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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

For the quarterly period ended June 30, 2004.

For the transition period from              to             .

Commission file number: 000-49796

COMPUTER PROGRAMS AND SYSTEMS, INC.

(Exact Name of Registrant as Specified in Its Charter)

(251) 639-8100

(Registrant’s Telephone Number, Including Area Code)

N/A

(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)

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

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

As of August 6, 2004, there were 10,489,849 shares of the issuer’s common stock outstanding.

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COMPUTER PROGRAMS AND SYSTEMS, INC.

Form 10-Q

(For the period ended June 30, 2004)

INDEX

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PART I

FINANCIAL INFORMATION

Item 1. Financial Statements.

COMPUTER PROGRAMS AND SYSTEMS, INC.

CONDENSED BALANCE SHEETS (Unaudited)

See accompanying notes.

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COMPUTER PROGRAMS AND SYSTEMS, INC.

CONDENSED STATEMENTS OF INCOME (Unaudited)

See accompanying notes.

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COMPUTER PROGRAMS AND SYSTEMS, INC.

CONDENSED STATEMENTS OF CASH FLOWS (Unaudited)

See accompanying notes.

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COMPUTER PROGRAMS AND SYSTEMS, INC.

NOTES TO CONDENSED FINANCIAL STATEMENTS (Unaudited)

The accompanying unaudited condensed financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (SEC) and include all adjustments that, in the opinion of management, are necessary for a fair presentation of the results of the periods presented. All such adjustments are considered of a normal recurring nature. Quarterly results of operations are not necessarily indicative of annual results.

Certain financial information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted. These unaudited condensed financial statements should be read in conjunction with the Company’s audited financial statements for the year ended December 31, 2003 and the notes thereto contained in our Annual Report on Form 10-K for the year ended December 31, 2003.

The Company presents both basic and diluted earnings per share (EPS) amounts. Basic EPS is calculated by dividing net income by the weighted average number of common shares outstanding during the period presented. Diluted EPS amounts are based upon the weighted average number of common and common equivalent shares outstanding during the period presented. The difference between basic and diluted EPS is solely attributable to stock options. The Company uses the treasury stock method to calculate the impact of outstanding stock options. For the three and six month periods ended June 30, 2004, these dilutive shares were 42,044 and 39,648, respectively. For the three and six month periods ended June 30, 2003, these dilutive shares were 55,577 and 68,319, respectively.

The Company provides for income taxes using the liability method in accordance with Statement of Financial Accounting Standards (SFAS) No. 109, Accounting for Income Taxes. Deferred income taxes arise from the temporary differences in the recognition of income and expenses for tax purposes. Deferred tax assets and liabilities are comprised of the following:

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COMPUTER PROGRAMS AND SYSTEMS, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS (continued)

Significant components of the Company’s income tax provision for the six months ended June 30 are as follows:

The difference between income taxes at the U. S. federal statutory income tax rate of 34% and those reported in the condensed statements of income for the six months ended June 30 are as follows:

During 2002, the Company adopted the 2002 Stock Option Plan, and in accordance with the disclosure provisions of SFAS No. 123, Accounting for Stock-Based Compensation, the Company has elected to follow Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees and related interpretations in accounting for employee stock options. Under APB No. 25, because the exercise price of the Company’s employee stock options equals the market price of the underlying stock on the date of grant, no compensation expense was reflected in net income for the six months ended June 30, 2004 or 2003. Had the Company accounted for its stock-based compensation plan based on the fair value of awards at grant date consistent with the methodology of SFAS No. 123, the Company’s reported net income and income per share for the six months ended June 30, 2004 would have been impacted as indicated below. There were no employee stock options granted during the six months ended June 30, 2004. The effects of applying SFAS No. 123 on a pro forma basis for the six months ended June 30, 2004, are not likely to be representative of the effects on reported pro forma net income for future years as options vest over several years and it is anticipated that additional grants will be made in future years.

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COMPUTER PROGRAMS AND SYSTEMS, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS (continued)

Under the 2002 Stock Option Plan, the Company has authorized the issuance of equity-based awards for up to 1,165,333 shares of common stock to provide additional incentive to employees and officers. Pursuant to the plan, the Company can grant either incentive or non-qualified stock options. Options to purchase common stock under the 2002 Stock Option Plan have been granted to Company employees with an exercise price equal to the fair market value of the underlying shares on the date of grant.

Stock options granted under the 2002 Stock Option Plan to executive officers of the Company become vested as to all of the shares covered by such grant on the fifth anniversary of the grant date and expire on the seventh anniversary of the grant date. Stock options granted under the 2002 Stock Option Plan to employees other than executive officers become vested as to 50% of the shares covered by the option grant on the third anniversary of the grant date and as to 100% of such shares on the fifth anniversary of the grant date, and such options expire on the seventh anniversary of the grant date.

Under the methodology of SFAS No. 123, the fair value of the Company’s stock options was estimated at the date of grant using the Black-Scholes option pricing model. The multiple option approach was used, with assumptions for expected option life of 5 years and 44% expected volatility for the market price of the Company’s stock in 2002. An estimated dividend yield of 3% was used. The risk-free rate of return was determined to be 2.79% in 2002.

The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions, including expected stock price volatility. Because the Company’s employee stock options have characteristics significantly different from those of traded options, and because subjectivity of assumptions can materially affect estimate of fair value, the Company believes the Black-Scholes model does not necessarily provide a reliable single measure of the fair value of its employee stock options.

The weighted average grant date fair value of options granted to employees under the 2002 Stock Option Plan during 2002 was $5.30. There were no options granted under the plan during the six months ended June 30, 2004.

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COMPUTER PROGRAMS AND SYSTEMS, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS (continued)

A summary of stock option activity under the plan is as follows:

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

You should read the following discussion and analysis of our financial condition and results of operations together with the unaudited condensed financial statements and related notes appearing elsewhere herein.

This discussion and analysis contains forward-looking statements within the meaning of the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements can be identified generally by the use of forward-looking terminology and words such as “expects,” “anticipates,” “estimates,” “believes,” “predicts,” “intends,” “plans,” “potential,” “may,” “continue,” “should,” “will” and words of comparable meaning. Without limiting the generality of the preceding statement, all statements in this report relating to estimated and projected earnings, margins, costs, expenditures, cash flows, growth rates and future financial results are forward-looking statements. We caution investors that any such forward-looking statements are only predictions and are not guarantees of future performance. Certain risks, uncertainties and other factors may cause actual results to differ materially from those projected in the forward-looking statements. Such factors may include:

Additional information concerning these and other factors which could cause differences between forward-looking statements and future actual results is discussed under the heading “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2003, as filed with the Securities and Exchange Commission.

Overview

We are a healthcare information technology company that designs, develops, markets, installs and supports computerized information technology systems to meet the unique demands of small and midsize hospitals. Our target market includes acute care community hospitals with 300 or fewer beds and small specialty hospitals. We are a single-source vendor providing comprehensive software and hardware products, complemented by data conversion, complete installation and extensive support. Our fully integrated, enterprise-wide system automates the management of clinical and financial data across the primary functional areas of a hospital. In addition, we provide services that enable our customers to outsource certain data-related business processes which we can perform more efficiently. We believe our products and services enhance hospital performance in the critical areas of clinical care, revenue cycle management, cost control and regulatory compliance. From our initial hospital installation in 1981, we have grown to serve more than 500 hospital customers across 45 states and the District of Columbia. In the three months ended June 30, 2004, we generated revenues of $19.0 million from the sale of our products and services.

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Results of Operations

Three Months Ended June 30, 2004 Compared with Three Months Ended June 30, 2003

Revenues. Total revenues decreased by 4.5% or $0.9 million to $19.0 million for the three months ended June 30, 2004 from $19.9 million for the three months ended June 30, 2003.

System sales revenues decreased by 20.2% or $1.9 million to $7.7 million for the three months ended June 30, 2004 from $9.6 million for the three months ended June 30, 2003. This decrease was primarily due to fewer new system installations. The average contract size also decreased.

Support and maintenance revenues increased by 10.2% or $0.8 million to $9.3 million for the three months ended June 30, 2004 from $8.5 million for the three months ended June 30, 2003. This increase was attributable to an increase in recurring revenues as a result of a larger customer base and also an increase in the volume of ASP and ISP services.

Outsourcing revenues increased by 10.9% or $0.2 million to $2.0 million for the three months ended June 30, 2004 from $1.8 million for the three months ended June 30, 2003. We experienced an increase in outsourcing revenues as a result of growth in customer demand for business office outsourcing, as well as electronic billing and statement outsourcing services.

Costs of Sales. Total costs of sales decreased by 1.0% or $0.1 million to $11.5 million for the three months ended June 30, 2004 from $11.6 million for the three months ended June 30, 2003. As a percentage of total revenues, cost of sales increased to 60.3% for the three months ended June 30, 2004 from 58.3% for the three months ended June 30, 2003. This increase was attributable to a smaller average contract size which produced a lower profit margin.

Cost of system sales decreased by 5.5% or $0.4 million to $6.1 million for the three months ended June 30, 2004 from $6.5 million for the three months ended June 30, 2003. Travel related expenses decreased $0.4 million as a result of fewer new system installations and installation locations which did not require air travel. The gross margin on system sales decreased to 20.0% for the three months ended June 30, 2004 from 32.5% for the three months ended June 30, 2003. This decrease was attributable to a smaller average installation size which produced a lower profit margin.

Cost of support and maintenance increased by 2.4% or $0.1 million to $4.1 million for the three months ended June 30, 2004 from $4.0 million for the three months ended June 30, 2003. This change is attributable to an increase in telecommunication expenses due to increased utilization of our ISP services. The gross margin on support and maintenance revenues increased to 55.8% for the three months ended June 30, 2004 from 52.5% for the three months ended June 30, 2003. The increase in gross margin was due to the increase in our customer base.

Our costs associated with outsourcing services increased by 13.3% or $0.1 million to $1.2 million for the three months ended June 30, 2004 from $1.1 million for the three months ended June 30, 2003. This change is attributable to an increase in postage cost resulting from an increase in transaction volumes of our statement outsourcing services.

Sales and Marketing Expenses. Sales and marketing expenses decreased by 13.3% or $0.2 million to $1.5 million for the three months ended June 30, 2004 from $1.7 million for the three months ended June 30, 2003. The decrease was attributable to decreased salary and commission expense.

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General and Administrative Expenses. General and administrative expenses increased 12.0% or $0.4 million to $3.7 million for the three months ended June 30, 2004 from $3.3 million for the three months ended June 30, 2003. The increase in expense was related to increased costs of $0.4 million associated with insurance for existing employees. Additional expense increases of $0.2 million were related to an increase in provision for bad debt, while professional fees decreased $0.2 million.

As a percentage of total revenues, sales and marketing expenses and general and administrative expenses increased to 27.3% for the three months ended June 30, 2004 from 25.2% for the three months ended June 30, 2003.

Net Income. Net income for the three months ended June 30, 2004 decreased by 31.3% or $0.7 million to $1.4 million or $0.14 per diluted share, as compared with net income of $2.1 million or $0.20 per diluted share for the three months ended June 30, 2003. Net income represents 7.6% of revenue for the three months ended June 30, 2004, as compared to 10.6% of revenue for the three months ended June 30, 2003.

Six Months Ended June 30, 2004 Compared with Six Months Ended June 30, 2003

Revenues. Total revenues decreased by 6.9% or $2.8 million to $37.2 million for the six months ended June 30, 2004 from $40.0 million for the six months ended June 30, 2003.

System sales revenues decreased by 25.1% or $5.0 million to $14.7 million for the six months ended June 30, 2004 from $19.7 million for the six months ended June 30, 2003. This decrease was primarily due to fewer new system installations. The average contract size also decreased.

Support and maintenance revenues increased by 10.8% or $1.8 million to $18.6 million for the six months ended June 30, 2004 from $16.8 million for the six months ended June 30, 2003. This increase was attributable to an increase in recurring revenues as a result of a larger customer base and also an increase in the volume of ASP and ISP services.

Outsourcing revenues increased by 10.8% or $0.4 million to $3.9 million for the six months ended June 30, 2004 from $3.5 million for the six months ended June 30, 2003. We experienced an increase in outsourcing revenues as a result of growth in customer demand for business office outsourcing, as well as electronic billing and statement outsourcing services.

Costs of Sales. Total costs of sales decreased by 1.9% or $0.4 million to $23.2 million for the six months ended June 30, 2004 from $23.6 million for the six months ended June 30, 2003. As a percentage of total revenues, costs of sales increased to 62.3% for the six months ended June 30, 2004 from 59.1% for the six months ended June 30, 2003.

Cost of system sales decreased by 7.7% or $1.0 million to $12.6 million for the six months ended June 30, 2004 from $13.6 million for the six months ended June 30, 2003. This decrease was caused primarily by a decrease in cost of travel of $0.6 million as a result of fewer new system installations and installations at locations which did not require air travel. Additionally, payroll related expenses increased $0.4 million as a result of annual salary increases for our employees. Equipment cost also decreased by $0.8 million as a result of a decrease in equipment sales. The gross margin on system sales decreased to 14.9% for the six months ended June 30, 2004 from 30.9% for the six months ended June 30, 2003. The decrease in gross margin was attributable to a smaller average installation size which produced a lower profit margin.

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Cost of support and maintenance increased by 4.2% or $0.3 million to $8.2 million for the six months ended June 30, 2004 from $7.9 million for the six months ended June 30, 2003. This increase was caused primarily by an increase in depreciation expense of $0.3 million. Depreciation of maintenance equipment was included in general and administrative expenses in the prior year. The gross margin on support and maintenance revenues increased to 55.5% for the six months ended June 30, 2004 from 52.7% for the six months ended June 30, 2003. The increase in gross margin was due to the increase in our customer base.

Our costs associated with outsourcing services increased 13.9% or $0.3 million to $2.3 million for the six months ended June 30, 2004 from $2.0 million for the six months ended June 30, 2003. Postage cost increased $0.2 million resulting from an increase in transaction volumes of our statement outsourcing services. Other expenses increased $0.1 million due to the use of temporary labor to support our business office outsourcing services.

Sales and Marketing Expenses. Sales and marketing expenses decreased by 10.1% or $0.3 million to $2.7 million for the six months ended June 30, 2004 from $3.0 million for the six months ended June 30, 2003. The decrease was attributable to decreased salary and commission expense of $0.2 million. Advertising and business promotion expense also decreased $0.1 million.

General and Administrative Expenses. General and administrative expenses increased 15.1% or $1.0 million to $7.8 million for the six months ended June 30, 2004 from $6.8 million for the six months ended June 30, 2003. The increase in expense was related to increased costs of $0.7 million associated with insurance and benefits for existing employees. Additionally, the provision for bad debts increased $0.3 million.

As a percentage of total revenues, sales and marketing expenses and general and administrative expenses increased to 28.3% from 24.6% for the six months ended June 30, 2004 and 2003, respectively.

Net Income. Net income for the six months ended June 30, 2004 decreased by 47.3% or $2.0 million to $2.2 million or $0.21 per diluted share, as compared with net income of $4.2 million or $0.40 per diluted share for the six months ended June 30, 2003. Net income represents 5.9% of revenue for the six months ended June 30, 2004, as compared to 10.5% of revenue for the six months ended June 30, 2003.

Liquidity and Capital Resources

At June 30, 2004, we had cash and short-term investments of $11.0 million, compared with $8.4 million at June 30, 2003. Net cash provided by operating activities for the six months ended June 30, 2004 was $4.6 million, compared to $4.2 million for the three months ended June 30, 2003. The increase was primarily due to improved collections of accounts receivable.

Net cash used in investing activities totaled $0.6 million for the six months ended June 30, 2004, compared to $1.0 million for the six months ended June 30, 2003. We used cash primarily for the purchase of fixed assets.

Net cash used in financing activities totaled $2.5 million for the six months ended June 30, 2004, compared to $1.1 million for the six months ended June 30, 2003. We used cash to pay dividends that we declared during the quarter.

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We currently do not have a bank line of credit or other credit facility in place. Our future capital requirements will depend upon a number of factors, including the rate of growth of our sales, cash collections from our customers and our future investments in fixed assets. We believe that our available cash and cash equivalents and anticipated cash generated from operations will be sufficient to meet our operating requirements for the next 12 months.

Off-Balance Sheet Arrangements

We are not currently a party to any material “off-balance sheet arrangement” as defined in Item 303 of Regulation S-K.

Item 3. Quantitative and Qualitative Disclosures about Market Risk.

We currently do not use derivative financial instruments. Cash and cash equivalents consist of highly liquid financial instruments, primarily cash, money market funds and short term U.S. Government obligations, purchased with an original maturity of three months or less. Interest income on our income statement is included in “Other Income.”

As of June 30, 2004, the Company had no borrowings and is, therefore, not subject to interest rate risks related to debt instruments.

Item 4. Controls and Procedures

Our management, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the design and operation of the Company’s disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)), as of the end of the period covered by this report. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective in timely alerting them to material information relating to the Company that is required to be included in our periodic SEC filings. There have not been any changes in the Company’s internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II

OTHER INFORMATION

Item 1. Legal Proceedings.

From time to time, we are involved in routine litigation that arises in the ordinary course of business. We currently are involved in a litigated dispute relating to the installation of a hospital information system that, if resolved unfavorably, could have a negative impact on our quarterly earnings at some point in the future. However, this dispute should not have a material adverse effect on our business or financial condition. We are not currently involved in any other litigation that we believe could reasonably be expected to have a material adverse effect on our business, financial condition, or results of operations.

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Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities.

Item 3. Defaults Upon Senior Securities.

Not applicable.

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

The Company held its Annual Meeting of Stockholders on May 13, 2004. At the meeting, the stockholders voted to elect three Class II directors to serve a three-year term and to ratify the appointment of Ernst & Young LLP as the Company’s independent auditors for 2004. The results of the stockholder voting on these matters are summarized as follows:

Proposal 1 - Election of Three Class II Directors:

Proposal 2 – Ratification of Appointment of Independent Auditors:

Subsequent to the Annual Meeting of Stockholders, the Audit Committee of the Company’s Board of Directors decided to change independent auditors, as described in the Company’s Current Report on Form 8-K filed on August 9, 2004.

Item 5. Other Information.

None.

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

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On April 23, 2004 we furnished a current report on Form 8-K to report Company earnings for the fiscal first quarter ended March 31, 2004.

On June 14, 2004, we filed a current report on Form 8-K to report the commencement of a Rule 10b5-1 trading plan by Victor S. Schneider, Vice President-Sales and Marketing.

On June 18, 2004, we filed a current report on Form 8-K to report the commencement of a Rule 10b5-1 trading plan by M. Kenny Muscat, a director of CPSI.

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SIGNATURE

Pursuant to the requirements 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.

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Exhibit Index

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