letters of credit totaling approximately $836,000 are currently secured by certificates of deposit of approximately the same amount. The HMOs may also seek increased letter of credit levels, which we will have to fund from our cash reserves. Additionally, our Chief Executive Officer has historically provided a personal guarantee in the event of a tangible net equity shortfall at our affiliated physician organization, Prospect Medical Group, in order to meet certain contracting requirements with the HMOs. This personal guarantee arrangement was terminated effective January 19, 2005, following the Company’s assessment that it was no longer needed in order for the Company to meet its tangible net equity requirements. In the event that we were challenged to meet the tangible net equity requirements of Prospect Medical Group in the future, the absence of this personal guarantee would impact our liquidity.

As more fully discussed elsewhere in this report, we are subject to certain financial covenants and other conditions required by our loan agreement with Residential Funding Corporation (“RFC”), including a maximum senior debt/EBITDA ratio, minimum fixed charge coverage ratio, minimum consolidated net worth, minimum liquidity and a limit on capital expenditures. We exceeded the 1.50 maximum senior debt/EBITDA ratio as of September 30, 2004 and December 31, 2004. Our actual senior debt/EBITDA ratio as of those two dates was 1.57 and 1.51, respectively. Effective April 7, 2005, RFC waived these covenant violations. RFC has, in addition, agreed to exclude certain items from the covenant computations for a twelve month period. The exclusion of certain items enabled us to meet the minimum fixed charge coverage ratio at December 31, 2004. At September 30, 2006 we did not meet the minimum fixed charge coverage ratio of 1.25. In December 2006, in order to enable the Company to meet the minimum fixed charge coverage ratio, RFC amended our Loan agreement to lower the required ratio effective for test periods ended September 30, 2006 through December 2006 from 1.25 to 1.00, and made certain allowances in the manner in which that ratio is calculated. The amendment effectively waived the covenant violation with regard to the fixed charge coverage ratio at September 30, 2006. We believe that we will be able to comply with the adjusted ratio through September 30, 2007 and can continue to classify the outstanding debt as non-current liabilities. However, there can be no assurance that the company will meet compliance requirements in future periods. RFC may not grant waivers of future covenant violations and could also require full repayment of the loan, which would negatively impact our liquidity and preclude us from making further acquisitions.

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In September 2006, the $15,000,000 RFC credit agreement was amended to extend the expiration and maturity date from September 27, 2007 to January 31, 2008. We expect to refinance our debt upon maturity in January 2008.

In February 2005, we paid $475,000 to renew and expand the software licenses for our IDX management information for a ten year period.

Fiscal Year Ended September 30, 2006 Compared with Fiscal Year Ended September 30, 2005

As of September 30, 2006, cash and cash equivalents were $16,623,407, a decrease of $325,897 from September 30, 2005. The more significant components of this net decrease in cash are discussed below.

Net cash provided by operating activities was $787,012 for the year ended September 30, 2006, compared with $5,073,634 for the year ended September 30, 2005. Net cash provided by operating activities for the year ended September 30, 2006 was comprised primarily of net income of $4,890,035, depreciation and amortization of $1,513,170 and an increase in deferred income taxes of $1,346,336. These increases were partially offset by an increase in recoverable income taxes of $3,141,804, resulting mainly from an overpayment of quarterly tax deposits, excess tax benefits from options exercised of $605,868, a decrease in accrued medical claims of $998,723 resulting mainly from resolution of prior claims and lower enrollment, increases in risk pool receivables of $1,286,821 and decreases in accounts payable and other liabilities of $966,931.

Net cash used in investing activities totaled $6,891,948 for the year ended September 30, 2006, compared with $1,356,463 for the year ended September 30, 2005. Net cash used in investing activities for the year ended September 30, 2006 was comprised primarily of purchases of property, improvements and equipment of $640,915; cash paid for the acquisition of Genesis HealthCare of Southern California (net of cash received) of $6,596,080; partially offset by a decrease in restricted certificates of deposits required by the health plans of $293,273.

Net cash provided by financing activities totaled $5,779,039 for the year ended September 30, 2006, compared with net cash used by financing activities of $7,098,621 for the year ended September 30, 2005. Net cash provided by financing activities for the year ended September 30, 2006 was comprised primarily of borrowings under the GMAC credit facility, totaling $4,000,000 in a long term note, $2,500,000 in a line of credit (net of repayments), and net proceeds of $1,339,838 from option exercises, plus associated tax benefits of $605,868, less debt repayment totaling $2,666,667.

Fiscal Year Ended September 30, 2005 Compared with Fiscal Year Ended September 30, 2004

As of September 30, 2005, cash and cash equivalents were $16,949,304, a decrease of $3,381,450 from September 30, 2004. The more significant components of this net increase in cash are discussed below.

Net cash provided by operating activities was $5,073,634 for the year ended September 30, 2005, compared with net cash used by operating activities of $240,085 for the year ended September 30, 2004. Net cash provided by operating activities for the year ended September 30, 2005 was comprised primarily of net income of $4,072,559, depreciation and amortization of $948,017 and an increase in accounts payable and other accrued liabilities of $1,776,161, primarily due to an increase in physician bonus accruals of $2,469,658. These increases were partially offset by the impact of a decrease in accrued medical claims of $1,791,294 resulting mainly from resolution of prior claims and lower enrollment.

Net cash used in investing activities totaled $1,356,463 for the year ended September 30, 2005, compared with $4,474,334 for the year ended September 30, 2004. Net cash used in investing activities for the year ended September 30, 2005 was comprised primarily of purchases of property, improvements and equipment of $282,945; cash paid for an investment in Brotman Medical Center, Inc. of $1,000,000; and an increase in restricted certificates of deposits required by the health plans of $587,313.

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Net cash used by financing activities totaled $7,098,621 for the year ended September 30, 2005, compared with net cash provided by financing activities of $18,528,266 for the year ended September 30, 2004. Net cash used by financing activities for the year ended September 30, 2005 was comprised primarily of debt repayments under the GMAC credit facility, totaling $1,841,888 of the long term note and $5,000,000 of the line of credit; and costs related to the prior private placement of preferred stock.

Working Capital

We had negative working capital of $3,141,414, $681,960, and $123,898 at September 30, 2004, 2005 and 2006, respectively. We had cash and cash equivalents of $20,330,754, $16,949,304 and $16,623,407 at September 30, 2004, 2005 and 2006, respectively. Our working capital ratio (current assets divided by current liabilities) was .89, .97 and .99 at September 30, 2004, 2005 and 2006, respectively.

As of the fiscal years ended 2004, 2005 and 2006 notes to our bank totaled $15,008,554, $8,166,667 and $12,000,000 respectively. We have historically used cash reserves and cash flow from operations and equity offerings to reduce our indebtedness and fund acquisitions. This, and our recording of reserves for incurred but not reported healthcare expense claims, has been the primary reasons for our negative working capital position.

Credit Facilities

On September 27, 2004, we entered into a new senior secured credit facility with Residential Funding Corporation (RFC, a subsidiary of General Motors Acceptance Corporation) that consists of $10,000,000 term loan and a $5,000,000 revolving credit facility.

The term loan requires repayment of principal installments of $166,667 per month until January 31, 2008, at which time the entire remaining unpaid balance is due. Amounts outstanding under the term loan bear interest at a rate of prime plus 2% per annum.

We may borrow, make repayments and re-borrow under the revolving credit facility until January 31, 2008. Amounts outstanding under the revolving credit facility bear interest at a rate of prime plus 0.5% per annum. The company is charged an unused line fee of 0.25% per annum payable monthly, calculated on the difference between the average daily usage of the revolving credit facility during each month and $5,000,000, the maximum amount of the revolving credit commitment.

We may borrow under the revolving credit facility an amount based on a percentage of capitation payments received by the company over the prior two months, as reduced by the principal amount then outstanding under the term loan as well as by amounts already outstanding under the revolving credit facility. In no event may total borrowings under the revolving credit facility exceed $5,000,000.

Both the term loan and the revolving credit facility are secured by substantially all of the company’s assets, including the rights to receive capitation payments under HMO contracts.

We are allowed to use the proceeds of the facility for our ordinary working capital and general corporate needs. We may not use loan proceeds for acquisitions, stock repurchases or dividend payments without the prior written consent of the lender.

We are subject to certain financial covenants under the loan agreement, including a maximum senior debt/EBITDA ratio, minimum fixed charge coverage ratio, minimum consolidated net worth, minimum liquidity and a limit on capital expenditures. We are also restricted, without the lender’s consent, from using net proceeds of any sale of equity securities except to pay down indebtedness under the loan agreement.

In November 2005, in connection with the acquisition of Genesis Healthcare of Southern California, RFC provided us with additional term loan debt financing of $4,000,000, on terms identical to our existing

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term loan. This additional term loan requires monthly principal payments of $66,667 until January 31, 2008, at which time the remaining unpaid balance is due.

Through an amendment in September 2006, the credit facilities were extended from September 27, 2007 to January 31, 2008 on the same terms and conditions including monthly installment payments and balloon payment for unpaid balance.

Since 1997, we have primarily funded our acquisition program with draws on our credit facility, the sale of our common stock, and cash flow from operations. The assets that we and our affiliated physician organizations have acquired have been largely goodwill and intangible assets. The acquisition of physician organizations consists primarily of HMO contracts, primary care and specialist physician contracts and the right to manage each physician organization through a management services agreement. The physician organizations we acquire generally do not have significant tangible net equity; therefore, our acquired assets are predominantly goodwill.

Additional Financing

As we continue to pursue our acquisition strategy, additional financing will be required and we intend to seek additional or expanded credit facilities from banks or other sources of term and revolving debt.

We anticipate financing future acquisitions and potential business expansion with a combination of debt, the issuance of our common stock and cash flow from operations.

In addition, in order to meet our long-term liquidity needs, we may incur, from time to time, additional bank indebtedness. Banks and traditional commercial lenders do not generally make loans to companies without substantial tangible net worth. Since, by the very nature of our business segment, we develop substantial goodwill on our balance sheet, it may be difficult for us to obtain this type of financing in the future. We may issue additional equity and debt securities, the availability and terms of which will depend upon market and other conditions. Our ability to issue any debt or equity instruments in a public or private sale may also be restricted under certain circumstances pursuant to contractual restrictions in agreements with our commercial lender. There can be no assurance that such additional financing will be available upon terms acceptable to us, if at all. The failure to raise the funds necessary to finance our future cash requirements could adversely affect our ability to pursue our strategy and could adversely affect our results of operations for future periods.

Contractual Obligations

In the table below, we set forth our contractual obligations, including long term debt and other obligations and commitments, as of September 30, 2006, which are payable in our fiscal years ending September 30:

	Total		2007		2008		2009		2010		2011 and Thereafter
	(000’s eliminated)
Line of credit(1)	$	2,500	$	2,500	$	—	$	—	$	—		$	—
Long term debt(1)	9,500		2,800		6,700		—		—			—
Operating lease commitments(2)	7,142		1,803		1,620		1583		1291			845
Interest(3)	1,077		860		217
	20,219		7,963		8,537		1,583		1,291			845

(1)The line of credit and long term debt due to our bank matures on January 31, 2008. See Note 6 to the consolidated financial statements for a description of our long term debt.

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(2)See Note 8 to the September 30, 2006 consolidated financial statements for a description of our minimum lease commitments under non-cancelable operating leases.

(3)Interest is based on interest rates in effect as of September 30, 2006.

At September 30, 2006, we have $9,495,235 in risk pool deficits that are not payable until and unless we generate future risk sharing surpluses. When the HMO contracts terminate, any remaining risk pool deficits will be waived.

Item 7A.Quantitative and Qualitative Disclosures Regarding Market Risk

As of September 30, 2006, we had cash and cash equivalents of $16,623,407. Cash equivalents consist of highly liquid securities with original maturities of up to three months. We invest a substantial portion of our cash equivalents in Federal Home Loan bonds and overnight, high yield money market funds. We also had $836,244 of investments, primarily consisting of restricted, interest-bearing certificates of deposit required by various HMOs with whom we do business. These investments are subject to interest rate risk and will decrease in value if the market rates increase. All non-restricted investments are maintained at fair market value on the balance sheet. Money market funds are not typically subject to material market risk. In addition, we have the ability to hold these investments until maturity, and as a result, we would not expect the value of these investments to decline significantly as a result of a sudden change in market interest rates. Declines in interest rates over time will reduce our investment income. Assuming a hypothetical 10% change in interest rates, there would be no material impact on our future earnings and cash flows related to these instruments, or their fair value.

The fair value of our bank debt with Residential Funding Corporation is affected by changes in market interest rates. As of September 30, 2006, the carrying value of our term loan and outstanding advances under the credit agreement approximated its estimated fair value. Considerable judgment is required to develop estimates of fair value. Accordingly, the estimate is not necessarily indicative of the amount we could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts. Our credit facility is interest rate sensitive, however. A 100 basis point adverse movement (increase) in interest rates would have decreased our net income for fiscal year 2004, 2005 and 2006 by approximately $17,000, $186,000, and $105,000 respectively. For terms relating to our long-term debt, see Note 6 of the Notes to Consolidated Financial Statements.

Item 8.Financial Statements and Supplementary Data

The following financial statements and financial statement schedule are included in this report beginning on page F-1:

	Page
Index to Financial Statements and Financial Statement Schedule		F-1
Report of Independent Registered Public Accounting Firm		F-2
Consolidated Balance Sheets as of September 30, 2005 and 2006		F-3
Consolidated Statements of Income for the Years Ended September 30, 2004, 2005 and 2006		F-4
Consolidated Statements of Shareholders’ Equity for the Years Ended September 30, 2004, 2005 and 2006		F-5
Consolidated Statements of Cash Flows for the Years Ended September 30, 2004, 2005 and 2006		F-6
Notes to Consolidated Financial Statements		F-7
Report of Independent Registered Public Accounting Firm		F-34
Schedule II—Valuation and Qualifying Accounts		F-35

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Selected quarterly financial data required by this item is included in Note 12 to the consolidated financial statements.

All other schedules are omitted because they are not required or the information is included elsewhere in the consolidated financial statements.

Item 9.Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.

None.

Item 9A.Controls and Procedures.

Disclosure Controls and Procedures:   Our management is responsible for establishing and maintaining effective internal control over financial reporting as defined in Rules 13a-15(f) under the Securities Exchange Act of 1934. Our internal control over financial reporting is designed to provide reasonable assurance to our management and board of directors regarding the preparation and fair presentation of published financial statements. We maintain controls and procedures designed to ensure that we are able to collect the information we are required to disclose in the reports we file with the Securities and Exchange Commission, and to process, summarize and disclose this information within the time periods specified in the rules of the Securities and Exchange Commission.

Evaluation of Disclosure Controls and Procedures:   Our management, with the participation of our Chief Executive Officer and our Chief Financial Officer, has concluded, based upon its evaluation as of the end of the period covered by this report, that the Company’s “disclosure controls and procedures” (as defined in Rules 13(a)-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”)) are effective to ensure that information required to be disclosed in the reports that the Company files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.

Changes in Internal Controls:   There were no changes in the Company’s internal control over financial reporting during the quarter ended September 30, 2006 that have materially affected, or are reasonably likely to materially affect, the Company’s internal controls over financial reporting.

Sarbanes-Oxley 404 Compliance:   We have begun a detailed assessment of our internal controls as called for by the Sarbanes-Oxley Act of 2002. We are still in the evaluation of design phase. We have supplemented our internal project team with the services of an outside specialist. Although we have made this project a priority for the Company, there can be no assurances that all control deficiencies that may be identified and validated will be remediated before the required due date of September 30, 2008.

Item 9B.Other Information.

Not applicable.

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PART III

Item 10.Directors, Executive Officers and Corporate Governance.

The information required by this Item with respect to our executive officers is set forth in Part I of this report. The other information required under this Item is incorporated by reference from our definitive proxy statement for the 2007 Annual Meeting of Stockholders under the captions “Election of Directors,” “The Board of Directors and its Committees” and “Section 16(a) Beneficial Ownership Reporting Compliance.”

Item 11.Executive Compensation.

The information contained in the section entitled “Executive Compensation” in our definitive Proxy Statement for our 2007 Annual Meeting of Stockholders is incorporated herein by reference.

Item 12.Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.

The information required under this Item is incorporated by reference from our definitive proxy statement for the 2007 Annual Meeting of Stockholders under the caption “Security Ownership of Certain Beneficial Owners and Management.”

Item 13.Certain Relationships and Related Transactions, and Director Independence.

The information set forth in the section entitled “Certain Relationships and Related Transactions” contained in our definitive Proxy Statement for our 2007 Annual Meeting of Stockholders is incorporated herein by reference.

Item 14.Principal Accounting Fees and Services.

The information required under this Item is incorporated by reference from our definitive proxy statement for the 2007 Annual Meeting of Stockholders under the caption “Disclosure of Auditor Fees.”

PART IV

Item 15.Exhibits and Financial Statement Schedules

The financial statements and financial statement schedule listed under Item 8 are included in this report beginning on page F-1. The following exhibits have been filed with, or are incorporated by reference, in this report:

2.1

Agreement for the Purchase and Sale of Assets of Health Source Medical Group, Inc. dated as of November 7, 2000 between Prospect Medical Group, Inc. and Health Source Medical Group, Inc.(1)

Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Agreement for the Purchase and Sale of Assets will be provided supplementally to the Commission upon request: Exhibit 1.1 Assets, Exhibit 1.1(a)(i) Prospect Health Source Medical Group, Inc. Exclusive Primary Care Physician Services Agreement, Exhibit 1.1(a)(ii) Prospect Health Source Medical Group, Inc. Nonexclusive Specialist Physician Services Agreement, Exhibit 1.1 (g) Management Services Agreement, Exhibit 1.3 Assumed Liabilities, Exhibit 2.2 Purchase Price Allocation, Exhibit 5.1 Noncompetition Agreement, Exhibit 7.2(a) Bill of Sale/Assignment and Assumption Agreement, Exhibit 7.5(i) Guaranty of Purchaser’s

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	Obligations by Prospect Medical Holdings, Inc., Exhibit 7.5(j) Prospect Health Source Medical Group, Inc. Organizational Documents, Schedule 3.3 Consents, Schedule 3.5 Accounts Receivable, Schedule 3.6 Title to Assets, Schedule 3.7(a) Inventory and Furniture, Fixtures, and Equipment at the Robertson Clinic, Schedule 3.7(b) Furniture, Fixtures, and Equipment used at Seller’s Former Administrative Office, Schedule 3.8 Contracts, Schedule 3.9 Litigation, Schedule 3.10 Violation of Law, Schedule 3.12 Employees and Employee Benefits, Schedule 3.15 Intellectual Property
2.2	Agreement of Purchase and Sale of Assets of Health Source Medical Group, Inc. dated as of May 1, 2001 among David M. Frisch, M.D., Prospect Medical Group, Inc., Prospect Health Source Medical Group, Inc. and Prospect Medical Systems, Inc.(1)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Agreement for the Purchase and Sale of Assets will be provided supplementally to the Commission upon request: Exhibit 1.1 Assets, Exhibit 1.1(a) Exclusive Primary Care Physician Services Agreement, Exhibit 1.3 Assumed Liabilities, Schedule 3.3 Consents, Schedule 3.5 Inventory and Furniture, Fixtures and Equipment, Schedule 3.7 Litigation, Schedule 3.8 Violation of Law, Schedule 3.10 Employees and Employee Benefits
2.3	Agreement of Purchase and Sale of Assets of Health Source Medical Group, Inc. dated as of July 1, 2001 among James Daniel, M.D. & Dana Eisenman, M.D. Medical Corporation, Prospect Medical Group, Inc., Prospect Health Source Medical Group, Inc. and Prospect Medical Systems, Inc.(1)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Agreement for the Purchase and Sale of Assets will be provided supplementally to the Commission upon request: Exhibit 1.1 Assets, Exhibit 1.1(a) Exclusive Primary Care Physician Services Agreement, Exhibit 1.3 Assumed Liabilities, Exhibit 7.2(a) Bill of Sale/Assignment and Assumption Agreement, Exhibit 7.2 Sublease, Schedule 3.3 Consents, Schedule 3.5 Inventory and Furniture, Fixtures and Equipment, Schedule 3.5(a) Additional Furniture, Fixtures and Equipment used in the Sunset Practice, Schedule 3.7 Litigation, Schedule 3.8 Violation of Law, Schedule 3.10 Prospect Employees Through the Effective Date, Schedule 4.8 Employees Purchaser will Retain from the Effective Date Through the Closing Date
2.4	Agreement and Plan of Reorganization for Professional Care Medical Group, Inc. dated as of June 30, 2003 among Prospect Medical Group, Inc., Prospect LA Medical Group, Inc., Professional Care Medical Group, Inc. and the Shareholders of Professional Care Medical Group, Inc.(1)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Agreement and Plan of Reorganization will be provided supplementally to the Commission upon request:
	Schedule 2.4, ProCare Consent Requirements, Schedule 2.6, List of Holders of Record and Number Held of ProCare Shares, Schedule 2.7, List of ProCare Financial Statements Delivered to Prospect, Schedule 2.12, Intellectual Property, Schedule 2.13, Contracts, Schedule 2.18, Insurance, Schedule 2.20, Bank Accounts, Schedule 3.3, Prospect/Sub Consent Requirements, Schedule 11.7, Notices, Exhibit “A,” Shareholders of ProCare, Exhibit “B,” Agreement of Merger, Exhibit “C,” Acknowledgement by Escrow Agent

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2.5	Amendment to Agreement and Plan of Reorganization for Professional Care Medical Group, Inc. dated as of September 30, 2003 among Prospect Medical Group, Inc., Prospect LA Medical Group, Inc., Professional Care Medical Group, Inc. and the Shareholders of Professional Care Medical Group, Inc.(1)
2.6	Agreement of Merger for Northwest Orange County Medical Group, Inc. dated as of November 19, 2003 among Prospect Medical Group, Inc., Prospect NWOC Medical Group, Inc., Northwest Orange County Medical Group, Inc., the Shareholders of Northwest Orange County Medical Group, Inc., and Harriman-Jones Medical Group, Inc.(1)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Agreement of Merger will be provided supplementally to the Commission upon request:
	Schedule 2.4, Northwest Consent Requirements, Schedule 2.6, List of Holders of Record and Number Held of Northwest Shares, Schedule 2.9, Tax Matters, Schedule 2.12, Intangible Property, Schedule 2.13, Contracts, Schedule 2.14, Legal Proceedings, Schedule 2.16, Officers and Directors, Schedule 2.17, Insurance, Schedule 2.18, Powers of Attorney, Schedule 2.24, Inspections, Schedule 2.28, Permits, Schedule 2.29, Fraud and Abuse, Schedule 2.33, Bank Accounts, Schedule 3.3, Consent Requirements—Prospect Parties, Schedule 4.7, North West Enrollees—August 2003 Enrollment, Exhibit “A,” Agreement of Merger, Exhibit “B,” Form of Escrow Agreement
2.7	Amendment to Agreement of Merger dated as of January 30, 2004 for Northwest Orange County Medical Group, Inc. among Prospect Medical Group, Inc., Prospect NWOC Medical Group, Inc., Northwest Orange County Medical Group, Inc., the Shareholders of Northwest Orange County Medical Group, Inc., and Harriman-Jones Medical Group, Inc.(1)
2.8	Stock Purchase Agreement dated as of January 31, 2004 among Prospect Medical Group, Inc., Prospect Medical Systems, Inc., StarCare Medical Group, Inc. dba Gateway Medical Group, Inc, APAC Medical Group, Inc. dba Gateway Physicians Medical Associates, Inc., Pinnacle Health Resources and David Tsoong, M.D.(1)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Stock Purchase Agreement will be provided supplementally to the Commission upon request:
	Schedule 1.2, StarCare Shares, Schedule 1.3, APAC Shares, Schedule 1.4, Pinnacle Shares, Schedule 1.6, Purchase Price Allocation, Schedule 2.4, StarCare, APAC and Pinnacle Consent Requirements, Schedule 2.5, Conflicts and/or Breaches as a Result of the Transaction, Schedule 2.8,Contingent Liabilities, Schedule 2.9, Actions and Proceedings for Taxes, Schedule 2.11(b), Leases and Subleases, Schedule 2.12(b), Aggregate Tangible Personal Property, Schedule 2.12(c), Excluded Tangible Personal Property, Schedule 2.12(d), Items Currently in Storage or Supply Rooms at 710 N. Euclid or Subleased Storage Space at La Mirada Clinic, Schedule 2.13, Intellectual Property, Schedule 2.13(b), Website Internet Portal Modem Fee, Schedule 2.14, Contracts, Schedule 2.15, Legal Proceedings: Existing and Threatened Claims, Schedule 2.17, Employee Information, Schedule 2.17(b), Employee Information, Schedule 2.17(c), Employee Information, Schedule 2.18, Insurance,
	Schedule 2.19, Management; Powers of Attorney, Schedule 2.24, Confidentiality and Non-Compete Agreements, Schedule 2.25, Inspections, Schedule 2.28, Permits, Schedule 2.29(a), Fraud and Abuse, Schedule 2.29(b), Fraud and Abuse, Schedule 2.35(a), Bank Accounts, Schedule 2.35(b), Letters of Credit or Other Security Pledged for StarCare Shared Risk Contracts, APAC Shared Risk Contracts or APAC Full Risk Contracts, Schedule 3.3, Group/Systems Consent Requirements, Schedule 5.2, Employees to Be Hired By Prospect Parties, Exhibit “A,” October Interim Financial Statements, Exhibit “B,” Form of Non-Competition Agreement, Exhibit “C,” Legal Opinion Matters

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2.9	Asset Purchase Agreement dated as of March 31, 2004 among StarCare Medical Group, Inc. dba Gateway Medical Group, Inc., Pinnacle Health Resources, Primary and Multi-Specialty Medical Clinics of Anaheim, Inc., and the shareholders of Primary and Multi-Specialty Medical Clinics of Anaheim, Inc.(1)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Asset Purchase Agreement will be provided supplementally to the Commission upon request:
	Schedule 1.2(a), Clinic Assets, Attachment A to Schedule 1.2(a), Schedule 1.2(b), Excluded Clinic Assets, Schedule 1.3, Assumed Liabilities, Schedule 1.5, Wells Fargo Loans, Schedule 1.6, Accumulated PTO as of the Closing Date, Schedule 1.7, Purchase Price Allocation, Schedule 2.2, Group Consent Requirements, Schedule 2.3, Conflicts and Breaches, Schedule 2.4, Liens, Schedule 2.5(a), February Financial Statements, Schedule 2.5(b), March Estimated Partial Financial Statements, Schedule 2.7, Tangible Personal Property, Schedule 2.7(b), Assets in Storage, Schedule 2.8, Intellectual Property, Schedule 2.9, Contracts, Schedule 2.10 Legal Proceedings: Existing and Threatened Claims, Schedule 2.12, Employee Information, Schedule 2.16, Confidentiality, Non-Solicitation and Non-Compete Arrangements, Exhibit E, Covenant Not To Compete, Exhibit F-1, Industrial Medicine Client List, Schedule 2.19, Permits, Schedule 2.22, Insurance, Schedule 2.24, Tax Matters, Schedule 2.25, Inspection, Schedule 3.3, Buyer Consent Requirements, Schedule 4.1, Gateway Representations and Warranties, Schedule 4.6(b), Non-Physician Acknowledgement, Schedule 4.6(c), StarCare Updated Patient Diversion Provisions, Schedule 4.6(d), Full Time Primary Care Physicians, Schedule 4.13, Prepaid Obligations, Schedule 4.17, Initial Trust Deposits with Cap-MPT, Exhibit “A,” Secured Promissory Note (Purchase Price Note), Exhibit “B,” Security Agreement, Exhibit “C,” Guaranty, Exhibit “D,” Secured Promissory Note (Additional Consideration Note), Exhibit “E,” Guaranty, Exhibit “F,” Secured Promissory Note (PTO Note), Exhibit “G,” Guaranty, Exhibit “H,” Form of Buyer/StarCare Provider Agreement, Exhibit “I,” Form of Buyer/Prospect Provider Agreement, Exhibit “J,” Form of Specialty Provider Agreement, Exhibit “K,” Sublease for Anaheim Clinic, Exhibit “L,” Sublease for Anaheim Hills Clinic, Exhibit “M,” Sublease for Euclid Clinic and Clinic Corporate Office, Exhibit “N,” Sublease for Clinic Storage Space, Exhibit “O,” Guaranty, Exhibit “P,” Bill of Sale/Assignment and Assumption Agreement
2.10	Omnibus Amendment to Asset Purchase Agreement and Other Documents Delivered in Connection with The Transactions Described Therein dated as of April 15, 2004 among StarCare Medical Group, Inc. d/b/a Gateway Medical Group, Inc., Pinnacle Health Resources, APAC Medical Group, Inc., Prospect Medical Group, Inc., Prospect Professional Medical Group, Inc., Prospect NWOC Medical Group, Inc., Primary and Multi-Specialty Clinics of Anaheim, Inc., and the Shareholders of Primary and Multi-Specialty Clinics of Anaheim, Inc.(1)
2.11	Stock Purchase Agreement dated November 1, 2005 among Prospect Medical Group, Inc., Genesis Healthcare of Southern California, Inc. and Mitchell W. Lew, M.D.(8)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Stock Purchase Agreement will be provided supplementally to the Commission upon request:

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	Schedule 1.2, Stock; Schedule 1.6, Allocation of Purchase Price; Schedule 2.9, Tax Matters; Schedule 2.11(b), List and Summary of all Leases, Subleases and other Agreements under which Company uses or has the right to occupy any Real Property; Schedule 2.12(b), Tangible Personal Property; Schedule 2.13, Intellectual Property; Schedule 2.14, Contracts; Attachment to Schedule 2.14, List of PCP Physicians; Attachment to Schedule 2.14, List of Specialist Physicians; Attachment to Schedule 2.14, Form of PCP (Individual)—Capitated; Attachment to Schedule 2.14, Form of PCP (Group)—Capitated; Attachment to Schedule 2.14, Form of Specialist Physician Agreement—Fee for Service; Attachment to Schedule 2.14, Form of Specialist Agreement—Capitated; Attachment to Schedule 2.14, List of Ancillary Service Providers; Attachment to Schedule 2.14, Form of Ancillary Services Agreement—Fee for Service; Schedule 2.15, Existing/Threatened Claims; Schedule 2.18, Insurance; Schedule 2.19, Officers and Directors; Schedule 2.17, Employee Matters; Schedule 2.24, Confidentiality/Non-Compete; Schedule 2.25, Inspections, Section 2.28, Permits; Schedule 2.30(a), Bank Accounts; Schedule 2.30(b), Cash securing Letters of Credit or Certificates of Deposits pledged as Security for the Company Health Plans; Schedule 3.3, Consents of Purchaser; Schedule 5.2, Employees to be offered Employment; Schedule 5.6, IBNR Formula; Exhibit A, Form of Non-Competition Agreement; Exhibit B, Management Agreement; Exhibit C, Employment Agreement; Exhibit D, Legal Opinion Matters
3.1	Amended and Restated Certificate of Incorporation of Prospect Medical Holdings, Inc.(1)
3.2	Certificate of Amendment of Amended and Restated Certificate of Incorporation of Prospect Medical Holdings, Inc.(1)
3.3	Certificate of Amendment of Amended and Restated Certificate of Incorporation of Prospect Medical Holdings, Inc.(1)
3.4	Certificate of Designation of Series A Convertible Preferred Stock of Prospect Medical Holdings, Inc.(1)
3.5	Amended and Restated Bylaws of Prospect Medical Holdings, Inc.(1)
3.6	First Amendment to Amended and Restated Bylaws of Prospect Medical Holdings, Inc.(1)
4.1	Specimen Common Stock Certificate(1)
10.1	Warrant to Acquire Common Stock between Prospect Medical Holdings, Inc. and Spencer Trask Venture Investment Partners, LLC(1)
10.2	Warrant Agreement for Series A Preferred Stock dated as of January 15, 2004 between Prospect Medical Holdings, Inc. and Spencer Trask Ventures, Inc.(1)
10.3	Form of Registration Rights Agreement between Prospect Medical Holdings, Inc. and each Investor of Series A Convertible Preferred Stock(1)
10.4	Agreement For The Purchase And Sale of Stock, dated as of January 13, 2000, between Jacob Y. Terner, M.D., and Gregg DeNicola, M.D.(1)
10.5	Amended and Restated Assignable Option Agreement, made as of January 13, 2000, among Prospect Medical Systems, Inc., Prospect Medical Group, Inc. and Jacob Y. Terner, M.D.(1)
10.6	Form of Amended and Restated Management Services Agreement, made as of September 15, 1998 and deemed to have been effective as of June 4, 1996, between Prospect Medical Systems, Inc. and Prospect Medical Group, Inc.(1)
10.7	Form of Amendment to Management Services Agreement, made as of October 1, 1998, between Prospect Medical Systems, Inc. and Prospect Medical Group, Inc.(1)
10.8	Management Agreement dated as of January 1, 2003 between Pinnacle Health Resources Inc. and StarCare Medical Group, Inc. dba Gateway Medical Group, Inc.(1)

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10.9	Management Agreement dated as of January 1, 2003 between Pinnacle Health Resources Inc. and APAC Medical Group, Inc. dba Gateway Physicians Medical Associates, Inc.(1)
10.10	Form of Management Services Agreement, made as of August 1, 1999, between Prospect Medical Systems, Inc. and Nuestra Familia Medical Group(1)
10.11	Management Services Agreement, made as of July 1, 1999, between Prospect Medical Systems, Inc. and AMVI/Prospect Medical Group(1)
10.12	Employment Agreement, dated as of August 1, 1999 between Prospect Medical Holdings, Inc. and Jacob Y. Terner, M.D.(1)
10.13	Amendment to Employment Agreement, dated as of August 1, 2002 between Prospect Medical Holdings, Inc. and Jacob Y. Terner, M.D.(1)
10.14	Investment Agreement dated as of July 31, 1996 between Jacob Y. Terner and Med-Search, Inc.(2)
10.15	Agreement dated as of July 31, 1996 among Jacob Y. Terner and Barbara Noble, both individually and as representative of Joseph W. Noble, M.D., deceased, and the Noble 1992 Family Trust(2)
10.16	Amended and Restated Revolving Credit Agreement, dated as of July 3, 1999, between Prospect Medical Holdings, Inc. and Imperial Bank(1)
10.17	First Amendment to Amended and Restated Revolving Credit Agreement dated as of October 25, 2002 between Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.18	Third Amendment to Amended and Restated Revolving Credit Agreement dated as of November 3, 2001 between Comerica Bank-California, successor-by-merger to Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.19	Fourth Amendment to Amended and Restated Revolving Credit Agreement dated as of February 1, 2002 between Comerica Bank-California, successor-by-merger to Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.20	Fifth Amendment to Amended and Restated Revolving Credit Agreement dated as of July 31, 2002 between Comerica Bank-California, successor-by-merger to Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.21	Sixth Amendment to Amended and Restated Revolving Credit Agreement dated as of September 24, 2003, between Comerica Bank, successor-by-merger to Comerica Bank-California, successor-by-merger to Imperial Bank, and Prospect Medical Holdings, Inc.(1)
10.22	Amended and Restated Security Agreement dated as of September 24, 2003, between Prospect Medical Holdings, Inc. and Comerica Bank, successor-by-merger to Comerica Bank-California, successor-by-merger to Imperial Bank(1)
10.23	Continuing Guaranty, dated as of July 3, 1997, executed by Prospect Medical Systems, Inc. in favor of Imperial Bank(2)
10.24	Amended and Restated Security Agreement (Prospect Medical Systems, Inc.) dated as of September 24, 2003, between Prospect Medical Systems, Inc. and Comerica Bank, successor-by-merger to Comerica Bank-California, successor-by-merger to Imperial Bank(1)
10.25	Security Agreement—Stock Pledge, dated as of July 3, 1997, between Prospect Medical Holdings, Inc. and Imperial Bank(2)
10.26	Security Agreement (Physician Group), dated as of July 3, 1997, between Prospect Medical Systems, Inc. and Prospect Medical Group, Inc.(2)

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10.27	Amendment Number One to Security Agreement dated as of July 6, 1999 between Prospect Medical Systems, Inc. and Prospect Medical Group, Inc.(2)
10.28	Amended and Restated Warrant, dated as of July 3, 1997, issued by Prospect Medical Holdings, Inc. to Imperial Bank(2)
10.29	Warrant, dated as of July 3, 1999, issued by Prospect Medical Holdings, Inc. to Imperial Bancorp(2)
10.30	Amended and Restated Assignable Option Agreement made as of September 2, 1998 and deemed to have been effective as of July 14, 1997, among Prospect Medical Systems, Inc., Prospect Medical Group, Inc. and Santa Ana/Tustin Physicians Group, Inc.(2)
10.31	Form of Management Services Agreement dated as of January 1, 2001 between Prospect Medical Systems, Inc. and Prospect Health Source Medical Group, Inc.(1)
10.32	Form of Amendment to Management Services Agreement dated as of November 1, 2002 between Prospect Medical Systems, Inc. and Prospect Health Source Medical Group, Inc.(1)
10.33	Form of Management Services Agreement dated as of October 1, 2003, by and between Prospect Medical Systems, Inc. and Prospect Professional Care Medical Group, Inc.(1)
10.34	Form of Management Services Agreement dated as of March 1, 2004 by and between Prospect Medical Systems, Inc. and Prospect NWOC Medical Group, Inc.(1)
10.35	Amendment Number One to Security Agreement, dated as of July 14, 1997, between Prospect Medical Systems, Inc. and Imperial Bank(2)
10.36	Collateral Assignment of Transaction Documents dated as of October 1, 2003, by and between Prospect Medical Systems, Inc. and Comerica Bank(1)
10.37	Collateral Assignment of Transaction Documents, dated as of July 14, 1997, between Prospect Medical Systems, Inc. and Imperial Bank(2)
10.38	Amendment Number One To Collateral Assignment of Transaction Documents, dated as of January 26, 2000, between Prospect Medical Systems, Inc. and Imperial Bank(1)
10.39	Security Agreement (Physician Group), dated as of July 14, 1997, between Prospect Medical Systems, Inc. and Santa Ana/Tustin Physicians Group, Inc.(2)
10.40	Amendment Number One to Security Agreement dated as of July 1, 1999 between Santa Ana/Tustin Physicians Group, Inc. and Prospect Medical Systems, Inc.(1)
10.41	Security Agreement dated as of October 1, 2003, between Prospect Professional Care Medical Group, Inc. and Prospect Medical Systems, Inc.(1)
10.42	Amended and Restated Credit Succession Agreement, dated as of July 14, 1997, among Prospect Medical Holdings, Inc., Gregg DeNicola, M.D., Santa Ana/Tustin Physicians Group, Inc., Prospect Medical Systems, Inc., Prospect Medical Group, Inc. and Imperial Bank(2)
10.43	Form of Amendment Number One to Amended and Restated Credit Succession Agreement, dated as of April 6, 2000, among Jacob Y. Terner, M.D., Prospect Medical Holdings, Inc., Santa Ana/Tustin Physicians Group, Inc., Sierra Primary Care Medical Group, Inc., Prospect Medical Systems, Inc., Prospect Medical Group, Inc. and Imperial Bank(1)
10.44	Joinder Agreement, dated as of January 26, 2000, among Sierra Medical Management, Inc., Jacob Y. Terner, M.D., Sierra Primary Care Medical Group, Inc., Gregg DeNicola, M.D., Prospect Medical Systems, Inc., Prospect Medical Group, Santa Ana/Tustin Physicians Group, Inc.(1)

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10.45	Amended and Restated Assignable Option Agreement, made as of September 2, 1998 and deemed to have been effective as of September 25, 1997, by and among Sierra Primary Care Medical Group, Inc., Sierra Medical Management, Inc. and Prospect Medical Group, Inc.(2)
10.46	Assignable Option Agreement dated as of October 1, 2003, by and among Prospect Medical Holdings, Inc., Prospect Professional Care Medical Group, Inc., and Prospect Medical Group, Inc.(1)
10.47	Intentionally Omitted.
10.48	Form of Second Amended and Restated Management Services Agreement, made as of September 15, 1998 and deemed to have been effective as of September 25, 1997, between Sierra Medical Management, Inc. and Sierra Primary Care Medical Group, Inc.(1)
10.49	Amendment to Management Services Agreement, made as of October 1, 1998, between Sierra Medical Management, Inc. and Sierra Primary Care Medical Group, Inc.(1)
10.50	Continuing Guaranty, dated as of September 25, 1997, delivered by Sierra Medical Management, Inc. to Imperial Bank(2)
10.51	Amended and Restated Security Agreement (Sierra Medical Management, Inc.), dated as of September 24, 2003, between Sierra Medical Management, Inc., and Comerica Bank, successor-by-merger to Comerica Bank-California, successor-by-merger to Imperial Bank(1)
10.52	Security Agreement—Stock Pledge, dated as of September 25, 1997, between Prospect Medical Holdings, Inc. and Imperial Bank(2)
10.53	Collateral Assignment of Transaction Documents, dated as of September 25, 1997, between Sierra Medical Management, Inc. and Imperial Bank(2)
10.54	Security Agreement, dated as of September 25, 1997, between Sierra Primary Care Medical Group, Inc. and Sierra Medical Management, Inc.(2)
10.55	Amendment Number One to Security Agreement dated as of September 6, 1999 between Sierra Primary Care Medical Group, Inc. and Sierra Medical Management, Inc.(1)
10.56	Intentionally Omitted.
10.57	Form of Amended and Restated Management Services Agreement, made as of September 15, 1998 and deemed to have been effective as of October 31, 1997, by and between Sierra Medical Management, Inc. and Pegasus Medical Group, Inc.(1)
10.58	Amendment to Management Services Agreement made as of October 1, 1998, by and between Sierra Medical Management, Inc. and Pegasus Medical Group, Inc.(1)
10.59	Amended and Restated Assignable Option Agreement, made as of September 2, 1998 and deemed to have been effective as of October 31, 1997, among Sierra Medical Management, Inc., Pegasus Medical Group, Inc. and Prospect Medical Group, Inc.(2)
10.60	Assignment and Assumption Agreement, by Marvin L. Ginsburg, M.D. Medical Corporation d/b/a A.V. Western Medical Group, Inc. to Pegasus Medical Group, Inc.(2)
10.61	Collateral Assignment of Transaction Documents, dated as of October 31, 1997, between Sierra Medical Management, Inc. and Imperial Bank(2)
10.62	Security Agreement (Physician Group), dated as of October 31, 1997, between Pegasus Medical Group, Inc. and Sierra Medical Management, Inc.(2)
10.63	Amendment Number One to Security Agreement dated as of July 6, 1999 between Pegasus Medical Group, Inc. and Sierra Medical Management, Inc.(1)
10.64	Intentionally Omitted.

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10.65	Form of $11,500,000 Amended and Restated Secured Revolving Note, dated July 3, 1999, executed by Prospect Medical Holdings, Inc. and made payable to Imperial Bank(1)
10.66	First Amendment to Amended and Restated Secured Revolving Note dated as of October 25, 2000 between Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.67	Third Amendment to Amended and Restated Secured Revolving Note dated as of October 25, 2000 between Comerica Bank-California, successor by merger to Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.68	Fifth Amendment to Amended and Restated Secured Revolving Note dated as of September 24, 2003, between Comerica Bank, successor-by-merger to Comerica Bank-California, successor-by-merger to Imperial Bank, and Prospect Medical Holdings, Inc.(1)
10.69	Term Loan Note dated October 25, 2000 in the original principal amount of $5,000,000 by Prospect Medical Holdings, Inc. in favor of Imperial Bank(1)
10.70	First Amendment to Term Loan Note entered into as of November 3, 2001 between Comerica Bank-California, successor-by-merger to Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.71	Second Amendment to Term Loan Note entered into as of February 1, 2002 between Comerica Bank-California, successor by merger to Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.72	Third Amendment to Term Loan Note dated as of July 12, 2002 between Comerica Bank-California, successor by merger to Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.73	Fourth Amendment to Term Loan Note dated as of September 24, 2003, between Comerica Bank, successor-by-merger to Comerica Bank-California, successor-by-merger to Imperial Bank, and Prospect Medical Holdings, Inc.(1)
10.74	Amended and Restated Warrant, issued as of February 6, 1998, by Prospect Medical Holdings, Inc. to Imperial Bank.(2)
10.75	Consulting Agreement, dated as of March 1, 1998, between Sierra Primary Care Medical Group, Inc. and Sinnadurai E. Moorthy, M.D.(2)
10.76	Employment Agreement made as of April 8, 2004, but effective on April 19, 2004, between Prospect Medical Holdings, Inc. and Mike Heather(1)
10.77	Form of Partnership Agreement dated July 1, 1999 between AMVI/MC Health Network, Inc. and Santa Ana/Tustin Physicians Group(1)
10.78	Intentionally Omitted.
10.79	Forbearance Agreement, dated as of January 25, 2002, between Prospect Medical Group, Inc. and Prospect Medical Holdings, Inc.(1)
10.80	Amendment to Forbearance Agreement, effective May 30, 2003, between Prospect Medical Group, Inc. and Prospect Medical Holdings, Inc.(1)
10.81	Collateral Substitution Agreement, dated as of January 25, 2002, between Prospect Medical Group, Inc., Prospect Medical Holdings, Inc., Foothill City, Ltd.(1)
10.82	Continuing Guaranty, effective May 30, 2003, by Jacob Y. Terner, M.D., in favor of Prospect Medical Group, Inc.(1)
10.83	Amendment to Collateral Substitution Agreement, effective May 30, 2003, among Prospect Medical Group, Inc., Prospect Medical Holdings, Inc., and Jacob Y. Terner, M.D.(1)

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10.84	Pledge Agreement, effective May 30, 2003, between Prospect Medical Group, Inc. and Jacob Y. Terner, M.D.(1)
10.85	Form of Placement Agency Agreement, dated November 1, 2003, between Prospect Medical Holdings, Inc. and Spencer Trask Ventures, Inc.(1)
10.86	Form of Amendment No. 1 to Placement Agency Agreement, dated December 30, 2003, between Prospect Medical Holdings, Inc. and Spencer Trask Ventures, Inc.(1)
10.87	Form of Finder’s Fee Agreement, dated January 15, 2004, between Prospect Medical Holdings, Inc. and Spencer Trask Ventures, Inc.(1)
10.88	Intentionally Omitted.
10.89	Form of Stockholders’ Agreement, dated January 15, 2004, by and among Prospect Medical Holdings, Inc., Spencer Trask Ventures, Inc., private placement purchasers of Series A Preferred Stock, “management stockholders” including Jacob Y. Terner, M.D., Catherine Dickson, Donna Vigil, R. Stewart Kahn and Linda Hodges, and “principal stockholders” including Spencer Trask Venture Investment Partners LLC, Paul Amir and the Herta and Paul Amir Family Trust(1)
10.90	Prospect Medical Holdings, Inc. 1998 Stock Option Plan(1)
10.91	First Amendment to Prospect Medical Holdings, Inc. 1998 Stock Option Plan(1)
10.92	Participating Physician Group Provider Services Agreement, effective March 1, 1999, between the Foundation Health Systems Affiliate(s) identified in Addendum A to the Agreement and Professional Care Medical Group IPA, a Participating Physician Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.93	Health Net Medicare+Choice (M+C) Addendum to the March 1, 1999 Participating Physician Group Provider Agreement between Health Net and Professional Care Medical Group IPA, effective October 1, 1999 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.94	Amendment to the March 1, 1999 Participating Physician Group Provider Services Agreement between Professional Care Medical Group IPA and Foundation Health Systems, Inc., effective July 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.95	Amendment to the March 1, 1999 Participating Physician Group Provider Services Agreement and all subsequent Amendments between Professional Care Medical Group IPA and Health Net Inc. Affiliates, formerly known as Foundation Health Systems Affiliates, effective October 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.96	Amendment to the March 1, 1999 Participating Physician Group Provider Services Agreement, between Professional Care Medical Group, IPA, and Health Net, Inc. Affiliates, effective April 14, 2003(1)
10.97	Assignment and Delegation of Participating Physician Group Provider Services Agreement and Consent to Assignment, effective as of October 1, 2003, between Professional Care Medical Group, IPA, Prospect Medical Group, and Health Net, Inc. Affiliates(1)

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10.98	Amendment to the March 1, 1999 Participating Physician Group Provider Services Agreement between Professional Care Medical Group, IPA and Health Net, Inc. Affiliates, as subsequently amended, effective January 1, 2004 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.99	CaliforniaCare Medical Services Agreement, effective November 1, 1999, between Blue Cross of California and Affiliates and Professional Care IPA Medical Group, Inc. (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(4)
10.100	Amendment to the November 1, 1999 Blue Cross Medical Services Agreement between Blue Cross of California and its Affiliates and Professional Care IPA Medical Group executed November 29, 1999 and November 19, 1999, respectively(1)
10.101	Amendment to the November 1, 1999 CaliforniaCare Medical Services Agreement between Blue Cross of California and its Affiliates and Professional Care IPA Medical Group, Inc. executed December 13, 1999 and November 30, 1999, respectively (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.102	Amendment to the November 1, 1999 CaliforniaCare Medical Services Agreement between Blue Cross of California and its Affiliates and Professional Care IPA, effective as of January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.103	Business Associate Amendment supplementing November 1, 1999 CaliforniaCare Medical Services Agreement between Blue Cross of California and Professional Care IPA, effective April 14, 2003(1)
10.104	Assignment and Consent to Assignment between Professional Care IPA Medical Group, Inc., Prospect Medical Group, Inc. and Blue Cross of California and its Affiliates, effective October 1, 2003(1)
10.105	Blue Cross Senior Secure Medicare+Choice Medical Services Agreement, effective November 1, 1999, between Blue Cross of California and Affiliates and Professional Care IPA Medical Group, Inc. (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.106	Amendment to November 1, 1999 Blue Cross Senior Secure Medicare Risk Professional Services executed December 3, 1999 and November 19, 1999, respectively(1)
10.107	Assignment and Consent to Assignment, effective October 1, 2003, between Professional Care IPA Medical Group, Inc., Prospect Medical Group, Inc. and Blue Cross of California and its Affiliates(1)
10.108	AIM Medical Services Agreement, effective May 1, 2001, between Blue Cross of California and Affiliates and Professional Care IPA Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(4)

87

10.109	PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation), effective June 1, 1999, between PacifiCare of California, Inc. and Professional Care IPA Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.110	Amendment Number One to the June 1, 1999 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Professional Care IPA Medical Group, effective June 1, 1999 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.111	Amendment Number 1 to the June 1, 1999 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California and Professional Care IPA Medical Group, effective January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.112	Amendment to the June 1, 1999 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California and Professional Care IPA Medical Group, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.113	Claims Management Agreement, among Prospect Medical Group, Professional Care IPA Medical Group and PacifiCare of California, effective October 1, 2003(3)
10.114	Notice Amendment to the June 1, 1999 PacifiCare of California Medical Group/IPA Services (Professional Capitation) Agreement, effective January 1, 2004(3)
10.115	HMO IPA Agreement, effective January 1, 2003, between Professional Care IPA Medical Group and California Physicians’ Service dba Blue Shield of California (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.116	Amendment No. 1 to HMO IPA/Medical Group Shared Provider Agreement between California Physicians’ Service dba Blue Shield of California and Professional Care IPA Medical Group, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.117	Participating Physician Group Provider Services Agreement, effective January 1, 1998, between the Foundation Health Systems Affiliate(s) identified in Addendum A to the Agreement and Prospect Medical Group, Inc., a Participating Physician Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(4)
10.118	Amendment to the January 1, 1998 Participating Physician Group Provider Services Agreement between Prospect Medical Group and Foundation Health Systems Affiliate(s), effective January 1, 1998(3)

88

10.119	Amendment to the January 1, 1998 Participating Physician Group Provider Services Agreement between Prospect Medical Group and Foundation Health Systems Affiliates, effective July 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.120	Amendment to the January 1, 1998 Participating Physician Group Provider Services Agreement, between Prospect Medical Group and Health Net, Inc. Affiliates, effective February 19, 2001(3)
10.121	Amendment to the January 1, 1998 Participating Physician Group Provider Services Agreement between Prospect Medical Group and Foundation Health Systems Affiliate(s), effective October 1, 2001 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.122	Amendment to the January 1, 1998 Participating Physician Group Provider Services Agreement between Prospect Medical Group and Health Net, Inc. Affiliates, effective April 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.123	CaliforniaCare Medical Services Agreement, effective on January 1, 1997, between Blue Cross of California and Affiliates and Prospect Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(4)
10.124	Letter of Agreement Serving as Addendum to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and Prospect Medical Group, effective January 1, 1997(3)
10.125	Letter of Agreement Serving as Addendum to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and Prospect Medical Group, effective January 1, 1997 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.126	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and Affiliates and Prospect Medical Group, effective May 1, 1997(3)
10.127	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and Affiliates and Prospect Medical Group, effective May 1, 1997(3)
10.128	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and its Affiliates and Prospect Medical Group, effective August 1, 1997 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.129	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement by and between Blue Cross of California and its Affiliates and Prospect Medical Group, effective July 1, 1999(3)
10.130	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement by and between Blue Cross of California and its Affiliates and Prospect Medical Group, effective January 1, 1999(3)

89

10.131	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and its Affiliates and Prospect Medical Group, effective January 1, 2001 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.132	PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation), effective January 1, 2001, between PacifiCare of California, Inc. and Prospect Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.133	First Amendment to January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Prospect Medical Group, effective January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.134	Second Amendment to January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Prospect Medical Group, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.135	Notice Amendment to the January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation)(3)
10.136	HMO IPA/Medical Group Shared Savings Provider Agreement between Prospect Medical Group Inc. and California Physicians’ Service, Inc. dba Blue Shield of California dated November 12, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.137	HMO IPA Agreement, effective November 1, 1995, between California Physicians’ Service dba Blue Shield of California and Prospect Medical Group, Inc. (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.138	Participating Physician Group Provider Services Agreement, effective January 1, 1998, between the Foundation Health Systems Affiliate(s) identified in Addendum A to the Agreement and Sierra Medical Group, Inc., a Participating Physician Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.139	Amendment to the January 1, 1998 Participating Physician Group Provider Services Agreement between Prospect Medical Group, Inc. on behalf of Sierra Medical Group and Foundation Health Systems Affiliate(s), effective November 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.140	Amendment to the January 1, 1998 Participating Physician Group Provider Services Agreement between Sierra Medical Group and Health Net, Inc. Affiliates, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)

90

10.141	PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) effective July 1, 1999, between PacifiCare of California, Inc. and Sierra Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.142	2001 Amendment to the July 1, 1999 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Sierra Medical Group, effective January 1, 2001 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.143	Express Referrals Amendment to the July 1, 1999 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Sierra Medical Group, effective October 1, 2002(3)
10.144	Third Amendment to the July 1, 1999 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Sierra Medical Group, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.145	Participating Physician Group Provider Services Agreement, effective June 1, 1998, between the Foundation Health Systems Affiliate(s) identified in Addendum A to the Agreement and A.V. Medical Group, a Participating Physician Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.146	Amendment to the June 1, 1998 Participating Physician Group Provider Services Agreement between A.V. Medical Group and Foundation Health Systems Affiliate(s), effective July 1, 1999(3)
10.147	Amendment to the June 1, 1998 Participating Physician Group Provider Services Agreement between A.V. Medical Group and Foundation Health Systems, effective November 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.148	Amendment to the June 1, 1998 Participating Physician Group Provider Services Agreement between A.V. Medical Group and Health Net, Inc. Affiliates, effective March 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.149	Participating Physician Group Provider Services Agreement, effective June 1, 2001, between the Health Net, Inc. Affiliate(s) identified in Addendum A to the Agreement and Northwest Orange County Medical Group, a Participating Physician Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.150	CaliforniaCare Medical Services Agreement, effective January 1, 1997, between Blue Cross of California and Affiliates and Northwest Orange County Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)

91

10.151	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and Affiliates and Northwest Orange County Medical Group, Inc., effective January 1, 1998(3)
10.152	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and its Affiliates and Northwest Orange County Medical Group, effective January 1, 1999(3)
10.153	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and its Affiliates and Northwest Orange County Medical Group, Inc., effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.154	PacifiCare of California Medical Group/IPA Services Agreement (Split Capitation), effective January 1, 2001, between PacifiCare of California, Inc. and Northwest Orange County Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.155	Amendment Number 1 to January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement (Split Capitation) between PacifiCare of California and Northwest Orange County Medical Group, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.156	Amendment Number 4 to PacifiCare of California Medical Group/IPA Services Agreement (Split Capitation) between PacifiCare of California and Northwest Orange County Medical Group, effective January 1, 2004 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.157	Health Plan and Physician Group Service Agreement, effective September 1, 1990, between CareAmerica Southern California, Inc. and Northwest Orange County Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.158	Amendment to September 1, 1990 Medicare+Choice Physician Group Service Agreement between California Physicians’ Service, Inc. dba Blue Shield of California and Northwest Orange County Medical Group, effective September 1, 1999(3)
10.159	Amendment to September 1, 1990 Medicare+Choice Physician Group Service Agreement between California Physicians’ Service, Inc. dba Blue Shield of California and Northwest Orange County Medical Group, effective December 1, 1999(3)
10.160	Amendment to September 1, 1990 Medicare+Choice Physician Group Service Agreement between California Physicians’ Service, Inc. dba Blue Shield of California and Northwest Orange County Medical Group, effective December 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)

92

10.161	Amendment to September 1, 1990 Medicare+Choice Physician Group Service Agreement between California Physicians’ Service, Inc. dba Blue Shield of California and Northwest Orange County Medical Group, effective January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.162	Amendment to September 1, 1990 Medicare+Choice Physician Group Service Agreement between California Physicians’ Service, Inc. dba Blue Shield of California and Northwest Orange County Medical Group, effective May 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.163	HMO IPA/Medical Group Shared Savings Provider Agreement, effective February 1, 2003, between Northwest Orange County Medical Group and California Physicians’ Service, Inc., dba Blue Shield of California (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.164	Amendment to HMO IPA/Medical Group Shared Savings Provider Agreement between California Physicians’ Service dba Blue Shield of California and Northwest Orange County Medical Group, effective February 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.165	CaliforniaCare Medical Services Agreement, effective January 1, 2001, between Blue Cross of California and Affiliates and Prospect Health Source Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.166	Letter of Agreement Serving as Addendum to the January 1, 2001 California Care Medical Services Agreement between Blue Cross of California and Prospect Health Source Medical Group, effective January 1, 2001 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.167	Amendment to the January 1, 2001 CaliforniaCare Medical Services Agreement between Blue Cross of California and its Affiliates and Prospect Health Source Medical Group, effective January 1, 2001 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.168	PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation), effective January 1, 2001, between PacifiCare of California, Inc. and Prospect Health Source Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.169	First Amendment to January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Prospect Health Source Medical Group, effective January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)

93

10.170	Second Amendment to January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Prospect Health Source Medical Group, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.171	HMO IPA/Medical Group Shared Savings Provider Agreement, effective July 1, 2003, between Prospect Health Source Medical Group and California Physicians’ Service, Inc. dba Blue Shield of California (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.172	Amendment No. 1 to July 1, 2003 HMO IPA/Medical Group Shared Savings Provider Agreement between Prospect Health Source Medical Group and California Physicians’ Service, Inc. dba Blue Shield of California, effective July 1, 2003(3)
10.173	Participating Physician Group Provider Services Agreement, effective March 1, 1999, between the Foundation Health Systems Affiliate(s) identified in Addendum A to the Agreement and StarCare Medical Group dba Gateway Medical Group, a Participating Physician Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.174	Health Net Medicare+Choice (M+C) Addendum to the March 1, 1999 Participating Physician Group Provider Services Agreement between Health Net and StarCare Medical Group dba Gateway Medical Group, effective October 1, 1999(3)
10.175	Amendment to the Participating Physician Group Provider Services Agreement between Foundation Health Systems Affiliates and StarCare Medical Group dba Gateway Medical Group, effective July 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.176	Amendment to the Participating Physician Group Provider Services Agreement between Foundation Health Systems Affiliates and StarCare Medical Group dba Gateway Medical Group, effective October 10, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.177	Amendment to the Participating Physician Group Provider Services Agreement between Health Net Inc., Affiliates and StarCare Medical Group dba Gateway Medical Group, effective February 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.178	CaliforniaCare Medical Services Agreement, effective January 1, 1997, between Blue Cross of California and Affiliates and Gateway Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(4)
10.179	Letter of Agreement Serving as Addendum to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and Gateway Medical Group, effective January 1, 1997 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)

94

10.180	Letter of Agreement Serving as Addendum to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and Gateway Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.181	Amendment to the January 1, 2000 CaliforniaCare Medical Services Agreement between Blue Cross of California and StarCare Medical Group dba Gateway Medical Group, Inc., effective January 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.182	Amendment to the January 1, 2000 CaliforniaCare Medical Services Agreement between Blue Cross of California and Gateway Medical Group, effective July 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.183	Amendment to the January 1, 2000 CaliforniaCare Medical Services Agreement between Blue Cross of California and StarCare Medical Group dba Gateway Medical Group, Inc., effective January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.184	Californiakids Medical Services Agreement, effective February 1, 2000, between Blue Cross of California and Affiliates and Gateway Medical Group, Inc. (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.185	Amendment to the January 1, 2000 Blue Cross Senior Secure Medicare+Choice Medical Services Agreement between Blue Cross of California and Affiliates and StarCare Medical Group dba Gateway Medical Group, Inc., effective January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.186	HMO IPA/Medical Group Shared Savings Provider Agreement, effective January 1, 2002, between Starcare Medical Group Inc., dba Gateway Medical Group, Inc. and California Physicians’ Service, Inc., dba Blue Shield of California (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.187	First Amendment to January 1, 2002 HMO IPA/Medical Group Shared Savings Provider Agreement between Starcare Medical Group Inc., dba Gateway Medical Group, Inc. and California Physicians’ Service, Inc., dba Blue Shield of California effective February 1, 2002(3)
10.188	PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation), effective January 1, 2001, between PacifiCare of California, Inc. and Gateway Physicians Medical Associates, Inc. (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934(3)
10.189	Amendment Number 1 to January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California and Gateway Physicians Medical Associates, Inc., effective January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)

95

10.190	Business Associate Amendment to the January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement between PacifiCare of California, Inc. and Gateway Physicians Medical Associates, Inc.(3)
10.191	Letter Amendment to the January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement between PacifiCare of California, Inc. and Gateway Physicians Medical Associates, Inc., dated November 15, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.192	Amendment Number 2 to the January 1, 2001 PacifiCare of California Medical Group/IPA (Professional Capitation) Services Agreement, between PacifiCare of California and Gateway Physicians Medical Associates, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.193	Form of Subscription Agreement dated as of January 15, 2004 between Prospect Medical Holdings and each purchaser of preferred stock(4)
10.194	Form of Cash Management Agreement among Prospect Medical Systems, Inc., Prospect Medical Holdings, Inc., and Prospect Medical Group, Inc., effective as of June 6, 1996(4)
10.195	Second Amendment to Prospect Medical Holdings, Inc. 1998 Stock Option Plan(5)
10.196	Amended and Restated Assignable Option Agreement dated September 27, 2004, by and among Prospect Medical Systems, Inc., Prospect Medical Group, Inc.,and Jacob Y. Terner, M.D.(5)
10.197	Management Services Agreement effective as of May 19, 2003, by and between Sierra Medical Management, Inc. and Antelope Valley Medical Associates, Inc.(5)
10.198	Amendment to Management Agreement, effective as of February 1, 2004 to that certain Management Agreement made and entered into as of January 1, 2003, entered into by and between Pinnacle Health Resources and StarCare Medical Group, Inc. dba Gateway Medical Group, Inc.(5)
10.199	Amendment to Management Agreement, effective as of February 1, 2004 to that certain Management Agreement made and entered into as of January 1, 2003, entered into by and between Pinnacle Health Resources and APAC Medical Group, Inc. dba Gateway Physicians Medical Associates, Inc.(5)
10.200	Security Agreement, effective as of March 1, 2004, entered into between Prospect NWOC Medical Group, Inc. dba Prospect Northwest Orange County Medical Group, Inc., and Prospect Medical Systems, Inc.(5)
10.201	Security Agreement, effective as of January 1, 2001, entered into between Prospect Health Source Medical Group, Inc. and Prospect Medical Systems, Inc.(5)
10.202	Security Agreement, effective as of February 1, 2004, entered into between StarCare Medical Group, Inc. dba Gateway Medical Group, Inc. and Pinnacle Health Resources(5)
10.203	Security Agreement effective as of February 1, 2004, entered into between APAC Medical Group, Inc. dba Gateway Physicians Medical Associates, Inc. and Pinnacle Health Resources(5)
10.204	Security Agreement, effective as of August 1, 1999, entered into between Nuestra Familia Medical Group and Prospect Medical Systems, Inc.(5)

96

10.205	Omnibus Amendment to Security Agreements dated as of September 27, 2004, entered into by and among Prospect Medical Systems, Inc., Sierra Medical Management, Inc., Pinnacle Health Resources, Prospect Medical Group, Inc., Santa/Ana Tustin Physicians Group, Inc., Sierra Primary Care Medical Group, A Medical Corporation, Pegasus Medical Group, Inc., Antelope Valley Medical Associates, Inc., Prospect Health Source Medical Group, Inc., Prospect Professional Care Medical Group, Inc., Prospect NWOC Medical Group, Inc., APAC Medical Group, Inc., StarCare Medical Group, Inc., and Nuestra Familia Medical Group(5)
10.206	Loan and Security Agreement entered into and effective as of September 27, 2004 among Residential Funding Corporation, Prospect Medical Holdings, Inc., Prospect Medical Group, Inc., Prospect Medical Group, Inc., and each of the other Credit Parties(5)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Loan and Security Agreement will be provided supplementally to the Commission upon request:
	Exhibit A Supplemental Terms and Conditions, Exhibit B Advance Request & Receivables Information Borrowing Certificate, Exhibit C Revolving Credit Borrowing Base Certificate, Exhibit D Closing Checklist, Exhibit E Interest Statement, Exhibit F Form of Secretary’s/Clerk Certificate, Exhibit G Form of Compliance Certificate, Exhibit H Financial Covenants Calculation Worksheet, Exhibit I-1 Form of Revolving Credit Note, Exhibit I-2 Form of Term Note, Exhibit I-3 Form of Intercompany Note, Exhibit J Form of Assignable Option Agreement, Exhibit K Form of Credit Succession Agreement, Schedule 3.2.2(b) Existing Convertible Stock, Schedule 8.5 Litigation Matters, Schedule 8.7 Credit Party Information, Capitated Contracts and Transaction Documents, Schedule 8.9 Tax Matters, Schedule 8.10 Government And Other Offsets, Schedule 8.12 ERISA Matters, Schedule 8.13 Authorized Capital/Outstanding Capital, Schedule 8.15 Deposit Accounts, Schedule 8.16 Environmental Matters, Schedule 8.17 Insurance Policies, Schedule 8.18 Commercial Tort Claims, Schedule 8.19 Intellectual Properties, Schedule 8.20 Labor Matters, Schedule 8.21 Healthcare Filings, Schedule 9.7 Existing Liens, Schedule 9.8(b) Permitted Indebtedness, Schedule 9.10 Transactions With Affiliates, Schedule 9.17 Post-Closing Obligations, Schedule 10.1 Leases
10.207	Revolving Credit Note dated September 27, 2004, executed by Prospect Medical Holdings, Inc., and Prospect Medical Group, Inc., made payable to Residential Funding Corporation(5)
10.208	Term Note dated September 27, 2004, executed by Prospect Medical Holdings, Inc., and Prospect Medical Group, Inc., made payable to Residential Funding Corporation(5)
10.209	Subordinated Intercompany Note dated September 27, 2004, executed by Prospect Medical Holdings, Inc., Prospect Medical Systems, Inc., Pinnacle Health Resources, Nuestra Familia Medical Group, Inc., Prospect Medical Group, Inc., Santa Ana/Tustin Physicians Group, Inc., Pegasus Medical Group, Inc., Antelope Valley Medical Associates, Inc., Prospect Health Source Medical Group, Inc., Prospect Professional Care Medical Group, Inc., Prospect NWOC Medical Group, Inc., APAC Medical Group, Inc., StarCare Medical Group, Inc., Sierra Medical Management, Inc., Sierra Primary Care Medical Group, A Medical Corporation(5)

97

10.210	Credit Succession Agreement, dated September 27, 2004, entered into by and among Jacob Y. Terner, M.D., Prospect Medical Holdings, Inc., Prospect Medical Group, Inc., Prospect Medical Systems, Inc., Sierra Medical Management, Inc., Pinnacle Health Resources, the following subsidiaries of Prospect Medical Group: Sierra Primary Care Medical Group, A Medical Corporation, Santa Ana/Tustin Physicians Group, Inc., Pegasus Medical Group, Inc., Antelope Valley Medical Associates, Inc., Nuestra Familia Medical Group, Inc., Prospect Health Source Medical Group, Inc., Prospect Professional Care Medical Group, Inc., Prospect NWOC Medical Group, Inc., APAC Medical Group, Inc., StarCare Medical Group, Inc. and Residential Funding Corporation(5)
10.211	Subordination Agreement dated September 27, 2004, by and among Prospect Medical Systems, Inc., Sierra Medical Management, Inc., Pinnacle Health Resources, Prospect Medical Holdings, Inc., Prospect Medical Group, Inc., each of the subsidiaries of Prospect Medical Group, Inc., signatory hereto, and Residential Funding Corporation(5)
10.212	Pledge Agreement, dated as of September 27, 2004 among Jacob Y. Terner, M.D. and Residential Funding Corporation(5)
10.213	Pledge Agreement, dated as of September 27, 2004 among Prospect Medical Group, Inc., and Residential Funding Corporation(5)
10.214	Pledge Agreement, dated as of September 27,2004 among Prospect Medical Holdings, Inc., and Residential Funding Corporation(5)
10.215	Pledge Agreement, dated as of September 27,2004 among Prospect Medical Systems, Inc., and Residential Funding Corporation(5)
10.216	Collateral Assignment of Transaction Documents has been executed and delivered as of September 27, 2004, by and between Sierra Medical Management, Inc., and Residential Funding Corporation(5)
10.217	Collateral Assignment of Transaction Documents has been executed and delivered as of September 27, 2004, by and between Pinnacle Health Resources and Residential Funding Corporation(5)
10.218	Collateral Assignment of Transaction Documents has been executed and delivered as of September 27, 2004, by and between Prospect Medical Systems, Inc., and Residential Funding Corporation(5)
10.219	Guaranty Inducement and Offset Agreement, dated as of September 27, 2004, entered into by and among Prospect Medical Group, Inc., Prospect Medical Holdings, Inc., Prospect Medical Systems, Inc., Sierra Medical Management, Inc., and Pinnacle Health Resources, Sierra Primary Care Medical Group, A Medical Corporation, Santa Ana/Tustin Physicians Group, Inc., Pegasus Medical Group, Inc., Antelope Valley Medical Associates, Inc., Nuestra Familia Medical Group, Inc., Prospect Health Source Medical Group, Inc., Prospect Professional Care Medical Group, Inc., Prospect NWOC Medical Group, Inc., APAC Medical Group, Inc., and StarCare Medical Group, Inc., and Residential Funding Corporation(5)
10.220	Power of Attorney executed by Prospect Medical Holdings, Inc., Prospect Medical Systems, Inc., Sierra Medical Management, Inc., Pinnacle Health Resources, Prospect Medical Group, Inc., Sierra Primary Care Medical Group, A Medical Corporation, Santa Ana/Tustin Physician Group, Inc., Pegasus Medical Group, Inc., Antelope Valley Medical Associates, Inc., Nuestra Familia Medical Group, Inc., Prospect Health Source Medical Group, Inc., Prospect Professional Care Medical Group, Inc., Prospect NWOC Medical Group, Inc., APAC Medical Group, Inc., and StarCare Medical Group, Inc., to Residential Funding Corporation, under that certain Loan and Security Agreement, dated as of September 27, 2004(5)

98

10.221	Form of Business Associate Agreement, effective September 27, 2004, entered into by and among APAC Medical Group, Inc., and Residential Funding Corporation(5)
10.222	Form of Business Associate Agreement, effective September 27, 2004, entered into by and among Prospect Health Source Medical Group, Inc., and Residential Funding Corporation(5)
10.223	Form of Business Associate Agreement, effective September 27, 2004, entered into by and among Prospect Professional Care Medical Group, Inc., and Residential Funding Corporation(5)
10.224	Form of Business Associate Agreement, effective September 27, 2004, entered into by and among Nuestra Familia Medical Group, Inc., and Residential Funding Corporation(5)
10.225	Form of Business Associate Agreement, effective September 27, 2004, entered into by and among Prospect NWOC Medical Group, Inc., and Residential Funding Corporation(5)
10.226	Form of Business Associate Agreement, effective September 27, 2004, entered into by and among StarCare Medical Group, Inc., and Residential Funding Corporation(5)
10.227	Form of Limited Consent, Omnibus Amendment No. 1 to the Loan Documents and Joinder Agreement, dated as of July 20, 2005, entered into by and among Residential Funding Corporation, Prospect Medical Holdings, Inc., Prospect Medical Group, Inc., and Prospect Medical Management, Inc.(6)
10.228	Form of stock option agreement used for incentive stock options granted under the registrant’s 1998 Stock Option Plan, as amended(7)
10.229	Form of stock option agreement used for non-qualified stock options granted under the registrant’s 1998 Stock Option Plan, as amended(7)
10.230	Form of Limited Consent, Omnibus Amendment No. 3 and Joinder Agreement to the Loan Documents, dated as of November 1, 2005, among Residential Funding Corporation, Prospect Medical Holdings, Inc., Prospect Medical Group, Inc., Prospect Medical Systems, Inc., Pinnacle Health Resources, Sierra Medical Management, Inc., Sierra Primary Care Medical Group, Nuestra Familia Medical Group, Inc., Santa Ana/Tustin Physicians Group, Inc., Pegasus Medical Group, Inc., Antelope Valley Medical Associates, Inc., Prospect Health Source Medical Group, Inc., Prospect Professional Care Medical Group, Inc., Prospect NWOC Medical Group, Inc., APAC Medical Group, Inc., Starcare Medical Group, Inc., Prospect Hospital Advisory Services, Inc., and Genesis Healthcare of Southern California, Inc.(8)
14.1	Code of Ethics(8)
21.1	List of Subsidiaries of Prospect Medical Holdings, Inc.(3)
23.1	Consent of Ernst & Young, LLP(8)
31.1	Certification of Chief Executive Officer pursuant to Rules 13a-14(a)/15d-14(a) under the Securities Exchange Act of 1934, as amended(8)
31.2	Certification of Chief Financial Officer pursuant to Rules 13a-14(a)/15d-14(a) under the Securities Exchange Act of 1934, as amended(8)
32.1	Certification of Chief Executive Officer pursuant to 18 U.S. C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002(8)
32.2	Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002(8)

99

(1)Previously filed as an exhibit to our Form 10 registration statement (the “Form 10”) on May 27, 2004, and incorporated herein by reference.

(2)Previously filed as an exhibit to our registration statement on Form S-1 (File No. 333-63801) on September 18, 1998, and incorporated herein by reference.

(3)Previously filed as an exhibit to Amendment No. 1 to the Form 10 on May 27, 2004, and incorporated herein by reference.

(4)Previously filed as an exhibit to Amendment No. 2 to the Form 10 on August 27, 2004, and incorporated herein by reference.

(5)Previously filed as an exhibit to Amendment No. 3 to the Form 10 on October 21, 2004, and incorporated herein by reference.

(6)Previously filed as an exhibit to our registration statement on Form S-1 (File No. 333-124915) on July 21, 2005, and incorporated herein by reference.

(7)Previously filed as an exhibit to our Form 8-K report filed on September 20, 2005.

(8)Filed herewith.

100

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

		PROSPECT MEDICAL HOLDINGS, INC.
		(Registrant)
Date: December 28, 2006	By:	/s/ JACOB Y. TERNER, M.D.
		Jacob Y. Terner, M.D.
		Chairman and Chief Executive Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

	Signature		Title		Date
/s/ JACOB Y. TERNER, M.D.		Chairman, Chief Executive Officer		December 28, 2006
Jacob Y. Terner, M.D.		and Director (Principal Executive Officer)
/s/ MIKE HEATHER		Chief Financial Officer (Principal		December 28, 2006
Mike Heather		Financial and Accounting Officer)
/s/ CATHERINE DICKSON		President, Chief Operating Officer		December 28, 2006
Catherine Dickson		and Director
/s/ DAVID A. LEVINSOHN		Director		December 28, 2006
David A. Levinsohn
/s/ KENNETH SCHWARTZ		Director		December 28, 2006
Kenneth Schwartz
/s/ JOEL S. KANTER		Director		December 28, 2006
Joel S. Kanter
/s/ GENE E. BURLESON		Director		December 28, 2006
Gene E. Burleson

101

INDEX TO FINANCIAL STATEMENTS AND
FINANCIAL STATEMENT SCHEDULE

	Page
Report of Independent Registered Public Accounting Firm	F-2
Consolidated Balance Sheets as of September 30, 2005 and 2006	F-3
Consolidated Statements of Income for the Years Ended September 30, 2004, 2005 and 2006	F-4
Consolidated Statements of Shareholders’ Equity for the Years Ended September 30, 2004, 2005 and 2006	F-5
Consolidated Statements of Cash Flows for the Years Ended September 30, 2004, 2005 and 2006	F-6
Notes to Consolidated Financial Statements	F-7
Report of Independent Registered Public Accounting Firm	F-34
Schedule II—Valuation and Qualifying Accounts	F-35

F-1

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors
Prospect Medical Holdings, Inc.

We have audited the consolidated balance sheets of Prospect Medical Holdings, Inc. (the Company), as of September 30, 2005 and 2006, and the related consolidated statements of income, shareholders’ equity and cash flows for each of the three years in the period ended September 30, 2006. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform and audit of the Company’s internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Prospect Medical Holdings, Inc., at September 30, 2005 and 2006, and the consolidated results of its operations and its cash flows for each of the three years in the period ended September 30, 2006, in conformity with U.S. generally accepted accounting principles.

As discussed in Note 1 to the consolidated financial statements, Prospect Medical Holdings, Inc. changed its method of accounting for Share-Based Payments in accordance with Statement of Financial Accounting Standards No. 123 (revised 2004) on October 1, 2005.

	/s/ ERNST & YOUNG LLP
Los Angeles, California
December 22, 2006

F-2

PROSPECT MEDICAL HOLDINGS, INC.

CONSOLIDATED BALANCE SHEETS

	September 30
	2005			2006
Assets
Current assets:
Cash and cash equivalents	$	16,949,304		$	16,623,407
Investments, primarily restricted certificates of deposit	1,100,000			836,244
Risk pool receivables	57,267			1,418,973
Other receivables, net of allowances of $802,000 and $509,000 at September 30, 2005 and 2006	1,940,536			1,916,883
Notes receivable, current portion	52,160			176,265
Prepaid expenses and other	646,932			645,466
Refundable income taxes	—			2,493,035
Deferred income taxes, net	1,904,137			657,678
Total current assets	22,650,336			24,767,951
Property, improvements and equipment:
Land	40,620			40,620
Leasehold improvements	726,973			984,934
Equipment	3,342,385			3,478,435
Furniture and fixtures	546,523			782,087
	4,656,501			5,286,076
Less accumulated depreciation and amortization	(3,454,282		)	(3,999,863		)
Property, improvements and equipment, net	1,202,219			1,286,213
Notes receivable, less current portion	572,979			413,577
Deposits	583,226			613,087
Goodwill	31,404,328			37,838,169
Other intangible assets, net	1,317,614			1,738,475
Total assets	$	57,730,702		$	66,657,472
Liabilities and shareholders’ equity
Current liabilities:
Accrued medical claims and other health care costs payable	$	11,532,328		$	11,400,000
Accounts payable and other accrued liabilities	9,799,968			8,191,849
Current maturities of long-term debt	2,000,000			5,300,000
Total current liabilities	23,332,296			24,891,849
Long-term debt less current maturities	6,166,667			6,700,000
Deferred income taxes	1,045,696			1,145,573
Other long-term liabilities	185,000			34,712
Total liabilities	30,729,659			32,772,134
Minority interest	65,405			81,881
Shareholders’ equity:
Preferred stock, $.01 par value, 5,000,000 shares authorized, none issued	—			—
Common stock, $.01 par value, 40,000,000 shares authorized, 6,640,362 and 7,186,977 issued and outstanding at September 30, 2005 and 2006	66,403			71,869
Additional paid-in capital	18,373,487			20,345,805
Retained earnings	8,495,748			13,385,783
	26,935,638			33,803,457
Total liabilities and shareholders’ equity	$	57,730,702		$	66,657,472

See accompanying notes.

F-3

PROSPECT MEDICAL HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF INCOME

	Year ended September 30
	2004			2005			2006
Revenues	$	129,516,437		$	133,518,379		$	135,796,277
Cost of revenues	95,975,041			96,371,197			97,184,201
Gross margin	33,541,396			37,147,182			38,612,076
Operating expenses:
General and administrative	24,335,510			27,228,736			30,205,352
Depreciation and amortization	732,806			948,017			1,513,170
	25,068,316			28,176,753			31,718,522
Operating income from unconsolidated joint venture	206,634			87,516			1,400,492
Operating income	8,679,714			9,057,945			8,294,046
Investment income	75,717			400,356			913,068
Interest expense	(90,803		)	(958,634		)	(1,107,081		)
Interest expense, net	(15,086		)	(558,278		)	(194,013		)
Equity in losses, and write down, of unconsolidated investment	—			(1,000,000		)	—
Income before income taxes	8,664,628			7,499,667			8,100,033
Income tax provision	3,524,704			3,415,178			3,193,522
Net income before minority interest	5,139,924			4,084,489			4,906,511
Minority interest	(12,681		)	(11,930		)	(16,476		)
Net income	$	5,127,243		$	4,072,559		$	4,890,035
Net earnings per common share:
Basic:
Basic earnings per share	$	1.19		$	0.83		$	0.71
Weighted average number of common shares outstanding	4,321,799			4,915,537			6,913,405
Diluted:
Diluted earnings per share	$	0.68		$	0.48		$	0.60
Weighted average number of common and common dilutive shares outstanding	7,547,140			8,470,411			8,106,652

See accompanying notes.

F-4

PROSPECT MEDICAL HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

	Class A
	Number of Shares	Common Stock		Preferred Shares		Preferred Stock			Additional Paid-in Capital			Deferred Compensation				Retained Earnings (Deficit)			Total
Balance at September 30, 2003	4,163,705	$	41,637	—		$	—		$	8,153,978			$	(349,522	)	$	(704,054	)	$	7,142,039
Issuance of common stock	150,820	1,508		—		—			378,002				—			—			379,510
Issuance of preferred shares	—	—		2,265,237		22,652			9,997,089				—			—			10,019,741
Options exercised	30,000	300		—		—			64,571				—			—			64,871
Change in deferred compensation	—	—		—		—			36,885				116,651			—			153,536
Net income	—	—		—		—			—				—			5,127,243			5,127,243
Balance at September 30, 2004	4,344,525	43,445		2,265,237		22,652			18,630,525				(232,871		)	4,423,189			22,886,940
Issuance of common stock	30,622	306		—		—			183,932				—			—			184,738
Conversion of preferred shares to common stock	2,265,215	22,652		(2,265,215	)	(22,652		)	—				—			—			—
Refund of fractional shares	—	—		(22	)	—			(50		)		—			—			(50		)
Additional costs related to private placement	—	—		—		—			(440,920		)		—			—			(440,920		)
Change in deferred compensation	—	—		—		—			—				232,871			—			232,871
Net income	—	—		—		—			—				—			4,072,559			4,072,559
Balance at September 30, 2005	6,640,362	66,403		—		—			18,373,487				—			8,495,748			26,935,638
Options exercised	546,615	5,466		—		—			1,334,372				—			—			1,339,838
Tax benefit of options exercised	—	—		—		—			605,868				—			—			605,868
Stock based compensation	—	—		—		—			32,078				—			—			32,078
Net income	—	—		—		—			—				—			4,890,035			4,890,035
Balance at September 30, 2006	7,168,977	$	71,869	—		$	—		$	20,345,805			$	—		$	13,385,783		$	33,803,457

See accompanying notes.

F-5

PROSPECT MEDICAL HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS

	Year ended September 30
	2004			2005			2006
Operating activities
Net income	$	5,127,243		$	4,072,559		$	4,890,035
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Depreciation and amortization	732,806			948,017			1,513,170
Equity in losses, and write down, of unconsolidated investment	—			1,000,000			—
Provision for bad debts	214,757			141,008			106,036
Loss on disposal of assets	13,589			190,241			1,691
Deferred income taxes, net	(385,617		)	(49,390		)	1,346,336
Change in deferred compensation	116,651			232,871			—
Stock based compensation	316,395			—			32,078
Excess benefits from options exercised	—			—			(605,868		)
Changes in assets and liabilities:
Risk pool receivables	1,098,132			30,713			(1,286,821		)
Other receivables	(147,498		)	(957,130		)	(77,886		)
Inventory	5,399			—			—
Prepaid expenses and other	(424,240		)	(555,373		)	7,711
Recoverable income taxes	—			—			(3,141,804		)
Deposits and other assets	(12,828		)	35,251			(32,012		)
Accrued medical claims and other health care costs payable	(1,579,942		)	(1,791,294		)	(998,723		)
Accounts payable and other accrued liabilities	(5,314,932		)	1,776,161			(966,931		)
Net cash provided by (used in) operating activities	(240,085		)	5,073,634			787,012
Investing activities
Purchase of property, improvements and equipment	(767,299		)	(282,945		)	(640,915		)
Proceeds from note receivable	169,637			273,469			35,298
Cash paid for acquisitions, net of cash received	(3,318,171		)	—			(6,560,892		)
(Increase)/decrease in restricted certificates of deposit	(252,816		)	(587,313		)	293,273
Capitalized expenses related to acquisitions	(305,685		)	238,573			(35,188		)
Investment in unconsolidated entity	—			(1,000,000		)	—
Other investing activities	—			1,753			16,476
Net cash used in investing activities	(4,474,334		)	(1,356,463		)	(6,891,948		)
Financing activities
Proceeds from sale of medical clinics	300,000			—			—
Repayment of note payable to shareholder	(500,000		)	—			—
Borrowings from term loan	10,000,000			—			4,000,000
Cash paid for deferred financing costs	(254,424		)	—			—
Borrowings on line of credit	10,100,000			1,000,000			4,500,000
Repayments on line of credit	(8,900,00		)	(6,000,000		)	(2,000,000		)
Repayments of note payable and capital leases	(2,401,923		)	(1,841,888		)	(2,666,667		)
Proceeds (expenses) from issuance of common and preferred stock	10,184,613			(256,733		)	1,339,838
Excess tax benefits from options exercised	—			—			605,868
Net cash provided by (used in) financing activities	18,528,266			(7,098,621		)	5,779,039
Increase (decrease) in cash and cash equivalents	13,813,847			(3,381,450		)	(325,897		)
Cash and cash equivalents at beginning of year	6,516,907			20,330,754			16,949,304
Cash and cash equivalents at end of year	$	20,330,754		$	16,949,304		$	16,623,407
Supplemental disclosure of cash flow information
Details of businesses acquired:
Fair value of assets acquired	$	19,161,171		$	—		$	9,329,556
Liabilities assumed or created	(8,661,171		)	—			(1,329,556		)
Less cash acquired	(7,181,829		)	—			(1,439,108		)
Net cash paid for acquisition	3,318,171			—			6,560,892
Common stock issued in exchange for services rendered	$	279,510		$	—		$	—

See accompanying notes.

F-6

PROSPECT MEDICAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2006

1.Operations and Significant Accounting Policies

Business and Basis of Presentation

Prospect Medical Holdings, Inc. (Prospect or the Company) is a Delaware corporation. The Company is a health care management services organization that develops integrated delivery systems, and provides medical management systems and services to affiliated medical organizations. The affiliated medical organizations employ and/or contract with physicians and professional medical corporations, and contract with managed care payors.

Prospect currently manages the provision of prepaid health care services for its affiliated medical organizations in Southern California. The Network consists of the following medical organizations as of September 30, 2006 (each, an “Affiliate”):

Prospect Medical Group, Inc. (PMG)
Sierra Primary Care Medical Group, a Medical Corporation (SPCMG)
Santa Ana-Tustin Physicians Group, Inc. (SATPG)
Pegasus Medical Group, Inc. (PEG)
Antelope Valley Medical Associates, Inc. (AVM)
Prospect Health Source Medical Group, Inc. (PHS)
Prospect Professional Care Medical Group, Inc. (PPM)
Prospect NWOC, Inc. (PNW)
Starcare Medical Group, Inc. (PSC)
APAC Medical Group, Inc. (APA)
Nuestra Famila Medical Group, Inc. (Nuestra)
AMVI/Prospect Health Joint Venture (AMVI/Prospect)
Genesis HealthCare of Southern California (Genesis)

All of these entities are wholly-owned by PMG, with the exception of Nuestra, which is 55% owned by PMG and AMVI/Prospect which is a 50/50 Joint Venture between AMVI and PMG. PMG is owned by a nominee physician shareholder who is also an employee, member of management and a shareholder of Prospect. The results of all of these entities, with the exception of AMVI/Prospect, are consolidated in the accompanying financial statements.

The Joint Venture was formed for the sole purpose of combining enrollment in order to meet minimum enrollment levels required for participation in the CalOPTIMA Medicaid (“Medi-Cal in California) program in Orange County, California. The joint venture ownership is set at 50/50 to prevent either party from exerting control over the other; however, AMVI and Prospect’s businesses are operated autonomously, and enrollees, financial results and cash flows are each separately tracked and recorded. In accordance with the joint venture partnership agreement, profits and losses are not split in accordance with the partnership ownership interest, but rather, are directly tied to the results generated by each separate portion of the business. Separate from any earnings we generate from our portion of business within the joint venture, we also earn fees for management services we provide to our partner in the joint venture. We account for our interest in the joint venture partnership using the equity method of accounting. We include in our financial statements only the net results attributable to those Medicaid enrollees specifically identified as assigned to us, together with the management fee that we charge for managing those

F-7

Medicaid enrollees specifically assigned to the other joint venture partner. Note 11 contains summarized unaudited financial information for the joint venture.

Prospect Medical Systems, one of the Company’s management company subsidiaries (PMS), has entered into an assignable option agreement with PMG and the nominee physician shareholder of PMG. Under the assignable option agreement, Prospect acquired an assignable option for a nominal amount from PMG and the nominee shareholder to purchase all or part of PMG’s assets (the Asset Option) and the right to designate the purchaser (successor physician) for all or part of PMG’s issued and outstanding stock held by the nominee physician shareholder (the Stock Option) in its sole discretion. The Company may also assign the assignable option agreement to any person. The assignable option agreement has an initial term of 30 years and is automatically extended for additional terms of 10 years each, as long as the term of the related management services agreement described below (the Management Agreement) is automatically extended. Upon termination of the Management Agreement with PMG, the related Asset Option and Stock Option are automatically and immediately exercised. The Asset and Stock Options may be exercised separately or simultaneously for a purchase price of $1,000 each. Under these nominee shareholder agreements, Prospect has the unilateral right to establish or effect a change of the nominee, at will, and without the consent of the nominee, on an unlimited basis and at nominal cost throughout the term of the Management Agreement. In addition to the Management Agreement with PMG, Prospect, through one of its management company subsidiaries, has a management agreement with each Affiliate. The term of the Management Agreements is generally 30 years. Prospect has an employment agreement with the current nominee shareholder of PMG in his capacity as the Chief Executive Officer of the Company. The employment agreement was for an initial term of three years and could not be terminated without cause, provided for a base compensation and certain customary benefits. Since the agreement is only for the employment of the nominee shareholder as the President of Prospect and not in his capacity as the nominee shareholder of PMG, the agreement does not affect Prospect’s ability to change the nominee shareholder at will. PMG is the nominee shareholder of SPCMG, SATPG, PEG, AVM, PHS, PPM, PNW, PSC, APA, Nuestra (as to a 55% interest) and Genesis.

The Company’s Affiliates have each entered into a Management Agreement whereby the Affiliate has agreed to pay a management fee to PMS or Sierra Medical Management, Inc. (SMM), as applicable (each of which is a wholly owned subsidiary of Prospect). The fee is based in part on the costs to the management company and on a percentage of revenues the Affiliate receives (i) for the performance of medical services by the Affiliate’s employees and independent contractor physicians and physician extenders, (ii) for all other services performed by the Affiliates, and (iii) as proceeds from the sale of assets or the merger or other business combination of the Affiliate. The management fee also includes a fixed fee for marketing and public relations services. The revenue from which this fee is determined includes medical capitation, all sums earned from participation in any risk pools and all fee-for-service revenue earned. Except in the case of Nuestra and AMVI/Prospect, the Management Agreements have initial terms of 30 years, renewable for successive 10-year periods thereafter, unless terminated by either party for cause. In the case of Nuestra, its Management Agreement has an initial 10 year term renewable for successive 1 year terms. In the case of AMVI/Prospect, its Management Agreement has a 1 year term with successive 1 year renewal terms. In return for payment of the management fee, Prospect has agreed to provide financial management, information systems, marketing, advertising, public relations, risk management, and administrative support for utilization review and quality of care. The Company has exclusive decision-making authority with respect to the establishment and preparation of operating and capital budgets, and the establishment of policies and procedures for the Affiliates, and makes recommendations for the development of guidelines for selection and hiring of health care professionals, compensation payable to such personnel, scope of services to be provided, patient acceptance policies, pricing of services, and contract negotiation and execution. At its cost, Prospect has assumed the obligations for all facilities, medical and non-medical supplies, and employment of non-physician personnel of its affiliated medical clinics. All remaining funds are remitted to the Affiliate, from which the Affiliate pays for the cost of all

F-8

medical services. The management fee earned by Prospect fluctuates based on the profitability of each wholly-owned Affiliate. With the exception of PHS, Prospect is allocated a 50% residual interest in the profits above 8% of the profits or a 50% residual interest in the losses of the Affiliate, after deduction for costs to the management company and physician compensation. Prospect is allocated a 40% residual interest in the profits or losses of PHS. The remaining balance is retained by the Affiliate.

The Management Agreements are not terminable by the Affiliates except in the case of gross negligence, fraud or other illegal acts of Prospect, or bankruptcy of the Company. Through the Management Agreements and the Company’s relationship with the nominee shareholder of each Affiliate, Prospect has exclusive authority over all decision-making related to the ongoing major or central operations of the physician practices. The Company, however, does not engage in the practice of medicine.

Further, Prospect’s rights under the Management Agreements are unilaterally salable or transferable. Based on the provisions of the Management Agreements and the assignable option agreement with PMG, Prospect has determined that it has a controlling financial interest in the Affiliates. Consequently, under applicable accounting principles, Prospect consolidates the revenues and expenses of all the Affiliates except AMVI/Prospect from the respective dates of execution of the Management Agreements. All significant inter-entity balances have been eliminated in consolidation. In the case of AMVI/Prospect, only that portion of the results which are contractually identified as Prospect’s are recognized in the financial statements, together with the management fee that the Company charges AMVI for managing AMVI’s share of the Joint Venture operations.

The Company consolidates all controlled subsidiaries, which control is effectuated through ownership of voting common stock or by other means. The subsidiaries which have been consolidated using Emerging Issues Task Force No. 97-2, “Application of FASB Statement No. 94 and APB Opinion No. 16 to Physician Practice Management Entities and Certain Other Entities with Contractual Management Agreements” (EITF 97-2), would also be consolidated under the provisions of Interpretation No. 46, “Consolidation of Variable Interest Entities, an interpretation of ARB No. 51” (FIN 46). The underlying entities (subsidiaries) have been determined to be variable interest entities due to the existence of a call option under which the Company has the ability to require the holders of all of the voting common stock of the underlying subsidiaries to sell their shares at a fixed nominal price ($1,000) to another designated physician chosen by the Company. This call option agreement represents rights provided through a variable interest other than the equity interest itself that caps the returns that could be earned by the equity holders. In addition, the Company has a management agreement with the subsidiaries and the holders of the voting common stock of the subsidiaries which allows the Company to direct all of the activities of the subsidiaries, retain all of the economic benefits and assume all of the risks associated with ownership of the subsidiaries. In this manner, the Company has all of the economic benefits and risks associated with the subsidiaries, but has disproportionately few voting rights (based on the terms of the equity). Substantially all of the activities of the subsidiaries are conducted on behalf of the Company and as such, the subsidiaries are variable interest entities due to the fact that they violate the anti-abuse clause provisions in FIN 46. As the Company retains all of the economic benefits and assumes all of the risks associated with ownership of the subsidiaries, the Company is considered to be the primary beneficiary of the activities of the subsidiaries. As a result, the Company must consolidate the underlying subsidiaries under FIN 46. All significant intercompany transactions have been eliminated in consolidation.

As of September 30, Prospect managed health care services to the following number of enrollees under contracts with various health plans:

	Commercial		Senior	MediCal
2004		168,500	15,500		14,400
2005		144,900	12,500		14,500
2006		140,300	14,100		17,000

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Related Party Transactions

We have an employment agreement with our Chief Executive Officer, Jacob Y. Terner that runs through August 1, 2008 and provides for compensation of $250,000 per year. The agreement further provides that if we terminate Dr. Terner’s employment without cause, we will be required to pay him $12,500 for each month of past service as our Chief Executive Officer, commencing as of July 31, 1996. The Company’s maximum contingent obligation under this termination provision was frozen at $1,237,500.

Prospect Medical Group, Inc. (PMG), which is wholly owned by Dr. Terner as the nominee physician shareholder, and whose accounts are consolidated in these financial statements under EITF 97-2, maintains an intercompany account receivable due from Prospect Medical Holdings, Inc. The intercompany receivable was created in connection with previous acquisitions. In the event that PMG is required by the health maintenance organizations (HMO’s) or regulatory agencies to maintain a positive tangible net equity and positive working capital, Dr. Terner had previously agreed to personally guarantee the intercompany account receivable due from Prospect Medical Holdings, Inc. up to a level sufficient to enable PMG to attain positive tangible net equity and working capital.

On June 1, 2003, in consideration for Dr. Terner’s personal guarantee and pledge, the Compensation Committee of the Board of Directors granted to Dr. Terner a six-year, non-qualified stock option to purchase 800,000 shares of common stock at $3.00 per share. During its term, Dr. Terner’s personal guarantee was supported through the pledge of certain of his personal assets. Dr. Terner agreed to maintain his personal guarantee and collateral in effect until PMG had positive tangible net equity. This personal guarantee arrangement was terminated by the Board of directors effective January 19, 2005.

See Notes 3 and 7 regarding stock transactions.

Medical Revenues and Cost Recognition

Revenues are comprised of the following amounts:

	Year Ended September 30
	2004		2005		2006
Capitation	$	125,860,567	$	129,143,656	$	131,436,858
Fee for service	2,546,444		2,232,059		2,074,104
Management fees	841,152		806,788		1,233,027
Other	268,274		1,335,876		1,052,288
Total revenues	$	129,516,437	$	133,518,379	$	135,796,277

Operating revenue of the Company consists primarily of fees for medical services provided by the Affiliates under capitated contracts with various managed care providers including health maintenance organizations (HMOs) or under fee-for-service arrangements. Capitation revenue under HMO contracts is prepaid monthly to the Affiliates based on the number of enrollees electing any one of the Affiliates as their health care provider. HMO contracts also include provisions to share in the risk for hospitalization whereby the Affiliate can earn additional incentive revenue or incur penalties based upon the utilization of hospital services. Except for two contracts, representing a small percentage of the Company’s enrollees, where the Company is contractually obligated for downside risk, any shared risk deficits are not payable until and unless the Company generates future risk sharing surpluses, or if the HMO withholds a portion of the capitation revenue to fund any risk share deficits. At the termination of the HMO contract, any accumulated risk share deficit is extinguished. Estimated shared-risk amounts receivable from the HMOs are recorded based upon estimated hospital utilization and estimated associated costs incurred by assigned HMO enrollees, compared to budgeted costs. Estimates are based on prior year experience, current year utilization, medical cost trends, interim settlement reports from HMOs and other information and are inherently subject to uncertainties. Risk pools for the prior contract years are generally final settled in the

F-10

third or fourth quarter of the following fiscal year. Differences between actual contract settlements and estimated receivables relating to HMO risk-sharing arrangements are recorded in the year of final settlement.

See “Concentrations of Credit Risks” below for details of significant portion of revenue received from four HMOs.

Fiscal 2004, 2005 and 2006, net patient service revenues include approximately, $555,000, $1,007,000 and $2,376,000 respectively, of additional revenues due to favorable settlements on prior contractual year risk-sharing arrangements. At September 30, 2005 and 2006, contingent liabilities for risk-pool deficits that may be offset against future surpluses were $11,612,172 and $9,495,235, respectively, based on the available information from the health plans.

In addition to risk-sharing revenues, the Company also receives incentives under “pay-for-performance” programs for quality medical care based on various criteria. These incentives, which are included in other revenues, are generally recorded in the third and fourth quarters of our fiscal year and are recorded when such amounts are known.

Capitation revenue under HMO contracts (net of capitation withheld to fund risk share deficits) is recognized in the month in which the Affiliates are obligated to provide services. Minor ongoing adjustments to prior months’ capitation, primarily arising from contracted HMOs’ finalizing of monthly patient eligibility data for additions or subtractions of enrollees, are recognized in the month they are communicated to the Company. Additionally, in calendar 2004, Medicare began a four year phase-in of a revised capitation model for managed care beneficiaries. Previously, monthly capitation revenue was based on age, sex and location determined prospectively and was not subject to adjustments. Under the revised payment model referred to as the “Risk Adjustment model,” Medicare compensates managed care organizations and providers based on the sickness (“acuity”) of each individual enrollee. Health Plans and providers with higher acuity enrollees will receive more and those with healthier enrollees will receive less. In 2006 Medicare is in the third year of the four year phase-in period. Under Risk Adjustment, capitation is determined based on health severity measured using patient encounter data. Capitation is paid on an interim basis based on data submitted for the enrollee for the preceding year and is adjusted in subsequent periods (generally in the fourth quarter) after the final data is compiled. Positive or negative capitation adjustments are made for seniors with conditions requiring more or less healthcare services than assumed in the interim payments. Since the Company does not currently have the ability to reliably predict these adjustments, periodic changes in capitation amounts earned as a result of Risk Adjustment are recognized in the year to which they relate, generally in the fourth quarter, when those changes are communicated by the health plans to the Company. We received and recorded as a reduction to revenue approximately $1.5 million in negative capitation risk adjustments in the fourth quarter of fiscal 2006 pertaining to fiscal 2006. In the fourth quarter of the fiscal 2005, the Company received and recorded $4 million in positive capitation risk adjustments pertaining to fiscal 2005 services.

Fee-for-service revenues are recognized when the services have been performed. Management fee revenue is earned in the month the services have been delivered. Fee for service revenues are recorded net of allowances to reduce billed amounts to estimated contractually entitled amounts. All receivables are recorded net of an allowance for bad debts. Uncollectible amounts are written off when collection efforts have ceased, or amounts have been turned over to an outside collection agency.

Management fee arrangements provide for compensation ranging from 8.5% of revenues to 15% of revenues. The Company also provides management services to affiliated providers whose results are consolidated in the Company’s financial statements under management fee arrangements based on cost, a fixed marketing fee, a percentage of revenues and a percentage of net income or loss. Revenues and expenses relating to these inter-entity agreements have been eliminated in consolidation.

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We present segment information externally the same way management uses financial data internally to make operating decisions and assess performance. Because we manage health care services that are contracted for as part of bundled managed care products to members of all ages, we have one reportable operating segment.

In connection with providing services to HMO enrollees, the Affiliates are responsible for the medical services their affiliated physicians provide to assigned HMO enrollees. Under the OneCare contract with CalOptima administered through the AMVI/Prospect joint venture, the Company is required to pay medical costs at least equal to 85% of the capitation revenue. The cost of health services is recognized in the period in which it is provided and includes an estimate of the cost of services which have been incurred but not yet reported. The estimate for accrued medical costs is based on projections of costs using historical studies of claims paid and adjusted for seasonality, utilization and cost trends. These estimates are subject to trends in loss severity and frequency. Although considerable variability is inherent in such estimates, management records its best estimate of the amount of medical claims incurred at each reporting period. Estimates are continually monitored and reviewed and, as settlements are made or estimates adjusted, differences are reflected in current operations. See Note 10 for changes in claims estimates during each of the three years ended September 30, 2006.

In addition to contractual reimbursements to providers, the Company also makes discretionary incentive payments to physicians, which are in large part based on the pay-for-performance and shared risk revenues and favorable senior capitation risk adjustment payments. Since the Company records these revenues generally in the third or fourth quarter of each fiscal year when the incentives and capitation adjustments due from the health plans are known, the Company also records the discretionary physician bonuses in the same period. In fiscal 2004 and 2005, the Company recorded discretionary incentive payments to providers totaling $1,286,000 and $2,579,000. No discretionary incentives were recorded in fiscal 2006.

We also regularly evaluate the need to establish premium deficiency reserves for the probability that anticipated future health care costs could exceed future capitation payments from HMOs. To date, we have determined that no premium deficiency reserves have been necessary.

Property, Improvements and Equipment

Property, improvements and equipment are stated on the basis of cost. Depreciation of equipment is provided using the straight-line method over the estimated useful lives of the assets, and amortization of leasehold improvements is provided using the straight-line basis over the shorter of the lease period or the estimated useful lives of the leasehold improvements. Leasehold improvements are depreciated over five years, equipment is depreciated over three to five years and furniture and fixtures is depreciated over five to seven years. Capitalized lease obligations are amortized over the life of the lease. Amortization for capitalized assets under lease agreements is included in depreciation expense.

Depreciation expense was $494,938 and $555,230 for the years ended September 30, 2005 and 2006, respectively.

Goodwill and Other Intangible Assets

Goodwill and related intangible assets totaling $37,039,444 and $44,852,084 at September 30, 2005 and 2006, respectively (see tables below under this heading), arose primarily as the result of the acquisitions of the physician organizations. Related intangible assets consist of the fair value of acquired HMO contracts, covenants not-to-compete, trade name and enrollee membership.

Goodwill represents the excess of the consideration paid and liabilities assumed over the fair value of the assets acquired, including identifiable intangible assets. In conjunction with these acquisitions,

F-12

management of the Company has reviewed the allocation of the excess of costs (including costs incurred related to the acquisitions) over net assets acquired, and has determined, to date, that these costs (goodwill) are allocable primarily to the operating platforms acquired which allowed the Company to expand its geographical territory through the addition of the existing renewable HMO contracts included in the acquisitions. These HMO contracts have historically been renewed each year with the acquired physician organizations and the HMOs are currently not offering additional contracts to similarly situated physician organizations in the same territories. Such acquisitions are discussed further in Note 2 below.

Goodwill and related intangible assets have been recorded at cost and were, through September 30, 2001, being amortized on the straight-line method over an average life of 20 years. Related identifiable intangible assets, consisting of $2,120,000 ascribed to enrolled member accounts that were being amortized over 48 months, had been fully amortized as of September 30, 2001.

Effective October 1, 2001, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 142, “Goodwill and Other Intangible Assets.” Upon adoption, goodwill and other intangible assets with indefinite useful lives are no longer amortized; rather they are reviewed annually for impairment or more frequently if impairment indicators arise. Impairment is the condition that exists when the carrying amount of goodwill exceeds its implied fair value. A two-step impairment test is used to identify potential goodwill impairment and to measure the amount of goodwill impairment loss to be recognized (if any).

In accordance with SFAS No. 142, the Company has determined that the affiliated physician organizations comprise a single operating segment, with each affiliated physician organization a component of the operating segment. While each affiliated physician organization earns revenues, incurs expenses and produces discrete financial information (including balance sheets and statements of operations), the affiliated physician organizations are similarly organized and operated to provide managed health care services. They share similar characteristics in the enrollees they serve, the nature of services provided and the method by which medical care is rendered. The affiliated physician organizations are centrally managed, sharing assets and resources, including executive management, payor and provider contracting, claims and utilization management, information technology, legal, financial accounting, risk management and human resource support. The affiliated physician organizations are also subject to similar regulatory environments and long-term economic prospects. They form an integrated medical network that support and benefit from each other in delivering care to the Company’s patient base. Since goodwill is recoverable from these affiliated physician organizations working in concert, the groups have been aggregated into a single reporting unit for the purpose of goodwill impairment testing in accordance with SFAS No. 142. Similarly, the Company has also determined that the affiliated physician organizations represent a single operating segment for financial reporting under SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information,” since the Company presents segment information externally the same way management uses financial data internally to make operating decisions, allocate resources and assess performance.

The Company tests for goodwill impairment in the fourth quarter of each year, or sooner if events or changes in circumstances indicate that the carrying amount may exceed the fair value. In evaluating whether indicators of impairment exist, we consider adverse changes in market value and/or stock price, laws and regulations, profitability, cash flows, our ability to maintain enrollment and renew payor contracts at favorable terms. The goodwill impairment test is a two-step process. The first step consists of estimating the fair value of the reporting unit based on a weighted combination of (i) the guideline company method that utilizes revenue multiples for comparable publicly-traded companies, and (ii) a discounted cash flow model that utilizes future cash flows, the timing of these cash flows, and a discount rate (or weighted average cost of capital which considers the cost of equity and cost of debt financing expected by a typical market participant) representing the time value of money and the inherent risk and uncertainty of the future cash flows. If the estimated fair value of the reporting unit is less than its carrying value, a second

F-13

step is performed to compute the amount of the impairment by determining the “implied fair value” of the goodwill, which is compared to its corresponding carrying value.

The annual impairment test, performed at September 30, 2005 and 2006, indicated that the fair value of the Company’s net assets exceeded the carrying value; thus goodwill was not impaired.

A summary schedule of the Company’s acquisition costs and accumulated amortization of goodwill and intangibles related to the acquisitions at September 30, 2005 and 2006 is as follows:

	Purchase Price		(Net Assets) Liabilities Assumed			Total Purchase Consideration in Excess of Net Tangible Assets Acquired				Professional Fees and Other Related Costs			Total
2005
Santa Ana/Tustin Physicians Group	$	5,000,000	$	(116,473	)		$	4,883,527			$	197,816	$	5,081,343
Sierra Medical Group	10,200,000		717,544				10,917,544				216,584		11,134,128
AV Western Medical Group	700,000		—				700,000				53,310		753,310
Antelope Valley Medical Group	2,000,000		—				2,000,000				104,425		2,104,425
Premier	630,000		—				630,000				68,153		698,153
Sherman Oaks	28,000		151,800				179,800				—		179,800
Prospect Health Source Medical Group	1,000,000		—				1,000,000				184,055		1,184,055
Prospect Professional Care Medical Group	7,050,000		119,009				7,169,009				200,419		7,369,428
Prospect NWOC	2,000,000		(2,022,393		)		(22,393		)		40,795		18,402
Gateway	8,500,000		(488,682		)		8,011,318				353,398		8,364,716
Other	—		—				—				151,684		151,684
	$	37,108,000	$	(1,639,195	)		$	35,468,805			$	1,570,639	37,039,444
Accumulated amortization													(4,520,451		)
													$	32,518,993

F-14

	Purchase Price		(Net Assets) Liabilities Assumed			Total Purchase Consideration in Excess of Net Tangible Assets Acquired				Professional Fees and Other Related Costs			Total
2006
Santa Ana/Tustin Physicians Group	$	5,000,000	$	(116,473	)		$	4,883,527			$	197,816	$	5,081,343
Sierra Medical Group	10,200,000		717,544				10,917,544				216,584		11,134,128
AV Western Medical Group	700,000		—				700,000				53,310		753,310
Antelope Valley Medical Group	2,000,000		—				2,000,000				104,425		2,104,425
Premier	630,000		—				630,000				68,153		698,153
Sherman Oaks	28,000		151,800				179,800				—		179,800
Prospect Health Source Medical Group	1,000,000		—				1,000,000				184,055		1,184,055
Prospect Professional Care Medical Group	7,050,000		119,009				7,169,009				200,419		7,369,428
Prospect NWOC	2,000,000		(2,022,393		)		(22,393		)		40,795		18,402
Gateway	8,500,000		(488,682		)		8,011,318				353,398		8,364,716
Genesis	8,000,000		(222,547		)		7,777,453				46,052		7,823,505
Other	—		—				—				140,819		140,819
	$	45,108,000	$	(1,861,742	)		43,246,258				1,605,826		44,852,084
Accumulated amortization													(5,376,916		)
													$	39,475,168

The tables above exclude unamortized deferred financing costs of $202,949 and $101,476 at September 30, 2005 and 2006.

Other intangibles at September 30, are as follows:

	2005			2006			Amortization Period
Customer relations	$	1,628,402		$	2,613,202		3 – 4 years
Covenants not to compete	50,000			249,200			2 – 3 years
Trade name	—			194,800			1.5 years
Deferred financing costs	304,424			304,424			3 years
Gross carrying value	1,982,826			3,361,626
Accumulated amortization	(665,212		)	(1,623,151		)
Other intangibles, net	1,317,614			1,738,475

Amortization expense for the years ended September 30, 2004, 2005 and 2006 was $213,130, $453,079 and $957,400, respectively.

Estimated amortization expense for each succeeding year is as follows:

2007	$	932,368
2008	533,857
2009	251,733
2010	20,517
2011	—

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Medical Malpractice Liability Insurance

Certain of the Affiliates maintain claims-made basis medical malpractice insurance coverage on employed physicians of up to $1,000,000 per incident and $3,000,000 in the aggregate on an annual basis. Claims-made coverage covers only those claims reported during the policy period. The Company renews the claims-made policy each year. Under the malpractice agreement with the carrier, the Company has pre-funded a tail liability policy to take effect in the event the claims-made policy is not renewed. The cost of this tail policy in the amount of $176,600, was expensed in prior years.

The individual physicians who contract with the Affiliates carry their own medical malpractice insurance.

Earnings Per Share

Basic earnings per share is computed by dividing net income by the weighted average number of common shares outstanding. Diluted earnings per share is computed by dividing net income by the weighted average number of common shares outstanding, after giving effect to potentially dilutive shares computed using the treasury stock method. Such shares are excluded if determined to be anti-dilutive. Common stock issued at below estimated fair value on the issuance date is included in weighted average number of common shares as if such shares have been outstanding for all periods presented.

The following is a reconciliation of the numerators and denominators used in the calculation of basic and diluted earnings per share for each period presented in the financial statements.

	Year ended September 30
	2004		2005		2006
Basic earnings per common share:
Numerator—net income	$	5,127,243	$	4,072,559	$	4,890,035
Denominator—
Weighted average number of common shares outstanding	4,321,799		4,915,537		6,913,405
Basic earnings per common share	$	1.19	$	0.83	$	0.71
Diluted earnings per common share:
Numerator—net income	$	5,127,243	$	4,072,559	$	4,890,035
Denominator—
Weighted average number of common shares outstanding	4,321,799		4,915,537		6,913,405
Dilutive stock options, warrants and preferred shares	3,225,341		3,554,874		1,193,247
	7,547,140		8,470,411		8,106,652
Diluted earnings per common share	$	0.68	$	0.48	$	0.60

As more fully discussed in Note 3, effective July 27, 2005, all shares of the Company’s Series A Convertible Preferred Stock outstanding automatically converted to a like number of shares of Common Stock.

Stock Options

The Company has stock option agreements with certain directors, officers and employees. On October 1, 2005, the Company adopted SFAS No. 123(R), “Share-Based Payment,” by applying the modified prospective method and the supplemental implementation guidance in Staff Accounting Bulletin (SAB) No. 107. SFAS No. 123(R) requires compensation cost for all share-based payments in exchange for

F-16

employee services (including employee stock options) to be measured at fair value and eliminates the intrinsic value method previously permitted under Accounting Principles Board (APB) Opinion 25, “Accounting for Stock Issued to Employees” and SFAS No. 123 “Accounting for Stock-Based Compensation.” Under APB No. 25, compensation costs were recognized only to the extent the market price of the underlying stock exceeded the exercise price on the date of grant. Since the Company generally issues shared-based awards at or above the market price of the underlying stock, these equity awards have not historically resulted in compensation expense.

Under the modified prospective method, prior periods are not restated to reflect the impact of SFAS No. 123(R). Compensation cost is recognized for all awards granted, modified or settled subsequent to the adoption date, or where the requisite service period has not been completed prior to the date of adoption. Compensation cost for awards granted prior to, but not vested as of the adoption date would be based on the same estimated grant-date fair value previously used for pro forma disclosure purposes under SFAS No. 123. Compensation costs for awards granted, modified, or settled after the adoption date are measured and recognized in the financial statements based on their grant date fair value, net of estimated forfeitures over the awards’ service period, in accordance with SFAS No. 123(R). The Company adopted the Black-Scholes option pricing model for estimating stock-based compensation after it became a publicly traded entity in May 2005 and continues to use the Black-Scholes option pricing model and a single option award approach to estimate the fair value of options granted. The adoption of SFAS No. 123R did not result in adjustments that are required to be reported as the cumulative effect of a change in accounting principle. Equity-based compensation, if any, is classified within the same line items as cash compensation paid to employees. Cash retained as a result of excess tax benefits relating to share-based payments are presented in the statement of cash flows as a financing cash inflow. Previously, the cash retained from excess tax benefits was presented in operating cash flows.

The adoption of SFAS No. 123(R) did not have a significant effect on the Company’s financial position and results of operations since the Company fully vested all remaining unvested portions of previously issued stock options in September 2005 and made insignificant grants thereafter as discussed below. Because none of the stock options whose vesting was accelerated had exercise prices below the market value of the Company’s stock, no expense was recognized upon the acceleration of vesting. The Company did not make other changes to the terms of the options, which generally vest pro-rata over 2 years (the requisite service period) and expire after 5 years from the date of grant.

Option activity for the year ended September 30, 2006 is summarized below:

	Shares		Weighted Average Exercise Price		Aggregate Intrinsic Vale			Weighted Average Remaining Contractual Terms (months)
Outstanding as of September 30, 2005	3,375,863			3.89
Granted	35,500			5.67
Exercised	(546,615	)		2.51
Forfeited	(52,501	)		5.54
Outstanding as of September 30, 2006	2,812,247			4.15		$	4,968,625		29
Vested or expected to vest as of September 30, 2006	2,788,914			4.14		4,963,958			29
Exercisable as of September 30, 2006	2,788,914			4.14		$	4,963,958		29

The aggregate intrinsic value is calculated as the difference between the exercise price of the underlying awards and the quoted price of our common stock for those awards that have an exercise price currently below the quoted value.

F-17

During the year ended September 30, 2006, the company granted 35,500 options and recognized compensation expense of $32,078 (included in general and administrative expenses). During the year ended September 30, 2006, options for 546,615 common shares were exercised for net proceeds of approximately $1,340,000 and 52,501 options were forfeited. The aggregate intrinsic value of the options exercised was $1,597,975. The Company realized net tax benefits of $605,868 from these exercises where the price paid was below the fair value of the common shares on the exercise date. The tax benefits reduced income tax payable and increased additional paid-in capital. At September 30, 2006, there are 23,333 in unvested awards. Compensation of $60,666 for the unvested awards will be recognized rateably over the two year vesting period.

Non-vested option activity for year ended Sptember 30, 2006 is summarized below:

	Shares	Weighted Average Grant Date Fair Value
Non-vested balance as of September 30, 2005	—		$	—
Granted	35,500		5.65
Vested	12,167		5.65
Forfeited	—		—
Non-vested balance as of September 30, 2006	23,333		$	5.65

The fair value of the options granted prior to the Company becoming a public reporting entity in May 2005 was estimated at the date of grant using the Minimum Value option model. Under SFAS No. 123 non-public companies were permitted to use minimum-value method to estimate compensation costs for pro-forma disclosure purposes, which effectively allowed those companies to value employee stock options using an assumed volatility of zero. The minimum value method is not an acceptable approach under SFAS No. 123(R) and the minimum-value disclosures for the fiscal 2004 are no longer provided. The fair value of the options granted after the Company became a public reporting entity was estimated at the date of the grant using the Black-Scholes option pricing model.

The following table illustrates the effect on net income if the Company had applied the fair value recognition provisions for options granted in September 2005 that were estimated using the Black-Scholes pricing model:

Net income, as reported	$	4,072,559
Add stock-based compensation under the intrinsic value method, included in net income as reported	139,723
Less stock-based compensation under the fair value method	(1,420,555		)
Pro forma net income	$	2,791,727
Basic earnings per share:
As reported	$	0.83
Pro forma	$	0.57
Diluted earnings per share:
As reported	$	0.48
Pro forma	$	0.33

F-18

The fair value for the 2005 option grants was estimated based on the following factors, expected term of 4 years, risk-free of 3.96%-4.18%, volatility of 71.4% and dividend yield of 0%.

Fair value for options granted during the year ended September 30, 2006 was estimated with the following weighted average assumptions:

	2006
Market price of the Company’s common stock on the date of grant	$	5.65-6.75
Weighted average expected life of the options	4 years
Risk-free interest rate	4.35-4.67		%
Volatility	53.00-63.00		%
Weighted average expected volatility	53.03		%
Dividend yield	0.00		%

The following table is a summary of options outstanding under all of the Company’s option plans as of September 30, 2006:

Range of Exercise Prices	Number  Outstanding		Weighted Average Remaining  Contractual Life (Months)		Weighted  Average  Exercise Price			Number  Exercisable	Weighted  Average  Exercise Price
$3.00		1,407,150		19		$	3.00	1,407,150		$	3.00
$4.86 - $5.65		1,125,597		39		$	5.00	1,102,264		$4.98
$6.45 - $7.15		279,500		38		$	6.51	279,500		$	6.51
$3.00 - $7.15		2,812,247		29		$4.15		2,788,914		$4.14

Cash and Cash Equivalents

Cash equivalents are considered to be all liquid investments with maturities of three months or less when purchased.

Restricted Investments

The Company is required to keep restricted deposits by certain HMOs for the payment of claims. Such restricted deposits are classified as current as they are restricted for payment of current liabilities.

Fair Value of Financial Instruments

The financial instruments reported in the accompanying consolidated balance sheets consist primarily of cash and cash equivalents, investments, accounts and notes receivable, notes payable and all other liabilities. The carrying amounts of current assets and liabilities approximate their fair value due to the relatively short period of time between the origination of the instruments and their expected realization.

The carrying amounts of notes payable and capital lease obligations approximate fair value since the outstanding debt relates primarily to a revolving bank loan and a bank term loan that bear interest at the prime rate plus applicable margin.

Concentrations of Credit Risk

Financial instruments which potentially subject the Company to concentrations of credit risk consist of cash held in financial institutions which exceeds the $100,000 insurance by the Federal Deposit Insurance Corporation, shared-risk and receivables due from health plans. The Company’s credit risk with respect to receivables is limited since amounts are generally due from large HMOs. Management reviews the

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financial condition of the financial institutions on a periodic basis and does not believe the concentration of cash results in a high level of risk.

For the fiscal years ended September 30, 2004, 2005 and 2006 our affiliated physician organizations received 79%-80% of their revenues from four HMOs as follows:

	Capitation Revenue Year Ended September 30, 2004		% of Total Capitation Revenue			Capitation Revenue Year Ended September 30, 2005		% of Total Capitation Revenue			Capitation Revenue Year Ended September 30, 2006		% of Total Capitation Revenue
PacifiCare	$	40,903,464		32	%	$	40,155,679		31	%	$	39,337,714		30	%
Health Net	25,933,742			21	%	25,224,324			20	%	27,113,638			21	%
Blue Cross	19,899,135			16	%	21,365,598			17	%	20,948,066			16	%
Blue Shield	13,467,152			11	%	14,802,756			11	%	15,954,577			12	%
Totals	$	100,203,493		80	%	$	101,548,357		79	%	$	103,353,995		79	%

Use of Estimates

The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and the disclosure of contingent assets and liabilities at the date and for the periods that the financial statements are prepared. Actual results could differ from those estimates. Principal areas requiring the use of estimates include settlements under risk-sharing programs, medical receivables, determination of allowances for uncollectible accounts, medical claims and accruals, impairment of long-lived and intangible assets, professional and general liability claims, reserves for potential absorption of claims unpaid by insolvent providers, reserves for the outcome of litigation and valuation allowances for deferred tax assets.

Recent Pronouncements

In May 2005, the Financial Accounting Standards Board (FASB) issued Statement No. 154 (SFAS No. 154), “Accounting Changes and Error Corrections,” which replaced APB Opinion No. 20, “Accounting Changes,” and SFAS No. 3, “Reporting Changes in Interim Financial Statements.” SFAS No. 154 requires retrospective application to prior periods’ financial statements of voluntary changes in accounting principles and changes required by a new accounting standard when the standard does not include specific transition provisions. Previous guidance required most voluntary changes in accounting principle to be recognized by including in net income of the period in which the change was made the cumulative effect of changing to the new accounting principle. SFAS No. 154 carries forward existing guidance regarding the reporting of the correction of an error and a change in accounting estimate. SFAS No. 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. Adoption of SFAS No. 154 as of October 1, 2006 is not expected to have a material effect on our consolidated financial position or results of operations.

In July 2006, the FASB issued Interpretation No. (FIN) 48, “Accounting for Uncertainty in Income Taxes, an interpretation of SFAS No. 109 “Accounting for Income Taxes.” FIN 48 clarifies the accounting for income taxes by prescribing the minimum recognition threshold a tax position is required to meet before being recognized in the financial statements. FIN 48 also provides guidance on derecognition, measurement, classification, interest and penalties, accounting in interim periods, disclosure and transition. In addition, FIN 48 excludes income taxes from the scope of SFAS No. 5, “Accounting for Contingencies.” FIN 48 is effective for fiscal years beginning after December 15, 2006. Differences between the amounts recognized in the consolidated balance sheets prior to the adoption of FIN 48 and the amounts reported after adoption are accounted for as a cumulative-effect adjustment to the beginning

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balance of retained earnings. Adoption of FIN 48 as of October 1, 2007 is not expected to have a material effect on our consolidated financial position or results of operations.

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements.” This Statement defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. This Statement applies under other accounting pronouncements that require or permit fair value measurements, the Board having previously concluded in those accounting pronouncements that fair value is the relevant measurement attribute. Accordingly, this Statement does not require any new fair value measurements. This Statement is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. The Company is currently evaluating the impact of the provisions of SFAS No. 157.

In September 2006, the Securities and Exchange Commission (“SEC”) issued Staff Accounting Bulletin (“SAB”) No. 108 regarding the process of quantifying financial statement misstatements. SAB No. 108 states that registrants should use both a balance sheet approach and an income statement approach when quantifying and evaluating materiality of a misstatement. The interpretations in SAB No. 108 contain guidance on correcting errors under the dual approach as well as provide transition guidance for correcting errors. This interpretation does not change the requirements within SFAS No. 154 for the correction of an error in financial statements. SAB No. 108 is effective for annual financial statements covering the first fiscal year ending after November 15, 2006. The Company will be required to adopt this interpretation for its fiscal year ending 2007.

Other recent accounting pronouncements issued by the FASB (including its Emerging Issues Task Force), the AICPA, and the SEC did not, or are not believed by management to, have a material impact on our present or future consolidated financial statements.

Reclassifications

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

2.Acquisitions

Prospect NWOC Medical Group

On February 1, 2004, PMG acquired the assets and assumed the liabilities of Northwest Orange County Medical Group, Inc. for $2,000,000. The name was simultaneously changed to Prospect NWOC Medical Group, Inc. (PNW), a wholly owned subsidiary of PMG. Related acquisition costs totaled $40,795. $200,000 of the purchase consideration was allocated to identifiable intangibles, specifically enrolled member accounts. Effective February 28, 2004, PNW entered into a new management services agreement with PMS with an initial 30-year term, renewable for additional 10-year terms thereafter. Revenues and expenses for this acquisition have been included in our consolidated results starting February 1, 2004.

Starcare Medical Group, Inc., APAC Medical Group, Inc. and Pinnacle Health Resources (the “Gateway” entities)

On February 1, 2004, PMG, acquired the assets and assumed the liabilities of Starcare Medical Group, Inc. (StarCare) and APAC Medical Group for a total of $4,000,000. Both entities became wholly owned subsidiaries of PMG. Also on that date, Prospect Medical Systems, Inc. acquired the management company for these medical groups, Pinnacle Heath Resources, for $4,450,000. $660,000 of the purchase consideration was allocated to identifiable intangibles, specifically enrolled member accounts, which is being amortized over 54 months. An additional $50,000 was paid for a covenant not to compete. Related

F-21

acquisition costs totaled $353,398. Revenues and expenses for this acquisition have been included in our consolidated results starting February 1, 2004.

StarCare Medical Group owned three clinics at the time of the acquisition. On April 1, 2004, we sold the three clinics for cash consideration of $300,000, promissory notes in the aggregate amount of $1,068,247 and the assumption of all operating commitments pertaining to the medical clinics. A nominal gain of $12,009 was recorded on the sale. We retained StarCare Medical Group in its capacity as an independent practice association (IPA). As a condition of StarCare Medical Group’s sale of the medical clinics, the acquiring buyer executed a provider agreement with StarCare Medical Group in StarCare’s capacity as an IPA.

Nuestra Familia Medical Group

During fiscal 2004 the Company increased its stake in Nuestra Familia Medical Group (Nuestra) from 50.2% to 55.02%. The purchase was in the form of a cash payment of $99,855 to certain of minority shareholders of Nuestra. The results of Nuestra have been included in the accompanying consolidated financial statements at the higher ownership percentage effective the date of the share purchase. The impact of this was not significant.

Genesis HealthCare of Southern California

On November 1, 2005, PMG acquired the outstanding stock of Genesis HealthCare of Southern California (Genesis) for $8,000,000 in cash. The purchase price was funded using $4,000,000 of the Company’s existing cash and a $4,000,000 term loan from Residential Funding Corporation (RFC). Revenues and expenses for this acquisition have been included in our consolidated results starting November 1, 2005. $194,800 of the purchase price was allocated to tradename. $199,200 to a covenant not-to-compete and $984,800 for customer relations, which are being amortized on a straight-line basis over 18 months to four years. The Company made a Section 338 election, and expects $7,777,452 of total goodwill and intangibles to be deductible for tax purposes.

Under the acquisition agreement, differences between the estimated claims and tax liabilities recorded on the closing date and the ultimate payment amounts will be paid to or received from the seller. The agreement also guarantees certain minimum risk pool incentives for the 2005 calendar year. To the extent actual amounts are less than the guaranteed amounts, we will be entitled to receive monies up to $500,000 from the seller, in addition to any other amounts due. These amounts will be recorded as purchase price adjustments if and when received. The seller also provides customary indemnification of up to $1.5 million for eligible non-medical and non-tax claims submitted within a two year period. The indemnification period is reduced ratably over 24 months. In conjunction with the acquisition, we have entered into an employment agreement with the sole selling shareholder of Genesis and two of its employees.

F-22

The following table summarizes the estimated fair values of the assets acquired and liabilities assumed, as of the date of acquisition, for the Gateway entities PNW and Genesis.

	Gateway		PNW		Genesis
Current assets	$	6,318,057	$	3,514,923	$	1,520,539
Property, improvements and equipment	1,029,317		—
Goodwill	7,301,318		29,118		6,398,652
Identifiable intangibles	710,000		200,000		1,378,800
Other assets acquired	58,437		—		31,565
Total assets	15,417,129		3,744,041		9,329,556
Current liabilities	6,368,562		1,744,041		1,329,556
Long-term liabilities	548,567		—		—
Total liabilities assumed	6,917,129		1,744,041		1,329,556
Net assets acquired	$	8,500,000	$	2,000,000	$8,000,000

The following unaudited pro forma information for the year ended September 30, 2004 gives effect to the PNW and Gateway acquisitions as if they had occurred on October 1, 2003. The unaudited pro forma information for the years ended September 30, 2005 and 2006 gives effect to the acquisition of Genesis, as if it had occurred on October 1, 2004. Such unaudited pro forma information is based on historical financial information with respect to the acquisition and does not include operational or other changes that might have been effected by the Company.

	Year ended September 30
	2004		2005		2006
	(unaudited)
Net revenue	$	144,861,104	$	143,996,320	$	136,685,731
Net income	5,402,438		4,230,102		4,919,300
Basic earnings per share	$	1.25	$	0.86	.71
Diluted earnings per share	$	0.64	$	0.50	.61

Investment in Brotman Medical Center, Inc (Hospital)

Effective August 31, 2005, the Company acquired an approximately 38% stake in Brotman Medical Center, Inc. for $1,000,000. The Company made the investment with the intention that it, with the Hospital, would be able to offer joint contracting to HMOs operating in the area surrounding the Hospital. The Hospital, previously owned by Tenet HealthCare, had been incurring significant operating deficits. The new investors in the Hospital, including Prospect, hoped to help turn around the Hospital operations and restore profitability.

During September 2005, the first month of operation under new ownership, the Hospital experienced a net loss of approximately $1,000,000, of which Prospect’s portion totaled approximately $400,000. The Hospital has continued to incur significant losses after September 30, 2005, and, with its limited capital, may not ultimately be able to survive.

Based on the Hospital’s significant operating deficits, uncertain ability to increase revenues and cut costs, and limited capital, management of Prospect believes that the remaining investment in Brotman Medical Center at September 30, 2005 was impaired and wrote off its entire investment in the Hospital as of September 30, 2005.

Prospect is not obligated, nor does it have any current intention, to invest any additional monies in the Hospital.

The company has not recognized any equity in earnings during 2006 as the Hospital continues to incur losses.

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3.Private Placement

The Company entered into a Private Placement Agency Agreement effective November 1, 2003. Per the terms of the agreement, the Company offered for sale through Spencer Trask Ventures, Inc., and its selected dealers, as exclusive agent for the Company, shares at $5.50 per share of the Company’s Series A Convertible Preferred Stock, $0.01 par value per share. Effective July 27, 2005, these shares were converted into common stock on a 1 to 1 basis.

In conjunction with the Private Placement, the Company issued warrants to purchase 659,409 shares of the Company’s common stock at $1.00 per share to Spencer Trask Investment Partners, LLC as a promotional fee. These warrants are exercisable at any time and expire on September 19, 2010. On November 3, 2003, 100,000 warrants were exercised and 100,000 shares of common stock were issued. The original warrant certificate was cancelled and reissued for 559,409 warrants at the same terms and conditions.

In addition to commissions and expenses, and the $1.00 warrants discussed above, Prospect also agreed to issue warrants to purchase 453,047 shares of the company’s Series A Convertible Preferred Stock to private placement investors at an exercise price of $5.50 per share. These warrants are exercisable at any time and expire 10 years from the date of issuance. Because, effective July 27, 2005, the Company’s Series A Convertible Stock was, by its terms, automatically converted to shares of common stock, these 453,047 warrants to buy Series A Convertible Preferred Stock now effectively represent the right to buy a like number of shares of common stock.

This offering was finalized on March 31, 2004, whereby a total of 2,265,237 shares of preferred stock were sold for gross proceeds of $12,458,802, related expenses of $2,439,061, and net cash proceeds of $10,019,741. The proceeds were used to complete the acquisitions of Starcare Medical Group, Inc., APAC Medical Group, Inc. and Pinnacle Health Resources, Inc. for $8,500,000 and to repay $1,750,000 borrowed through our bank line of credit to finance a portion of the cost to acquire Northwest Orange County Medical Group, Inc.

4.Notes Receivable

In connection with the April 1, 2004 sale of three clinics previously owned by StarCare Medical Group we received promissory notes in the aggregate amount of $1,068,247. There are three separate notes, each bearing interest at 5% per annum. The first note, in the original principal amount of $400,000, required monthly principal and interest payments of $34,243 through April 1, 2005. The second note, in the original principal amount of $424,994, requires monthly principal and interest payments of $5,448 through March 1, 2009 and a balloon payment of $181,155 on April 1, 2009. The third note, in the original principal amount of $243,253, is due in two payments of $121,626 on May 1, 2007 and $177,790 on April 1, 2009. The notes receivable are secured by all of the clinic assets and are personally guaranteed by each of the purchasers.

Current and non-current portions of the notes receivable as of September 30, 2006 were as follows:

Total principal outstanding	$	589,842
Less current maturities	(176,265		)
Non-current portion	$	413,577

F-24

Future minimum payments required under the notes receivable as of September 30, 2006 are as follows:

2007	$	190,704
2008	65,370
2009	391,630
2010	—
2011	—
Gross payments	647,704
Amount representing interest	(57,862		)
Total principal outstanding	$	589,842

5.Income Taxes

The Company accounts for income taxes under SFAS No. 109, “Accounting for Income Taxes” (SFAS No. 109), under which deferred income tax assets and liabilities are recognized for the differences between financial and income tax reporting bases of assets and liabilities based on enacted tax rates and laws.

The components of the provision for income taxes for the year ended September 30 are as follows:

	2004			2005			2006
Current:
Federal	$	3,112,220		$	2,746,453		$	1,410,516
State	913,266			738,031			436,670
	4,025,486			3,484,484			1,847,186
Deferred:
Federal	(358,650		)	(89,167		)	1,075,233
State	(142,132		)	19,861			271,103
	(500,782		)	(69,306		)	1,346,336
Total:
Federal	2,753,570			2,657,286			2,485,749
State	771,134			757,892			707,773
	$	3,524,704		$	3,415,178		$	3,193,522

F-25

Temporary differences and carryforward items that result in deferred income tax balances as of September 30 are as follows:

	2005			2006
State tax benefit	$	202,992		$	126,793
Amortization	(1,095,905		)	(1,235,121		)
Depreciation	27,264			53,463
Allowances for bad debts	342,906			218,259
Deferred compensation	248,820			—
Vacation accrual and other	224,766			217,882
Accrued physician bonuses	798,972			94,781
Creditor reserve	85,680			—
Deferred rent	22,946			35,644
Charitable contributions	—			404
Write off of investment in Hospital (capital loss)	400,000			400,000
Deferred income tax asset (liability)	1,258,441			(87,895		)
Valuation allowance (on capital loss)	(400,000		)	(400,000		)
Net deferred income tax asset (liability)	$	858,441		$	(487,895	)

Given uncertainty regarding the likelihood of the Company generating sufficient future capital gains to offset the unrealized capital loss associated with writing down its investment in the Hospital, the related deferred tax asset was fully reserved, effective September 30, 2005.

The differences between the provision for income tax expense at the federal statutory rate of 34% and that reflected in the consolidated statements of income are summarized as follows for the years ended September 30:

	2004			2005			2006
Tax provision at statutory rate		34	%		34	%		34	%
State taxes, net of federal benefit		6			6			6
Goodwill		1			—			—
Change in valuation allowance		—			6			—
Other		—			—			(1	)
		41	%		46	%		39	%

Taxes paid totaled approximately $3,932,000, $3,586,000 and $4,297,000 for the years ended September 30, 2004, 2005 and 2006, respectively.

6.Long-Term Debt

Long-term debt consists of the following:

	September 30
	2005			2006
Term loan	$	8,166,667		$	9,500,000
Revolving credit facility, interest at prime rate plus applicable margin	—			2,500,000
	8,166,667			12,000,000
Less current maturities	(2,000,000		)	(5,300,000		)
	$	6,166,667		$	6,700,000

F-26

On September 27, 2004, the Company entered into a senior secured credit facility with Residential Funding Corporation (RFC, a subsidiary of General Motors Acceptance Corporation) that consists of a $10,000,000 term loan and a $5,000,000 revolving credit facility. The term loan requires repayment of principal installments of $166,667 per month until September 27, 2007, at which time the entire remaining unpaid balance is due. Amounts outstanding under the term loan bear interest at a rate of prime plus 2% per annum (8.75% and 10.25% at September 30, 2005 and 2006, respectively). The Company may borrow, make repayments and re-borrow under the revolving credit facility until September 27, 2007. Amounts outstanding under the revolving credit facility bear interest at a rate of prime plus 0.5% per annum (7.25% and 8.75% as of September 30, 2005 and 2006 respectively). The Company is charged an unused line fee of 0.25% per annum payable monthly, calculated on the difference between the average daily usage of the revolving credit facility during each month and $5,000,000, the maximum amount of the revolving credit commitment. Both the term loan and the revolving credit facility are secured by substantially all of the Company’s assets, including the rights to receive capitation payments under HMO contracts. The Company is subject to certain financial covenants under the loan agreement, including a maximum senior debt/EBITDA ratio, minimum fixed charge coverage ratio, minimum consolidated net worth, minimum liquidity and a limit on capital expenditures. The Company is also restricted, without the lender’s consent, from using net proceeds of any sale of equity securities except to pay down indebtedness under the loan agreement. The Company may borrow amounts up to $5,000,000 under the revolving credit facility of an amount based on a percentage of capitation payments received by the Company over the prior two month less the principal amount then outstanding under the term loan and amounts already outstanding under the revolving credit facility.

On September 28, 2004, the Company borrowed $10,000,000 on the RFC term loan and paid off $662,682 under a term loan and revolving credit facility with Comerica Bank. The Company borrowed $5,000,000 on the RFC revolving credit facility on September 29, 2004, which was repaid in full on October 4, 2004.

In November 2005, in connection with the acquisition of Genesis, RFC provided the Company with an additional $4 million term loan on terms similar to the existing term loan. This additional loan requires monthly principal payments of $66,667 until September 27, 2007, at which time the remaining unpaid balance is due. In September 2006, the Company extended the maturity and expiration date of the term loan and revolving credit facility to January 31, 2008.

The Company exceeded the 1.50 maximum senior debt/EBITDA ratio as of September 30, 2004 and December 31, 2004. The actual senior debt/EBITDA ratio on those two dates was 1.57and 1.51 respectively. Effective April 7, 2005, RFC waived these covenant violations. RFC has, in addition, agreed to exclude certain items from the covenant computations for a twelve month period, which enabled the company to meet the minimum fixed charge coverage ratio at December 31, 2004. The company was in compliance with all of its loan covenants as of September 30, 2005. At September 30, 2006, the Company reported a fixed charge coverage ratio of 1.12 compared to the minimum required ratio of 1.25. In December 2006, the Company and RFC amended the credit agreement effective September 30, 2006 to reduce the ratio to 1.00 for the test periods ended September 30, 2006 through December 30, 2006. The minimum ratio for test periods thereafter will remain at 1.25. The Company believes that it will be able to comply with the adjusted minimum ratio through September 30, 2007. As a result, scheduled payments due after twelve months have been classified as non-current at September 30, 2006.

Interest paid totaled $90,802, $958,634 and $1,107,081 in fiscal 2004, 2005, and 2006, respectively.

Scheduled payments under current and long-term debt, as of September 30, 2006, are as follows:

2007	$	5,300,000
2008	6,700,000
Total minimum payments	$	12,000,000

F-27

7.Stock Transactions and Option Plans

Stock Options

The Company has stock option agreements with certain directors, officers and employees. A summary of the option agreements at September 30 is as follows:

	2004						2005						2006
	Options			Weighted Average Exercise Price			Options			Weighted Average Exercise Price			Options			Weighted Average Exercise Price
Outstanding, beginning of year	1,998,000				$	2.82	2,681,500				$	3.43	3,375,863				$	3.89
Granted	739,700				5.00		705,313				5.65		35,500				5.67
Exercised	(30,000		)		1.25		—				—		(546,615		)		2.51
Forfeited	(26,200		)		3.17		(10,950		)		5.93		(52,501		)		5.54
Expired	—				—		—				—		—				—
Outstanding, end of year	2,681,500				$	3.43	3,375,863				$	3.89	2,812,247				$	4.15
Exercisable, end of year	2,353,502				$	3.23	3,375,863				$	3.89	2,788,914				$	4.14
Price	$	1.25-$5.00					$	1.25-$7.15					$	3.00-$7.15

The weighted average remaining contractual life of stock options outstanding at September 30, 2005 and 2006 was 37 months and 29 months, respectively.

In May 2002, the Company extended the contractual terms on 210,000 options for four years beyond their original expiration date to the end of fiscal 2006. This represented a material modification of the award and the recognition of a new measurement date. The intrinsic value of the options as of the new measurement date was determined (defined as the difference between the fair value at the modification date as determined by independent appraisers and the exercise price). Total deferred compensation was amortized over the remaining future service period. Expense recognized as a result of the modification during fiscal 2004 and 2005 was $108,762,and $232,871, respectively.

In 2006, the Company issued options to purchase 35,500 common shares at an exercise price of $5.65 to $6.75. Stock-based compensation expense recognized during fiscal 2004 and 2005 under the intrinsic method was $44,773 and zero, respectively. Expense in fiscal 2006 under the fair value method was $32,078.

During September 2005, the Company fully vested all remaining unvested portions of previously issued stock options. Because the Company follows the intrinsic method of accounting for stock option grants, and none of the stock options whose vesting was accelerated had exercise prices below the market price of the Company’s stock, no expense was recognized upon the acceleration of vesting.

Warrants

In 1997, a warrant to purchase 132,375 shares of the Company’s common stock at $5.00 per share was issued to the Company’s lender in connection with obtaining a revolving credit facility. The warrant expired in July 2004. In 1998, another warrant to purchase 60,350 shares of the Company’s common stock at $5.00 per share was issued to the Company’s lender upon the amendment of the Company’s credit facility. This warrant was exercised in February 2005. An additional warrant to purchase 40,000 shares of the Company’s common stock at $3.00 per share was issued to the lender on July 3, 1999 in conjunction with a further amendment to the credit facility. This warrant expires in July 2006. All warrants issued to the bank were immediately exercisable.

F-28

In 2000, the Company also issued warrants to purchase 480,461 shares of the Company’s common stock at $5.00 per share to certain shareholders. The shareholders paid cash or converted outstanding loans in order to receive the warrants. The warrants were exercisable on January 31, 2002 and expire on January 31, 2007. No value was assigned to the issuance of these warrants as the exercise price exceeded the fair value of the underlying stock, estimated at $1.25 to $2.00 per share during this period, and there was either no or only nominal trading activity in the stock. Consequently, the Company determined that the fair value of the warrants was de minimis.

In conjunction with the March 2004 Private Placement (Note 3), the Company issued warrants to purchase 659,409 shares of the Company’s common stock at $1.00 per share to Spencer Trask Investment Partners, LLC., as a promotional fee. These warrants are exercisable at any time and expire on September 19, 2010. On November 3, 2003, 100,000 warrants were exercised and 100,000 shares of common stock were issued. The original warrant certificate was cancelled and reissued for 559,409 warrants at the same terms and conditions.

In addition to the $1.00 warrants discussed above, Prospect also agreed to issue warrants to purchase, at an exercise price of $5.50, a number of shares equal to twenty percent of the shares of Series A Convertible Preferred Stock sold in the Private Placement offering. Warrants to purchase 453,047 shares were issued. These warrants are exercisable at any time and expire 10 years from the date of issuance. Because the Series A Convertible Stock were automatically converted into shares of common stock on July 27, 2005, these warrants now effectively represent the right to buy a like number of shares of common stock.

On June 15, 2004, the Company issued warrants to purchase a total of 22,727 shares of common stock at a price of $5.50 per share to New Capital Advisors. These warrants were issued for services provided in connection with the March 2004 Private Placement, are exercisable at any time, and expire on June 15, 2011.

8.Commitments and Contingencies

Leases

The Company leases certain buildings and equipment under operating leases. Certain building leases contain renewal options for two consecutive five-year periods at the then market rent.

Future minimum rental payments required under operating leases that have initial or remaining non-cancelable lease terms in excess of one year as of September 30, 2006 are as follows:

	Operating Leases
2007	$	1,803,578
2008	1,619,765
2009	1,582,861
2010	1,291,040
2011	584,712
Thereafter	260,362
	$	7,142,318

Consolidated rent expense for 2004, 2005, and 2006 was $1,614,268, $1,664,374 and $1,706,843 respectively.

F-29

Regulatory Matters

Laws and regulations governing the Medicare program and health care generally are complex and subject to interpretation. Prospect and its affiliates believe that they are in compliance with all applicable laws and regulations and are not aware of any pending or threatened investigations involving allegations of potential wrongdoing. While no such regulatory inquiries have been made, compliance with such laws and regulations can be subject to future government review and interpretation as well as significant regulatory action including fines, penalties, and exclusion from the Medicare and Medicaid programs.

The Company’s affiliated physician organizations must comply with a minimum working capital, Tangible Net Equity (TNE), cash to claims ratio and claims payment requirements prescribed by the California Department of Managed Health Care. TNE is defined as net assets less intangibles and amounts due from affiliates, plus subordinated obligations. At September 30, 2006, the affiliated physician organizations were in compliance with those regulatory requirements.

NASD Inquiry

On February 3, 2004, the Company received a notice of inquiry from the National Association of Securities Dealers, Inc. (NASD), concerning trading in its common stock that took place around the time that it announced the first closing of a private placement of its Series A Preferred Stock. The Company responded to an NASD request for documents on February 12, 2004, and has received no further contacts from the NASD since that date. However, it is possible that the NASD could continue its inquiry or open a formal investigation and that the NASD or other government agencies could imitate enforcement proceedings if the NASD concluded that improprieties occurred in connection with the trading.

Litigation

St. Jude Medical Center   In 1998, Prospect initiated arbitration proceedings against St. Jude Medical Center (“St. Jude”) and PacifiCare of California (“PacifiCare”) for failure by St. Jude to provide an accurate accounting of hospital incentive pools for the years 1997, 1998 and 1999.

In November 2001, the Arbitrator awarded Prospect $1,200,000, plus interest, plus legal fees of approximately $1,000,000. PacifiCare was dismissed from the Prospect claim, and Prospect was ordered to pay PacifiCare’s legal fees of approximately $125,000. Approximately $1,200,000 was included in fiscal 2001 net patient service revenue, related to this matter.

In a counter-claim, the Arbitrator awarded St. Jude $275,000, plus interest. These amounts are also included in the fiscal 2001 financial statements.

In November 2001, Prospect received a partial payment of $925,000 related to the above amounts, St. Jude filed a petition to vacate the award, and Prospect filed a cross-petition to confirm the award. In December 2002, the Orange County Superior Court granted Prospect’s petition and entered judgment in favor of Prospect. St. Jude filed an appeal of this judgment.

On January 31, 2003, St. Jude paid Prospect approximately $1,492,000, reflecting the remaining amount due under the arbitration award, including interest and attorneys’ fees. The payment was made subject to Prospect’s agreement to repay this amount in the event the arbitration award was ultimately vacated as a result of further judicial proceedings.

Various appeals and other court actions ensued, related to portions of the arbitration award, interest thereon, and legal fees. Pending the final outcome of this matter, at September 30, 2003, we reserved approximately $700,000 primarily related to those amounts already received from St. Jude, but which remained subject to appeal.

F-30

During Prospect’s fourth quarter of fiscal 2005, following rulings by the California Court of Appeals which upheld the Arbitrator awards in favor of Prospect, but ruled that Prospect was responsible to St. Jude for approximately $71,000 of arbitration costs, the parties concluded a settlement agreement as to all disputed matters. That settlement agreement, dated July 7, 2005, stated that, upon Prospect paying the $71,000 to St. Jude (which we did), all portions of the prior litigation would have been satisfied, the parties would refrain from any further proceedings, and the parties would file the required stipulation with Superior Court, stipulating to the satisfaction of all prior judgments and the end of proceedings on the matter. On September 13, 2005, the Superior Court entered its order confirming these stipulations; following which, Prospect reversed the remaining legal reserve, effective in the fourth quarter ended September 30, 2005.

Other Matters   We and our affiliated physician organizations are parties to other legal actions arising in the ordinary course of business. We believe that liability, if any, under these claims will not have a material adverse effect on our consolidated financial position, results of operations, or cash flows.

9.Defined Contribution Plan

The Company sponsors a defined contribution plan covering substantially all employees who meet certain eligibility requirements. Under the plan, employees can contribute up to 15% of their annual compensation. The Company changed from matching 25% of the first 4% contributed to 100% of the first 3% and 50% of the next 2% contributed on or after January 1, 2006. The total expense under the plan was $49,099 in 2004, $102,498 in 2005 and $251,679 in 2006.

10.Incurred But Not Reported Claims Reserves

The following table presents the roll-forward of incurred but not reported, or IBNR, claims reserves as of the periods indicated:

	Year ended September 30
	2004			2005			2006
IBNR as of beginning of year	$	10,557,426		$	13,323,622		$	11,532,328
Health care claim expenses incurred during the year:
Related to current year	44,699,711			46,030,847			50,587,185
Related to prior year	(2,327,044		)	(855,164		)	(854,595		)
Total incurred	42,372,667			45,175,683			49,732,590
Health care claims paid during the year:
Related to current year	(33,295,082		)	(35,266,828		)	(39,488,526		)
Related to prior year	(7,268,752		)	(11,700,149		)	(11,242,787		)
Total paid	(40,563,834		)	(46,966,977		)	(50,731,313		)
IBNR acquired during the year	957,363			—			866,395
IBNR as of end of year	$	13,323,622		$	11,532,328		$	11,400,000

F-31

Following is a reconciliation of cost of medical services per our statements of income to healthcare claims expense reflected in the preceding table:

	Year ended September 30
	2004		2005		2006
Capitation expense	$	48,053,154	$	45,967,875	$	44,553,992
Fee-for-service claims expense	42,372,667		45,175,683		49,732,590
Other physician compensation	4,495,641		4,524,284		2,151,526
Other cost of revenues	1,053,579		703,355		746,093
Total cost of revenues	$	95,975,041	$	96,371,197	$	97,184,201

11.Joint Venture

As discussed at Note 1, the Company and an unrelated third party, AMVI/IMC Health Network, Inc. (“AMVI”) formed a joint venture to participate in the CalOPTIMA Medicaid (“Medi-Cal” in California) program in Orange County, California. The Company does not consolidate the joint venture. The Company includes in its financial statements only the net results attributable to those Medicaid enrollees specifically identified as assigned to it, together with the management fee that it charges the joint venture partner for managing those Medicaid enrollees specifically assigned to AMVI. Costs incurred by the Company in managing the joint venture are included in general and administrative expenses in the accompanying consolidated financial statements.

Summarized unaudited financial information for the unconsolidated joint venture at September 30, 2004, 2005 and 2006 and for each of the years then ended is as follows:

	2004			2005			2006
Cash	$	1,308,587		$	823,306		$	800,197
Receivables	514,524			914,113			4,294,542
Total assets	$	1,823,111		$	1,737,419		$	5,094,739
Accrued medical claims	$	659,807		$	575,671		$	2,420,031
Other payables	1,200,000			900,000			2,315,314
Other partner’s capital	424,170			260,748			358,394
Prospect’s capital	(460,866		)	1,000			1,000
Total liabilities and partners’ capital	$	1,823,111		$	1,737,419		$	5,094,739
Revenues	$	8,801,565		$	8,836,729		$	16,558,218
Income (loss) before income taxes	$	344,972		$	(101,403	)	$	846,489
Prospect’s equity income	$	206,634		$	87,516		$	1,400,492
Management fees earned by Prospect	$	841,153		$	806,788		$	851,838

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12.Quarterly Results of Operations (Unaudited)

The following is a summary of the quarterly results of operations for the years ended September 30, 2005 and 2006 in thousands, except per share data:

	For the quarter ended
	December 31, 2004			March 31, 2005			June 30, 2005		September 30, 2005
Total revenues		$	33,280		$	32,331	$	32,393		$	35,514
Gross margin		8,480			8,674		9,548			10,444
Income before income taxes		1,815			1,545		1,699			3,440
Net income before minority interest		1,087			926		1,025			2,046
Net income		$	1,087		$	922	$	1,015		$	1,049
Net earnings per common share:
Basic		$	0.25		$	0.20	$	0.22		$	0.17
Diluted		$	0.13		$	0.11	$	0.12		$	0.13

	For the quarter ended
	December 31, 2005			March 31, 2006			June 30, 2006		September 30, 2006
Total revenues		$	33,465		$	34,572	$	34,818		$	32,941
Gross margin		8,979			10,608		9,410			9,615
Income before income taxes		1,849			2,059		2,057			2,135
Net income before minority interest		1,104			1,234		1,313			1,256
Net income		$	1,103		$	1,229	$	1,304		$	1,254
Net earnings per common share:
Basic		$	0.16		$	0.18	$	0.19		$	0.18
Diluted		$	0.14		$	0.15	$	0.16		$	0.15

As more fully discussed in Note 1, during the fourth quarter of fiscal 2005 and 2006, the Company recorded approximately $4 million increase in capitation revenue and $1.5 million reduction in capitation revenue, respectively, under the Medicare risk-adjustment payment system related to services rendered in the respective fiscal years. Also, in the fourth quarter of fiscal 2006, the Company recorded $1.3 million in risk pool revenue compared to $0.7 million in the fourth quarter of fiscal 2005. Additionally, in the 2005 fourth quarter, the Company recorded physician and employee bonuses totaling approximately $2.8 million, recouped approximately $0.5 million of previously expensed transaction expenses upon the closing of its investment in Brotman Medical Center, and recorded approximately $0.6 million resulting from the favorable conclusion of a longstanding legal matter. The Company did not award discretionary physician bonuses in fiscal 2006.

F-33

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

We have audited the consolidated financial statements of Prospect Medical Holdings, Inc. as of September 30, 2005 and 2006, and for each of the three years in the period ended September 30, 2006, and have issued our report thereon dated December 22, 2006 (included elsewhere in this Form 10-K). Our audits also included the accompanying financial statement schedule. This schedule is the responsibility of the Company’s management. Our responsibility is to express an opinion based on our audits. In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein

	/s/ ERNST & yOUNG LLP
Los Angeles, California
December 22, 2006

F-34

PROSPECT MEDICAL HOLDINGS, INC.
SCHEDULE II—VALUATION AND QUALIFYING ACCOUNTS

	Balance at the Beginning of the Year			Charges to Operations			Deductions			Balance at the End of the Year
2004
Allowance for Doubtful Accounts		$	448,000		$	215,000		$	1,000		$	662,000
2005
Allowance for Doubtful Accounts		$	662,000		$	141,000		$	1,000		$	802,000
2006
Allowance for Doubtful Accounts		$	802,000		$	106,000		$	399,000		$	509,000

F-35

EXHIBIT INDEX

2.1	Agreement for the Purchase and Sale of Assets of Health Source Medical Group, Inc. dated as of November 7, 2000 between Prospect Medical Group, Inc. and Health Source Medical Group, Inc.(1)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Agreement for the Purchase and Sale of Assets will be provided supplementally to the Commission upon request: Exhibit 1.1 Assets, Exhibit 1.1(a)(i) Prospect Health Source Medical Group, Inc. Exclusive Primary Care Physician Services Agreement, Exhibit 1.1(a)(ii) Prospect Health Source Medical Group, Inc. Nonexclusive Specialist Physician Services Agreement, Exhibit 1.1 (g) Management Services Agreement, Exhibit 1.3 Assumed Liabilities, Exhibit 2.2 Purchase Price Allocation, Exhibit 5.1 Noncompetition Agreement, Exhibit 7.2(a) Bill of Sale/Assignment and Assumption Agreement, Exhibit 7.5(i) Guaranty of Purchaser’s Obligations by Prospect Medical Holdings, Inc., Exhibit 7.5(j) Prospect Health Source Medical Group, Inc. Organizational Documents, Schedule 3.3 Consents, Schedule 3.5 Accounts Receivable, Schedule 3.6 Title to Assets, Schedule 3.7(a) Inventory and Furniture, Fixtures, and Equipment at the Robertson Clinic, Schedule 3.7(b) Furniture, Fixtures, and Equipment used at Seller’s Former Administrative Office, Schedule 3.8 Contracts, Schedule 3.9 Litigation, Schedule 3.10 Violation of Law, Schedule 3.12 Employees and Employee Benefits, Schedule 3.15 Intellectual Property
2.2	Agreement of Purchase and Sale of Assets of Health Source Medical Group, Inc. dated as of May 1, 2001 among David M. Frisch, M.D., Prospect Medical Group, Inc., Prospect Health Source Medical Group, Inc. and Prospect Medical Systems, Inc.(1)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Agreement for the Purchase and Sale of Assets will be provided supplementally to the Commission upon request: Exhibit 1.1 Assets, Exhibit 1.1(a) Exclusive Primary Care Physician Services Agreement, Exhibit 1.3 Assumed Liabilities, Schedule 3.3 Consents, Schedule 3.5 Inventory and Furniture, Fixtures and Equipment, Schedule 3.7 Litigation, Schedule 3.8 Violation of Law, Schedule 3.10 Employees and Employee Benefits
2.3	Agreement of Purchase and Sale of Assets of Health Source Medical Group, Inc. dated as of July 1, 2001 among James Daniel, M.D. & Dana Eisenman, M.D. Medical Corporation, Prospect Medical Group, Inc., Prospect Health Source Medical Group, Inc. and Prospect Medical Systems, Inc.(1)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Agreement for the Purchase and Sale of Assets will be provided supplementally to the Commission upon request: Exhibit 1.1 Assets, Exhibit 1.1(a) Exclusive Primary Care Physician Services Agreement, Exhibit 1.3 Assumed Liabilities, Exhibit 7.2(a) Bill of Sale/Assignment and Assumption Agreement, Exhibit 7.2 Sublease, Schedule 3.3 Consents, Schedule 3.5 Inventory and Furniture, Fixtures and Equipment, Schedule 3.5(a) Additional Furniture, Fixtures and Equipment used in the Sunset Practice, Schedule 3.7 Litigation, Schedule 3.8 Violation of Law, Schedule 3.10 Prospect Employees Through the Effective Date, Schedule 4.8 Employees Purchaser will Retain from the Effective Date Through the Closing Date
2.4	Agreement and Plan of Reorganization for Professional Care Medical Group, Inc. dated as of June 30, 2003 among Prospect Medical Group, Inc., Prospect LA Medical Group, Inc., Professional Care Medical Group, Inc. and the Shareholders of Professional Care Medical Group, Inc.(1)

	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Agreement and Plan of Reorganization will be provided supplementally to the Commission upon request:
	Schedule 2.4, ProCare Consent Requirements, Schedule 2.6, List of Holders of Record and Number Held of ProCare Shares, Schedule 2.7, List of ProCare Financial Statements Delivered to Prospect, Schedule 2.12, Intellectual Property, Schedule 2.13, Contracts, Schedule 2.18, Insurance, Schedule 2.20, Bank Accounts, Schedule 3.3, Prospect/Sub Consent Requirements, Schedule 11.7, Notices, Exhibit “A,” Shareholders of ProCare, Exhibit “B,” Agreement of Merger, Exhibit “C,” Acknowledgement by Escrow Agent
2.5	Amendment to Agreement and Plan of Reorganization for Professional Care Medical Group, Inc. dated as of September 30, 2003 among Prospect Medical Group, Inc., Prospect LA Medical Group, Inc., Professional Care Medical Group, Inc. and the Shareholders of Professional Care Medical Group, Inc.(1)
2.6	Agreement of Merger for Northwest Orange County Medical Group, Inc. dated as of November 19, 2003 among Prospect Medical Group, Inc., Prospect NWOC Medical Group, Inc., Northwest Orange County Medical Group, Inc., the Shareholders of Northwest Orange County Medical Group, Inc., and Harriman-Jones Medical Group, Inc.(1)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Agreement of Merger will be provided supplementally to the Commission upon request:
	Schedule 2.4, Northwest Consent Requirements, Schedule 2.6, List of Holders of Record and Number Held of Northwest Shares, Schedule 2.9, Tax Matters, Schedule 2.12, Intangible Property, Schedule 2.13, Contracts, Schedule 2.14, Legal Proceedings, Schedule 2.16, Officers and Directors, Schedule 2.17, Insurance, Schedule 2.18, Powers of Attorney, Schedule 2.24, Inspections, Schedule 2.28, Permits, Schedule 2.29, Fraud and Abuse, Schedule 2.33, Bank Accounts, Schedule 3.3, Consent Requirements—Prospect Parties, Schedule 4.7, North West Enrollees—August 2003 Enrollment, Exhibit “A,” Agreement of Merger, Exhibit “B,” Form of Escrow Agreement
2.7	Amendment to Agreement of Merger dated as of January 30, 2004 for Northwest Orange County Medical Group, Inc. among Prospect Medical Group, Inc., Prospect NWOC Medical Group, Inc., Northwest Orange County Medical Group, Inc., the Shareholders of Northwest Orange County Medical Group, Inc., and Harriman-Jones Medical Group, Inc.(1)
2.8	Stock Purchase Agreement dated as of January 31, 2004 among Prospect Medical Group, Inc., Prospect Medical Systems, Inc., StarCare Medical Group, Inc. dba Gateway Medical Group, Inc, APAC Medical Group, Inc. dba Gateway Physicians Medical Associates, Inc., Pinnacle Health Resources and David Tsoong, M.D.(1)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Stock Purchase Agreement will be provided supplementally to the Commission upon request:
	Schedule 1.2, StarCare Shares, Schedule 1.3, APAC Shares, Schedule 1.4, Pinnacle Shares, Schedule 1.6, Purchase Price Allocation, Schedule 2.4, StarCare, APAC and Pinnacle Consent Requirements, Schedule 2.5, Conflicts and/or Breaches as a Result of the Transaction, Schedule 2.8,Contingent Liabilities, Schedule 2.9, Actions and Proceedings for Taxes, Schedule 2.11(b), Leases and Subleases, Schedule 2.12(b), Aggregate Tangible Personal Property, Schedule 2.12(c), Excluded Tangible Personal Property, Schedule 2.12(d), Items Currently in Storage or Supply Rooms at 710 N. Euclid or Subleased Storage Space at La Mirada Clinic, Schedule 2.13, Intellectual Property, Schedule 2.13(b), Website Internet Portal Modem Fee, Schedule 2.14, Contracts, Schedule 2.15, Legal Proceedings: Existing and Threatened Claims, Schedule 2.17, Employee Information, Schedule 2.17(b), Employee

	Information, Schedule 2.17(c), Employee Information, Schedule 2.18, Insurance, Schedule 2.19, Management; Powers of Attorney, Schedule 2.24, Confidentiality and Non-Compete Agreements, Schedule 2.25, Inspections, Schedule 2.28, Permits, Schedule 2.29(a), Fraud and Abuse, Schedule 2.29(b), Fraud and Abuse, Schedule 2.35(a), Bank Accounts,
	Schedule 2.35(b), Letters of Credit or Other Security Pledged for StarCare Shared Risk Contracts, APAC Shared Risk Contracts or APAC Full Risk Contracts, Schedule 3.3, Group/Systems Consent Requirements, Schedule 5.2, Employees to Be Hired By Prospect Parties, Exhibit “A,” October Interim Financial Statements, Exhibit “B,” Form of Non-Competition Agreement, Exhibit “C,” Legal Opinion Matters
2.9	Asset Purchase Agreement dated as of March 31, 2004 among StarCare Medical Group, Inc. dba Gateway Medical Group, Inc., Pinnacle Health Resources, Primary and Multi-Specialty Medical Clinics of Anaheim, Inc., and the shareholders of Primary and Multi-Specialty Medical Clinics of Anaheim, Inc.(1)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Asset Purchase Agreement will be provided supplementally to the Commission upon request:
	Schedule 1.2(a), Clinic Assets, Attachment A to Schedule 1.2(a), Schedule 1.2(b), Excluded Clinic Assets, Schedule 1.3, Assumed Liabilities, Schedule 1.5, Wells Fargo Loans, Schedule 1.6, Accumulated PTO as of the Closing Date, Schedule 1.7, Purchase Price Allocation, Schedule 2.2, Group Consent Requirements, Schedule 2.3, Conflicts and Breaches, Schedule 2.4, Liens, Schedule 2.5(a), February Financial Statements, Schedule 2.5(b), March Estimated Partial Financial Statements, Schedule 2.7, Tangible Personal Property, Schedule 2.7(b), Assets in Storage, Schedule 2.8, Intellectual Property, Schedule 2.9, Contracts, Schedule 2.10 Legal Proceedings: Existing and Threatened Claims, Schedule 2.12, Employee Information, Schedule 2.16, Confidentiality, Non-Solicitation and Non-Compete Arrangements, Exhibit E, Covenant Not To Compete, Exhibit F-1, Industrial Medicine Client List, Schedule 2.19, Permits, Schedule 2.22, Insurance, Schedule 2.24, Tax Matters, Schedule 2.25, Inspection, Schedule 3.3, Buyer Consent Requirements, Schedule 4.1, Gateway Representations and Warranties, Schedule 4.6(b), Non-Physician Acknowledgement, Schedule 4.6(c), StarCare Updated Patient Diversion Provisions, Schedule 4.6(d), Full Time Primary Care Physicians, Schedule 4.13, Prepaid Obligations, Schedule 4.17, Initial Trust Deposits with Cap-MPT, Exhibit “A,” Secured Promissory Note (Purchase Price Note), Exhibit “B,” Security Agreement, Exhibit “C,” Guaranty, Exhibit “D,” Secured Promissory Note (Additional Consideration Note), Exhibit “E,” Guaranty, Exhibit “F,” Secured Promissory Note (PTO Note), Exhibit “G,” Guaranty, Exhibit “H,” Form of Buyer/StarCare Provider Agreement, Exhibit “I,” Form of Buyer/Prospect Provider Agreement, Exhibit “J,” Form of Specialty Provider Agreement, Exhibit “K,” Sublease for Anaheim Clinic, Exhibit “L,” Sublease for Anaheim Hills Clinic, Exhibit “M,” Sublease for Euclid Clinic and Clinic Corporate Office, Exhibit “N,” Sublease for Clinic Storage Space, Exhibit “O,” Guaranty, Exhibit “P,” Bill of Sale/Assignment and Assumption Agreement
2.10	Omnibus Amendment to Asset Purchase Agreement and Other Documents Delivered in Connection with The Transactions Described Therein dated as of April 15, 2004 among StarCare Medical Group, Inc. d/b/a Gateway Medical Group, Inc., Pinnacle Health Resources, APAC Medical Group, Inc., Prospect Medical Group, Inc., Prospect Professional Medical Group, Inc., Prospect NWOC Medical Group, Inc., Primary and Multi-Specialty Clinics of Anaheim, Inc., and the Shareholders of Primary and Multi-Specialty Clinics of Anaheim, Inc.(1)
2.11	Stock Purchase Agreement dated November 1, 2005 among Prospect Medical Group, Inc., Genesis Healthcare of Southern California, Inc. and Mitchell W. Lew, M.D.(8)

	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Stock Purchase Agreement will be provided supplementally to the Commission upon request:
	Schedule 1.2, Stock; Schedule 1.6, Allocation of Purchase Price; Schedule 2.9, Tax Matters; Schedule 2.11(b), List and Summary of all Leases, Subleases and other Agreements under which Company uses or has the right to occupy any Real Property; Schedule 2.12(b), Tangible Personal Property; Schedule 2.13, Intellectual Property; Schedule 2.14, Contracts; Attachment to Schedule 2.14, List of PCP Physicians; Attachment to Schedule 2.14, List of Specialist Physicians; Attachment to Schedule 2.14, Form of PCP (Individual)—Capitated; Attachment to Schedule 2.14, Form of PCP (Group)—Capitated; Attachment to Schedule 2.14, Form of Specialist Physician Agreement—Fee for Service; Attachment to Schedule 2.14, Form of Specialist Agreement—Capitated; Attachment to Schedule 2.14, List of Ancillary Service Providers; Attachment to Schedule 2.14, Form of Ancillary Services Agreement—Fee for Service; Schedule 2.15, Existing/Threatened Claims; Schedule 2.18, Insurance; Schedule 2.19, Officers and Directors; Schedule 2.17, Employee Matters; Schedule 2.24, Confidentiality/Non-Compete; Schedule 2.25, Inspections, Section 2.28, Permits; Schedule 2.30(a), Bank Accounts; Schedule 2.30(b), Cash securing Letters of Credit or Certificates of Deposits pledged as Security for the Company Health Plans; Schedule 3.3, Consents of Purchaser; Schedule 5.2, Employees to be offered Employment; Schedule 5.6, IBNR Formula; Exhibit A, Form of Non-Competition Agreement; Exhibit B, Management Agreement; Exhibit C, Employment Agreement; Exhibit D, Legal Opinion Matters
3.1	Amended and Restated Certificate of Incorporation of Prospect Medical Holdings, Inc.(1)
3.2	Certificate of Amendment of Amended and Restated Certificate of Incorporation of Prospect Medical Holdings, Inc.(1)
3.3	Certificate of Amendment of Amended and Restated Certificate of Incorporation of Prospect Medical Holdings, Inc.(1)
3.4	Certificate of Designation of Series A Convertible Preferred Stock of Prospect Medical Holdings, Inc.(1)
3.5	Amended and Restated Bylaws of Prospect Medical Holdings, Inc.(1)
3.6	First Amendment to Amended and Restated Bylaws of Prospect Medical Holdings, Inc.(1)
4.1	Specimen Common Stock Certificate(1)
10.1	Warrant to Acquire Common Stock between Prospect Medical Holdings, Inc. and Spencer Trask Venture Investment Partners, LLC(1)
10.2	Warrant Agreement for Series A Preferred Stock dated as of January 15, 2004 between Prospect Medical Holdings, Inc. and Spencer Trask Ventures, Inc.(1)
10.3	Form of Registration Rights Agreement between Prospect Medical Holdings, Inc. and each Investor of Series A Convertible Preferred Stock(1)
10.4	Agreement For The Purchase And Sale of Stock, dated as of January 13, 2000, between Jacob Y. Terner, M.D., and Gregg DeNicola, M.D.(1)
10.5	Amended and Restated Assignable Option Agreement, made as of January 13, 2000, among Prospect Medical Systems, Inc., Prospect Medical Group, Inc. and Jacob Y. Terner, M.D.(1)
10.6	Form of Amended and Restated Management Services Agreement, made as of September 15, 1998 and deemed to have been effective as of June 4, 1996, between Prospect Medical Systems, Inc. and Prospect Medical Group, Inc.(1)
10.7	Form of Amendment to Management Services Agreement, made as of October 1, 1998, between Prospect Medical Systems, Inc. and Prospect Medical Group, Inc.(1)
10.8	Management Agreement dated as of January 1, 2003 between Pinnacle Health Resources Inc. and StarCare Medical Group, Inc. dba Gateway Medical Group, Inc.(1)

10.9	Management Agreement dated as of January 1, 2003 between Pinnacle Health Resources Inc. and APAC Medical Group, Inc. dba Gateway Physicians Medical Associates, Inc.(1)
10.10	Form of Management Services Agreement, made as of August 1, 1999, between Prospect Medical Systems, Inc. and Nuestra Familia Medical Group(1)
10.11	Management Services Agreement, made as of July 1, 1999, between Prospect Medical Systems, Inc. and AMVI/Prospect Medical Group(1)
10.12	Employment Agreement, dated as of August 1, 1999 between Prospect Medical Holdings, Inc. and Jacob Y. Terner, M.D.(1)
10.13	Amendment to Employment Agreement, dated as of August 1, 2002 between Prospect Medical Holdings, Inc. and Jacob Y. Terner, M.D.(1)
10.14	Investment Agreement dated as of July 31, 1996 between Jacob Y. Terner and Med-Search, Inc.(2)
10.15	Agreement dated as of July 31, 1996 among Jacob Y. Terner and Barbara Noble, both individually and as representative of Joseph W. Noble, M.D., deceased, and the Noble 1992 Family Trust(2)
10.16	Amended and Restated Revolving Credit Agreement, dated as of July 3, 1999, between Prospect Medical Holdings, Inc. and Imperial Bank(1)
10.17	First Amendment to Amended and Restated Revolving Credit Agreement dated as of October 25, 2002 between Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.18	Third Amendment to Amended and Restated Revolving Credit Agreement dated as of November 3, 2001 between Comerica Bank-California, successor-by-merger to Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.19	Fourth Amendment to Amended and Restated Revolving Credit Agreement dated as of February 1, 2002 between Comerica Bank-California, successor-by-merger to Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.20	Fifth Amendment to Amended and Restated Revolving Credit Agreement dated as of July 31, 2002 between Comerica Bank-California, successor-by-merger to Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.21	Sixth Amendment to Amended and Restated Revolving Credit Agreement dated as of September 24, 2003, between Comerica Bank, successor-by-merger to Comerica Bank-California, successor-by-merger to Imperial Bank, and Prospect Medical Holdings, Inc.(1)
10.22	Amended and Restated Security Agreement dated as of September 24, 2003, between Prospect Medical Holdings, Inc. and Comerica Bank, successor-by-merger to Comerica Bank-California, successor-by-merger to Imperial Bank(1)
10.23	Continuing Guaranty, dated as of July 3, 1997, executed by Prospect Medical Systems, Inc. in favor of Imperial Bank(2)
10.24	Amended and Restated Security Agreement (Prospect Medical Systems, Inc.) dated as of September 24, 2003, between Prospect Medical Systems, Inc. and Comerica Bank, successor-by-merger to Comerica Bank-California, successor-by-merger to Imperial Bank(1)
10.25	Security Agreement—Stock Pledge, dated as of July 3, 1997, between Prospect Medical Holdings, Inc. and Imperial Bank(2)
10.26	Security Agreement (Physician Group), dated as of July 3, 1997, between Prospect Medical Systems, Inc. and Prospect Medical Group, Inc.(2)
10.27	Amendment Number One to Security Agreement dated as of July 6, 1999 between Prospect Medical Systems, Inc. and Prospect Medical Group, Inc.(2)

10.28	Amended and Restated Warrant, dated as of July 3, 1997, issued by Prospect Medical Holdings, Inc. to Imperial Bank(2)
10.29	Warrant, dated as of July 3, 1999, issued by Prospect Medical Holdings, Inc. to Imperial Bancorp(2)
10.30	Amended and Restated Assignable Option Agreement made as of September 2, 1998 and deemed to have been effective as of July 14, 1997, among Prospect Medical Systems, Inc., Prospect Medical Group, Inc. and Santa Ana/Tustin Physicians Group, Inc.(2)
10.31	Form of Management Services Agreement dated as of January 1, 2001 between Prospect Medical Systems, Inc. and Prospect Health Source Medical Group, Inc.(1)
10.32	Form of Amendment to Management Services Agreement dated as of November 1, 2002 between Prospect Medical Systems, Inc. and Prospect Health Source Medical Group, Inc.(1)
10.33	Form of Management Services Agreement dated as of October 1, 2003, by and between Prospect Medical Systems, Inc. and Prospect Professional Care Medical Group, Inc.(1)
10.34	Form of Management Services Agreement dated as of March 1, 2004 by and between Prospect Medical Systems, Inc. and Prospect NWOC Medical Group, Inc.(1)
10.35	Amendment Number One to Security Agreement, dated as of July 14, 1997, between Prospect Medical Systems, Inc. and Imperial Bank(2)
10.36	Collateral Assignment of Transaction Documents dated as of October 1, 2003, by and between Prospect Medical Systems, Inc. and Comerica Bank(1)
10.37	Collateral Assignment of Transaction Documents, dated as of July 14, 1997, between Prospect Medical Systems, Inc. and Imperial Bank(2)
10.38	Amendment Number One To Collateral Assignment of Transaction Documents, dated as of January 26, 2000, between Prospect Medical Systems, Inc. and Imperial Bank(1)
10.39	Security Agreement (Physician Group), dated as of July 14, 1997, between Prospect Medical Systems, Inc. and Santa Ana/Tustin Physicians Group, Inc.(2)
10.40	Amendment Number One to Security Agreement dated as of July 1, 1999 between Santa Ana/Tustin Physicians Group, Inc. and Prospect Medical Systems, Inc.(1)
10.41	Security Agreement dated as of October 1, 2003, between Prospect Professional Care Medical Group, Inc. and Prospect Medical Systems, Inc.(1)
10.42	Amended and Restated Credit Succession Agreement, dated as of July 14, 1997, among Prospect Medical Holdings, Inc., Gregg DeNicola, M.D., Santa Ana/Tustin Physicians Group, Inc., Prospect Medical Systems, Inc., Prospect Medical Group, Inc. and Imperial Bank(2)
10.43	Form of Amendment Number One to Amended and Restated Credit Succession Agreement, dated as of April 6, 2000, among Jacob Y. Terner, M.D., Prospect Medical Holdings, Inc., Santa Ana/Tustin Physicians Group, Inc., Sierra Primary Care Medical Group, Inc., Prospect Medical Systems, Inc., Prospect Medical Group, Inc. and Imperial Bank(1)
10.44	Joinder Agreement, dated as of January 26, 2000, among Sierra Medical Management, Inc., Jacob Y. Terner, M.D., Sierra Primary Care Medical Group, Inc., Gregg DeNicola, M.D., Prospect Medical Systems, Inc., Prospect Medical Group, Santa Ana/Tustin Physicians Group, Inc.(1)
10.45	Amended and Restated Assignable Option Agreement, made as of September 2, 1998 and deemed to have been effective as of September 25, 1997, by and among Sierra Primary Care Medical Group, Inc., Sierra Medical Management, Inc. and Prospect Medical Group, Inc.(2)
10.46	Assignable Option Agreement dated as of October 1, 2003, by and among Prospect Medical Holdings, Inc., Prospect Professional Care Medical Group, Inc., and Prospect Medical Group, Inc.(1)

10.47	Intentionally Omitted.
10.48	Form of Second Amended and Restated Management Services Agreement, made as of September 15, 1998 and deemed to have been effective as of September 25, 1997, between Sierra Medical Management, Inc. and Sierra Primary Care Medical Group, Inc.(1)
10.49	Amendment to Management Services Agreement, made as of October 1, 1998, between Sierra Medical Management, Inc. and Sierra Primary Care Medical Group, Inc.(1)
10.50	Continuing Guaranty, dated as of September 25, 1997, delivered by Sierra Medical Management, Inc. to Imperial Bank(2)
10.51	Amended and Restated Security Agreement (Sierra Medical Management, Inc.), dated as of September 24, 2003, between Sierra Medical Management, Inc., and Comerica Bank, successor-by-merger to Comerica Bank-California, successor-by-merger to Imperial Bank(1)
10.52	Security Agreement—Stock Pledge, dated as of September 25, 1997, between Prospect Medical Holdings, Inc. and Imperial Bank(2)
10.53	Collateral Assignment of Transaction Documents, dated as of September 25, 1997, between Sierra Medical Management, Inc. and Imperial Bank(2)
10.54	Security Agreement, dated as of September 25, 1997, between Sierra Primary Care Medical Group, Inc. and Sierra Medical Management, Inc.(2)
10.55	Amendment Number One to Security Agreement dated as of September 6, 1999 between Sierra Primary Care Medical Group, Inc. and Sierra Medical Management, Inc.(1)
10.56	Intentionally Omitted.
10.57	Form of Amended and Restated Management Services Agreement, made as of September 15, 1998 and deemed to have been effective as of October 31, 1997, by and between Sierra Medical Management, Inc. and Pegasus Medical Group, Inc.(1)
10.58	Amendment to Management Services Agreement made as of October 1, 1998, by and between Sierra Medical Management, Inc. and Pegasus Medical Group, Inc.(1)
10.59	Amended and Restated Assignable Option Agreement, made as of September 2, 1998 and deemed to have been effective as of October 31, 1997, among Sierra Medical Management, Inc., Pegasus Medical Group, Inc. and Prospect Medical Group, Inc.(2)
10.60	Assignment and Assumption Agreement, by Marvin L. Ginsburg, M.D. Medical Corporation d/b/a A.V. Western Medical Group, Inc. to Pegasus Medical Group, Inc.(2)
10.61	Collateral Assignment of Transaction Documents, dated as of October 31, 1997, between Sierra Medical Management, Inc. and Imperial Bank(2)
10.62	Security Agreement (Physician Group), dated as of October 31, 1997, between Pegasus Medical Group, Inc. and Sierra Medical Management, Inc.(2)
10.63	Amendment Number One to Security Agreement dated as of July 6, 1999 between Pegasus Medical Group, Inc. and Sierra Medical Management, Inc.(1)
10.64	Intentionally Omitted.
10.65	Form of $11,500,000 Amended and Restated Secured Revolving Note, dated July 3, 1999, executed by Prospect Medical Holdings, Inc. and made payable to Imperial Bank(1)
10.66	First Amendment to Amended and Restated Secured Revolving Note dated as of October 25, 2000 between Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.67	Third Amendment to Amended and Restated Secured Revolving Note dated as of October 25, 2000 between Comerica Bank-California, successor by merger to Imperial Bank and Prospect Medical Holdings, Inc.(1)

10.68	Fifth Amendment to Amended and Restated Secured Revolving Note dated as of September 24, 2003, between Comerica Bank, successor-by-merger to Comerica Bank-California, successor-by-merger to Imperial Bank, and Prospect Medical Holdings, Inc.(1)
10.69	Term Loan Note dated October 25, 2000 in the original principal amount of $5,000,000 by Prospect Medical Holdings, Inc. in favor of Imperial Bank(1)
10.70	First Amendment to Term Loan Note entered into as of November 3, 2001 between Comerica Bank-California, successor-by-merger to Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.71	Second Amendment to Term Loan Note entered into as of February 1, 2002 between Comerica Bank-California, successor by merger to Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.72	Third Amendment to Term Loan Note dated as of July 12, 2002 between Comerica Bank-California, successor by merger to Imperial Bank and Prospect Medical Holdings, Inc.(1)
10.73	Fourth Amendment to Term Loan Note dated as of September 24, 2003, between Comerica Bank, successor-by-merger to Comerica Bank-California, successor-by-merger to Imperial Bank, and Prospect Medical Holdings, Inc.(1)
10.74	Amended and Restated Warrant, issued as of February 6, 1998, by Prospect Medical Holdings, Inc. to Imperial Bank.(2)
10.75	Consulting Agreement, dated as of March 1, 1998, between Sierra Primary Care Medical Group, Inc. and Sinnadurai E. Moorthy, M.D.(2)
10.76	Employment Agreement made as of April 8, 2004, but effective on April 19, 2004, between Prospect Medical Holdings, Inc. and Mike Heather(1)
10.77	Form of Partnership Agreement dated July 1, 1999 between AMVI/MC Health Network, Inc. and Santa Ana/Tustin Physicians Group(1)
10.78	Intentionally Omitted.
10.79	Forbearance Agreement, dated as of January 25, 2002, between Prospect Medical Group, Inc. and Prospect Medical Holdings, Inc.(1)
10.80	Amendment to Forbearance Agreement, effective May 30, 2003, between Prospect Medical Group, Inc. and Prospect Medical Holdings, Inc.(1)
10.81	Collateral Substitution Agreement, dated as of January 25, 2002, between Prospect Medical Group, Inc., Prospect Medical Holdings, Inc., Foothill City, Ltd.(1)
10.82	Continuing Guaranty, effective May 30, 2003, by Jacob Y. Terner, M.D., in favor of Prospect Medical Group, Inc.(1)
10.83	Amendment to Collateral Substitution Agreement, effective May 30, 2003, among Prospect Medical Group, Inc., Prospect Medical Holdings, Inc., and Jacob Y. Terner, M.D.(1)
10.84	Pledge Agreement, effective May 30, 2003, between Prospect Medical Group, Inc. and Jacob Y. Terner, M.D.(1)
10.85	Form of Placement Agency Agreement, dated November 1, 2003, between Prospect Medical Holdings, Inc. and Spencer Trask Ventures, Inc.(1)
10.86	Form of Amendment No. 1 to Placement Agency Agreement, dated December 30, 2003, between Prospect Medical Holdings, Inc. and Spencer Trask Ventures, Inc.(1)
10.87	Form of Finder’s Fee Agreement, dated January 15, 2004, between Prospect Medical Holdings, Inc. and Spencer Trask Ventures, Inc.(1)
10.88	Intentionally Omitted.

10.89	Form of Stockholders’ Agreement, dated January 15, 2004, by and among Prospect Medical Holdings, Inc., Spencer Trask Ventures, Inc., private placement purchasers of Series A Preferred Stock, “management stockholders” including Jacob Y. Terner, M.D., Catherine Dickson, Donna Vigil, R. Stewart Kahn and Linda Hodges, and “principal stockholders” including Spencer Trask Venture Investment Partners LLC, Paul Amir and the Herta and Paul Amir Family Trust(1)
10.90	Prospect Medical Holdings, Inc. 1998 Stock Option Plan(1)
10.91	First Amendment to Prospect Medical Holdings, Inc. 1998 Stock Option Plan(1)
10.92	Participating Physician Group Provider Services Agreement, effective March 1, 1999, between the Foundation Health Systems Affiliate(s) identified in Addendum A to the Agreement and Professional Care Medical Group IPA, a Participating Physician Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.93	Health Net Medicare+Choice (M+C) Addendum to the March 1, 1999 Participating Physician Group Provider Agreement between Health Net and Professional Care Medical Group IPA, effective October 1, 1999 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.94	Amendment to the March 1, 1999 Participating Physician Group Provider Services Agreement between Professional Care Medical Group IPA and Foundation Health Systems, Inc., effective July 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.95	Amendment to the March 1, 1999 Participating Physician Group Provider Services Agreement and all subsequent Amendments between Professional Care Medical Group IPA and Health Net Inc. Affiliates, formerly known as Foundation Health Systems Affiliates, effective October 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.96	Amendment to the March 1, 1999 Participating Physician Group Provider Services Agreement, between Professional Care Medical Group, IPA, and Health Net, Inc. Affiliates, effective April 14, 2003(1)
10.97	Assignment and Delegation of Participating Physician Group Provider Services Agreement and Consent to Assignment, effective as of October 1, 2003, between Professional Care Medical Group, IPA, Prospect Medical Group, and Health Net, Inc. Affiliates(1)
10.98	Amendment to the March 1, 1999 Participating Physician Group Provider Services Agreement between Professional Care Medical Group, IPA and Health Net, Inc. Affiliates, as subsequently amended, effective January 1, 2004 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.99	CaliforniaCare Medical Services Agreement, effective November 1, 1999, between Blue Cross of California and Affiliates and Professional Care IPA Medical Group, Inc. (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(4)
10.100	Amendment to the November 1, 1999 Blue Cross Medical Services Agreement between Blue Cross of California and its Affiliates and Professional Care IPA Medical Group executed November 29, 1999 and November 19, 1999, respectively(1)

10.101	Amendment to the November 1, 1999 CaliforniaCare Medical Services Agreement between Blue Cross of California and its Affiliates and Professional Care IPA Medical Group, Inc. executed December 13, 1999 and November 30, 1999, respectively (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.102	Amendment to the November 1, 1999 CaliforniaCare Medical Services Agreement between Blue Cross of California and its Affiliates and Professional Care IPA, effective as of January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.103	Business Associate Amendment supplementing November 1, 1999 CaliforniaCare Medical Services Agreement between Blue Cross of California and Professional Care IPA, effective April 14, 2003(1)
10.104	Assignment and Consent to Assignment between Professional Care IPA Medical Group, Inc., Prospect Medical Group, Inc. and Blue Cross of California and its Affiliates, effective October 1, 2003(1)
10.105	Blue Cross Senior Secure Medicare+Choice Medical Services Agreement, effective November 1, 1999, between Blue Cross of California and Affiliates and Professional Care IPA Medical Group, Inc. (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(1)
10.106	Amendment to November 1, 1999 Blue Cross Senior Secure Medicare Risk Professional Services executed December 3, 1999 and November 19, 1999, respectively(1)
10.107	Assignment and Consent to Assignment, effective October 1, 2003, between Professional Care IPA Medical Group, Inc., Prospect Medical Group, Inc. and Blue Cross of California and its Affiliates(1)
10.108	AIM Medical Services Agreement, effective May 1, 2001, between Blue Cross of California and Affiliates and Professional Care IPA Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(4)
10.109	PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation), effective June 1, 1999, between PacifiCare of California, Inc. and Professional Care IPA Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.110	Amendment Number One to the June 1, 1999 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Professional Care IPA Medical Group, effective June 1, 1999 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.111	Amendment Number 1 to the June 1, 1999 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California and Professional Care IPA Medical Group, effective January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)

10.112	Amendment to the June 1, 1999 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California and Professional Care IPA Medical Group, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.113	Claims Management Agreement, among Prospect Medical Group, Professional Care IPA Medical Group and PacifiCare of California, effective October 1, 2003(3)
10.114	Notice Amendment to the June 1, 1999 PacifiCare of California Medical Group/IPA Services (Professional Capitation) Agreement, effective January 1, 2004(3)
10.115	HMO IPA Agreement, effective January 1, 2003, between Professional Care IPA Medical Group and California Physicians’ Service dba Blue Shield of California (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.116	Amendment No. 1 to HMO IPA/Medical Group Shared Provider Agreement between California Physicians’ Service dba Blue Shield of California and Professional Care IPA Medical Group, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.117	Participating Physician Group Provider Services Agreement, effective January 1, 1998, between the Foundation Health Systems Affiliate(s) identified in Addendum A to the Agreement and Prospect Medical Group, Inc., a Participating Physician Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(4)
10.118	Amendment to the January 1, 1998 Participating Physician Group Provider Services Agreement between Prospect Medical Group and Foundation Health Systems Affiliate(s), effective January 1, 1998(3)
10.119	Amendment to the January 1, 1998 Participating Physician Group Provider Services Agreement between Prospect Medical Group and Foundation Health Systems Affiliates, effective July 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.120	Amendment to the January 1, 1998 Participating Physician Group Provider Services Agreement, between Prospect Medical Group and Health Net, Inc. Affiliates, effective February 19, 2001(3)
10.121	Amendment to the January 1, 1998 Participating Physician Group Provider Services Agreement between Prospect Medical Group and Foundation Health Systems Affiliate(s), effective October 1, 2001 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.122	Amendment to the January 1, 1998 Participating Physician Group Provider Services Agreement between Prospect Medical Group and Health Net, Inc. Affiliates, effective April 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.123	CaliforniaCare Medical Services Agreement, effective on January 1, 1997, between Blue Cross of California and Affiliates and Prospect Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(4)

10.124	Letter of Agreement Serving as Addendum to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and Prospect Medical Group, effective January 1, 1997(3)
10.125	Letter of Agreement Serving as Addendum to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and Prospect Medical Group, effective January 1, 1997 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.126	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and Affiliates and Prospect Medical Group, effective May 1, 1997(3)
10.127	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and Affiliates and Prospect Medical Group, effective May 1, 1997(3)
10.128	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and its Affiliates and Prospect Medical Group, effective August 1, 1997 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.129	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement by and between Blue Cross of California and its Affiliates and Prospect Medical Group, effective July 1, 1999(3)
10.130	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement by and between Blue Cross of California and its Affiliates and Prospect Medical Group, effective January 1, 1999(3)
10.131	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and its Affiliates and Prospect Medical Group, effective January 1, 2001 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.132	PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation), effective January 1, 2001, between PacifiCare of California, Inc. and Prospect Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.133	First Amendment to January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Prospect Medical Group, effective January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.134	Second Amendment to January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Prospect Medical Group, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.135	Notice Amendment to the January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation)(3)

10.136	HMO IPA/Medical Group Shared Savings Provider Agreement between Prospect Medical Group Inc. and California Physicians’ Service, Inc. dba Blue Shield of California dated November 12, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.137	HMO IPA Agreement, effective November 1, 1995, between California Physicians’ Service dba Blue Shield of California and Prospect Medical Group, Inc. (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.138	Participating Physician Group Provider Services Agreement, effective January 1, 1998, between the Foundation Health Systems Affiliate(s) identified in Addendum A to the Agreement and Sierra Medical Group, Inc., a Participating Physician Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.139	Amendment to the January 1, 1998 Participating Physician Group Provider Services Agreement between Prospect Medical Group, Inc. on behalf of Sierra Medical Group and Foundation Health Systems Affiliate(s), effective November 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.140	Amendment to the January 1, 1998 Participating Physician Group Provider Services Agreement between Sierra Medical Group and Health Net, Inc. Affiliates, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.141	PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) effective July 1, 1999, between PacifiCare of California, Inc. and Sierra Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.142	2001 Amendment to the July 1, 1999 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Sierra Medical Group, effective January 1, 2001 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.143	Express Referrals Amendment to the July 1, 1999 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Sierra Medical Group, effective October 1, 2002(3)
10.144	Third Amendment to the July 1, 1999 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Sierra Medical Group, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.145	Participating Physician Group Provider Services Agreement, effective June 1, 1998, between the Foundation Health Systems Affiliate(s) identified in Addendum A to the Agreement and A.V. Medical Group, a Participating Physician Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)

10.146	Amendment to the June 1, 1998 Participating Physician Group Provider Services Agreement between A.V. Medical Group and Foundation Health Systems Affiliate(s), effective July 1, 1999(3)
10.147	Amendment to the June 1, 1998 Participating Physician Group Provider Services Agreement between A.V. Medical Group and Foundation Health Systems, effective November 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.148	Amendment to the June 1, 1998 Participating Physician Group Provider Services Agreement between A.V. Medical Group and Health Net, Inc. Affiliates, effective March 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.149	Participating Physician Group Provider Services Agreement, effective June 1, 2001, between the Health Net, Inc. Affiliate(s) identified in Addendum A to the Agreement and Northwest Orange County Medical Group, a Participating Physician Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.150	CaliforniaCare Medical Services Agreement, effective January 1, 1997, between Blue Cross of California and Affiliates and Northwest Orange County Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.151	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and Affiliates and Northwest Orange County Medical Group, Inc., effective January 1, 1998(3)
10.152	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and its Affiliates and Northwest Orange County Medical Group, effective January 1, 1999(3)
10.153	Amendment to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and its Affiliates and Northwest Orange County Medical Group, Inc., effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.154	PacifiCare of California Medical Group/IPA Services Agreement (Split Capitation), effective January 1, 2001, between PacifiCare of California, Inc. and Northwest Orange County Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.155	Amendment Number 1 to January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement (Split Capitation) between PacifiCare of California and Northwest Orange County Medical Group, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.156	Amendment Number 4 to PacifiCare of California Medical Group/IPA Services Agreement (Split Capitation) between PacifiCare of California and Northwest Orange County Medical Group, effective January 1, 2004 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)

10.157	Health Plan and Physician Group Service Agreement, effective September 1, 1990, between CareAmerica Southern California, Inc. and Northwest Orange County Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.158	Amendment to September 1, 1990 Medicare+Choice Physician Group Service Agreement between California Physicians’ Service, Inc. dba Blue Shield of California and Northwest Orange County Medical Group, effective September 1, 1999(3)
10.159	Amendment to September 1, 1990 Medicare+Choice Physician Group Service Agreement between California Physicians’ Service, Inc. dba Blue Shield of California and Northwest Orange County Medical Group, effective December 1, 1999(3)
10.160	Amendment to September 1, 1990 Medicare+Choice Physician Group Service Agreement between California Physicians’ Service, Inc. dba Blue Shield of California and Northwest Orange County Medical Group, effective December 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.161	Amendment to September 1, 1990 Medicare+Choice Physician Group Service Agreement between California Physicians’ Service, Inc. dba Blue Shield of California and Northwest Orange County Medical Group, effective January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.162	Amendment to September 1, 1990 Medicare+Choice Physician Group Service Agreement between California Physicians’ Service, Inc. dba Blue Shield of California and Northwest Orange County Medical Group, effective May 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.163	HMO IPA/Medical Group Shared Savings Provider Agreement, effective February 1, 2003, between Northwest Orange County Medical Group and California Physicians’ Service, Inc., dba Blue Shield of California (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.164	Amendment to HMO IPA/Medical Group Shared Savings Provider Agreement between California Physicians’ Service dba Blue Shield of California and Northwest Orange County Medical Group, effective February 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.165	CaliforniaCare Medical Services Agreement, effective January 1, 2001, between Blue Cross of California and Affiliates and Prospect Health Source Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.166	Letter of Agreement Serving as Addendum to the January 1, 2001 California Care Medical Services Agreement between Blue Cross of California and Prospect Health Source Medical Group, effective January 1, 2001 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)

10.167	Amendment to the January 1, 2001 CaliforniaCare Medical Services Agreement between Blue Cross of California and its Affiliates and Prospect Health Source Medical Group, effective January 1, 2001 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.168	PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation), effective January 1, 2001, between PacifiCare of California, Inc. and Prospect Health Source Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.169	First Amendment to January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Prospect Health Source Medical Group, effective January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.170	Second Amendment to January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California, Inc. and Prospect Health Source Medical Group, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.171	HMO IPA/Medical Group Shared Savings Provider Agreement, effective July 1, 2003, between Prospect Health Source Medical Group and California Physicians’ Service, Inc. dba Blue Shield of California (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.172	Amendment No. 1 to July 1, 2003 HMO IPA/Medical Group Shared Savings Provider Agreement between Prospect Health Source Medical Group and California Physicians’ Service, Inc. dba Blue Shield of California, effective July 1, 2003(3)
10.173	Participating Physician Group Provider Services Agreement, effective March 1, 1999, between the Foundation Health Systems Affiliate(s) identified in Addendum A to the Agreement and StarCare Medical Group dba Gateway Medical Group, a Participating Physician Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.174	Health Net Medicare+Choice (M+C) Addendum to the March 1, 1999 Participating Physician Group Provider Services Agreement between Health Net and StarCare Medical Group dba Gateway Medical Group, effective October 1, 1999(3)
10.175	Amendment to the Participating Physician Group Provider Services Agreement between Foundation Health Systems Affiliates and StarCare Medical Group dba Gateway Medical Group, effective July 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.176	Amendment to the Participating Physician Group Provider Services Agreement between Foundation Health Systems Affiliates and StarCare Medical Group dba Gateway Medical Group, effective October 10, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)

10.177	Amendment to the Participating Physician Group Provider Services Agreement between Health Net Inc., Affiliates and StarCare Medical Group dba Gateway Medical Group, effective February 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.178	CaliforniaCare Medical Services Agreement, effective January 1, 1997, between Blue Cross of California and Affiliates and Gateway Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(4)
10.179	Letter of Agreement Serving as Addendum to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and Gateway Medical Group, effective January 1, 1997 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.180	Letter of Agreement Serving as Addendum to the January 1, 1997 CaliforniaCare Medical Services Agreement between Blue Cross of California and Gateway Medical Group (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.181	Amendment to the January 1, 2000 CaliforniaCare Medical Services Agreement between Blue Cross of California and StarCare Medical Group dba Gateway Medical Group, Inc., effective January 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.182	Amendment to the January 1, 2000 CaliforniaCare Medical Services Agreement between Blue Cross of California and Gateway Medical Group, effective July 1, 2000 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.183	Amendment to the January 1, 2000 CaliforniaCare Medical Services Agreement between Blue Cross of California and StarCare Medical Group dba Gateway Medical Group, Inc., effective January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.184	Californiakids Medical Services Agreement, effective February 1, 2000, between Blue Cross of California and Affiliates and Gateway Medical Group, Inc. (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.185	Amendment to the January 1, 2000 Blue Cross Senior Secure Medicare+Choice Medical Services Agreement between Blue Cross of California and Affiliates and StarCare Medical Group dba Gateway Medical Group, Inc., effective January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.186	HMO IPA/Medical Group Shared Savings Provider Agreement, effective January 1, 2002, between Starcare Medical Group Inc., dba Gateway Medical Group, Inc. and California Physicians’ Service, Inc., dba Blue Shield of California (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)

10.187	First Amendment to January 1, 2002 HMO IPA/Medical Group Shared Savings Provider Agreement between Starcare Medical Group Inc., dba Gateway Medical Group, Inc. and California Physicians’ Service, Inc., dba Blue Shield of California effective February 1, 2002(3)
10.188	PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation), effective January 1, 2001, between PacifiCare of California, Inc. and Gateway Physicians Medical Associates, Inc. (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934(3)
10.189	Amendment Number 1 to January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement (Professional Capitation) between PacifiCare of California and Gateway Physicians Medical Associates, Inc., effective January 1, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.190	Business Associate Amendment to the January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement between PacifiCare of California, Inc. and Gateway Physicians Medical Associates, Inc.(3)
10.191	Letter Amendment to the January 1, 2001 PacifiCare of California Medical Group/IPA Services Agreement between PacifiCare of California, Inc. and Gateway Physicians Medical Associates, Inc., dated November 15, 2002 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.192	Amendment Number 2 to the January 1, 2001 PacifiCare of California Medical Group/IPA (Professional Capitation) Services Agreement, between PacifiCare of California and Gateway Physicians Medical Associates, effective January 1, 2003 (Certain portions of this Exhibit have been omitted subject to an application for confidential treatment filed with the Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934)(3)
10.193	Form of Subscription Agreement dated as of January 15, 2004 between Prospect Medical Holdings and each purchaser of preferred stock(4)
10.194	Form of Cash Management Agreement among Prospect Medical Systems, Inc., Prospect Medical Holdings, Inc., and Prospect Medical Group, Inc., effective as of June 6, 1996(4)
10.195	Second Amendment to Prospect Medical Holdings, Inc. 1998 Stock Option Plan(5)
10.196	Amended and Restated Assignable Option Agreement dated September 27, 2004, by and among Prospect Medical Systems, Inc., Prospect Medical Group, Inc.,and Jacob Y. Terner, M.D.(5)
10.197	Management Services Agreement effective as of May 19, 2003, by and between Sierra Medical Management, Inc. and Antelope Valley Medical Associates, Inc.(5)
10.198	Amendment to Management Agreement, effective as of February 1, 2004 to that certain Management Agreement made and entered into as of January 1, 2003, entered into by and between Pinnacle Health Resources and StarCare Medical Group, Inc. dba Gateway Medical Group, Inc.(5)
10.199	Amendment to Management Agreement, effective as of February 1, 2004 to that certain Management Agreement made and entered into as of January 1, 2003, entered into by and between Pinnacle Health Resources and APAC Medical Group, Inc. dba Gateway Physicians Medical Associates, Inc.(5)
10.200	Security Agreement, effective as of March 1, 2004, entered into between Prospect NWOC Medical Group, Inc. dba Prospect Northwest Orange County Medical Group, Inc., and Prospect Medical Systems, Inc.(5)

10.201	Security Agreement, effective as of January 1, 2001, entered into between Prospect Health Source Medical Group, Inc. and Prospect Medical Systems, Inc.(5)
10.202	Security Agreement, effective as of February 1, 2004, entered into between StarCare Medical Group, Inc. dba Gateway Medical Group, Inc. and Pinnacle Health Resources(5)
10.203	Security Agreement effective as of February 1, 2004, entered into between APAC Medical Group, Inc. dba Gateway Physicians Medical Associates, Inc. and Pinnacle Health Resources(5)
10.204	Security Agreement, effective as of August 1, 1999, entered into between Nuestra Familia Medical Group and Prospect Medical Systems, Inc.(5)
10.205	Omnibus Amendment to Security Agreements dated as of September 27, 2004, entered into by and among Prospect Medical Systems, Inc., Sierra Medical Management, Inc., Pinnacle Health Resources, Prospect Medical Group, Inc., Santa/Ana Tustin Physicians Group, Inc., Sierra Primary Care Medical Group, A Medical Corporation, Pegasus Medical Group, Inc., Antelope Valley Medical Associates, Inc., Prospect Health Source Medical Group, Inc., Prospect Professional Care Medical Group, Inc., Prospect NWOC Medical Group, Inc., APAC Medical Group, Inc., StarCare Medical Group, Inc., and Nuestra Familia Medical Group(5)
10.206	Loan and Security Agreement entered into and effective as of September 27, 2004 among Residential Funding Corporation, Prospect Medical Holdings, Inc., Prospect Medical Group, Inc., Prospect Medical Group, Inc., and each of the other Credit Parties(5)
	Pursuant to Regulation S-K, Item 601(b)(2), the following schedules to the Loan and Security Agreement will be provided supplementally to the Commission upon request:
	Exhibit A Supplemental Terms and Conditions, Exhibit B Advance Request & Receivables Information Borrowing Certificate, Exhibit C Revolving Credit Borrowing Base Certificate, Exhibit D Closing Checklist, Exhibit E Interest Statement, Exhibit F Form of Secretary’s/Clerk Certificate, Exhibit G Form of Compliance Certificate, Exhibit H Financial Covenants Calculation Worksheet, Exhibit I-1 Form of Revolving Credit Note, Exhibit I-2 Form of Term Note, Exhibit I-3 Form of Intercompany Note, Exhibit J Form of Assignable Option Agreement, Exhibit K Form of Credit Succession Agreement, Schedule 3.2.2(b) Existing Convertible Stock, Schedule 8.5 Litigation Matters, Schedule 8.7 Credit Party Information, Capitated Contracts and Transaction Documents, Schedule 8.9 Tax Matters, Schedule 8.10 Government And Other Offsets, Schedule 8.12 ERISA Matters, Schedule 8.13 Authorized Capital/Outstanding Capital, Schedule 8.15 Deposit Accounts, Schedule 8.16 Environmental Matters, Schedule 8.17 Insurance Policies, Schedule 8.18 Commercial Tort Claims, Schedule 8.19 Intellectual Properties, Schedule 8.20 Labor Matters, Schedule 8.21 Healthcare Filings, Schedule 9.7 Existing Liens, Schedule 9.8(b) Permitted Indebtedness, Schedule 9.10 Transactions With Affiliates, Schedule 9.17 Post-Closing Obligations, Schedule 10.1 Leases
10.207	Revolving Credit Note dated September 27, 2004, executed by Prospect Medical Holdings, Inc., and Prospect Medical Group, Inc., made payable to Residential Funding Corporation(5)
10.208	Term Note dated September 27, 2004, executed by Prospect Medical Holdings, Inc., and Prospect Medical Group, Inc., made payable to Residential Funding Corporation(5)

10.209	Subordinated Intercompany Note dated September 27, 2004, executed by Prospect Medical Holdings, Inc., Prospect Medical Systems, Inc., Pinnacle Health Resources, Nuestra Familia Medical Group, Inc., Prospect Medical Group, Inc., Santa Ana/Tustin Physicians Group, Inc., Pegasus Medical Group, Inc., Antelope Valley Medical Associates, Inc., Prospect Health Source Medical Group, Inc., Prospect Professional Care Medical Group, Inc., Prospect NWOC Medical Group, Inc., APAC Medical Group, Inc., StarCare Medical Group, Inc., Sierra Medical Management, Inc., Sierra Primary Care Medical Group, A Medical Corporation(5)
10.210	Credit Succession Agreement, dated September 27, 2004, entered into by and among Jacob Y. Terner, M.D., Prospect Medical Holdings, Inc., Prospect Medical Group, Inc., Prospect Medical Systems, Inc., Sierra Medical Management, Inc., Pinnacle Health Resources, the following subsidiaries of Prospect Medical Group: Sierra Primary Care Medical Group, A Medical Corporation, Santa Ana/Tustin Physicians Group, Inc., Pegasus Medical Group, Inc., Antelope Valley Medical Associates, Inc., Nuestra Familia Medical Group, Inc., Prospect Health Source Medical Group, Inc., Prospect Professional Care Medical Group, Inc., Prospect NWOC Medical Group, Inc., APAC Medical Group, Inc., StarCare Medical Group, Inc. and Residential Funding Corporation(5)
10.211	Subordination Agreement dated September 27, 2004, by and among Prospect Medical Systems, Inc., Sierra Medical Management, Inc., Pinnacle Health Resources, Prospect Medical Holdings, Inc., Prospect Medical Group, Inc., each of the subsidiaries of Prospect Medical Group, Inc., signatory hereto, and Residential Funding Corporation(5)
10.212	Pledge Agreement, dated as of September 27, 2004 among Jacob Y. Terner, M.D. and Residential Funding Corporation(5)
10.213	Pledge Agreement, dated as of September 27, 2004 among Prospect Medical Group, Inc., and Residential Funding Corporation(5)
10.214	Pledge Agreement, dated as of September 27,2004 among Prospect Medical Holdings, Inc., and Residential Funding Corporation(5)
10.215	Pledge Agreement, dated as of September 27,2004 among Prospect Medical Systems, Inc., and Residential Funding Corporation(5)
10.216	Collateral Assignment of Transaction Documents has been executed and delivered as of September 27, 2004, by and between Sierra Medical Management, Inc., and Residential Funding Corporation(5)
10.217	Collateral Assignment of Transaction Documents has been executed and delivered as of September 27, 2004, by and between Pinnacle Health Resources and Residential Funding Corporation(5)
10.218	Collateral Assignment of Transaction Documents has been executed and delivered as of September 27, 2004, by and between Prospect Medical Systems, Inc., and Residential Funding Corporation(5)
10.219	Guaranty Inducement and Offset Agreement, dated as of September 27, 2004, entered into by and among Prospect Medical Group, Inc., Prospect Medical Holdings, Inc., Prospect Medical Systems, Inc., Sierra Medical Management, Inc., and Pinnacle Health Resources, Sierra Primary Care Medical Group, A Medical Corporation, Santa Ana/Tustin Physicians Group, Inc., Pegasus Medical Group, Inc., Antelope Valley Medical Associates, Inc., Nuestra Familia Medical Group, Inc., Prospect Health Source Medical Group, Inc., Prospect Professional Care Medical Group, Inc., Prospect NWOC Medical Group, Inc., APAC Medical Group, Inc., and StarCare Medical Group, Inc., and Residential Funding Corporation(5)

10.220	Power of Attorney executed by Prospect Medical Holdings, Inc., Prospect Medical Systems, Inc., Sierra Medical Management, Inc., Pinnacle Health Resources, Prospect Medical Group, Inc., Sierra Primary Care Medical Group, A Medical Corporation, Santa Ana/Tustin Physician Group, Inc., Pegasus Medical Group, Inc., Antelope Valley Medical Associates, Inc., Nuestra Familia Medical Group, Inc., Prospect Health Source Medical Group, Inc., Prospect Professional Care Medical Group, Inc., Prospect NWOC Medical Group, Inc., APAC Medical Group, Inc., and StarCare Medical Group, Inc., to Residential Funding Corporation, under that certain Loan and Security Agreement, dated as of September 27, 2004(5)
10.221	Form of Business Associate Agreement, effective September 27, 2004, entered into by and among APAC Medical Group, Inc., and Residential Funding Corporation(5)
10.222	Form of Business Associate Agreement, effective September 27, 2004, entered into by and among Prospect Health Source Medical Group, Inc., and Residential Funding Corporation(5)
10.223	Form of Business Associate Agreement, effective September 27, 2004, entered into by and among Prospect Professional Care Medical Group, Inc., and Residential Funding Corporation(5)
10.224	Form of Business Associate Agreement, effective September 27, 2004, entered into by and among Nuestra Familia Medical Group, Inc., and Residential Funding Corporation(5)
10.225	Form of Business Associate Agreement, effective September 27, 2004, entered into by and among Prospect NWOC Medical Group, Inc., and Residential Funding Corporation(5)
10.226	Form of Business Associate Agreement, effective September 27, 2004, entered into by and among StarCare Medical Group, Inc., and Residential Funding Corporation(5)
10.227	Form of Limited Consent, Omnibus Amendment No. 1 to the Loan Documents and Joinder Agreement, dated as of July 20, 2005, entered into by and among Residential Funding Corporation, Prospect Medical Holdings, Inc., Prospect Medical Group, Inc., and Prospect Medical Management, Inc.(6)
10.228	Form of stock option agreement used for incentive stock options granted under the registrant’s 1998 Stock Option Plan, as amended(7)
10.229	Form of stock option agreement used for non-qualified stock options granted under the registrant’s 1998 Stock Option Plan, as amended(7)
10.230	Form of Limited Consent, Omnibus Amendment No. 3 and Joinder Agreement to the Loan Documents, dated as of November 1, 2005, among Residential Funding Corporation, Prospect Medical Holdings, Inc., Prospect Medical Group, Inc., Prospect Medical Systems, Inc., Pinnacle Health Resources, Sierra Medical Management, Inc., Sierra Primary Care Medical Group, Nuestra Familia Medical Group, Inc., Santa Ana/Tustin Physicians Group, Inc., Pegasus Medical Group, Inc., Antelope Valley Medical Associates, Inc., Prospect Health Source Medical Group, Inc., Prospect Professional Care Medical Group, Inc., Prospect NWOC Medical Group, Inc., APAC Medical Group, Inc., Starcare Medical Group, Inc., Prospect Hospital Advisory Services, Inc., and Genesis Healthcare of Southern California, Inc.(8)
14.1	Code of Ethics(8)
21.1	List of Subsidiaries of Prospect Medical Holdings, Inc.(3)
23.1	Consent of Independent Registered Public Accounting Firm(8)
31.1	Certification of Chief Executive Officer pursuant to Rules 13a-14(a)/15d-14(a) under the Securities Exchange Act of 1934, as amended(8)
31.2	Certification of Chief Financial Officer pursuant to Rules 13a-14(a)/15d-14(a) under the Securities Exchange Act of 1934, as amended(8)

32.1	Certification of Chief Executive Officer pursuant to 18 U.S. C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002(8)
32.2	Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002(8)

(1)Previously filed as an exhibit to our Form 10 registration statement (the “Form 10”) on May 27, 2004, and incorporated herein by reference.

(2)Previously filed as an exhibit to our registration statement on Form S-1 (File No. 333-63801) on September 18, 1998, and incorporated herein by reference.

(3)Previously filed as an exhibit to Amendment No. 1 to the Form 10 on May 27, 2004, and incorporated herein by reference.

(4)Previously filed as an exhibit to Amendment No. 2 to the Form 10 on August 27, 2004, and incorporated herein by reference.

(5)Previously filed as an exhibit to Amendment No. 3 to the Form 10 on October 21, 2004, and incorporated herein by reference.

(6)Previously filed as an exhibit to our registration statement on Form S-1 (File No. 333-124915) on July 21, 2005, and incorporated herein by reference.

(7)Previously filed as an exhibit to our Form 8-K report filed on September 20, 2005.

(8)Filed herewith.

EX-2.11

EXHIBIT 2.11

STOCK PURCHASE AGREEMENT

Among

PROSPECT MEDICAL GROUP, INC.,

A CALIFORNIA PROFESSIONAL CORPORATION

Purchaser

And

GENESIS HEALTHCARE OF SOUTHERN

CALIFORNIA, INC., A MEDICAL GROUP, A

CALIFORNIA PROFESSIONAL CORPORATION

Company

And

MITCHELL W. LEW, M.D.

Seller

November 1, 2005

STOCK PURCHASE AGREEMENT

This Stock Purchase Agreement (the “Agreement”) is entered into this 1st day of November, 2005 by and among Prospect Medical Group, Inc., a California professional corporation (“Purchaser”), Mitchell W. Lew, M.D. (“Seller”), and Genesis Healthcare of Southern California, Inc., a Medical Group, a California professional corporation (“Company”).

RECITALS

A.            Company is a licensed California professional corporation that operates as an independent practice association and, as such, contracts with physicians (“Company Provider Contracts”) and providers of ancillary services (“Company Ancillary Service Contracts”) to provide professional medical services to patients (“Company Enrollees”) through capitated contracts with health maintenance organizations (“Company Health Plans”).

B.            Company is authorized to issue (i) Five Hundred Thousand (500,000) shares of its no par value Class A common stock, of which 10,000 may be designated as Class A — Series One common stock and 490,000 may be designated as Class A — Series Two common stock, of which 6,000 shares of Class A — Series One, and 262,500 shares of Class A — Series Two, are presently issued and outstanding; and (ii) Five Hundred Thousand (500,000) shares of its no par value Class B common stock, of which no shares are presently issued and outstanding (such issued and outstanding common stock of the Company is hereinafter referred to as the “Stock”).

C.            Seller owns of record and beneficially all of the issued and outstanding Stock.

D.            Purchaser is a licensed California professional corporation that operates as an independent practice association and as such provides professional medical services to patients primarily through capitated contracts with health maintenance organizations.

E.             Prospect Medical Holdings, Inc., a Delaware corporation, through its wholly owned subsidiary Prospect Medical Systems, Inc., a Delaware corporation, provides management and administrative services to Purchaser pursuant to a long-term management services agreement.

F.             Seller desires to sell and Purchaser desires to purchase all of the Stock of Seller, on the terms and conditions set forth in this Purchase Agreement, making Company a wholly owned subsidiary of Purchaser.

NOW, THEREFORE, in consideration of the covenants and conditions contained herein and for other valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the parties hereby agree as follows:

2

AGREEMENT

NOW, THEREFORE, in reliance on the foregoing recitals and in and for the consideration and representations, warranties, agreements and covenants set forth herein, the parties hereto hereby agree as follows:

ARTICLE 1

PURCHASE AND SALE OF STOCK

1.1           Closing Date. The consummation of the sale of the Stock to Purchaser and the other transactions contemplated by this Agreement (collectively, the “Transaction”), shall take place simultaneous with the execution of this Agreement (the “Closing”) on November 1, 2005 (the “Closing Date”).

1.2           Transfer of Stock. At the Closing, the Seller will deliver to Purchaser one or more certificates representing all of the Stock, as set forth in Schedule 1.2. Such stock certificates will be duly endorsed in blank for transfer or shall be presented with stock powers duly endorsed in blank, with such other documents as may be reasonably required by Purchaser to effect a valid transfer of such the Stock by the Seller, free and clear of any claims, demands, liens, mortgages, encumbrances, pledges, security interests, and restrictions of any kind (collectively, “Liens”).

1.3           Purchase Price and Payment.  Subject to the terms and conditions of this Agreement, in reliance on the representations, warranties and covenants of the parties hereto and in consideration of the sale and transfer of the Stock, Purchaser shall pay to Seller, a total purchase price of Eight Million Dollars ($8,000,000) on the Closing Date (the “Purchase Price”). The Purchase Price shall be paid by way of a wire transfer of immediately available funds into a deposit account designated in writing by Seller prior to the Closing Date.

1.4           Non-Competition Agreement. As additional consideration for the execution of this Agreement and the Transaction, Seller shall enter into a non-competition agreement in the form set forth in Exhibit A attached hereto, which, among other things, will contain a restriction on competition with Purchaser and Purchaser’s affiliates for a period of 3 years following the Closing Date (the “Non-Competition Agreement”).

1.6           Purchase Price Allocation.  The parties agree that they shall allocate the Purchase Price as shown in Schedule 1.6, and agree that they shall use such allocation for purposes of federal and state tax reporting, including Form 8594.

1.7           Fair Market Value.  The parties agree that the Purchase Price reflects the aggregate fair market value of the Stock and the Non-Competition Agreement.

1.8           Sales and Transfer Taxes on the Sale of the Stock. Any sales and transfer taxes, if any, related to the sale of the Stock shall be borne by Seller.

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ARTICLE 2

REPRESENTATIONS AND WARRANTIES

OF THE COMPANY

In order to induce Purchaser to enter into this Agreement and to consummate the Transaction, Company and Seller, jointly and severally, make the representations and warranties set forth in this Article 2.

2.1           Organization; Subsidiaries. Company is a California professional corporation duly organized, validly existing and in good standing under the laws of the State of California. Company has all requisite corporate power and authority to own, lease, and operate its business and to carry on its business as currently being conducted. Company is duly qualified to transact its business in the State of California and does not conduct business in any other state. Company has no partially-owned or wholly-owned subsidiaries.

2.2           Minute Book and Stock Records. The minute books and stock records of Company are complete and accurate in all material respects and all signatures included therein are the genuine signatures of the persons indicated as signing. True, correct and complete copies of Company’s minute books and stock records, including Company’s Articles of Incorporation and By-laws and all amendments to both, have previously been delivered to Purchaser. Company is not in default under or in violation of any provision of its Articles of Incorporation or its By-laws.

2.3           Authorization. Company has the corporate power and authority to enter into this Agreement and to consummate the Transaction. All actions on the part of Seller and Company necessary for the authorization, execution, delivery and performance of this Agreement and the consummation of the Transaction has been or will be taken prior to the Closing Date, and this Agreement (including exhibits, schedules and the ancillary agreements) constitutes the legal, valid and binding obligation of Company and Seller, enforceable in accordance with its terms, except as enforceability may be restricted, limited or delayed by applicable bankruptcy, insolvency, fraudulent conveyance, or other laws affecting creditor’s rights generally and except as enforceability is subject to general principles of equity.

2.4           No Consent Required. Neither the execution and delivery of this Agreement nor the performance by it of its obligations under this Agreement requires the consent, approval, order or authorization of, or registration, declaration or filing with any governmental entity or any third party that has not been obtained and delivered to Purchaser.

2.5           No Violation of Other Agreements; No Conflicts.

(a)           Neither this Agreement nor any of the transactions contemplated hereunder violates, conflicts with or results in a breach of, or shall violate, conflict with or result in a breach of any lease, contract, document or agreement to which Company or Seller is a party or by which Company or Seller may be bound.

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(b)           Neither the execution and delivery of this Agreement nor the consummation or performance of the transactions contemplated herein, will, directly or indirectly (with or without the giving of notice, or lapse of time, or both):

(i)            contravene, conflict with, or result in a violation of any provision of the organizational documents of Company;

(ii)           contravene, conflict with, or result in a violation of any order, judgment or decree to which Company or Seller may be subject; or

(iii)          contravene, conflict with or result in a violation of any of the terms or requirements, or give any governmental body the right to revoke, withdraw, suspend, cancel, terminate or modify, any governmental authorization that is held by Company.

2.6           Capital Structure. The authorized capital stock of Company consists of One Million (1,000,000) shares of common stock, of which Five Hundred Thousand (500,000) shares constitute Class A common stock, no par value, and Five Hundred Thousand (500,000) constitute Class B common stock.  Of the 500,000 shares of Class A common stock authorized, 10,000 may be designated as Class A — Series One common stock and 490,000 may be designated as Class B — Series Two common stock. There are currently 6,000 shares of Class A — Series One, and 262,500 shares of Class A — Series Two, presently issued and outstanding No shares of Class B common stock are issued and outstanding. All outstanding shares are validly issued, fully paid and nonassessable and are owned by Seller. There are no shares of Company’s capital stock held in Company’s treasury. There are no options, warrants, rights, shareholder agreements or other instruments or agreements outstanding giving any person the right to acquire any shares of capital stock of Company, nor are there any commitments to issue or execute any such options, warrants, rights, shareholder agreements or other instruments or agreements. There are no outstanding stock appreciation rights or similar rights outstanding with respect to any of the capital stock of Company nor are there any instruments, or agreements giving anyone the right to acquire any such rights.

2.7           Financial Statements. Seller has previously delivered to Purchaser all financial statements, books, and records related to the operations of Company, including but not limited to, (i) the balance sheets and income statements of Company (the “Year End Financial Statements”), for the years ended December 31, 2002, December 31, 2003 and December 31, 2004 (the latter being the “December 2004 Year End Financial Statements”) and (ii) the interim balance sheets and income statements of Company for the subsequent monthly periods (the “Interim Financial Statement”) through and including September 2005 (the “September 2005 Interim Financial Statement”) and all supporting documents and schedules for the Interim Financial Statements. The Year End Financial Statements (including the December 2004 Year End Financial Statements) and the Interim Financial Statements (including the September 2005 Interim Financial Statements) be collectively referred to herein from time to time as the “Financial Statements”.  The Financial Statements fairly and accurately represent the financial condition and results of operation of Company as of the date and for the periods set forth therein and the Financial Statements do not contain any statement that is false or misleading with respect to any material fact or omit to state any material fact required to be stated therein or necessary to make the statements therein not misleading. The Financial Statements have been prepared in accordance with GAAP applied on a consistent basis throughout the periods covered thereby. As

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used herein, “GAAP” means U.S. generally accepted accounting principles consistently applied. Since the date of the December 2004 Year End Financial Statements there has not been any material adverse change to the financial condition of Company as shown on the December 2004 Year End Financial Statements.

2.8           No Undisclosed Liabilities. Company does not have any liabilities or obligations of any nature (whether absolute, accrued, contingent, or otherwise) except for those shown on the September 2005 Interim Financial Statement.

2.9           Tax Matters. From the date of incorporation until December 31, 2001, Company was a C corporation.

Commencing January 1, 2002, Company has been a validly elected S corporation within the meaning of Internal Revenue Code Sections 1361 and 1362 for federal and state purposes and will continue to be a S corporation up through the Closing Date. Since its date of incorporation, Company has timely filed all income and franchise tax returns required to be filed by it and has timely paid in full all Taxes (defined below) owed by it for the periods ending on December 31, 2004 and has properly accrued, in accordance with generally accepted accounting principles, on the Financial Statements all Taxes for all periods thereafter up to and including September 2005. Company has accrued all Taxes owing for the period commencing January 1, 2005 through the Closing Date.  All tax returns filed by or on behalf of Company are true, accurate and complete in all material respects. Except as provided in Schedule 2.9, (i) no action or proceeding for the assessment or collection of any Taxes is pending against Company, (ii) no deficiency, assessment or other formal claim for any Taxes has been asserted or made against Company that has not been fully paid or finally settled; and (iii) no issue has been formally raised by any taxing authority in connection with an audit or examination of any return of Taxes. No federal or state income tax returns of Company have been audited or examined, and there are no outstanding agreements or waivers extending the applicable statutory periods of limitation for such Taxes for any period.  All Taxes that Company has been required to collect or withhold have been duly withheld or collected and, to the extent required, have been paid to the proper taxing authority. “Taxes” means taxes, charges, fees, levies, or assessments including, without limitation, income, excise, property, withholding, payroll, sales and franchise taxes, imposed by federal, state, county, local or foreign government or subdivision or agency thereof, and including any interest, penalties or additions.

2.10         Title to the Stock. Seller is the owner, beneficially and of record, of one hundred percent (100%) of the outstanding capital stock of Company. Seller owns the Stock free and clear of all Liens. At the Closing, Purchaser will acquire good title to the Stock free and clear of all Liens.

2.11         Real Property.

(a)           Company does not own any real property, nor has it ever owned any real property.

(b)           Schedule 2.11(b) contains a true, correct and complete list and summary of all leases, subleases and other agreements under which Company uses or has the right to occupy any real property.

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2.12         Tangible Personal Property.

(a)           Company has good, marketable and valid title to all tangible personal property owned by it free and clear of all Liens.

(b)           Each item of furniture, equipment and other tangible personal property with an original cost of $500 or more that is owned by Company and used in the conduct of its business is listed in Schedule 2.12(b) (the “Tangible Personal Property”).

(c)           All items constituting the Tangible Personal Property have been retained by Company and considered part of the Transaction. None of the Tangible Personal Property is being be sold nor is it encumbered by a Lien except as specifically contemplated by this Agreement. All of the Tangible Personal Property are in working condition and operating in the ordinary course of business of Company.

2.13         Intellectual Property. Schedule 2.13 lists all intellectual property owned by Company. Except for the name Edward Medical Group II, Inc., Company has not operated during the past five (5) years under any name other than the name as set forth in the preamble located on the first page of this Agreement. Company has applied for and received a fictitious name permit from the California Medical Board to use the name Genesis Healthcare of Southern California, a Medical Group, which permit is outstanding and active as of the Closing Date. Company does not, nor does it know of any reason it would be obligated to pay, any royalties, license fees or other amounts to any person or entity as a result of the use of its name. To the knowledge of Company, its use of such name does not infringe on the rights of any third party.

2.14         Contracts. Schedule 2.14 sets forth a list of all contracts, agreements, leases, documents, instruments, loan agreements, security agreements, arrangements, and commitments (whether oral or written) to which Company is bound (the “Contracts”), which Contracts shall specifically include all Contracts with the Company Health Plans, all Company Provider Contracts and the Company Ancillary Service Contracts. Company has delivered to Purchaser a correct and complete copy of each Contract; except in the case of the Company Provider Contracts and the Company Ancillary Service Contracts where Company has provided Purchaser the form of each such contract. Company represents that the Company Provider Contracts are identical, except for the name of the physician and such physician’s rates, to one of the following forms provided to Purchaser (i) (PCP (Individual) — Capitated, (ii) PCP (Group) — Capitated, (iii) Specialist Physician Agreement — Fee for Service and (iv) Specialist Agreement — Capitated. Company represents that each Company Ancillary Service Contract is identical to the Ancillary Services Agreement — Fee for Service form provided to Purchaser, except for the name of the ancillary provider, the description of the particular ancillary services to be provided thereunder, and such provider’s rates. Each of the Contracts is a legal, valid, binding, enforceable agreement of Company, in full force and effect, and have been entered into in the ordinary course of business or otherwise, consistent with past practice, except as enforceability may be restricted, limited or delayed by applicable bankruptcy, insolvency, fraudulent conveyance, or other laws affecting creditor’s rights generally, and except as enforceability is subject to general principles of equity. There is not now and, to the knowledge of Company, there has not been claimed or alleged by any person or entity, that a default exists, or an event that with notice or lapse of time or both would constitute a default or event of default, on the part of Company, or to the knowledge of Company, any other party. Except for the consent of the Company Health Plans to the Transaction, no consent from, or notice to any third person or governmental entity is required

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in order to maintain in full force and effect any of the Contracts, other than consents that have been obtained and are unconditional and in full force and effect, except as enforceability may be restricted, limited or delayed by applicable bankruptcy, insolvency, fraudulent conveyance, or other laws affecting creditor’s rights generally, and except as enforceability is subject to general principles of equity, or consents that will be obtained which will be unconditional and in full force and effect, except as enforceability may be restricted, limited or delayed by applicable bankruptcy, insolvency, fraudulent conveyance, or other laws affecting creditor’s rights generally, and except as enforceability is subject to general principles of equity.  To the knowledge of the Company, there are (i) no material disputes, facts or circumstances that would jeopardize Company’s right to payment under any Contract with the Company Health Plans, and (ii) no revocations, suspensions or threatened revocations or suspensions of any Contract with Company Health Plans. To the knowledge of Company, the transaction contemplated herein shall not result in the termination, revocation, suspension, alteration or otherwise of any of the Contracts with Company Health Plans. Attached as Exhibit B is a true, correct and complete copy of the management agreement between American Medical Management, Inc. (“Management Company”) and Company (the “Management Agreement”), as amended effective November 1, 2005.

2.15         Legal Proceedings. Except as set forth on Schedule 2.15 (“Existing/Threatened Claims”), there is no pending claim, suit, action, legal or administrative proceeding (“Proceeding”), and, to the knowledge of Company, no person, entity or authority (including, but not limited to, any employee, agent, contractor or provider of Company) has threatened to commence any Proceeding or any investigation that could lead to a Proceeding: (i) against or relating to Company (including, without limitation, any workers’ compensation, Equal Employment Opportunity Commission or Americans With Disability Act claims) or Company’s shareholders or employees ; or (ii) that challenges, or that may have the effect of preventing, delaying, making illegal, or otherwise interfering with, any part of the Transaction. To the knowledge of Company, no person, entity or authority (including, but not limited to, any employee, agent, contractor or provider of Company) has threatened to commence any Proceeding or any investigation that could lead to a Proceeding against any employee, agent, contractor or provider of any of Company for conduct which would give rise to a potential indemnification obligation of Company. There is no outstanding order, judgment, writ, injunction or decree of any court or any federal, state, local or other governmental department, commission, board, bureau, agency or instrumentality, to which Company or any of the other assets owned or used by Company, is subject that has not been fully complied with to the satisfaction of such governmental entity. The insurance coverage of Company as of the date hereof is sufficient to fully cover all fees, expenses and costs, including attorney fees relating to the defense of the Existing/Threatened Claims and all settlement and judgment amounts pertaining to such actions, subject to the policy deductibles and policy limits. The parties acknowledge the indemnification obligation of Seller for the Existing/Threatened Claims as set forth in Article 7 of this Agreement. Irrespective of Seller’s indemnification obligations, the parties agree that on and after the Closing Date, Purchaser and Company shall be entitled to, and Seller shall reasonably cooperate in providing, status reports of such Existing/Threatened Claims from the insurance carrier and/or defense counsel, as applicable.

2.16         Compliance with Laws. The Company is not is in violation of any law, rule, regulation or administrative or judicial order pertaining to the assets or the business of Company (including, without limitation, licensing, health care, federal, state or local laws relating to

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kickbacks, illegal referrals, illegal billings or the like, drug enforcement, securities, zoning, building, environmental, immigration, civil rights and occupational health and safety laws, regulations, ordinances and codes) and there is no law, rule, regulation or administrative or judicial order applicable to any of Company (as opposed to a law, rule, regulation or administrative or judicial order only applicable to the Purchaser) that any part of the Transaction would violate, which would have an adverse effect on the assets or the business of the Company or would have the effect of delaying, making illegal or otherwise interfering with, any part of the Transaction. To the best of its knowledge, Company has no reason to anticipate that existing circumstances are likely to result in violations of any of the foregoing.

2.17         Employees. Set forth on Schedule 2.17 are the following:

(a)           A complete and accurate list of the names, titles, dates of hire and rates of pay of all employees of Company as of the date hereof. Except as set forth separately on Schedule 2.17, (1) all employees are “at will” employees and no written or oral employment, consultant or independent contractor agreement exists with respect to Company to which Company may be bound, (2) no employees are members of a labor union in connection with their employment with Company or subject to a collective bargaining agreement with Company, and (3) to the knowledge of Company, no employees are subject to or party to any contract or agreement restricting their ability to freely engage or compete in any business.

(b)           A description of each employee benefit or compensation plan, including without limitation, pension, retirement, deferred compensation, profit sharing, bonus or incentive, medical, dental, health insurance and life insurance or other employee benefit plans, arrangements or undertakings of Company applicable to its employees; and

(c)           A complete and accurate list of all holiday and vacation pay accrued as of September 30, 2005 for all employees of Company.

Except as set forth in Schedule 2.17, the Company is not a party to, bound by, nor does it maintain or make any contribution to, nor has it incurred any expense with respect to any employment agreement, pension, retirement, deferred compensation, profit sharing, bonus or incentive plan, medical, dental or other health insurance plan, life insurance plan, or other employee benefit plan, program, arrangement or undertaking, whether or not legally binding (including, without limitation, any “employee benefit plan” as defined in Section 3(3) of the federal Employee Retirement Income Security Act (“ERISA”)), under which employees of Company are eligible to participate or derive a benefit (collectively “Employee Plans” and individually “Employee Plan”).

(d)           There is no liability of Company which has not been properly accrued on the Financial Statements for any Employee Plan or unpaid compensation, tax withholdings, wrongful termination, Federal Insurance Contribution Act and disability payments of any kind with respect to any employee or independent contractor providing services to Company, including without limitation, vacation pay, sick leave pay, personal day pay, severance pay and bonus pay.

2.18         Insurance. Schedule 2.18 contains a list of all insurance policies maintained by or for the benefit of Company through the Closing Date, including errors and omission, stop-loss

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(reinsurance), directors and officers, general liability, worker’s compensation and malpractice insurance policies (the “Insurance Policies”). All Insurance Policies are in full force and effect on the date hereof as evidenced by certificates of insurance for each Insurance Policy, of which true and correct copies of such have been delivered to Purchaser. Neither the Company nor the Seller has received any notification from any insurance carrier regarding the possible cancellation or material limitation of any such Insurance Policies, all of which will be in effect at the Closing Date unless provision has been made for the cancellation thereof as of the Closing Date with the consent of Purchaser.

2.19         Management; Powers of Attorney. Schedule 2.19 sets forth all current appointed and acting officers and directors of Company (or other applicable managers or governing board members) and lists all general and special powers of attorney granted by Company, including the names of the attorneys-in-fact appointed under those powers of attorney and the respective dates in which those powers were granted.

2.20         No Bankruptcy Proceedings. The Company has not (i) made a general assignment for the benefit of creditors, (ii) filed any voluntary petition in bankruptcy or suffered the filing of an involuntary petition by its creditors, (iii) suffered the appointment of a receiver to take possession of all or substantially all of its assets, property or business, (iv) suffered the attachment or other judicial seizure of all or substantially all of its assets, property or business, (v) admitted in writing its inability to pay its debts as they come due, or (vi) made an offer of settlement, extension or compromise to its creditors generally.

2.21         Licensure. As of the date hereof, each of the employees or independent contractors of Company who is required to be licensed in connection with the delivery of health care services is duly licensed in the State of California without restriction.

2.22         Environmental. Company has complied with all federal, state and local environmental laws, rules and regulations as in effect on the date hereof applicable to its business and its assets. To the knowledge of Company, no hazardous or toxic waste, substance, material or pollutant (as those or similar terms are defined under the Comprehensive Environmental Response, Compensation and Liability Act of 1980, as amended, 42 U.S.C. 9601 et seq., Toxic Substances Control Act, 15 U.S.C. 2601 et seq., the Resource Conservation and Recovery Act of 1976, 42 U.S.C. 6901 et seq. or any other applicable federal, state and local environmental law, statute, ordinance, order, judgment, rule or regulation relating to the environment or the protection of human health (“Environmental Laws”)), including but not limited to, any asbestos or asbestos related products, oils or petroleum-derived compounds, CFCs or PCBs, have been released, emitted or discharged or are currently located in, on, under, or about the real property on which the assets or the business of the Company are located. The assets of Company and its use thereof, and the Company’s operation of its business, are not in violation of any Environmental Laws nor any occupational, safety and health law now in effect.

2.23         Business Relations. To the knowledge of the Company, no Company Health Plan will cease to do business with the Company or will materially decrease the volume of business with the Company, after, or as a result of, the consummation of the Transaction by Purchaser.

2.24         Confidentiality and Non-Compete Arrangements. Except as set forth in Schedule 2.24, the Company is not a party to, or bound or affected by, any confidentiality or non-compete

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agreements or arrangements, or any acquisition or sale or other agreements that contain any confidentiality or non-compete agreements or arrangements, that are currently in effect, or are contained in agreements or arrangements that have lapsed but which contain continuing confidentiality or non-compete obligations, agreements or arrangements.

2.25         Inspections. Schedule 2.25 sets forth accurately and fully describes (i) all inspections of the Company by any governmental agency or any consultant at any time during the previous five (5) years; (ii) all matters that were noted by any and all such governmental agency or consultant as requiring correction or modifications that were requested or recommended; and (iii) the present status of each such noted matter.

2.26         Reimbursement. As of the date hereof, all billing practices by Company or by Management Company on its behalf, to all third party payors, have been true, fair and correct and in compliance with all applicable laws, regulations and policies of all such third party payors, and Company has not billed for or received any payment or reimbursement in excess of amounts permitted by the Company Health Plans or the law.

2.27         Absence of Certain Business Practices. Neither Company nor any of its agents has directly or indirectly (i) offered to pay or solicited any remuneration, in cash or in kind, to, any past or present customers, past or present suppliers, contractors, third parties, or third party payors of Company in order to obtain business or payments from such persons; other than entertainment activities in the ordinary and lawful course of business; (ii) given or received, or agreed to give or receive, or is aware that there has been made or that there is any agreement to make or receive, any gift or gratuitous payment of any kind, nature or description (whether in money, property or services) to any customer or potential customer, supplier or potential supplier, contractors, third party payor or any other person other than in connection with promotional or entertainment activities in the ordinary and lawful course of business; (iii) made or agreed to make, or is aware that there has been made or that there is any agreement to make any contribution, payment or gift of funds or property to, or for the private use of, any governmental official, employee or agent where either the contribution, payment or gift or the purpose of such contribution, payment or gift is or was illegal under the laws of the United States or under the laws of any state thereof or any other jurisdiction under which such payment, contribution or gift was made; (iv) established or maintained any unrecorded fund or asset for any purpose or made any false or artificial entries on any of its books or records for any reason; or (v) made or agreed to make or is aware that there has been made or that there is any intention to make, any payment to any person with the intention or understanding that any part of such payment would be used for any purpose other than that described in the documents supporting such payment.

2.28         Permits. Schedule 2.28 sets forth a list of all permits, licenses and approvals from federal, state, local and foreign governmental and regulatory bodies (collectively “Permits”) held by Company. Such Permits constitute all of the Permits necessary to conduct the business of Company in the manner now conducted by Company. No breach of any such Permit currently exists, nor has any event occurred which through the passage of time or the giving of notice or both, would constitute a breach thereunder. There is no proceeding pending or threatened that disputes the validity of any Permit or, to the knowledge of Company, may result in the revocation, cancellation or suspension or any material adverse modification of any Permit.

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2.29         No Referrals.   Neither Company, its directors, officers, employees or agents, nor Seller are, or during the past twenty-four months have been, a party to any contract, lease, agreement or arrangement, including but not limited to any joint venture or consulting agreement with any physician, hospital, nursing facility, home health agency or other person who is in a position to make and did make, receive or influence referrals to or from Company, provide services, lease space, lease equipment or engage in any other venture or activity in any manner which was not in compliance with applicable law.

2.30         Bank Accounts.  A correct and complete list of all bank accounts of Company (“Bank Accounts”) and the persons authorized to access such accounts and to incur indebtedness on behalf of Company, is set forth in Schedule 2.30(a) of this Agreement.  Except for cash securing letters of credit or certificates of deposits pledged as security for the Company Health Plans as set forth on Schedule 2.30(b), all monies in the Bank Accounts constitute “good funds” and are in cash (and not invested in securities of any nature) and subject to immediate withdrawal by Purchaser on or after the Closing Date.  The Company has provided Merrill Lynch, which is the bank where all of the Bank Accounts are located (“Bank”) with all documentation required to be provided by Company to allow the Purchaser access to the funds in the Bank Accounts upon the Closing Date.

2.31         Enrollment Information and Eligibility Reports.   The enrollment information of the Company set forth in the Financial Statements and/or previously provided to Purchaser was prepared from the eligibility reports of the Company Health Plans and are, to the best knowledge of Company, true, accurate and complete.

2.32         Conduct of Business Since September 2005 Interim Financial Statements.  From the date of the September 2005 Interim Financial Statements through the Closing Date, the Company has conducted the business of Company in the ordinary course of business consistent with past practice.  Without limiting the generality of the foregoing, subsequent to September 30, 2005, the Company has not:

(a)           instituted any new method of purchase, sale, lease, management, accounting or operation or engaged in any transaction or activity, entered into any agreement or made any commitment or amended any existing material agreement other than as contemplated by this Agreement, except in the ordinary course of its business conducted in a manner consistent with past practice (including those activities or transactions which occurred as a result of Company’s obligations under the Management Agreement);

(b)           changed or amended its Articles of Incorporation or By-Laws or proposed any such change or amendment;

(c)           offered, issued, authorized or sold any shares of the capital stock or other securities (such term as used in this subsection shall include, without limitation, debt securities) of Company of any kind whatsoever, or acquired directly or indirectly, by redemption or otherwise, any such capital stock, reclassified or split-up any such capital stock, declared or paid any dividends thereon in cash, securities or other property, or made any other distribution with respect thereto, or granted or entered into any stock options, warrants, or other rights to acquire securities of Company or entered into any other contracts or commitments of any kind with respect to the issuance of additional shares of capital stock or other securities of Company;

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(d)           (i) borrowed or agreed to borrow any funds, whether directly or by way of guaranty or otherwise,or (ii) except in the ordinary course of business conducted in a manner consistent with past practice (including those activities or transactions which occurred as a result of Company’s obligations under the Management Agreement), incurred, or assumed or become subject to any obligation or liability (absolute or contingent);

(e)           paid, discharged, waived, satisfied, compromised or adjusted any claim, liability or obligation (absolute, accrued, contingent or otherwise) of an amount in excess of $500, other than as contemplated by this Agreement or which occurred in the ordinary course of business conducted in a manner consistent with past practices (including those activities or transactions which occurred as a result of Company’s obligations under the Management Agreement);

(f)            prepaid any obligation having a fixed maturity of more than 90 days from the date such obligation was incurred other than as contemplated by this Agreement or which occurred in the ordinary course of business conducted in a manner consistent with past practice (including those activities or transactions which occurred as a result of Company’s obligations under the Management Agreement);

(g)           permitted or allowed any of its property or assets (real, personal or mixed, tangible or intangible) to be subjected to any mortgage, pledge, lien or other encumbrance except in the ordinary course of business conducted in a manner consistent with past practice (including those activities or transactions which occurred as a result of Company’s obligations under the Management Agreement);

(h)           cancelled any debts or waived any claims or rights of substantial value or sold, transferred, or otherwise disposed of any of its properties or assets, except in the ordinary course of business conducted in a manner consistent with past practice (including those activities or transactions which occurred as a result of Company’s obligations under the Management Agreement);

(i)            disposed of any rights to the use of any patent, trademark, service mark, trade name or copyright, or dispose of or disclosed to any person any trade secret, formula, process or know-how not theretofore a matter of public knowledge;

(j)            granted any general increase in the compensation of officers or employees (including any such increase pursuant to any pension, profit sharing or other plan or commitment) or any increase in the compensation payable or to become payable to any officer except (A) in the ordinary course of business conducted in a manner consistent with past practice (including those activities or transactions which occurred as a result of Company’s obligations under the Management Agreement) and (B) bonuses to certain or all of Company’s employees, including Seller;

(k)           appointed or removed from office any officers of Company other than as contemplated by this Agreement;

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(l)            made any payment to or sold, transferred or leased any properties or assets to, or entered into any agreement or arrangement with, any of the officers or directors of Company or any other affiliate thereof;

(m)          entered into any contract, commitment or transaction not in the usual and ordinary course of its business, other than transactions contemplated by, or referred to in, this Agreement;

(n)           changed, or initiated a change of, any of the banking, safe deposit or power of attorney arrangements other than as contemplated by this Agreement;

(o)           wrote down the value of any inventory (including write-downs by reason of shrinkage or mark-down) or wrote off as uncollectible any notes or accounts receivable, except for immaterial write-downs of inventory or accounts receivable in the ordinary course of business conducted in a manner consistent with past practice (including those activities or transactions which occurred as a result of Company’s obligations under the Management Agreement);

(p)           merged, consolidated, reorganized or liquidated Company;

(q)           filed a voluntary petition on behalf of Company under the U.S. Bankruptcy Code or any other bankruptcy or insolvency law or any other law for relief of debtors;

(r)            changed, amended or terminated any Company Provider Contract Company Ancillary Service Contract and/or Company Health Plan, except in the ordinary course of its business conducted in a manner consistent with past practice (including those activities or transactions which occurred as a result of Company’s obligations under the Management Agreement);

(s)           changed, amended or terminated any employment agreement or entered into any new employment agreements;

(t)            made any distribution of cash or other assets to the Seller except as contemplated by this Agreement;

(u)           used, reduced or otherwise applied cash of Company to any purpose other than such use, reduction or application (i) as is necessary to operate Company in the ordinary course of business consistent with past practice, (ii) applied to pay bonuses to employees, including Seller, in an amount which will not cause the Company to violate the Required Minimum Cash described in Section 4.9, and/or (iii) which corresponds dollar for dollar with liabilities that have been accrued on the Financial Statements of Company and have been applied to correspondingly reduce such accrued liabilities;

(v)           agreed or committed, whether in writing or otherwise, to do any of the foregoing.

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2.33         Records of the Company.  The Management Company has confirmed that it is in possession of: (A) the eligibility tapes for each Company Health Plan (B) the physician credentialing records of all the physicians who are a party to the Company Provider Contracts (C) all patient records, including case management reports and notes, claims paid history (at least 24 months), and (D) any and all data relating to Management Company’s management of Company.

2.34         Eligibility Reports.  The Management Company has confirmed that it is in possession of all eligibility reports provided by the HMOs through the most recent month end. Company represents that such eligibility reports are true, accurate and complete to the best of its knowledge.

2.35         Minimum Enrollment Numbers on the Closing Date.  As of the Closing Date, the aggregate number of Company Enrollees is not less than 16,000.

2.36         Payables Incurred On or Before the Closing Date.  All payables incurred on or before the Closing Date, including but not limited to, payroll, payroll taxes and other accrued expenses of Company have been properly accrued on the Financial Statements by Company in the ordinary course of business in accordance with GAAP.

2.37         Employees and Employee Obligations.  Company properly accrued on the Financial Statements all obligations to employees of Company arising out of or in connection with their employment through the Closing Date.

2.38         Cash on Hand.  On the Closing Date, Company has cash in an amount equal or exceeding the sum of the total dollar amount of liabilities (liabilities include but, are not limited to, IBNR claims payable, accounts payable, taxes payable, etc.) incurred, accrued or otherwise existing as of the Closing Date, and which amount shall include cash sufficient to pay the 338 Taxes defined in Section 5.5(d) (the “Required Minimum Cash”).

2.39         Brokers’ and Finders’ Fees.  None of Company or the Seller has incurred any liability to any broker, finder or agent for any brokerage fees, finder’s fees or commissions with respect to the transactions contemplated by this Agreement, and if Company or the Seller has incurred any such liability, such liability shall be and remain the sole responsibility of Company, and Company shall indemnify, defend and hold the Purchaser harmless from and against any and all liabilities, losses, damages, claims, causes of action, costs and expenses (including without limitation, reasonable attorneys’ fees), arising out of or relating to such liability.

2.40         Disclosure.  No representation or warranty by the Company or the Seller contained in this Agreement or in respect of the exhibits, schedules, lists or other documents delivered to the Purchaser by Company or the Seller and referred to herein or therein, and no statement contained in any certificate furnished or to be furnished by or on behalf of Company or the Seller pursuant hereto or thereto, or in connection with the Transaction, contains, or will contain as of the date such representation or warranty is made or such certificate is or will be furnished, any untrue statement of a material fact, or omits, or will omit to state as of the date such representation or warranty is made or such certificate is or will be furnished, any material fact necessary to make the statements contained herein or therein, in light of the circumstances under which they were made, not misleading.

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ARTICLE 3

REPRESENTATIONS AND WARRANTIES OF THE PURCHASER

In order to induce Company and the Seller to enter into this Agreement and to consummate the Transaction, Purchaser makes the representations and warranties set forth in this Article 3.

3.1           Organization.  Purchaser is a professional corporation duly organized, validly existing and in good standing under the laws of the State of California.  Purchaser has all requisite corporate power and authority to own, lease, and operate its business and to carry on its business as currently being conducted.  Purchaser is duly qualified to transact its business in the State of California and does not conduct business in any other state.

3.2           Authorization.  Purchaser has the corporate power and authority to enter into this Agreement and to consummate the Transaction.  All actions on the part of the Purchaser necessary for the authorization, execution, delivery and performance of this Agreement and the consummation of the Transaction have been or will be taken prior to the Closing Date, and this Agreement (including exhibits, schedules and the ancillary agreements) constitutes the legal, valid and binding obligation of Purchaser, enforceable against them in accordance with its terms, except as enforceability may be restricted, limited or delayed by applicable bankruptcy, insolvency, fraudulent conveyance, or other laws affecting creditor’s rights generally, and except as enforceability is subject to general principles of equity.

3.3           No Consent Required.  Neither the execution and delivery of this Agreement by Purchaser nor the performance by it of its obligations under this Agreement requires the consent, approval, order or authorization of, or registration, declaration or filing with any governmental entity or any third party that has not been obtained and delivered to Company.

3.4           No Violation of Other Agreements; No Conflicts.

(a)           Neither this Agreement nor any part of the Transaction violates, conflicts with or results in a breach of, or shall violate, conflict with or result in a breach of any lease, contract, document or agreement to which Purchaser is a party or by which Purchaser may be bound.

(b)           Neither the execution and delivery of this Agreement nor the consummation or performance of the Transaction will, directly or indirectly (with or without the giving of notice, or lapse of time, or both):

(i)            contravene, conflict with, or result in a violation of any provision of the organizational documents of Purchaser or Systems;

(ii)           contravene, conflict with, or result in a violation of, any legal requirement or any order, judgment or decree to which either of the Purchaser may be subject; or

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(iii)          contravene, conflict with, or result in a violation of any of the terms or requirements of, or give any governmental body the right to revoke, withdraw, suspend, cancel, terminate, or modify, any governmental authorization that is held by either of the Purchaser.

3.5           Legal Proceedings.  There is no pending Proceeding, and, to the knowledge of Purchaser, no person has threatened to commence any Proceeding that challenges, or that may have the effect of preventing, delaying, making illegal, or otherwise interfering with, any part of the Transaction.

3.6           Compliance with Laws.  Purchaser is not in violation of any rule, regulation or administrative or judicial order pertaining to the assets or the business of Purchaser (including, without limitation, licensing, health care, federal, state or local laws relating to kickbacks, illegal referrals, illegal billings or the like, drug enforcement, securities, zoning, building, environmental, immigration, civil rights and occupational health and safety laws, regulations, ordinances and codes) and there is no law, rule, regulation or administrative or judicial order that any part of the Transaction would violate which would have the effect of preventing, delaying, making illegal, or otherwise interfering with, any part of the Transaction.  To the best of its knowledge, Purchaser has no reason to anticipate that existing circumstances are likely to result in violations of any of the foregoing.

3.7           Brokers’ and Finders’ Fees.  Purchaser has not incurred any liability to any broker, finder or agent for any brokerage fees, finder’s fees or commissions with respect to the transactions contemplated by this Agreement, and if Purchaser has incurred any such liability, such liability shall be and remain the sole responsibility of the Purchaser, and the Purchaser shall indemnify, defend and hold Company harmless from and against any and all liabilities, losses, damages, claims, causes of action, costs and expenses (including without limitation, reasonable attorneys’ fees), arising out of or relating to such liability.

3.8           Disclosure. No representation or warranty by Purchaser contained in this Agreement or in respect of the exhibits, schedules, lists or other documents delivered to Company by Purchaser and referred to herein or therein, and no statement contained in any certificate furnished or to be furnished by or on behalf of Purchaser pursuant hereto or thereto, or in connection with the transactions contemplated hereby, contains, or will contain as of the date such representation or warranty is made or such certificate is or will be furnished, any untrue statement of a material fact, or omits, or will omit to state as of the date such representation or warranty is made or such certificate is or will be furnished, any material fact which is known to the party making the representation or warranty to be necessary to make the statements contained herein or therein, in light of the circumstances under which they were made, not misleading.

ARTICLE 4

[Intentionally omitted]

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ARTICLE 5

ADDITIONAL AGREEMENTS OF THE PARTIES

In order to induce the other party to enter into this Agreement and to consummate the Transaction, Company, and the Seller, joint and severally on the one hand, and Purchaser on the other hand, enter into the agreements set forth in this Article 5.

5.1           Non-Competition Agreement.  As additional consideration for the Transaction, the Seller is simultaneously herewith executing the Non-Competition Agreement.  The portion of the Purchase Price allocated to such Non-Competition Agreement is shown on Schedule 1.6 hereto (“Covenant Allocation”).  The Covenant Allocation shall not be deemed an estimate or measurement of damages incurred or suffered by the Purchaser, the Company in the event of a breach of such Non-Competition Agreement by the Seller.

5.2           Employees.  The parties agree that the Purchaser and Seller are simultaneously herewith executing the employment agreement in the form attached hereto as Exhibit C and that  Purchaser is simultaneously herewith offering employment, on an at-will basis to two employees listed on Schedule 5.2.

5.3           Good Faith.  The Company and the Purchaser agree that they will perform their obligations under this Agreement in good faith.

5.4           Preservation of Relationship With Company Providers.  Seller agrees to use reasonable commercial efforts to assist Purchaser in preserving the Company’s relationship with the Company Providers after the Closing Date.

5.5           Tax Matters; Liability; Preparation  and Filing of Tax Returns.

(a)           Adequate Provision for Taxes. The Financial Statements, including but not limited to the September 2005 Interim Financial Statements, reflect that Company has made adequate provision for accrued but unpaid Taxes owing as of the date of such Financial Statement and the amount of the 338 Taxes referred to in Section 5.5(d).

(b)           Liability for Taxes.  Company has properly accrued on the December 2004 Year End Financial Statements all Taxes imposed on Company (which is a “S” corporation”) or for which Company may otherwise be liable, for all periods up to and including December 31, 2004 and has properly accrued on its books and records, all Taxes imposed on Company or for which Company may otherwise by liable, for the period from January 1, 2005 through the Closing Date (“Company/Seller Tax Period”) and has accrued the amount of the 338 Taxes.  Additionally, Seller shall be liable for any Taxes arising as a result of any breach of the representation contained in Section 2.9 and the covenants contained in this Section 5.5.

(c)           Tax Returns.  The Purchaser will be responsible for causing the preparation and filing of all tax returns that are required to be filed by or with respect to Company for the periods commencing the Closing Date and which continue thereafter, and the Seller is responsible for causing the preparation and filing of all tax returns that are required to be filed by or with respect to Company for all periods prior to the Closing Date.  The Seller shall be responsible for and

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liable for any Taxes due, with respect to Company, for the Company/Seller Tax Period for the period ending on the Closing Date, including the 338 Taxes.  No later than 30 days before the due date for filing any tax return described in this subsection (c) which is required to be prepared by the Purchaser after Closing involving any Company/Seller Tax Period, the Purchaser will deliver such tax return to Seller for Seller’s review. The Purchaser and Seller will attempt to resolve in good faith any disagreement arising out of any tax return.  If any such disagreement cannot be resolved, the Purchaser and Seller will jointly select an independent accounting firm to act as an arbitrator to resolve such disagreement in accordance with the terms of this Agreement.  The independent accounting firm’s determination with respect to any such tax return will be final and binding upon the parties and all parties will file (or amend, if applicable) their respective tax returns in accordance with such determination.  Any fees and expenses related to the engagement of the independent accounting firm will be shared equally by the Purchaser, on the one hand, and Seller, on the other hand.

(d)           338 Election and 338 Taxes.  Purchaser intends to make an election under Section 338(h)(10) of the Internal Revenue Code of 1986, as amended (the “Code”) to treat the sale of the Stock (each, a “338 Corporation”) as a sale of assets by each such 338 Corporation for income and franchise tax purposes.  Purchaser and the Seller shall duly and timely file, or cause to be duly and timely filed, any document necessary to effectuate such election including without limitation, federal Form 8023 (and any similar forms required under state or local laws relating to taxes) in accordance with the requirements of Section 338 of the Code (or state or local laws relating to the taxes, as the case may be). The parties shall report the deemed sale consistent with such allocation for all financial, tax or other purposes, shall not take any position inconsistent therewith and shall cooperate with each other to take all actions necessary and appropriate as may be required to effect and preserve such election.  Anything contained in this Agreement to the contrary notwithstanding, the Seller makes no representation or warranty concerning the effectiveness under the Code (or other comparable provision of law) of any election made pursuant to this Section 5.5(d); and, except where such failure is due to a breach by such party of its obligations under this Section 5.5(d), in no event shall the Seller be liable to Purchaser for the failure of any such election to be effective under the Code (or other comparable provision of law).  As between Purchaser on the one hand and Seller on the other hand, Seller shall be responsible for all Taxes payable by Company that are attributable to the Section 338(h)(10) election, including any federal, state, local or foreign Tax attributable to an election under federal, state, local or foreign law similar to the election available under Section 338(h)(10) of the Code (“338 Taxes”).  Seller has caused Company to accrue on its Financial Statements, a dollar amount sufficient to cover all 338 Taxes.  The parties acknowledge that Seller and Seller’s accountant have completed a preliminary allocation of the Purchase Price to the assets of Company to calculate an estimate of the 338 Taxes and derived an estimate of Three Hundred Ninety Thousand Dollars ($390,000) (the “Estimated 338 Tax Amount”).  The parties acknowledge that Company’s accrual of the 338 Taxes will be an amount equal to the Estimated 338 Tax Amount.  However, if it is determined that the actual amount of the 338 Taxes is greater than the Estimated 338 Tax Amount, Purchaser shall notify Seller and within thirty (30) days of such notice, Seller shall pay Purchaser that amount by which such 338 Taxes actually owed exceeded the Estimated 338 Tax Amount.  If it is determined that the actual amount of the 338 Taxes is less than the Estimated 338 Tax Amount, Purchaser shall notify Seller and within thirty (30) days of such notice, Purchaser shall pay Seller the amount by which such Estimated 338 Tax Amount exceeded the amount of 338 Taxes actually owing.

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(e)           Contest Provisions.  Promptly after receipt by the Purchaser or Seller of written notice of the assertion or commencement of any claim, audit, examination or other proposed change or adjustment by the Internal Revenue Service or any state, local or foreign taxing authority having jurisdiction over Company or any of its assets (“Tax Authority”) relating to Taxes of Company with respect to a Company/Seller Tax Period (a “Tax Claim”), the recipient will promptly notify the Purchaser or Seller, as applicable.  Such notice will contain factual information (to the extent known) describing the asserted Tax Claim in reasonable detail and will include copies of any notice or other document received from any Taxing Authority in respect of any such asserted Tax Claim.  The Seller will have the right to represent the Company’s interests in any Tax audit or administrative or court proceeding relating to any Company/Seller Tax Period as to any issues that could materially affect the Seller’s liability for Taxes or indemnification obligations, and to employ counsel (reasonably acceptable to the Purchaser) of the Seller’s choice at its expense; provided, however, that the Purchaser and their representatives will be permitted, at their expense, to be present at any such audit or proceeding.  Notwithstanding the foregoing, Seller will not be able to settle, either administratively or after the commencement of litigation, any claim for Taxes that would adversely affect the liability for Taxes of any of the Purchaser, the Company without the written consent of the Purchaser, which consent shall not be unreasonably withheld, unless the Seller makes adequate provision to the satisfaction of the Purchaser to indemnify the Purchaser against the effects of any such settlement.  In order to allow the Seller to respond to a Tax Claim involving any Company/Seller Tax Period, the Purchaser agrees to allow Seller reasonable access to the books and records of the Company for periods on or before the Closing Date.

(f)            Assistance and Cooperation.  After the Closing Date, Seller and the Purchaser will:

(i) timely sign and deliver such certificates or forms as may be necessary or appropriate to establish an exemption from (or otherwise reduce), or file tax returns or other reports with respect to sales, transfer and similar Taxes;

(ii) assist the other party in preparing any tax return which such other party is responsible for preparing and filing in accordance with this Section 5.5 (including providing the other party with reasonable access to financial records for such purposes);

(iii) cooperate fully in preparing for any audits of, or disputes with taxing authorities regarding, any tax returns of Company; and

(iv) make available to the other party and to any taxing authority as reasonably requested all information, records, and documents relating to Taxes of Company.

5.6           IBNR Closing Date Reserve Amount. For purpose of determining the accrued IBNR of Company for the Closing Date, Purchaser and Seller have completed an IBNR calculation as of October 31, 2005, based upon the formula set forth on Schedule 5.6 (“Required Closing Date IBNR Reserve”).  Seller represents that the IBNR Reserve of Company on the Closing Date is not less than the Required Closing Date IBNR Reserve.

5.7           Post-Closing IBNR Reconciliation.  Purchaser, as owner of Company after the Closing Date, shall, for the period commencing on the Closing Date and ending twelve (12)

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months thereafter, keep an account of claims received on or after the Closing Date for dates of service prior to the Closing Date that are paid from the IBNR funds (“IBNR Related Claims”).  On or prior to the date that is one hundred fifty (150) days after the first anniversary of the Closing Date or the first business day thereafter if such date falls on a Saturday, Sunday or state or federal holiday (the “Reconciliation Date”), Purchaser and Seller shall effect a reconciliation of the IBNR funds, such that any IBNR Reserve that existed on the Closing Date which was not used to pay IBNR Related Claims shall be paid to Seller, and any shortfall in amount of the IBNR Reserve (any amount insufficient to cover all IBNR Related Claims), notwithstanding that on the Closing Date the IBNR Reserve satisfied the amount of the Required Closing Date IBNR Reserve, shall be paid to Purchaser.  Any and all payments owing to the other party under this Section 5.7 shall be paid within fifteen (15) days of the Reconciliation Date.  Amounts owing to either party as a result of the Reconciliation shall have no effect on the Indemnification Cap described in Article 7 hereunder.

5.8           Hospital Incentive Pool Amounts.

(a) Cash Risk Pool Amounts (Calendar Year 2005): Purchaser and Seller agree that Company shall receive a minimum of one hundred fifty thousand dollars ($150,000) of Cash In Hand from risk pools for the calendar year ending December 31, 2005.  For purposes of this subsection (b), “Cash In Hand” is defined as the surplus in a particular pool that exceeds any deficit in that pool, resulting in a cash payment to Company (and therefore indirectly to Purchaser).  If the total Cash In Hand received by the Company from the Company Health Plans for the calendar year ending December 31, 2005 is in an amount less than one hundred fifty thousand dollars ($150,000), Seller agrees to repay Purchaser five hundred thousand dollars ($500,000) of the Purchase Price (“Deficit Cash Risk Pool Refund Credit”).  Purchaser and Seller agree, that within thirty (30) days of the date that the Company, or Purchaser on behalf of the Company, knows the amount of Cash In Hand for the calendar year ending December 31, 2005, Purchaser on behalf of the Company shall provide notice to Seller of the amount of the Cash In Hand received by Company for the calendar year ended December 31, 2005 and the parties shall meet within thirty (30) days of such notice to complete a reconciliation (“Cash Risk Pool Reconciliation Date”).  If on the Cash Risk Pool Reconciliation Date the amount of the Cash In Hand received by the Company for the calendar year ended December 31, 2005 is less than one hundred fifty thousand dollars ($150,000), Seller shall pay Purchaser five hundred thousand dollars ($500,000), constituting the Deficit Cash Risk Pool Refund Credit, within ten (10) calendar days of such Cash Risk Pool Reconciliation Date.  Those risk pools that are in deficit for the calendar year ending December 31, 2005 shall be the sole responsibility of Purchaser.  Purchaser and Seller agree that calendar year 2005 Cash In Hand through the Closing Date is zero.  Amounts owing by Seller to Purchaser as a result of the Cash Risk Pool Reconciliation shall have no effect on the Indemnification Cap described in Article 7 hereunder.

(b) Risk Pool Accounting: As part of its due diligence review of Company, Purchaser has expressed its belief to Seller that the Company’s risk pool accounting practices, as reflected on the Final Statements of Company, should be revised.  Seller has therefore agreed to revise its risk pool accounting practices and, accordingly, has revised its Financial Statements (the “Risk Pool Accounting Revisions”).  Company has agreed that in the event the Risk Pool Accounting Revisions are challenged by any taxing authority, that Purchaser shall indemnify, pursuant to the terms of Section 7.3 hereof, the amount of any interest or penalties incurred by Seller (given the

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Company’s Sub S status) to a taxing authority, as a result of the Risk Pool Accounting Revisions made pursuant to this Section 5.8(b).

5.9           Attorney Fees of Christensen & Auer. The legal fees incurred by Company or Seller in negotiating and drafting documentation in connection with the Transaction shall be paid  (i) with respect to fees incurred prior to the Closing, by the Company in a manner so as not to violate the Required Minimum Cash requirements set forth in Section 4.9, or (ii) with respect to fees incurred on or after the Closing, by Seller out of Seller’s funds.

5.10         Further Assurances.  The Company and the Purchaser agree that at any time and from time to time after the Closing Date they will execute and deliver to any other party such further instruments or documents as may reasonably be required to give effect to the Transaction.

ARTICLE 6

DELIVERIES AND CONDITIONS

6.1           Deliveries by Company and the Seller.  Company and the Seller have delivered the following to the Purchaser:

(a)           A copy of the Articles of Incorporation of Company, with all amendments thereto, and certificate of good standing from the State of California, both of which shall be certified as of a date within twenty days prior to the Closing Date by the Secretary of State of California.

(b)           A certificate of tax good standing of Company from the Franchise Tax Board issued as of a date within twenty days of the Closing Date.

(c)           A certificate of the Secretary of Company dated the Closing Date and accompanying resolutions reflecting that the necessary corporate action by the Board of Directors of Company has been taken to authorize the consummation by Company of the Transaction.

(d)           The stock books and records, corporate minute books (containing, in all material respects, the originals of all minutes and resolutions ever adopted or consented to or agreed to by the Sellers, directors or any committee of directors of Company) and the corporate seal, if any, of Company.

(e)           Spousal Consent of Seller for this Agreement.

(f)            Letters of resignation of all officers and directors of Company dated the Closing Date, excepting only the resignation of Seller from his officer position as President/CEO of Company given that Seller shall remain President/CEO of Company after the Closing subject to the terms and conditions of the Employment Agreement.

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(g)           Original stock certificates representing the Stock duly endorsed in blank for transfer and presented with stock powers duly endorsed in blank.

(h)The Non-Competition Agreement.

(i)            The Employment Agreement.

(j)            a legal opinion from counsel to Company as to the matters set forth in Exhibit D.

(k)           documentation for filing with the California Medical Board to cancel the fictitious name permit in the name of Seller for the trade name of Company.

6.2           Deliveries by Purchaser on the Closing Date.  Purchaser has delivered the following to Company.

(a)           Certificate of the secretary of Purchaser dated the Closing Date, and accompanying resolutions reflecting that the necessary corporate action by the Board of Directors of Purchaser to authorize the consummation by Purchaser of the Transaction.

(b)           The Non-Competition Agreement.

(c)           The Employment Agreement.

(d)           The Purchase Price described in Section 1.5 hereof.

ARTICLE 7

INDEMNIFICATION; REMEDIES

7.1           Indemnification Period.  As used in this Article 7, the “Indemnification Period” shall be that period of time commencing on the Closing Date and continuing for 2 years thereafter.

7.2           Indemnification of Company and Purchaser. Seller shall indemnify, defend and hold harmless Company and Purchaser and their directors, officers, employees, agents and affiliates from and against any and all damage, loss, liability and expense (including without limitation (A) reasonable expenses of investigation and reasonable attorneys’ fees and reasonable expenses in connection with any action, suit or proceeding, (B) any fees and expenses in connection with the retention of counsel to pursue insurance coverage, (C) any amounts paid to defend, litigate, settle, satisfy a judgment, or otherwise resolve disputes with the insurance carrier, if any, or the claimant; and (D) all amounts not covered by insurance) incurred or suffered by Company or Purchaser arising out of (i) any breach of the representations, warranties, covenants or agreements of Company and/or Seller set forth herein; (ii) any failure by Company or the Seller to perform or comply with any covenant or agreement contained in this Agreement that is required to be performed or complied with by Company or the Seller as

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set forth herein; (iii) the Existing/Threatened Cases and/or (iv) any action against Company arising from or based upon allegations of intentional tortious conduct by Seller, or any officer, employee or agent (including independent contractors) of Company (including, but not limited to, any claims of wrongful termination, sexual harassment, racial or sexual discrimination) (collectively, the “Purchaser Indemnifiable Damages”).  Notwithstanding the foregoing, Seller shall not be obligated to indemnify Company or Purchaser for any Purchaser Indemnifiable Damages that exceed singly or in the aggregate, $1,500,000, with such $1,500,000 amount decreasing at the rate of 1/24 per month for each month after the Closing Date (the “Indemnification Cap”).  Company and Purchaser may obtain indemnification for any Purchaser Indemnifiable Damages to which this Section 7.2 relates only if it makes a claim for indemnification within the Indemnification Period defined in Section 7.1, except as otherwise provided in Section 7.4.  Notwithstanding the foregoing, claims subject to the Indemnification Cap shall toll both the Indemnification Period and the dollar amount of the Indemnification Cap at the time each such claim is made (i.e., the Indemnification Period will not expire if the covered claim was made prior to the end of the 2 year period but the claim is still in existence at the end of such 2 year period due to the need to investigate the claim, litigation regarding the claim, etc.) and the amount of the Indemnification Cap will not be reduced (i.e., if a covered claim is made in month 1 when the Indemnification Cap is $1,500,000 but due to the need to investigate, litigation, etc., the claim is still in existence in month 24, the amount of the Indemnification Cap is tolled at $1,500,000 and is not reduced to 1/24 of such amount).  Such tolling shall occur with respect to each covered claim separately, when made.  Thus, the first claim made shall not toll the Indemnification Period or the dollar limit of the Indemnification Cap for any subsequent covered claims.  As such, the dollar amount covered under the Indemnification Cap will differ depending upon the time when each covered claim is made.

7.3           Indemnification of the Seller.  Company and Purchaser, joint and severally, agree to hold harmless, defend and indemnify Seller from and against any and all damage, loss, liability and expense (including without limitation (A) reasonable expenses of investigation and reasonable attorneys’ fees and reasonable expenses in connection with any action, suit or proceeding, (B) any fees and expenses in connection with the retention of counsel to pursue insurance coverage, (C) any amounts paid to defend, litigate, settle, satisfy a judgment, or otherwise resolve disputes with the insurance carrier, if any, or the claimant; and (D) all amounts not covered by insurance) incurred or suffered by Seller arising out of (i) any breach of the representations, warranties, covenants or agreements of Purchaser set forth herein (ii) any failure by Purchaser and Systems to perform or comply with any covenant contained in this Agreement that is required to be performed or complied with by Purchaser as set forth herein (the “Seller Indemnifiable Damages”).  Notwithstanding the foregoing, neither Company nor Purchaser shall be obligated to indemnify Seller for Seller Indemnifiable Damages that exceed the Indemnification Cap.  The Seller may obtain indemnification for any Seller Indemnificable Damages to which this Section 7.3 relates only if it makes a claim for indemnification within the Indemnification Period defined in Section 7.1.

7.4           Exclusion of Purchaser Indemnifiable Damages from Indemnification Period and Indemnification Cap. Notwithstanding anything in this Agreement to the contrary, neither the Indemnification Period nor the Indemnification Cap shall apply to limit Purchaser Indemnifiable Damages with respect to claims of the Company or Purchaser:

(i)under Section 7.2(iii);

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(ii)under Section 7.2(iv);

(iii)arising out of or related to a breach of the representations, warranties, covenants or agreements set forth in Sections  2.9, 2.10, 2.38, 5.5(b), 5.5(d) and fraud.

7.5           Indemnification Procedures.  A party seeking indemnification (the “Indemnitee”) shall use its best efforts to minimize any liabilities, damages, deficiencies, claims, judgments, assessments, costs and expenses in respect of which indemnity may be sought under this Agreement.  The Indemnitee shall give prompt written notice to the party from whom indemnification is sought (the “Indemnitor”) of the assertion of a claim for indemnification, but in no event longer than twenty (20) days after service of process in the event litigation is commenced against the Indemnitee by a third party.  No such notice of assertion of a claim shall satisfy the requirements of this Section 7.5 unless it describes in reasonable detail and in good faith the facts and circumstances, to the extent known by Indemnitee, upon which the asserted claim for indemnification is based.  If any action or proceeding shall be brought in connection with any liability or claim to be indemnified hereunder, the Indemnitee shall provide the Indemnitor twenty (20) calendar days to decide whether to defend such liability or claim.  During such period, the Indemnitee shall take all necessary steps to protect the interests of itself and the Indemnitor, including the filing of any necessary responsive pleadings, the seeking of provisional relief or other action necessary to maintain the status quo, subject to reimbursement from the Indemnitor of its expenses in doing so.  The Indemnitor shall (with, if necessary, reservation of rights) defend such action or proceeding at its expense, using counsel selected by the insurance company insuring against any such claim and undertaking to defend such claim, or by other counsel selected by it and approved by the Indemnitee, which approval shall not be unreasonably withheld or delayed.  The Indemnitor shall keep the Indemnitee fully apprised at all times of the status of the defense and shall consult with the Indemnitee prior to the settlement of any indemnified matter.  The Indemnitee agrees to use reasonable efforts to cooperate with the Indemnitor in connection with its defense of indemnifiable claims.  In the event the Indemnitee has a claim or claims against any third party arising out of or connected with the indemnified matter, then upon receipt of indemnification, the Indemnitee shall fully assign to the Indemnitor the entire claim or claims to the extent of the indemnification actually paid by the Indemnitor and the Indemnitor shall thereupon be subrogated with respect to such claim or claims of the Indemnitee.

ARTICLE 8

MISCELLANEOUS

8.1           Entire Agreement.  This Agreement, together with all exhibits and schedules hereto, and all documents referred to herein, constitutes the entire agreement between the parties with respect to the subject matter hereof, supersedes all other and prior agreements on the same subject, whether written or oral, and contains all of the covenants and agreements between the parties with respect to the subject matter hereof.  Each party to this Agreement acknowledges that no representations, inducements, promises, or agreements orally or otherwise, have been made by the party(ies), or by anyone acting on behalf of any party, that are not identified herein, and that no other agreement, statement, or promise not contained in this Agreement shall be valid or binding.

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8.2           Arbitration. In the event of a dispute under this Agreement which is not resolved  after good faith negotiation, either the Purchaser or Company may demand arbitration of the matter and the matter shall be settled by arbitration conducted by a single neutral arbitrator.  Any such arbitration shall be held in Los Angeles County, California under the rules then in effect of the Judicial Arbitration and Mediation Association (JAMS). The decision shall be written and shall be supported by, as agreed by the parties, either a reasoned award or findings of fact and conclusions which shall set forth the award, judgment, decree or order awarded by the arbitrator.  The prevailing party to an arbitration shall be entitled to recovery from the non-prevailing party of its expenses, the fees of the arbitrator, the administrative costs of the arbitration, and the expenses, including, without limitation, reasonable attorneys’ fees and costs, reasonably incurred by it in connection with the arbitration.  Judgment upon any award rendered by the arbitrator may be entered in any court having jurisdiction.  Notwithstanding the foregoing, the parties shall have the rights to discovery in accordance with California Code of Civil Procedure Section 1283.05.

8.3           Successors and Assigns.  This Agreement and all documents and agreements referred to herein shall be binding upon and shall inure to the benefit of the parties and their respective heirs (as applicable), legal representatives, and permitted successors and assigns.  No party may assign this Agreement or the rights, interests or obligations hereunder; provided, however, that to the extent permitted by applicable law, the Purchaser may (i) assign any or all of its rights and interests hereunder to one or more of its affiliates or an affiliate of Jacob Y. Terner, M.D., the sole shareholder of Purchaser; provided, however, that the Purchaser shall remain liable under this Agreement, (ii) designate one or more of its affiliates to perform its obligations hereunder, and (iii) collaterally assign its rights under this Agreement to its lender(s) for collateral purposes.  Any assignment or delegation in contravention of this Section shall be null and void.

8.4           No Waiver.  No waiver of any term, provision or condition of this Agreement, whether by conduct or otherwise, in any one or more instances, shall be deemed to be or be construed as a further or continuing waiver of any such term, provision or condition or as a waiver of any other term, provision or condition of this Agreement.

8.5           Counterparts.  This Agreement, and any amendments hereto, may be executed in counterparts, each of which shall constitute an original document, but which together shall constitute one and the same instrument.

8.6           Headings.  The section headings contained in this Agreement are inserted for convenience only and shall not affect in any way the meaning or interpretation of this Agreement.

8.7           Notices.  Any notices required or permitted to be given hereunder by any party to the other shall be in writing and shall be deemed delivered upon personal delivery; twenty-four (24) hours following deposit with a courier for overnight delivery; or five (5) business days hours following deposit in the U.S. Mail, registered or certified mail, postage prepaid, return- receipt requested, addressed to the parties at the following addresses or to such other addresses as the parties may specify in writing:

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If to Seller:	Mitchell Lew, M.D.
	500 Peralta Hills Dr.
	Anaheim, CA 92807
With a copy to:	Stephen G. Auer, Esq.
	Christensen & Auer
	225 South Lake Avenue, 9th Floor
	Pasadena, California 91101
If to Purchaser:	Prospect Medical Group, Inc.
	1920 East 17th Street Suite 200
	Santa Ana, California 92705
	Attn: Jacob Y. Terner, M.D.
With a copy to:	Prospect Medical Holdings, Inc.
	400 Corporate Pointe, #525
	Culver City, CA 90230
	Attn: Jacob Y. Terner, M.D.
and	Miller & Holguin
	1801 Century Park East, 7th Floor
	Los Angeles, CA 90067
	Attn: Dale S. Miller, Esq.

8.8           Governing Law.  This Agreement shall be governed by and construed in accordance with the laws of the State of California.

8.9           Amendment.  This Agreement may be amended at any time by agreement of the parties, provided that any amendment shall be in writing and executed by all parties.

8.10         Severability.  If any provision of this Agreement is held by a court of competent jurisdiction to be invalid or unenforceable, the remaining provisions will nevertheless continue in full force and effect, unless such invalidity or unenforceability would defeat an essential business purpose of this Agreement.

8.11         Fees and Expenses.  Except as otherwise explicitly set forth herein, each party shall bear its own expenses including, without limitation, attorneys’ and accountants’ fees in connection with the preparation of this Agreement and the transactions contemplated hereby.

8.12         Exhibits and Schedules.  All exhibits and schedules attached to this Agreement are incorporated herein by this reference and all references herein to “Agreement” shall mean this Agreement together with all such exhibits and schedules to be delivered at the execution of this Agreement or upon the Closing Date.

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8.13         Time of Essence.  Time is expressly made of the essence of this Agreement and each and every provision hereof of which time of performance is a factor.

8.14         Attorneys’ Fees.  Should any party institute any action or procedure to enforce this Agreement or any provision hereof, or for damages by a declaration of rights hereunder including without limitation arbitration, the prevailing party in any such action or proceeding shall be entitled to receive from the other party all costs and expenses, including without limitation reasonable attorneys’ fees, incurred by the prevailing party in connection with such action or proceeding.

8.15         Further Assurances.  The parties shall take such actions and execute and deliver such further documentation as may reasonably be required in order to give effect to the transaction contemplated by this Agreement and the intentions of the parties hereto.

8.16         References to Dollars.  All references to “dollars” and “$” shall mean United States dollars.

8.17         Construction.  Whenever in this Agreement the context so requires, references to the masculine shall be deemed to include the feminine and the neuter, reference to the neuter shall be deemed to include the masculine and feminine, references to the plural shall be deemed to include the singular and the singular to include the plural and references to the words “and” and “or” shall be deemed to include the inclusive usage “and/or.”

[SIGNATURE PAGE IMMEDIATELY FOLLOWS]

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IN WITNESS WHEREOF, the undersigned have executed this Agreement as of the date first written above.

“Purchaser”
PROSPECT MEDICAL GROUP, INC.
By:
	Jacob Y. Terner, M.D.,
	Chief Executive Officer
“Company”
GENESIS HEALTHCARE OF SOUTHERN CALIFORNIA, INC., A MEDICAL GROUP
By:
	Mitchell W. Lew, M.D.,
	Chief Executive Officer
“Seller”
Mitchell W. Lew, M.D.

SPOUSAL JOINDER AND CONSENT TO STOCK PURCHASE AGREEMENT

I am the spouse of Mitchell W. Lew, M.D., Seller.  To the extent that I have any interest in any of the Stock (as that term is defined in the Stock Purchase Agreement dated November 1, 2005 between my spouse as Seller, Genesis Healthcare of Southern California, a Medical Group, and Prospect Medical Group, Inc., as Purchaser (the “Agreement”)), I hereby join in the Agreement and agree to be bound by its terms and conditions to the same extent as my spouse. I have read the Agreement, understand its terms and conditions, and to the extent that I have felt it necessary, I have retained independent legal counsel to advise me concerning the legal effect of this Agreement and this Spousal Joinder and Consent.

I understand and acknowledge that Purchaser is significantly relying on the validity and accuracy of this Spousal Joinder and Consent in entering into this Agreement.

Executed this 1st  day of November, 2005

Signature:

Printed or Typed Name:

EX-10.230

EXHIBIT 10.230

LIMITED CONSENT, OMNIBUS AMENDMENT NO. 3 AND JOINDER AGREEMENT
TO THE LOAN DOCUMENTS

This Limited Consent, Omnibus Amendment No. 3 and Joinder Agreement to the Loan Documents (this “Amendment”), dated as of November 1, 2005, is among Residential Funding Corporation, a Delaware corporation (“Lender”), Prospect Medical Holdings, Inc., a Delaware corporation (“Holdings”), Prospect Medical Group, Inc., a California professional corporation (“PMG”; and together with Holdings, each a “Borrower” and collectively, the “Borrowers”), PMG, as Borrower Agent (as defined in the LSA referenced below), each of the Persons signatory hereto as Guarantors (each an “Initial Guarantor” and collectively, the “Initial Guarantors”; and together with the Borrowers, the “Initial Credit Parties” and each an “Initial Credit Party”) and Genesis Healthcare of Southern California, Inc., a Medical Group, a California medical corporation (“Genesis”).

W I T N E S S E T H:

WHEREAS, Lender and the Initial Credit Parties are parties to that certain Loan and Security Agreement dated as of September 27, 2004 (as amended, restated, supplemented or otherwise modified prior to the date hereof, the “LSA”; capitalized terms used but not defined herein shall have the meanings assigned to such terms in the LSA as amended hereby unless otherwise defined herein);

WHEREAS, the Borrowers and the other Initial Credit Parties have requested that the Lender agree to, and Lender is willing to agree to, provide certain consents as hereinafter set forth, subject to the terms and conditions contained herein; and

WHEREAS, the parties hereto desire to amend the LSA and the other Loan Documents as hereinafter set forth.

NOW THEREFORE, in consideration of the parties’ mutual promises in this Amendment, and for other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the parties agree as follows:

Section 1Limited Consent.  Notwithstanding any of the provisions of the LSA to the contrary, and subject to the satisfaction of each of the conditions set forth in Section 6 hereof, Lender hereby consents to the acquisition by PMG of all of the outstanding Stock of Genesis pursuant to that certain Stock Purchase Agreement, dated as of the date hereof, by and among PMG and Michael W. Lew, M.D., the sole shareholder of Genesis (the “Genesis Purchase Agreement”) for an aggregate consideration set forth in Section 1 of the Genesis Purchase Agreement.

Section 2LSA Amendments.  Subject to the satisfaction of each of the conditions set forth in Section 6 hereof, the LSA is hereby amended as follows:

(a)Section 1.1 of the LSA is hereby amended by adding in proper alphabetical order the following new defined terms:

Amendment No. 3 Date — means November 1, 2005.

Genesis — Genesis Healthcare of Southern California, Inc., a Medical Group, a California medical corporation.

Genesis Acquisition — means the acquisition by PMG of all of the outstanding Stock of Genesis pursuant to the Genesis Acquisition Documents.

Genesis Acquisition Agreement — means that certain Stock Purchase Agreement, dated as of November 1, 2005, by and between PMG and Michael W. Lew, M.D. pursuant to which PMG has agreed to acquire all of the outstanding Stock of Genesis, as the same is in existence and in effect on the Amendment No. 3 Date.

Genesis Acquisition Documents — collectively means (i) the Genesis Acquisition Agreement, (ii) the employment agreement between Genesis and Michael W. Lew, M.D., (iii) the non-competition agreement between Genesis and Michael W. Lew, M.D., and (iv) all other agreements, documents, certificates, opinions and other instruments delivered or executed in connection therewith, as each is in existence and in effect on the Amendment No. 3 Date.

Term Loan A — means the Term Loan A to be made by the Lender to Borrowers pursuant to Section 2.1(b) hereof.

Term Loan B — means the Term Loan B to be made by the Lender to Borrowers pursuant to Section 2.1(b) hereof.

Term Loan A Commitment — means the Term Loan A Commitment set forth on Exhibit A.

Term Loan B Commitment — means the Term Loan B Commitment set forth on Exhibit A.

Term Note A — means the Term Note A issued to the Lender to evidence Term Loan A in the form attached as Exhibit I-2/A.

Term Note B — means the Term Note B issued to the Lender to evidence Term Loan B in the form attached as Exhibit I-2/B.

(b)The following definitions set forth in Section 1.1 of the LSA are hereby amended and restated to read in their entirety as follows:

Loan — means each Advance made by Lender to any Borrower under the Revolving Credit, the Term Loan A and the Term Loan B made by Lender to any Borrower pursuant to this Agreement.

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Term Loan — means, collectively, the Term Loan A and Term Loan B to be made by the Lender to Borrowers pursuant to Section 2.1(b) hereof.

Term Loan Commitment — means, collectively, the Term Loan A Commitment and the Term Loan B Commitment set forth on Exhibit A.

Term Loan Maturity Date — means the date on which the Term Loan A and Term Loan B shall terminate and the entire outstanding balance of the Term Loan A and Term Loan B shall be due and payable, as set forth on Exhibit A.

Term Note(s) — means, collectively, the Term Note A and Term Note B.

(c)Section 2.1(b) of the LSA is hereby amended and restated to read in its entirety as follows:

(b)Term Loans.

(1)Subject to the terms and conditions of this Agreement, Lender agrees to make a loan on the Closing Date in respect of Term Loan A to each Borrower (jointly and severally) in the amount of the Term Loan A Commitment.  Lender shall not be obligated to make any further loan to Borrowers under the Term Loan A after the Closing Date and no portion of the Term Loan A which has been repaid may be reborrowed.  Each Borrower shall jointly and severally pay to Lender the principal balance of the Term Loan A in monthly installments payable commencing on November 1, 2004 and continuing on the first day of each succeeding month thereafter in the amount of each such installment of $166,666.67 until the earlier of:  (i) the date that the Term Loan A is paid in full or (ii) the Term Loan Maturity Date.  The entire unpaid principal balance of the Term Loan A, together with all accrued but unpaid interest thereon shall be due in payable on the Term Loan Maturity Date.  In addition, Credit Parties shall make certain mandatory prepayments in respect of the Term Loan A as provided in Section 3.2.2 hereof.  The Term Loan A shall be evidenced by the Term Note A, and the Borrowers to which Term Loan A is made shall jointly execute and deliver the Term Note A to Lender on the Closing Date.

(2)Subject to the terms and conditions of this Agreement, Lender agrees to make a loan on the Amendment No. 3 Date in respect of Term Loan B to each Borrower (jointly and severally) in the amount of the Term Loan B Commitment.  Lender shall not be obligated to make any further loan to Borrowers under the Term Loan B after the Amendment No. 3 Date and no portion of the Term Loan B which has been repaid may be reborrowed.  Each Borrower shall jointly and severally pay to Lender

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the principal balance of the Term Loan B in monthly installments payable commencing on December  1, 2005 and continuing on the first day of each succeeding month thereafter in the amount of each such installment of $66,666.67 until the earlier of:  (i) the date that the Term Loan B is paid in full or (ii) the Term Loan Maturity Date.  The entire unpaid principal balance of the Term Loan B, together with all accrued but unpaid interest thereon shall be due in payable on the Term Loan Maturity Date.  In addition, Credit Parties shall make certain mandatory prepayments in respect of the Term Loan B as provided in Section 3.2.2 hereof.  The Term Loan B shall be evidenced by the Term Note B, and the Borrowers to which Term Loan B is made shall jointly execute and deliver the Term Note B to Lender on the Amendment No. 3 Date.  Borrowers hereby direct Lender to disburse all proceeds of Term Loan B (net of all fees owing to Lender) to the following account of Borrowers: Wells Fargo Bank, N.A., Los Angeles, California, ABA No. 121000248, Account No. 4121043368, Reference: Prospect Medical Holdings, Inc.

(d)Section 2.9 of the LSA is hereby amended by adding the following new sentence at the end thereof:

Notwithstanding the foregoing, the proceeds of the Term Loan B shall be used solely to fund the Genesis Acquisition and pay costs and expenses associated with the Genesis Acquisition that are approved by Lender.

(e)The last sentence of Section 3.2.1 of the LSA is hereby amended and restated to read in its entirety as follows:

Any partial prepayments of the Term Loan A or Term Loan B shall be ratably applied to prepay the scheduled installments of such Term Loan A or Term Loan B, as applicable, in inverse order of maturity except in connection with the payment in full of all Obligations and the termination of this Agreement.

(f)Section 3.2.2(a) of the LSA is hereby amended and restated to read in its entirety as follows:

(a)If at any time the sum of the Revolving Credit Balance and the principal balance of the Term Loan exceeds the amount equal to the lesser of (A) the Revolving Credit Borrowing Base or (B) the sum of the Revolving Credit Commitment plus the principal balance of the Term Loan then outstanding, Credit Parties shall immediately pay such excess to Lender for application as follows: first, to payment of principal in respect of the Revolving Credit until all Obligations in respect of the Revolving Credit have been repaid in full; second to the ratable payment of principal in respect of the Term Loan A in inverse order of maturity until all Obligations in respect of Term Loan A have been repaid in full; and third

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to the ratable payment of principal in respect of the Term Loan B in inverse order of maturity until all Obligations in respect of Term Loan B have been repaid in full provided that if any Default or Event of Default shall have occurred and be continuing at the time any payment shall be due or payable pursuant to this section, all proceeds of any such payment shall be applied in accordance with Section 3.3 hereof.

(g)The second sentence of Section 3.2.2(b) of the LSA is hereby amended and restated to read in its entirety as follows:

Any prepayments required to be paid pursuant to this section shall be applied first, to the ratable payment of principal in respect of the Term Loan A in inverse order of maturity until all Obligations in respect of Term Loan A have been repaid in full; second, to the ratable payment of principal in respect of the Term Loan B in inverse order of maturity until all Obligations in respect of Term Loan B have been repaid in full; and third to payment of principal in respect of the Revolving Credit until all Obligations in respect of the Revolving Credit have been repaid in full; provided that if any Default or Event of Default shall have occurred and be continuing at the time any payment shall be due or payable pursuant to this section, all proceeds of any such payment shall be applied in accordance with Section 3.3 hereof.

(h)The second sentence of Section 3.2.2(c) of the LSA is hereby amended and restated to read in its entirety as follows:

Any prepayments required to be paid pursuant to this section shall be applied first, to payment of principal in respect of the Term Loan A in inverse order of maturity until all Obligations in respect of Term Loan A have been repaid in full; second, to payment of principal in respect of the Term Loan B in inverse order of maturity until all Obligations in respect of Term Loan B have been repaid in full; and third, to payment in respect of the Revolving Credit until all Obligations in respect of the Revolving Credit have been repaid in full; provided that if any Default or Event of Default shall have occurred and be continuing at the time any payment shall be due or payable hereunder, all proceeds of any such payment shall be applied in accordance with Section 3.3 hereof.

(i)The second sentence of Section 3.2.2(d) of the LSA is hereby amended and restated to read in its entirety as follows:

Any prepayments required to be paid pursuant to this section shall be applied first, to payment of principal in respect of the Term Loan A in inverse order of maturity until all Obligations in respect of Term Loan A have been repaid in full; second, to payment of principal in respect of the Term Loan B in inverse order of maturity until all Obligations in respect of Term Loan B have been repaid in full; and third, to payment in respect

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of the Revolving Credit until all Obligations in respect of the Revolving Credit have been repaid in full; provided that if any Default or Event of Default shall have occurred and be continuing at the time any payment shall be due or payable hereunder, all proceeds of any such payment shall be applied in accordance with Section 3.3 hereof.

(j)Section 3.3 of the LSA is hereby amended and restated to read in its entirety as follows:

Subject to Section 2.5, so long as no Default or Event of Default has occurred and is continuing and the Termination Date shall not have occurred and except for voluntary prepayments permitted pursuant to Section 3.2.1 which shall be applied in accordance with such section and mandatory prepayments pursuant to Section 3.2.2 which shall be applied in accordance with such section, all Collections and other payments (including all monetary proceeds of Collateral) received shall be applied to amounts then due and payable in the following order:

(a)to the payment of, or the reimbursement of the Lender for or in respect of all Fees and Expenses, costs, disbursements and losses which shall have been incurred or sustained by the Lender and are then due and owing in connection with the collection of such monies, or for the administration, exercise, protection or enforcement by the Lender of any of the rights, remedies, duties or powers of the Lender hereunder or under any of the other Loan Documents;

(b)to the payment of any and all other accrued Fees and Expenses then due and owing hereunder or under any of the other Loan Documents;

(c)to interest on the Revolving Loans and Term Loan then due and owing, ratably in proportion to the interest accrued as to each such Loan;

(d)to principal payments on the Term Loan A then due and owing;

(e)to principal payments on the Term Loan B then due and owing;

(f)to payment of the Revolving Loans then outstanding; and

(g)to all other Obligations which may be then due and owing.

While any Default or Event of Default shall have occurred and remain continuing or at all times from and after the Termination Date, all Collections and other payments (including monetary proceeds of

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Collateral or of realizations upon any Collateral) received shall be applied to the Obligations in such order as Lender may elect in its sole discretion.

(k)Section 5.2(a) of the LSA is hereby amended and restated to read in its entirety as follows:

(a)On the Closing Date, Credit Parties (other than Genesis), and within 5 Business Days of the Amendment No. 3 Date Genesis, shall deliver Obligor Notices to all of their Obligors obligated under the Receivables consisting of Capitated Contract Rights, which Obligor Notice shall direct each such Obligor to make payments of Collections directly to an applicable Lockbox (or in the case of payments by wire transfer, the applicable Lockbox Account), and on the Closing Date Credit Parties (other than Genesis), and within 5 Business Days of the Amendment No. 3 Date Genesis, shall deliver or cause to be delivered to Lender the duplicate original of each such Obligor Notices and evidence satisfactory to Lender that the delivery of such Obligor Notices to the Obligors has been accomplished.  In addition, on the Closing Date, Credit Parties (other than Genesis), and within 5 Business Days of the Amendment No. 3 Date Genesis, shall deliver to Lender a master Obligor Notice, in form and substance satisfactory to Lender, in respect of all of their Obligors obligated under Fee-For-Service Receivables which are Governmental Receivables and a master Obligor Notice, in form and substance satisfactory to Lender, in respect of all of their Obligors obligated under Fee-For-Service Receivables which are not Governmental Receivables, a copy of which Obligor Notice specifying the applicable Obligor’s information, Lender may deliver to the applicable Obligors on or after an Event of Default has occurred, and each of which master Obligor Notice, among other things, shall direct such Obligor to make payments of Collections directly to an applicable Lockbox (or in the case of payments by wire transfer, the applicable Lockbox Account), and mail all RA/EOBs directly to the applicable Lockbox, and each of which master Obligor Notice shall attach a schedule listing all of the applicable Obligors as of the date reasonably proximate to the Closing Date with respect to Credit Parties (other than Genesis) and as of the date reasonably proximate to the Amendment No. 3 Date with respect to Genesis, which schedules shall be updated pursuant to and in accordance with Section 9.5(b)(xvi).  No such direction given by Credit Parties to any Obligor shall be changed, modified or superceded without the express prior written consent of Lender.  Credit Parties shall cause all billing and claim forms sent to Obligors (and return envelopes, if any, furnished by Credit Parties) to set forth only the applicable Lockbox as the address for payment of Receivables and, in the case of Fee-For-Services Receivables, delivery of the related RA/EOBs, and only the applicable Lockbox Account as the bank account for receipt of wire transfers for payment of Receivables; provided that unless an Event of Default shall have occurred and Lender shall have requested Credit Parties to do so, the Credit Parties not be

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required to direct Obligors of Fee-For-Service Receivables to remit payments and RA/EOBs only to a Lockbox or Lockbox Account.  If a payment on a Receivable is made by an Obligor other than to the appropriate Lockbox and Lockbox Account, Credit Parties shall (x) remit such payment to the Lockbox Account on the same day of the receipt thereof, if possible, but in any event no later than the Business Day immediately following the day of the receipt thereof, and (y) promptly take all necessary actions to effect collection of such proceeds from the Person having possession thereof, if other than a Credit Party.

(l)Section 9 of the LSA is hereby amended by adding the following new Sections 9.25 and 9.26 at the end thereof:

9.25Genesis Bank Account.  Genesis shall be permitted to maintain the account no. 222-07A89 (“Merrill Account”) at Merrill Lynch Pierce Fenner and Smith, Inc. so long as (a) all funds maintained in such Merrill Account are at all times held in cash or in Cash Equivalents, (b) Genesis furnishes evidence to Lender satisfactory to Lender on or prior to the Amendment No. 3 Date that all credit card related services associated with such Merrill Account have been terminated and (c) Genesis causes on each Business Day all available funds maintained in the Merrill Account in excess of $700,000 (the “Maximum Balance”) to be transferred to the Concentration Account.  Not later than January 1, 2006, Genesis shall cease writing any checks on the Merrill Account and except for the daily wire transfer of funds from the Merrill Account to the Concentration Account required by this Section, Genesis shall cease transferring funds from the Merrill Account or making deposits into the Merrill Account.  In addition, not later than January 1, 2006, Genesis shall have opened and caused to be fully operational disbursing accounts at Wells Fargo Bank which are subject to Control Agreements in favor of Lender on terms satisfactory to Lender.  From and after January 1, 2006, the Maximum Balance shall be reduced to the sum of all checks outstanding on the Merrill Account plus $10,000 as a cushion for fees and expenses and as such checks are presented and honored for payment, the amount described in this clause shall automatically be reduced.  Commencing on the Amendment No. 3 Date and continuing until the Lender has received satisfactory evidence that the Merrill Account Reserve Release Conditions (as defined below) have been met, Lender shall be entitled to establish and maintain a special Availability Reserve in the amount of $700,000; provided that after January 1, 2006, Borrower shall be entitled to present the monthly account statement for the Merrill Account or other written evidence satisfactory to Lender demonstrating that the actual balance in the Merrill Account is less than $700,000, and Lender shall reduce such special Availability Reserve to an amount equal to the actual balance in the Merrill Account promptly after receipt of such satisfactory written evidence; provided further that such special Availability Reserve shall be eliminated by Lender promptly upon

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Lender’s receipt of written evidence satisfactory to Lender demonstrating (a) that the actual balance in the Merrill Account is less than $100,000 and (b) all checks and electronic funds transfers from payors under the Capitated Contracts have been successfully redirected to a lockbox or bank account in the name of or under the control of the Lender (the events in clauses (a) and (b) above, the “Merrill Account Reserve Release Conditions”).

9.26Genesis Management Agreement.  Promptly upon entering into by Genesis of a management services agreement with any Management Credit Party, which shall be in form and substance satisfactory to Lender and shall be deemed to be included in the definition of “Management Agreements” set forth in Section 1.1 of the LSA, Genesis shall enter into a collateral assignment agreement, subordination agreement with Lender and any other agreements that Lender may request, in respect of such management services agreement, each in form and substance satisfactory to Lender

(m)Section 11.1 of the LSA is hereby amended by (i) deleting the “.” at the end of subsection (s) thereof and inserting “; or” in place thereof and (ii) adding the following new Subsection (t) at the end thereof:

(t)any Credit Party makes any post-closing payment under the Genesis Acquisition Agreement when any Default or Event of Default shall have occurred and be continuing or would result from the funding of such payment.

(n)Effective as of the date hereof, 2005, the notice address for Credit Parties set forth in Section 14.1 of the LSA is hereby amended and restated to read in its entirety as follows:

If to Credit Parties: c/o Prospect Medical Holdings, Inc.
400 Corporate Point, Suite 525
Culver City, California 92801
Attn: Jacob Y. Terner, CEO
Telephone: (310) 337-4162
Facsimile: (310) 338-1151
E-Mail: jack.terner@prospectmedical.com

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With a copy to: Miller & Holguin
1801 Century Park East, Suite 700
Los Angeles, California 90067
Attn: Dale S. Miller
Telephone: (310) 556-1990
Facsimile: (310) 557-2205
E-Mail: dmiller@millerholguin.com

(o)Sections I and III.C of Exhibit A to the LSA are hereby amended and restated to read in their entirety as follows:

	I. Commitments
Revolving Credit Commitment:		$5,000,000.00
Term Loan A Commitment:		$10,000,000.00
Term Loan B Commitment:		$4,000,000.00
	C. Facility Origination Fee:	1.00% of the aggregate of the Revolving Credit Commitment and the Term Loan A Commitment, due on the Closing Date.
		1.00% of the Term Loan B Commitment, due on the Amendment No. 3 Date.

(p)The following definitions set forth on Exhibit A to the LSA are hereby amended and restated to read in their entirety as follows:

“Interest Rate” — means: (i) the sum of the Prime Rate plus the Revolving Credit Applicable Margin with respect to the Revolving Credit Balance, (ii) the sum of Prime Rate plus the Term Loan A Applicable Margin with respect to the Term Loan A, and (iii) the sum of Prime Rate plus the Term Loan B Applicable Margin with respect to the Term Loan B.

“Applicable Margin” — means (a) for the Revolving Credit Balance, the Revolving Credit Applicable Margin, (b) for the Term Loan A, the Term Loan A Applicable Margin, and (c) for the Term Loan B, the Term Loan B Applicable Margin.

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(q)Exhibit A to the LSA are hereby amended by adding in proper alphabetical order the following new defined terms:

“Term Loan A Applicable Margin” — means 200 basis points.

“Term Loan B Applicable Margin” — means 200 basis points.

(r)Schedules 8.7, 8.13, 8.15, 8.17, 8.20, 9.8(b) and 10.1 to the LSA are hereby amended by adding thereto the information contained on the Supplements to Schedules 8.7, 8.13, 8.15, 8.17, 8.20, 9.8(b) and 10.1 attached hereto with respect to Genesis.  All references in the LSA to Schedules 8.7, 8.13, 8.15, 8.17, 8.20, 9.8(b) and 10.1 shall now be deemed to include a reference to Schedules 8.7, 8.13, 8.15, 8.17, 8.20, 9.8(b) and 10.1 as amended by the Supplements to Schedules 8.7, 8.13, 8.15, 8.17, 8.20, 9.8(b) and 10.1.

Section 3Omnibus Amendments.  Subject to the satisfaction of each of the conditions set forth in Section 6 hereof, the LSA and the other Loan Documents are hereby amended so that each reference in the LSA and in the other Loan Documents to the term “Credit Parties” or “Guarantors” shall be deemed to include a reference to Genesis.

Section 4Joinders.

(a)LSA.  Genesis (sometimes referred to herein as the “New Credit Party”) hereby agrees to perform, for the benefit of Lender, all of the Obligations of a Guarantor and a Credit Party (other than a Borrower) under the LSA, as direct and primary obligations of the New Credit Party, and further agrees that it shall comply with and be fully bound by the terms of the LSA as if it had been a signatory thereto as a Guarantor and a Credit Party as of the date thereof.  In furtherance thereof, (i) in order to secure payment and performance of all of the Obligations, the New Credit Party hereby grants to Lender a security interest in all Collateral in which it has an interest, whether now or hereafter arising, in accordance with the terms of the Section 6 of the LSA and (ii) the New Credit Party hereby agrees that it is jointly and severally liable for, and hereby absolutely and unconditionally guarantees to Lender and its successors and assigns, the full and prompt payment (whether at stated maturity, by acceleration or otherwise) and performance of, all Obligations owed or hereafter owing to Lender by each other Credit Party, in accordance with the terms of the Section 15 of the LSA.

(b)Offset Agreement.  The New Credit Party hereby agrees to perform, for the benefit of Lender, all of the obligations of a Restricted Credit Party (as defined therein) under the Offset Agreement, as direct and primary obligations of the New Credit Party, and further agrees that it shall comply with and be fully bound by the terms of the Offset Agreement as if it had been a signatory thereto as a Credit Party as of the date thereof.

(c)Other Loan Documents.  The New Credit Party hereby agrees to perform, for the benefit of Lender, all of the obligations of a of a Guarantor or a Credit Party, as the case may be, under each other Loan Document, as direct and primary obligations of the New Credit Party, and further agrees that it shall comply with and be

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fully bound by the terms of each such other Loan Document as if it had been a signatory thereto as a Guarantor or a Credit Party, as applicable, as of the date thereof.

Section 5Amendments to Collateral Assignments to Transaction Documents.

(a)Item (xiv) of Exhibit A to that certain Collateral Assignment of Transaction Documents dated as of September 27, 2004 between PMS and Lender (as amended, restated, supplemented or otherwise modified from time to time, the “PMS Collateral Assignment”) is hereby amended by deleting the “.” at the end thereof and inserting “(as amended, restated, supplemented or otherwise modified from time to time) and item (xvii) of Exhibit A to the PMS Collateral Assignment is hereby amended by deleting the “.” at the end thereof and inserting “together with that certain Joinder Agreement by Genesis Healthcare of Southern California, Inc., a Medical Group, a California medical corporation, dated as of November 1, 2005.”.

(b)Item (x) of Exhibit A to that certain Collateral Assignment of Transaction Documents dated as of September 27, 2004 between Sierra Primary and Lender (as amended, restated, supplemented or otherwise modified from time to time, the “Sierra Primary Collateral Assignment”) is hereby amended by deleting the “.” at the end thereof and inserting “(as amended, restated, supplemented or otherwise modified from time to time) and item (xi) of Exhibit A to the Sierra Primary Collateral Assignment is hereby amended by deleting the “.” at the end thereof and inserting “together with that certain Joinder Agreement by Genesis Healthcare of Southern California, Inc., a Medical Group, a California medical corporation, dated as of November 1, 2005.”.

(c)Item (vii) of Exhibit A to that certain Collateral Assignment of Transaction Documents dated as of September 27, 2004 between PHR and Lender (as amended, restated, supplemented or otherwise modified from time to time, the “PHR Collateral Assignment”) is hereby amended by deleting the “.” at the end thereof and inserting “(as amended, restated, supplemented or otherwise modified from time to time) and item (vii) of Exhibit A to the PHR Collateral Assignment is hereby amended by deleting the “.” at the end thereof and inserting “together with that certain Joinder Agreement by Genesis Healthcare of Southern California, Inc., a Medical Group, a California medical corporation, dated as of November 1, 2005.”.

Section 6Effectiveness and Conditions Subsequent.

6.1This Amendment shall become effective on the date each of the following condition have been met:

(a)this Amendment shall have been executed and delivered by Lender and the Credit Parties;

(b)Lender shall have received, each in form and substance satisfactory to Lender, (i) all documents, agreements and other items listed on the Closing Checklist attached hereto as Annex I duly executed and delivered by each applicable party thereto and (ii) all other information and copies of all documents which Lender may have

12

requested in connection therewith.  Upon the request of Lender or its counsel, such documents will be certified by appropriate corporate officers or Governmental Authority;

(c)Lender shall have completed its business, legal, and collateral due diligence, the results of each of which shall be satisfactory to Lender;

(d)Lender shall have received evidence, in form and substance satisfactory to Lender, that Lender has a valid perfected security interest in that portion of the Collateral associated with Genesis, subject only to Permitted Liens; and

(e)Borrowers shall have paid to the Lender a facility origination fee equal to $40,000 in connection with this Amendment.

6.2Not later than the end of business on November 1, 2005, Lender shall have received a photocopy of the original stock certificate(s) of Genesis (which may be in the name of Edward Medical Group II, a Medical Corporation) accompanied by a stock power endorsed by Michael W. Lew, M.D. to PMG evidencing the consummation of the Genesis Acquisition. Failure to satisfy this condition in accordance with this Section 6.2 shall constitute an immediate Event of Default under the LSA and the other Loan Documents.

6.3Each of the following conditions must be satisfied on or before November 4, 2005:

(a)Lender shall have received certified copies of (i) the Genesis Acquisition Documents and (i) the Management Services Agreement, dated as of April 1, 2001, between Advanced Medical Management, Inc. and Genesis together with all amendments, supplements or other modifications thereto; and

(b)Lender shall have received the original stock certificate representing 100% of the outstanding Stock of Genesis, together with the original undated stock power executed in blank in respect of such Stock.

Failure to satisfy any of the above conditions in accordance with this Section 6.3 shall constitute an immediate Event of Default under the LSA and the other Loan Documents.

6.4Each of the following conditions must be satisfied on or before November 11, 2005:

(a)Lender shall have received a Landlord Waiver, satisfactory to Lender, for the premises leased by Genesis located at 12665 Garden Grove Blvd., City of Garden Grove, California;

(b)Lender shall have received, each in form and substance satisfactory to Lender, certificates of insurance evidencing that Genesis has been added to Credit Parties’ consolidated liability, casualty and property insurance policies evidencing its coverage under such policies and naming Lender as loss payee and/or additional insured, as applicable, thereunder; and

13

(c)Lenders shall have received, in form and substance satisfactory to Lender, certificates from the applicable California tax authority evidencing the payment of all franchise taxes by each California Credit Party.

Failure to satisfy any of the above conditions in accordance with this Section 6.4 shall constitute an immediate Event of Default under the LSA and the other Loan Documents.

6.5On or prior to November 8, 2005, Lender shall have received, in form and substance satisfactory to Lender, evidence that Genesis has sent a letter to Blue Shield of California (“BSC”) acknowledging that (i) prior notice with respect to the Genesis Acquisition has been sent to BSC, (ii) the Genesis Acquisition has been consummated and (iii) no objections or concerns have been received from BSC concerning the Genesis Acquisition and as a result Genesis has assumed the consent of BSC to the Genesis Acquisition, and no later than ninety (90) calendar days following the Amendment No. 3 Date, Lender shall have received, in form and substance satisfactory to Lender, a copy of the assignment and assumption agreement executed between Genesis and BSC. Failure required to satisfy this condition in accordance with this Section 6.5 shall constitute an immediate Event of Default under the LSA and the other Loan Documents.

Section 7Representations and Warranties of the Credit Parties. To induce the Lender to execute and deliver this Amendment, the Credit Parties represent and warrant that:

(a)the execution, delivery and performance by the Initial Credit Parties and the New Credit Party of this Amendment has been duly authorized and this Amendment constitutes the legal, valid and binding obligation of the Initial Credit Parties and the New Credit Party, enforceable against Initial Credit Parties and the New Credit Party in accordance with its terms, except as the enforcement thereof may be subject to (i) the effect of any applicable bankruptcy, insolvency, reorganization, moratorium or similar law affecting creditors’ rights generally and (ii) general principles of equity (regardless of whether such enforcement is sought in a proceeding in equity or at law);

(b)no Default or Event of Default has occurred and is continuing and each of the representations and warranties contained in the LSA and the other Loan Documents is true and correct in all material respects on and as of the date hereof as if made on the date hereof, except to the extent that such representations and warranties expressly relate to an earlier date, in which case such representations and warranties shall be true and correct as of such earlier date, and each of the agreements and covenants in the Loan Documents are hereby reaffirmed with the same force and effect as if each were separately stated herein and made as of the date hereof;

(c)the execution, delivery and performance of this Amendment and the Genesis Acquisition Agreement and the consummation of the transactions contemplated this Amendment and the Genesis Acquisition Agreement do not and shall not contravene, result in a breach of, or violate (i) any provision of any Initial Credit Party’s or the New Credit Party’s corporate charter or bylaws or other governing documents, (ii) any material law or regulation, or any order or decree of any court or

14

government instrumentality or (iii) any material indenture, mortgage, deed of trust, lease, agreement or other instrument to which any Initial Credit Party or the New Credit Party is a party or by which any Initial Credit Party or the New Credit Party or any of their respective property is bound; and

(d)all reports, documents, notices or approvals required to be filed or furnished to or obtained from any Governmental Authority in connection with this Amendment have been filed or furnished to or obtained from such Governmental Authority.

Section 8Miscellaneous

(a)Effect.  The consents and amendments set forth herein are effective solely for the purposes set forth herein and shall be limited precisely as written, and shall not be deemed to (i) except as expressly provided in this Amendment, be a consent to any amendment, waiver or modification of any term or condition of the LSA or of any other Loan Document, (ii) prejudice any right or rights that Lender may now have or may have in the future under or in connection with the LSA or any other Loan Document, or (iii) constitute a course of dealing or other basis for altering any Obligation of the Borrowers or any other Credit Parties under the LSA or any other Loan Document or any other contract or instrument.

(b)Reaffirmation.  Except as expressly amended herein, all of the terms and provisions of the LSA and the Loan Documents are ratified and confirmed in all respects by each Initial Credit Party and the New Credit Party and shall remain in full force and effect.  Each Initial Credit Party and the New Credit Party hereby acknowledges and agrees that there is no defense, setoff or counterclaim of any kind, nature or description to the Obligations or the payment thereof when due.  The execution, delivery and effectiveness of this Amendment shall not, except as expressly provided herein, operate as an amendment to or waiver of any right, power or remedy of the Lender under the LSA or any of the other Loan Documents, or constitute an amendment or waiver of any provision of the LSA or any of the other Loan Documents.

(c)Binding on Successors and Assigns.  This Amendment shall be binding upon and inure to the benefit of the parties hereto and their respective successors and assigns.

(d)Severability.  Whenever possible, each provision of this Amendment shall be interpreted in such manner as to be effective and valid under applicable law, but if any provision of this Amendment shall be held to be prohibited by or invalid under applicable law, such provision shall be ineffective only to the extent of such prohibition or invalidity, without invalidating the remaining provisions of this Amendment.

(e)GOVERNING LAW.  THIS AMENDMENT AND THE RIGHTS AND OBLIGATIONS OF THE PARTIES HEREUNDER SHALL BE CONSTRUED IN ACCORDANCE WITH AND GOVERNED BY THE INTERNAL LAWS OF THE

15

STATE OF CALIFORNIA WITHOUT REGARD TO PRINCIPLES OF CONFLICTS OF LAWS.

(f)No Waiver.  No waiver or consent, and no modification or amendment of any provision of this Amendment shall be effective unless specifically made in writing and duly signed by the party purportedly making such waiver or consent.

(g)Counterparts.  This Amendment may be executed by the parties hereto individually or in combination, in one or more counterparts, each of which shall be an original and all of which shall constitute one and the same agreement.  This Amendment may be executed and delivered by telecopier with the same force and effect as if the same were a fully executed and delivered original manual counterpart.

(h)Titles.  Paragraph and subparagraph titles, captions and headings herein are inserted only as a matter of convenience and for reference, and in no way define, limit, extend or describe the scope of this Amendment or the intent of any provisions hereof.

(i)Acknowledgment.  The Initial Credit Parties and the New Credit Party affirm and acknowledge that this Amendment constitutes a Loan Document under the LSA and any reference to the Loan Documents under the LSA contained in any notice, request, certificate or other document executed concurrently with or after the execution and delivery of this Amendment shall be deemed to include this Amendment unless the context shall otherwise specify.  Each of the Initial Credit Parties and the New Credit Party hereby adopt and reaffirm each of the terms set forth in Section 15.2 of the LSA as though the same were restated in this Amendment.

<Remainder of page left intentionally blank>
<Signature pages follow>

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IN WITNESS WHEREOF, the parties have caused this Amendment to be duly executed and delivered all as of the day and year first above written.

BORROWER AGENT:

PROSPECT MEDICAL GROUP, INC., a California
professional corporation

By:

Name:

Title:

BORROWERS:

PROSPECT MEDICAL HOLDINGS, INC., a Delaware
corporation

By:

Name:

Title:

PROSPECT MEDICAL GROUP, INC., a California
professional corporation

By:

Name:

Title:

GUARANTORS:

PROSPECT MEDICAL SYSTEMS, INC., a Delaware
corporation

PINNACLE HEALTH RESOURCES, a California
corporation

By:

Name:

Title:

SIERRA MEDICAL MANAGEMENT, INC., a Delaware
corporation

By:

Name:

Title:

SIERRA PRIMARY CARE MEDICAL GROUP, A
MEDICAL CORPORATION, a California professional
corporation

By:

Name:

Title:

NUESTRA FAMILIA MEDICAL GROUP, INC., a
California professional corporation

By:

Name:

Title:

GUARANTORS:

SANTA ANA/TUSTIN PHYSICIANS GROUP, INC., a
California professional corporation

PEGASUS MEDICAL GROUP, INC., a California
professional corporation

ANTELOPE VALLEY MEDICAL ASSOCIATES, INC., a
California professional corporation

PROSPECT HEALTH SOURCE MEDICAL GROUP,
INC., a California professional corporation

PROSPECT PROFESSIONAL CARE MEDICAL
GROUP, INC., a California professional corporation

PROSPECT NWOC MEDICAL GROUP, INC., a
California professional corporation

APAC MEDICAL GROUP, INC., a California professional
corporation

STARCARE MEDICAL GROUP, INC., a California
professional corporation

By:

Name:

Title:

PROSPECT HOSPITAL ADVISORY SERVICES, INC.
(f/k/a Prospect Medical Management, Inc.), a Delaware
corporation

By:

Name:

Title:

GENESIS HEALTHCARE OF SOUTHERN
CALIFORNIA, INC., A MEDICAL GROUP, a California
medical corporation

GENESIS HEALTHCARE OF SOUTHERN
CALIFORNIA, INC., A MEDICAL GROUP, a California
medical corporation

By:

Name:

Title:

LENDER:

RESIDENTIAL FUNDING CORPORATION

By:

Name:

Title:

EX-14.1

EXHIBIT 14.1

Table of Contents

Letter to Directors and Employees from the CEO	2
Message from the Corporate Compliance Officer	3
Code of Business Conduct / Ethical Business Practice	4
Corporate Policies
Antitrust & Competition	6
Bribery	7
Confidential Information	8
Conflicts of Interest	9
Equal Opportunity Employer	11
Fraud & Similar Irregularities	12
Harassment	13
Health & Safety	14
Inside Information and Securities Trading	15
Political Activities & Contributions	16
Acknowledgment of Receipt	17

1

A Letter to Directors and Employees on the Importance of Following the
Code of Business Conduct

Dear Directors and Employees,

The influx of gold and silver from the New World to Europe has been associated with the rise of capitalism in the West.  Equally important, however, was the Protestant notion of pre-destination as preached by Calvin and Zwingli: They believed that whether or not a person was in a state of “grace” was pre-determined.  The way you led your life was a sign of being in a state of grace, or not.  Therefore people who didn’t lie, kept their word, written or oral, didn’t cheat, steal, were humble, worked hard, did not participate in hedonistic activities, and above all succeeded in business “knew”, as did everyone around them, that they were in a state of grace.  The integrity of contractual agreements, honesty, giving a productive day’s work for a day’s pay, humility in the face of hubris, etc., were as necessary an element to the development and success of capitalism as was the gold and silver bullion from the New World.

Prospect is a capitalistic enterprise.  We have competitors for our contracts, our physicians, and the patients we manage.  To stay in business we need to make a profit.  We need to be in a state of grace.  We get there in part by being ethical and practicing the behavior I have alluded to above.  This handbook will give a concise description of our Company’s journey and will give you values and guidelines for the type of behavior Prospect wishes to be known by in the business and medical community.  We as a Company take breaches of this code and deviations from honesty and forthrightness in our business dealings very seriously.  We believe that adherence to them will promote the success of our Company and our collective economic security.

Sincerely,

Jacob Y. Terner, M.D.
Chairman of the Board and Chief Executive Officer
Prospect Medical Holdings, Inc.

2

A Message to Directors and Employees:

As Directors and employees of Prospect, we are responsible for conducting the business affairs of the Company in accordance with applicable laws, in a moral and honest manner, and with the highest professional and ethical standards.

To make certain that we understand what is expected of us, Prospect and the Board of Directors have adopted the following policies.

The Code of Business Conduct / Ethical Business Practice, and subsequent policies (the “Code”) included herein contain commonsense rules of conduct.  I ask that you read them carefully and completely, because it is essential that you fully comply with these policies in the future.  If you have any questions, talk them over with your manager or another member of management.  If you still have questions, you may contact me directly.

Please sign the acknowledgment page confirming you have received the Code, understand it represents mandatory policies of the Company and agree to abide by it.  Return the signed copy to the Human Resources Department where it will be placed in your personnel file and keep the Code for future reference.

Thank you for your kind attention to this matter.

Sincerely,

Linda Hodges
Executive Vice President and Corporate Compliance Officer
Prospect Medical Holdings, Inc.

3

Code of Business Conduct
Ethical Business Practice

Directors and employees of Prospect, its subsidiaries, and affiliated companies (the “Company”) are to conduct their business affairs in accordance with the highest ethical standards.  Policies are to be applied in good faith with reasonable business judgment to enable the Company to achieve its operating and financial goals within the framework of the Law.  Directors and employees shall not conduct themselves in a manner that is directly or indirectly detrimental to the best interests of the Company or in a manner which would bring financial or any other gain to any Director or employee at the expense of Prospect.  Moral as well as legal obligations will be fulfilled openly, promptly, and in a manner that will reflect pride on the Company’s name.

Agreements, whether contractual or verbal, will be honored.  No bribes, bonuses, kickbacks, lavish entertainment, or gifts will be exchanged for special position, price, or privilege.  It is Company policy that contracts are reviewed by legal counsel.  By contract, we mean each agreement, memorandum of understanding, or other document or arrangement that could reasonably be expected to impose an obligation.  Please bear in mind that your conduct and/or your conversations may have, under certain circumstances, the unintended effect of creating an obligation which the company cannot meet.

The Company requires Directors and employees to observe high standards of business and personal ethics in the conduct of their duties and responsibilities.  Directors and employees must practice honesty and integrity in every aspect of dealing with other Directors and employees, the public, the business community, stockholders, customers, members and government authorities.

Directors and employees will maintain the confidentiality of the Company’s sensitive or proprietary information and will not use such information for their personal benefit or the benefit of another person or entity.

Directors and employees shall refrain, both during and after their employment, from publishing any oral or written statements about the Company or any of its Directors or employees that are slanderous, libelous or defamatory.  Statements disclosing private or confidential information about their business affairs or constituting an intrusion into their private lives should be avoided.

Directors and employees will comply with the executive stock ownership requirements set forth by the Board of Directors.

The Company prohibits unlawful discrimination against Directors and employees, stockholders, members, customers or suppliers on account of race, color, age, sex, religion or national origin.  All persons shall be treated with dignity and respect and they shall not be interfered with in the conduct of their duties and responsibilities.

4

Directors and employees should not be misguided by any sense of loyalty to the Company or a desire for profitability that might cause them to disobey any applicable law or Company policy.  Illegal behavior on the part of any Director or employee in the performance of Company duties will not be condoned or tolerated.

The Company is committed to evaluating the effectiveness of the Code through various efforts on an ongoing basis.  To identify areas that are deficient or need to be improved the Corporate Compliance Officer considers: Audit Committee findings; departmental audit reports; Corrective Action Plans (which are a result of regulatory audits performed quarterly); routine audits conducted by Management; and the review of departmental policies and procedures.  Through these processes, we are continuously assessing the effectiveness of the program and finding ways to improve it.

Adherence to and support of the Code is a condition of employment.  Violation may result in disciplinary action, which may include termination.

The Code of Business Conduct and Ethical Business Practice will be distribuued to new Directors and employees and be distributed again to all Directors and employees annually at the beginning of each calendar year.  Directors and employees are required to sign the acknowledgment confirming they have received the Code, read it and understand it represents mandatory policies of the Company and agree to abide by it.  The Company welcomes any suggestions to help improve its business conduct.

Directors and employees can report violations of the Law or the Code by calling the Ethics and Compliance Hotline at 1 (877) 888-0002.  The Hotline is open 24 hours a day, 7 days a week, and is operated by an independent company.  Directors and employees may remain anonymous and translators are available.

Approved by the Board of Directors on February 20, 2004.

5

Antitrust & Competition

No Director or employee of the Company shall enter into any understanding, agreement, plan or scheme, express or implied, formal or informal, with any competitor to fix prices, contract terms, territories or customers:  The Chief Executive Officer must authorize any discussion with competitors in connection with a project in which the competitor is an alliance partner, joint venturer or subcontractor.

Directors and employees responsible for the conduct or practices of the Company which could in any way involve antitrust or anti-competitive activities should consult with their manager or another appropriate member of management about such matters.

There shall be no exception to this Policy, nor shall it be compromised or qualified by anyone acting for or on behalf of the Company.

Approved by the Board of Directors on February 20, 2004.

6

Bribery

The Company prohibits payment to suppliers or customers in the form of bribes, kickbacks or payoffs.  Directors and employees are also prohibited from receiving, directly or indirectly from a third party, anything of a significant value (other than salary or other ordinary compensation paid by the Company) in connection with a transaction entered into by the Company.

The Company also prohibits Directors and employees from paying any bribe, kickback or other similar unlawful payment to, or otherwise entering into a sensitive transaction with, any public official, political party, candidate for public office or other individual, to secure any contract, concession or other favorable treatment for the Company or for personal gain.  Any extraordinary payments, including extravagant entertainment or gifts of significant value (in general this means the cost will not exceed $100), for the express purpose of obtaining or retaining business or unduly influencing some matter in favor of the Company is prohibited.  Directors and employees who make such agreements are subject to appropriate action by the Company, as well as the legal consequences of applicable Law.

Bribes, kickbacks and payoffs include, but are not limited to: Gifts other than nominal value (in general this means the cost will not exceed $100); the uncompensated use of Company services, facilities or property; loans, or loan guarantees or other extensions of credit.

This Policy does not prohibit reasonable expenditures for meals and entertainment of suppliers and customers, which are an ordinary and customary business expense.  These expenditures should be included on expense reports and approved under standard Company procedures.

Approved by the Board of Directors on February 20, 2004.

7

Confidential Information

In carrying out the Company’s business, Directors and employees often learn confidential or proprietary information about the Company, its customers, suppliers or members.  An unauthorized disclosure could be harmful to the Company or helpful to a competitor.

Therefore, no Director or employee entrusted with or otherwise knowledgeable about information of a confidential or proprietary nature shall disclose or use that information outside the Company or for personal gain, either during or after employment without the valid and proper written authorization from the Company.

The company also works with proprietary data of suppliers, members and customers.  The protection of such data is of the highest importance and must be discharged with the greatest care for the Company to merit the continued confidence of such persons.  No Director or employee shall disclose or use confidential or proprietary information owned by someone other than the Company to non-employees without Company authorization, or disclose the information to others unless a need-to-know basis is established.

In general when describing or talking about Prospect, it is safe to mention what we do and not how we do it or how much it costs.

Approved by the Board of Directors on February 20, 2004.

8

Conflicts of Interest

Directors and employees have a duty to the Company to advance the Company’s legitimate interests when the opportunity to do so arises.  Timely and proper disclosure of possible conflicts of interest that Directors and employees may have in connection with job duties and responsibilities is necessary to protect the best interests of the Company.  Possible conflict of interest situations should be promptly and fully disclosed to the Chief Executive Officer.

A conflict of interest may occur if outside activities, personal financial interests, or other interests influence one’s ability to make objective decisions in the course of their responsibilities as a Director or employee.  A conflict of interest may also exist if the demands of any outside activities hinder or distract Directors or employees from the performance of their responsibilities or cause the individual to use Company resources for other than Company business.

The Company has always been concerned with outside business interests of its Directors and employees that might possibly conflict with the interests of the Company.  An adequate definition of what constitutes a conflict of interest is most difficult.  However, the Company expects and requires Directors and employees to be honest and ethical in the handling of actual or apparent conflicts of interest between personal and business relationships.

There are certain situations which the Company will always consider to be a conflict of interest.  These occur if any person having a close personal relationship with the Director or employee, such as, spouse, parents, children, siblings, in-laws, any person living in the same home with the Director or employee or any business associate of the Director or employee:

1.Obtains a significant financial or other beneficial interest in one of the Company’s suppliers, customers or competitors without first notifying the Company and obtaining written approval from the Chief Executive Officer;

2.Engages in a significant personal business transaction involving the Company for profit or gain, without first notifying the Company and obtaining written approval from the Chief Executive Officer;

3.Accepts money, gifts, hospitality, loans, guarantees of obligations or other special treatment from any supplier, customer or competitor of the Company;

4.Participates in any sale, loan or gift of Company property without first notifying the Company and obtaining written approval from the Chief Executive Officer;

5.Learns of a business opportunity through association with the Company and discloses it to a third party or invests in or takes the opportunity personally without first notifying the Company;

9

6.Uses corporate property, information, or position for personal gain; or

7.Competes with the Company.

Approved by the Board of Directors on February 20, 2004.

10

Equal Opportunity Employer

In its hiring and promotion policies, the Company is committed to providing equal opportunity to all qualified individuals.  The Company will endeavor to create a workforce that is a reflection of the diverse population of the communities in which it operates.

The Company will comply with applicable Law governing equal employment opportunities to assure that there is no unlawful discrimination against any employee or applicant.

This policy relates to all phases of employment, including recruitment, placement, hiring, promotion, transfer, compensation, benefits, training, and educational, social and recreational programs.  It covers all other personnel actions in all job categories and at all levels, including employment of qualified disabled individuals.  It is intended to provide employees with a working environment free of discrimination, harassment, intimidation or coercion relating directly or indirectly to race, color, religion, disability, sex, age or national origin.

An employee who believes he or she has been or is being subjected to discrimination should bring this matter to the attention of his or her immediate supervisor, department head or the Human Resources Director.  If Management receives a complaint of discrimination, they shall report the complaint immediately to the Human Resources Director.  Nothing in this Policy requires any employee complaining of discrimination to present the matter to the person who is the subject of the complaint.  All complaints of discrimination will be promptly investigated.  The privacy of the persons involved will be protected, except to the extent necessary to conduct a proper investigation.  If the investigation substantiates the complaint, immediate action will be taken to end the discrimination, prevent its recurrence and remedy the situation.

An employee who reports the matter pursuant to this Policy shall not be retaliated against or adversely treated because of the making of the report.

Approved by the Board of Directors on February 20, 2004.

11

Fraud & Similar Irregularities

Directors and employees are obligated to protect Company assets and ensure their efficient use.  Theft, carelessness and waste of Company assets by Directors and employees may result in their termination and other corrective actions by the Company.  Company assets shall be used only for the legitimate business purposes of the Company.

Fraud includes, but is not limited to, dishonest or fraudulent acts; embezzlement; misappropriation of assets; forgery or alteration of negotiable instruments such as Company checks and drafts; taking or using Company supplies or any other Company asset for a purpose other than Company business; unauthorized handling or reporting of Company transactions; and falsification of Company records or financial statements for personal reasons or any other reason.

Directors and employees are obligated to report any fraud, whether material or not to the Company.  Reports will be investigated promptly and discreetly.  Directors and employees will not suffer adverse consequences as a result of making such a report.  However, failure to report a fraud will have a direct negative effect on that person’s relations with the Company.

Approved by the Board of Directors on February 20, 2004.

12

Harassment

The Company considers harassment a serious act of misconduct and may subject an employee to disciplinary action, including immediate discharge.  Management who fail to report violations of which they become aware will be subject to disciplinary action, up to and including suspension and termination of employment.  The term “harassment” includes sexual, racial, ethnic, and other forms of harassment, including harassment based upon disability.

Some examples of what may be considered harassment, depending on facts and circumstances, include the following:

Sexual Harassment. Unwelcome sexual conduct or speech, whether verbal, written or physical, including, among other things, sexual advances, demands for sexual favors, or other conduct or speech of a sexual nature, whether or not it was designed or intended to promote an intimate relationship or to intimidate or provoke.

Racial Harassment. Unwelcome or derogatory comments regarding a person’s race, color, ancestry or ethnic heritage; or distribution, including by email or other electronic media, or display in any Company work area, of written or graphic material of this type.

Physical Harassment. Hitting, pushing, touching or other physical contact, inappropriate gestures or threats to take such action.

Any employee who believes he or she is being harassed should tell the offending party that he or she objects to that conduct.  This often solves the problem.  However, if an employee is not comfortable confronting the offending party (or if the offending party’s unwelcome conduct continues), the employee should advise his or her immediate supervisor.  If the immediate supervisor has not taken what the employee regards as appropriate action to solve the problem, the employee should notify the Human Resources Director.

This policy will be strictly enforced.  Complaints will be investigated promptly and discreetly.  Directors and employees will not suffer adverse consequences as a result of reporting any act of harassment.

Approved by the Board of Directors on February 20, 2004.

13

Health & Safety

Health and safety is a primary goal of the Company.  The Company will comply with all applicable Laws to protect the health and safety of its employees in the workplace.  Management shall take such actions as are reasonable and necessary to protect Directors, employees and the Company.

To maintain a safe workplace employees must be safety conscious at all times.  Employees must advise their Supervisor or the Human Resources Director if they are aware of any condition presenting a danger so that corrective action may be taken to remove the danger.

Employees should report personal injury, however minor, to the Human Resources Department immediately.  First aid kits are readily available in all work areas.  In case of emergency, the first person in contact with the injured or ill worker will be responsible for seeking help.  The Human Resources Department will assist in obtaining treatment for the injured worker.

Approved by the Board of Directors on February 20, 2004.

14

Inside Information and Securities Trading

Employees and Directors should never buy or sell the Company’s equity securities (including options) if they have material non-public information or “inside information” regarding the Company. Material non-public information or “inside information” is any information which is not public and which, if disclosed, can reasonably be expected to have an effect on the market price of the securities of the Company. Any information that could be expected to affect the Company’s stock price, whether it is positive or negative, should be considered material.

Employees and Directors who are aware of inside information regarding the Company must wait until this information has been fully disclosed to the public before trading in the Company’s stock.  Full public disclosure generally means disclosure via a report filed by the Company with the Securities and Exchange Commission or a widely distributed press release followed by publication in the media, followed, in either case, by three or more days for distribution and interpretation of the information. Anyone who is unsure whether information is material or has been released to the public should contact the Corporate Compliance Officer to confirm before trading.

Employees and Directors must never disclose material inside information to anyone other than persons within the Company whose positions require them to know the information.  In particular, material information that could be used for securities transactions should never be provided to others.  “Tipping” – providing inside information to others – violates the obligation of employees and Directors to maintain the confidentiality of Company information and can result in violation of the federal securities laws.  Confidential corporate plans or developments must never be discussed with “outsiders” (including family members and friends) or other employees who do not require the information to properly fulfill their duties.

No preferential treatment may be given to any stockholder, potential investor, securities analyst, broker, or other market professional. Therefore, before releasing to any such person any material financial or operating data relating to the Company, that information must be available to the public generally.  Selective disclosure of any material non-public information about the Company is prohibited except as permitted by law.

Approved by the Board of Directors on March 31, 2005.

15

Political Activities & Contributions

The Company encourages participation in the political process by its Directors and employees.  The federal government and some states have, however, enacted Laws regulating campaign contributions in order to limit the political influence of certain types of contributors, such as corporations, to political candidates and participation in political campaigns.

The Company will comply with applicable Laws regulating political influence and campaign contributions.

The Company believes strongly in the democratic political process and that its Directors and employees should take an active interest in fostering principles of good government in the communities in which they live.  Directors and employees may spend their own time and funds supporting political candidates and issues but the Company will not reimburse them for time or funds used for political contributions.

No Director or employee shall apply pressure, direct or implied, that infringes upon an individual’s right to decide whether, to whom and in what amount a personal political contribution is to be made.

Directors and employees who represent the Company in political and governmental matters must comply with all Laws that regulate corporate participation in public affairs.

When permitted by Law and authorized by the Chief Executive Officer, Company funds and facilities may be used to inform or influence the voting public on an issue of importance to the business of the Company and its stockholders.

If a Director or employee is asked to make a political contribution and he or she has questions regarding this policy or applicable Law, they should consult with the Corporate Compliance Officer.

Approved by the Board of Directors on February 20, 2004.

16

Code of Business Conduct and Ethical Business Practice

Acknowledgment of Receipt

I certify that I have received the Prospect Medical Code of Business Conduct and Ethical Business Practice, understand it represents mandatory policies of the Company and agree to abide by it.

Name (please print):

Signature:

Social Security Number:

Date:

17

EX-23.1

EXHIBIT 23.1

CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

We consent to the incorporation by reference in the Registration Statement (Form S-8 No. 333-128700) pertaining to the 1998 Stock Option Plan, as amended, of Prospect Medical Holdings, Inc., and the Registration Statement (Form S-3 No. 333-137496) for the registration of 3,299,910 shares of common stock, of our report dated December  22, 2006, with respect to the consolidated financial statements and schedule of Prospect Medical Holdings, Inc. included in the Annual Report (Form 10-K) for the year ended September 30, 2006.

/s/ ERNST & YOUNG LLP

Los Angeles, California

December  22, 2006

EX-31.1

EXHIBIT 31.1

CERTIFICATION PURSUANT TO
RULES 13a-14(a)/15d-14(a)
UNDER THE SECURITIES EXCHANGE
ACT OF 1934, AS AMENDED

I, Jacob Y. Terner, M.D., certify that:

1.I have reviewed this report on Form 10-K for the year ended September 30, 2006 of Prospect Medical Holdings, Inc.;

2.Based on my knowledge, the report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by the report;

3.Based on my knowledge, the financial statements, and other financial information included in the report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in the report;

4.The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended) for the registrant and have:

(a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period for which this report is being prepared;

(b)Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by the report based on such evaluation; and

(c)Disclosed in the report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and to the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

(a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report information; and

(b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

December 28, 2006	/s/ Jacob Y. Terner, M.D.
	Jacob Y. Terner, M.D.
	Chairman of the Board and Chief Executive Officer

EX-31.2

EXHIBIT 31.2

CERTIFICATION PURSUANT TO
RULES 13a-14(a)/15d-14(a)
UNDER THE SECURITIES EXCHANGE
ACT OF 1934, AS AMENDED

I, Mike Heather, certify that:

1.I have reviewed this report on Form 10-K for the year ended September 30, 2006, of Prospect Medical Holdings, Inc.;

2.Based on my knowledge, the report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by the report;

3.Based on my knowledge, the financial statements, and other financial information included in the report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in the report;

4.The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended for the registrant and have:

(a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period for which this report is being prepared;

(b)Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by the report based on such evaluation; and

(c)Disclosed in the report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and to the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

(a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report information; and

(b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

December 28, 2006	/s/ Mike Heather
	Mike Heather
	Chief Financial Officer

EX-32.1

EXHIBIT 32.1

CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the report of Prospect Medical Holdings, Inc. (the “Company”) on Form 10-K for the period ended September 30, 2006 (the “Report”), I, Jacob Y. Terner, M.D., Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:

(1)The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and

(2)The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

December 28, 2006	/s/ Jacob Y. Terner, M.D.
	Jacob Y. Terner, M.D.
	Chairman of the Board and Chief Executive Officer

EX-32.2

EXHIBIT 32.2

CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the report of Prospect Medical Holdings, Inc. (the “Company”) on Form 10-K for the period ended September 30, 2006 (the “Report”), I, Mike Heather, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:

(1)The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and

(2)The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

December 28, 2006	/s/ Mike Heather
	Mike Heather
	Chief Financial Officer