UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

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FORM 10-K

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(MARK ONE)
[X]   ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
     SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2003

OR

[   ]  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
     EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ___________ TO  _____________
Commission file number:    1-8865



Sierra Health Services,  Inc.



|NEVADA                                                         | 88-0200415                             
|-------------------------------------------------------------- | ---------------------------------------
|(State or Other Jurisdiction of Incorporation or Organization) | (I.R.S. Employer Identification Number)

2724 North Tenaya Way
Las Vegas, Nevada     89128

(702) 242-7000

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 $.005 | New York Stock Exchange                  

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

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

Indicate by check mark 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.     [X]

Indicate by check mark if the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2 of the Act).
    Yes  
[X]       No  [     ]

The aggregate  market value of the voting stock held by  non-affiliates  of
the registrant on June 30, 2003 was $554,306,000.

The number of shares of the registrant's  common stock  outstanding on February 27,
2004 was 27,046,000.

DOCUMENTS INCORPORATED BY REFERENCE





|DOCUMENT

Portions of the registrant's definitive proxy
statement for its 2003 Annual meeting
to be filed with the SEC not later than 120 days
after the end of the fiscal year. | WHERE INCORPORATED

  Part III
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------









Sierra Health Services,  Inc.

                        2003 Annual Report on Form 10-K
                               TABLE OF CONTENTS



|PART I.    |                                                                                                | Page
|---------- | ---------------------------------------------------------------------------------------------- | ----
|Item 1.    | Business                                                                                       | 1   
|Item 2.    | Properties                                                                                     | 26  
|Item 3.    | Legal Proceedings                                                                              | 27  
|Item 4.    | Submission of Matters to a Vote of Security Holders                                            | 27  
|PART II.   |                                                                                                |     
|Item 5.    | Market for Registrant's Common Equity and Related Stockholder Matters                          | 28  
|Item 6.    | Selected Financial Data                                                                        | 31  
|Item 7.    | Management's Discussion and Analysis of Financial Condition and Results of Operations          | 33  
|Item 7a.   | Quantitative and Qualitative Disclosures about Market Risks                                    | 55  
|Item 8.    | Financial Statements and Supplementary Data                                                    | 56  
|Item 9.    | Changes in and Disagreements with Accountants on Accounting and Financial Disclosure           | 100 
|Item 9a.   | Conrols and Procedures                                                                         | 100 
|PART III.  |                                                                                                |     
|Item 10.   | Directors and Executive Officers of the Registrant                                             | 100 
|Item 11.   | Executive Compensation                                                                         | 100 
|Item 12.   | Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters | 100 
|Item 13.   | Certain Relationships and Related Transactions                                                 | 100 
|Item 14.   | Principal Accounting Fees and Services                                                         | 100 
|PART IV.   |                                                                                                |     
|Item 15.   | Exhibits, Financial Statement Schedules and Reports on Form 8-K                                | 101 
|Signatures |                                                                                                | 106 

i



PART I


ITEM 1.   BUSINESS
General

Unless specifically indicated or the context clearly
indicates otherwise, "Sierra," "we," "us," and
"our" refer to Sierra Health Services, Inc. and its subsidiaries.

Overview

We are a managed health care organization that provides and
administers the delivery of comprehensive health care programs with an emphasis
on quality care and cost management.  Our strategy has been to develop and offer
a portfolio of managed health care products to employer groups and individuals.
Our broad range of managed health care services is provided through the
following:

a federally qualified health maintenance organization or
HMO;











Required financial information by business segment is set
forth in Note 19 of the Notes to the Consolidated Financial Statements.  Unless
otherwise indicated, information presented in this 2003 Form 10-K is for
continuing operations and excludes the discontinued Texas HMO health care
operations and workers' compensation insurance operations.



Managed Care Products and Services



The primary types of health care coverage offered by our
subsidiaries are HMO plans, HMO Point of Service, or POS, plans, and managed
indemnity plans, which include a managed indemnity preferred provider
organization, or PPO, option.  As of December 31, 2003, we provided HMO products
to approximately 292,000 members.  We also provided managed indemnity products
to approximately 25,000 members, Medicare supplement products to approximately
18,000 members, and administrative services to approximately 193,000 members.
Medical premiums accounted for approximately 65% of total revenues from
continuing operations in 2003.



Health Maintenance Organizations.  We operate a mixed
model HMO in Las Vegas, Nevada, in which we use our own multi-specialty medical
group as well as a network of independent contracted providers.  We also operate
a network model HMO in Reno, Nevada.  Independent contracted primary care
physicians and specialists for our HMO are compensated on a capitation or
modified fee-for-service basis. Contracts with our primary hospitals are on a
discounted per diem or diagnosis related group, or DRG, basis. Members receive a
wide range of coverage after paying a co-payment and are eligible for preventive
care coverage.



Our commercial plans offer traditional HMO benefits and POS
benefits.  At December 31, 2003, we had approximately 202,000 commercial
members.  Based on data provided by the Nevada State Health Division as of
September 30, 2003, we maintain approximately 62% of the Nevada, and
approximately

1

76% of the Las Vegas, commercial HMO market share.  In southern
Nevada, HMOs have a market penetration of under 17%.



We also offer a Medicare risk product that we market directly
to Medicare-eligible beneficiaries.  The monthly payment we receive for Medicare
members is determined by a formula established by Federal law.  As of December
31, 2003, we had approximately 51,000 Medicare members of which approximately
49,000 were enrolled in the Social HMO, which is discussed below.



In addition, as of December 31, 2003, we had approximately
39,000 members enrolled in our HMO Medicaid risk products.  To enroll in these
products, an individual must be eligible for Medicaid benefits in the state of
Nevada.  We receive a monthly fee for each Medicaid member enrolled by the
state's managed care division and we also receive a per case fee for each
Medicaid eligible newborn delivery.



Social Health Maintenance Organization.  In 1996, we
entered into a Social HMO II contract with the Centers for Medicare and Medicaid
Services, or CMS, pursuant to which a large portion of our Medicare risk members
receive certain expanded benefits for which we receive additional revenues.  The
additional revenues are determined based on health risk assessments that have
been, and will continue to be, performed on our eligible Medicare members.  The
additional benefits include, among other things, assisting the eligible Medicare
members with activities of daily living such as bathing, dressing and walking.
The members who receive these benefits, as identified by the health risk
assessments, are those who currently have difficulty performing activities of
daily living functions because of a health problem or physical disability.



Effective January 2004, CMS has revised the payment factors
for Medicare members to include a risk adjustment methodology and a frailty
adjuster that uses measures of functional impairment to predict expenditures.
Under the new payment methodology, in 2004, we will be paid 90% based on the
current payment approach and 10% based on the new approach.  CMS has
preliminarily indicated that the payment methodology will be completely
transitioned to the new approach in 2008.  The Social HMO program was due to
expire at the end of 2003; however, CMS administratively extended the Social HMO
program for one year, through 2004.  Continuation of this program is under
consideration, but there is no guarantee at this time that the Social HMO
contract will be renewed beyond 2004.  If the Social HMO contract is not renewed
beyond 2004, we would seek to transfer the members into one of our traditional
Medicare plans.  This transfer would allow for the continuity of care for our
members but without the additional Social HMO specific benefits that are
currently available to them.  If the reimbursement for these members decreases
significantly and related benefit changes are not made timely, there could be a
materially adverse effect on our business.  Continued Medicare medical premium
revenue growth is principally dependent upon continued enrollment in our
products and upon competitive and regulatory factors.



Preferred Provider Organizations.  Our managed
indemnity plans generally offer members a PPO option of receiving their medical
care from either contracted or non-contracted providers.  Members pay higher
deductibles and co-insurance or co-payments when they receive care from non-
contracted providers.  Out-of-pocket costs are lowered by utilizing contracted
independent providers who are part of our PPO network.



During 2003, we provided managed indemnity, accidental death
and disability and/or Medicare supplement services to individuals in California,
Colorado, Iowa, Louisiana, Nevada and Texas.  As of December 31, 2003, our
managed indemnity subsidiary was licensed in a total of 44 states and the
District of Columbia.



Ancillary Medical Services.  Most of our managed
health care services in Clark County and surrounding rural areas are provided
through our independent contracted network of approximately 2,300 providers and
28 hospitals.  These Nevada networks include our affiliated multi-specialty
medical group, which provides medical services to approximately 75% of our
southern Nevada HMO members and employs approximately 200 primary care and other
providers in various medical specialties.  Through our affiliates the following
services are offered:  three urgent care centers; home health care; hospice
care; behavioral

2

health care; home infusion; oxygen and durable medical equipment; a free-standing ambulatory surgery center; radiology; and
occupational medicine.



These services are provided to members of our HMO, managed
indemnity, fee-for-service and administrative service plans. As of December 31,
2003, mental health and substance abuse services were provided to approximately
212,000 participants.



We believe that this vertical integration of our health care
delivery system in southern Nevada provides a competitive advantage as it helps
us to effectively manage health care costs while delivering quality care.



Administrative Services.  Our administrative services
products provide, among other things, PPO network access and utilization review
services to large employer groups that are usually self-insured.  As of December
31, 2003, approximately 193,000 members were enrolled in our health
administrative services plans. In addition, we provide administration services
for self-insured workers' compensation plans.  The revenues and expenses for
these services are included in investment and other revenues and in general and
administrative expenses, respectively, in the Consolidated Statements of
Operations.



Military Contract Services



Sierra Military Health Services, Inc., or SMHS.
Pursuant to a triple-option health benefits contract, known as TRICARE, with
the Department of Defense, or DoD, SMHS provides managed health care coverage to
dependents of active duty military personnel, military retirees and dependents
of military retirees through subcontractor partnerships and individual providers
in Region 1.  SMHS also performs specific administrative services, including
health care appointment scheduling, enrollment, network management and health
care management services.  SMHS performs these services using primarily DoD
information systems.



SMHS completed the fifth year of a five-year contract in May
2003 and is in the first year of a contract extension.  In August 2002, the DoD
requested proposals for managed care services under the Next Generation TRICARE,
or T-Nex, contract.  We submitted our proposal in January 2003 for the T-Nex
North Region contract, which includes Region 1, as well as Michigan, Ohio,
Kentucky, Indiana, Illinois, Wisconsin, Virginia and North Carolina.  However,
in August 2003, the DoD awarded the T-Nex North Region contract to a competitor and
the General Accounting Office denied our protest of the award in December 2003.
The new contractor is scheduled to be operational in Region 1 on September 1,
2004 and the new contract will supersede the remainder of our current TRICARE
Region 1 contract.  After the new contractor is operational on September 1,
2004, SMHS will commence a six-month phase-out of operations at prices
previously negotiated with the DoD.  SMHS does not meet the definition of
discontinued operations since we do not have plans to dispose of the operations
before the phase-out is complete.



Discontinued Workers' Compensation Operations



Workers' Compensation Subsidiary.  On October 31, 1995,
we acquired CII Financial, Inc., or CII, for approximately $76.3 million of
common stock in a transaction accounted for as a pooling of interests.  Through
CII's insurance subsidiaries, we wrote workers' compensation insurance in
California, Colorado, Kansas, Missouri, Nebraska, Nevada, New Mexico, Texas and
Utah.  CII's insurance subsidiaries are licensed in 36 states and the District
of Columbia. California, Colorado and Nevada represent approximately 61%, 10%,
and 20%, respectively, of CII's fully insured workers' compensation insurance
premiums in 2003.  CII generated total revenues of $132.3 million in 2003.  The
workers' compensation subsidiary applies certain managed care concepts to its
operations.  These concepts include, but are not limited to, the use of
specialized preferred provider networks, utilization reviews by an employed
board certified occupational medicine physician as well as nurse case managers,
medical bill reviewers and job developers who facilitate early return to
work.



On January 15, 2003, we announced that we were exploring
strategic alternatives to dispose of CII.  Sierra's Board of Directors approved
the sale of the operations on December 31, 2002.  Accordingly,

3

beginning in the fourth quarter of 2002, we reclassified our workers' compensation insurance
business as discontinued operations.



In conjunction with the decision to sell the workers'
compensation operations at the end of 2002, CII recorded valuation adjustments
of $17.3 million, $11.3 million after tax, to reduce this business to its
estimated net realizable value upon disposition.  The valuation adjustments
included the write down of accounts receivable, fixed assets and certain other
assets of $4.0 million and additional loss reserves of $8.3 million for the 2002
accident year and $5.0 million for prior accident years.



In the second quarter of 2003, we recorded $4.0 million, $2.6
million after tax, in additional valuation adjustments.  On November 25, 2003,
we announced that we had reached an agreement to sell California Indemnity
Insurance Company, or Cal Indemnity, and its subsidiaries.  Cal Indemnity is a
wholly-owned subsidiary of CII and is CII's only significant asset. As part of
the purchase agreement, Cal Indemnity and its subsidiaries have voluntarily
stopped issuing new or renewal policies except in Nevada. The buyer intends to
place Cal Indemnity and its subsidiaries in run-off.  An independent third party
claims administrator has been engaged to administer the claims when the
transaction is consummated.  The transaction was initially valued at $79.5
million, consisting of $15.5 million payable at closing and a contingent payment
of $64.0 million which will be payable in 2010.  The cash payable at closing is
subject to certain adjustments and the contingent payment can be increased or
decreased based upon favorable or adverse loss and allocated loss adjustment
expense development from closing through December 2009.  We have currently
estimated that the adjustments will reduce the net sales proceeds to
approximately $73 million.  In the fourth quarter of 2003, we recorded a charge
of $15.6 million, gross and net of tax, to write down the investment in Cal
Indemnity to its estimated net sales proceeds.  We did not recognize a tax
benefit on the charge since our tax basis was less than our investment in Cal
Indemnity.  The sale is subject to regulatory approvals and is expected to close
by April 30, 2004.



Subsidiary Summary



The following briefly describes our significant
subsidiaries:



Managed Care Operations:

Health Insurers:

- Health Plan of Nevada, Inc., or HPN, a Nevada
  corporation, is a federally qualified health maintenance organization or
  HMO.
- Sierra Health and Life Insurance Company, Inc., or
  SHL, a California corporation, provides managed indemnity plans, as well as
  Medicare Select products in six states.

Multi-specialty medical group and other ancillary services to
support our managed care operations:

- Southwest Medical Associates, Inc., is
  Nevada's largest multi-specialty medical group serving as the primary care
  provider for almost 75% of our southern Nevada HMO members.
- Behavioral Healthcare Options, Inc.,
  provides mental health and substance abuse services.
- Family Health Care Services is a full
  service home health agency licensed by the State of Nevada, providing in-home
  care and case management.
- Sierra Home Medical Products, Inc.,
  provides home infusion care and home medical equipment and supplies.
- Family Home Hospice, Inc., is a
  Medicare/Medicaid certified agency that provides in-home hospice care and
  counseling for the terminally ill.

Other managed care operations:

- Sierra Health-Care Options, Inc., operates
  third-party administrative services programs for employer-funded health
  benefit plans.
- Nevada Administrators, Inc., operates as a third-party
  administrator of workers' compensation claims for self-insured Nevada
  employers.

Military Health Services Operations:



4



- Sierra Military Health Services, Inc., is a Delaware
  corporation which administers a managed care federal contract for the
  Department of Defense's TRICARE program in Region 1.

Discontinued Texas HMO Health Care Operations

- Sierra Health Holdings, Inc., a Nevada corporation,
  is the parent company for Texas Health Choice, L.C., part of our discontinued
  Texas HMO health care operations.

Discontinued Workers' Compensation Operations:

- CII Financial, Inc., a California corporation, is the
  parent company of our four workers' compensation insurance companies. CII
  Financial, Inc. and its subsidiaries represent the discontinued workers'
  compensation operations.



Marketing



The marketing and sales of our commercial managed care
products typically include a multi-step process involving our sales
representatives, a consultant/broker appointed by the client and the client.
Once a relationship with a group has been established and a group agreement is
negotiated and signed, we focus our marketing efforts on individual employees.
During a designated "open enrollment" period each year, usually the
month preceding the annual renewal of the agreement with the group, employees
choose whether to remain with, join or terminate their membership with a
specific health plan offered by the employer.  New employees decide whether to
join one of the employers' health insurance options at the time they begin their
employment.  Although contracts with employers are generally terminable on 60
days notice, changes in membership occur primarily during annual open enrollment
periods.



We use media communications to convey our emphasis on access
to our broad health care provider network and services at a reasonable price.
Other communications to customers include employer and member newsletters,
member education brochures, prenatal information packets, employer/broker
seminars, certain Internet information and direct mail advertising to clients.
Members' satisfaction with our benefits and services is monitored by customer
surveys.  Results from these surveys and other primary and secondary research
guide our sales and advertising efforts throughout the year.



Medicare risk products are primarily marketed by the HMO's
sales employees.  Retention of employer groups and membership growth is
accomplished through competitive pricing and products, customer service and
print advertising directed to employers and through consumer media campaigns.



SMHS administers marketing initiatives in accordance with the
TRICARE Region 1 managed care support contract.  SMHS' dedicated marketing
division uses a multi-faceted marketing approach to ensure that beneficiaries
within Region 1 have the opportunity to learn about the health care benefits
under TRICARE and have the opportunity to make health care choices that best fit
their specific needs.  Marketing initiatives include direct beneficiary
briefings, direct mail, newspaper advertising, newsletters and Internet web page
briefs.





5



Membership



Period End Membership:



`At December 31,
                                        ----------------------------------------------------------
                                           2003        2002        2001        2000        1999
                                        ----------  ----------  ----------  ----------  ----------
Continuing Operations:
--------------------------------------                                                            
HMO:
    Commercial........................    202,000     187,000     175,000     140,000     149,000
    Medicare..........................     51,000      48,000      45,000      42,000      42,000
    Medicaid..........................     39,000      37,000      27,000      15,000      11,000
Managed Indemnity.....................     25,000      27,000      29,000      31,000      37,000
Medicare Supplement...................     18,000      19,000      23,000      28,000      28,000
Administrative Services...............    193,000     221,000     196,000     197,000     222,000
TRICARE Eligibles.....................    707,000     678,000     639,000     621,000     610,000
                                        ----------  ----------  ----------  ----------  ----------
   Total Membership,
         Continuing Operations........  1,235,000   1,217,000   1,134,000   1,074,000   1,099,000
                                        ==========  ==========  ==========  ==========  ==========
Discontinued Operations:
--------------------------------------                                                            
HMO:
    Commercial........................         --          --      43,000      73,000     114,000
    Medicare..........................         --          --      12,000       8,000      11,000
                                        ----------  ----------  ----------  ----------  ----------
    Total Membership,
         Discontinued Operations......         --          --      55,000      81,000     125,000
                                        ==========  ==========  ==========  ==========  ==========`



We categorize groups by size into small, mid-size and
large.  At December 31, 2003, the breakdown of our commercial membership by size
and type are as follows:

`Membership by Commercial Employer Group Size            Membership by Commercial Employer Group Type
------------------------------------------------    ------------------------------------------------------ 

1 - 50 employees (small).................  14.5%    Gaming.............................  28,000      13.8%
51 - 500 employees (mid size)............  23.1%    School Districts...................  23,000      11.6%
501 + employees (large)..................  62.4%    Government.........................  26,000      12.7%
                                         -------    National Accounts..................  21,000      10.5%
Total                                     100.0%    Unions.............................  18,000       8.7%
                                         =======    All Others.........................  86,000      42.7%
                                                                                       --------- ---------
                                                    Total                               202,000     100.0%
                                                                                       ========= =========`

During 2003, 2002 and 2001, we received approximately 25.3%,
26.6% and 27.6%, respectively, of our total revenues from our contract with CMS
to provide health care services to Medicare beneficiaries. Our contract with CMS
is subject to annual renewal at the election of CMS and requires us to comply
with federal HMO and Medicare laws and regulations and may be terminated if we
fail to comply.  The termination of our contract with CMS and the loss of our
Medicare revenue would have a material adverse effect on our business. In
addition, there may be legislative proposals to limit Medicare reimbursements
and to require additional benefits.  Future levels of funding of the Medicare
program by the federal government cannot be predicted with certainty.  (See
Government Regulation and Recent Regulation).



Our ability to obtain and maintain favorable group benefit
agreements with employer groups affects our profitability.  The agreements are
generally renewable on an annual basis but are subject to termination on
generally 60 days prior notice.  For the fiscal year ended
December 31, 2003, our eight largest HMO employer groups were, in the
aggregate, responsible for less than 10% of our total revenues.  Although none
of our employer groups accounted for more than 3% of total revenues during that
period, the loss of one or more of the larger employer groups could, if not
replaced with similar membership, have a material

6

adverse effect upon our business.  We have generally been successful in retaining these employer groups.
However, there can be no assurance that we will be able to renew our agreements
with our employer groups in the future or that we will not experience a decline
in enrollment within our employer groups.  Additionally, revenues received under
certain government contracts are subject to audit and retroactive adjustment.



Provider Arrangements and Cost Management



HMO and Managed Indemnity Products.  A significant
distinction between our health care delivery system and that of many other
managed care providers is the fact that approximately 75% of our southern Nevada
HMO members receive primary health care through our own multi-specialty medical
group.  We make health care available through independent providers
employed by the multi-specialty medical group and other independent contracted
networks of physicians, hospitals and other providers.



Under our HMO, the member selects a primary care physician
who provides or authorizes any non-emergency medical care given to that member.
We compensate our independent contracted primary care physicians by using both
capitation and modified fee-for-service payment methods.  We have negotiated
capitation and reduced fee-for-service agreements with our specialty network as
well.  We monitor certain health care utilization, including evaluation of
elective surgical procedures, quality of care and the financial stability of our
capitated providers to facilitate access to services and member
satisfaction.



We provide or negotiate discounted contracts with hospitals
for inpatient and outpatient hospital care, including room and board, diagnostic
tests and medical and surgical procedures.  We believe that we currently have a
favorable contract with our primary southern Nevada contracted hospitals,
Sunrise Hospital and Medical Center and Mountain View Hospital, or Sunrise and
Mountain View.  Subject to certain limitations, the contract provides, among
other things, guaranteed contracted per diem rate increases on an annual basis.
The rate increases for 2004 have been factored into our 2004 premiums.  Our
contract with Sunrise and Mountain View contains a clause, which, based on our
meeting certain utilization requirements, requires Sunrise and Mountain View to
provide us with their best rates in the market place. Since the majority of our
southern Nevada hospital days are at these facilities, this contract assists us
in managing a significant portion of our medical costs.  We can be and have been
affected by these hospitals' limited capacity and have had to place our members
in other facilities, some with a higher cost to us, due to a shortage of beds at
these hospitals.  In general, our other hospital contracts in Las Vegas are
based on a fixed per diem rate structure.



For hospitals other than Sunrise and Mountain View, our
contracts typically renew automatically with both parties granted the right to
terminate after a notice period ranging from three to twelve months.  Our
current contract with Sunrise and Mountain View expires December 31, 2006.
Reimbursement arrangements with other health care providers, including
pharmacies, generally renew automatically or are negotiated annually and are
based on several different payment methods, including per diems (where the
reimbursement rate is based on a per day of service charge
for specified types of care), capitation, discounted per diem, DRG and modified
fee-for-service arrangements.  To the extent feasible, when negotiating non-
physician provider arrangements, we solicit competitive bids.



For services to members utilizing a PPO plan, we reimburse
participating physicians on a modified fee-for-service basis, which incorporates
a limited fee schedule, and we reimburse hospitals on a per diem or discounted
fee-for-service basis.  For services rendered under a standard indemnity plan,
pursuant to which a member may select a non-plan provider, we reimburse non-
contracted physicians and hospitals at a pre-established rate based on payments
actually received by such providers from other third party payors.



We manage health care costs through our large case management
program, utilization review, monitoring of care in the appropriate setting and
by member education on how and when to use the services of our plans and how to
manage chronic disease conditions.  We audit hospital bills and review hospital
and high volume providers' claims to ensure appropriate billing and utilization
patterns. We also monitor the appropriateness of the referral process from the
primary care physician to the specialty network.  Further,

7

we utilize our home health care agency and our hospice, which help to minimize hospital admissions
and the length of stay.



Military Contract Services.  Under the TRICARE
contract, dependents of active duty military personnel, military retirees and
dependents of military retirees choose one of three option plans available to
them for health care services:  (i) TRICARE Prime (an HMO style option with a
self-selected primary care manager and no deductibles); (ii) TRICARE Extra (a
PPO style option with deductibles and cost shares); or (iii) TRICARE Standard (an
indemnity style option with deductibles and cost shares).  Approximately 37% of
eligible beneficiaries receive their primary care through existing military
treatment facilities.  SMHS negotiated discounted contracts with approximately
37,000 individual providers, 2,700 institutions and 10,000 pharmacies to provide
supplemental network access for TRICARE Prime and Extra beneficiaries.  SMHS'
contracts with providers are primarily on a discounted basis from the TRICARE
established fee schedule with renewal and termination terms similar to our
commercial practice.  SMHS is at-risk for and manages the health care service
cost of all TRICARE Extra and Standard beneficiaries, as well as a small
percentage of TRICARE Prime beneficiaries.



SMHS implemented the TRICARE Senior Pharmacy Program, or
Senior Rx, on April 1, 2001.  The Senior Rx program enables Military Health
Services Medicare eligible beneficiaries, age 65 and over, to obtain
prescription drugs, and the supplies necessary for the administration of
pharmaceuticals, from a network of retail pharmacies, non-network retail
pharmacies or through the National Mail Order Pharmacy.  SMHS does not assume
any health care underwriting risk under this new program, which expires on June
1, 2004.



On October 1, 2001, SMHS implemented the TRICARE for Life
program.  This new DoD program provides continued TRICARE coverage to military
family retirees age 65 and over, as a supplement to Medicare.  SMHS does not
assume any health care underwriting risk under this new program.



Risk Management



We maintain general and professional liability, property and
fidelity insurance coverage in amounts that we believe, based upon historical
experience, are adequate for our operations.  Due to recent unfavorable changes
in the commercial insurance market, we have, for certain risks, purchased
coverage with higher deductibles and lower limits of coverage.  Our current
primary medical professional liability policy provides first dollar coverage in
the amount of $1.0 million per loss event with an annual aggregate limit of
coverage per provider of $3.0 million.   We have purchased excess medical
professional liability and managed care coverage that requires us to be
responsible for a self insured retention of $3 million per loss event.  In the
case of a medical professional liability loss event, the $1 million primary
policy limit will apply toward the $3 million self insured retention. The
primary and excess medical professional liability policies apply retroactively
to June 15, 2001.  In addition, we require all of our independent contracted
provider physician groups, individual practice physicians, specialists,
dentists, podiatrists and other health care providers (with the exception of
certain hospitals) to maintain professional liability coverage.  Certain of the
hospitals with which we contract are self-insured.  We also maintain stop-loss
insurance that reimburses us between 50% and 90% of hospital charges for each
individual member of our HMO or managed indemnity plans whose hospital expenses
exceed $300,000 during the contract year and up to $2.0 million per member per
lifetime.  In the ordinary course of business, we are subject to claims that are
not insured, principally claims for punitive damages and claims that fall within
the applicable self-insured retention.



Effective July 1, 1998, all workers' compensation claims
with dates of injury occurring on or after that date were reinsured under a
quota share and excess of loss agreement, which we refer to as "low
level" reinsurance, with Travelers Indemnity Company of Illinois, or
Travelers.  Travelers is rated AA and A++ by Fitch Ratings and the A.M. Best
Company, respectively.  The low level reinsurance provided quota share
protection for 30% of the first $10,000 of each loss and excess of loss
protection of 75% of the next $40,000 of each loss and 100% of the next $450,000
on a per occurrence basis.  The maximum net loss retained on any one claim ceded
under this treaty was $17,000.  This agreement continued until June 30,

8

2000, when we exercised an option for a twelve month extension relating to the run-off
of policies in force as of June 30, 2000, which covered claims arising under
such policies during the term of the extension.



In addition to the low level reinsurance, effective January
1, 2000, we entered into a reinsurance contract that provided statutory
(unlimited) coverage for workers' compensation claims in excess of $500,000 per
occurrence.  The contract was in effect for claims occurring on or after January
1, 2000, through December 31, 2002.  There was a twelve month run-out provision
in the contract, which we exercised.  The reinsurer, National Union Fire
Insurance Company, is rated AAA and A++ by Fitch Ratings and the A.M. Best
Company, respectively.



When the low level reinsurance agreement expired on June 30,
2000, as a result of a general tightening of the reinsurance market as well as
the impact of the increased loss experience in California, a comparable type of
reinsurance program was unavailable in the market and those reinsurers which
were offering other forms of lower retention programs were charging premiums
that we believed were not cost justified.  Therefore, effective July 1, 2000, we
entered into a reinsurance contract with National Union Fire Insurance Company
that provided $250,000 of coverage for workers' compensation claims in excess of
$250,000 per occurrence.  The reinsurer, National Union Fire Insurance Company,
is rated AAA and A++ by Fitch Ratings and the A.M. Best Company, respectively.
The contract was in effect for claims occurring on policies with effective dates
beginning July 1, 2000 and thereafter and for claims incurred prior to July 1,
2001.



In the wake of the events of September 11, 2001 and the
ensuing hardening of the reinsurance market, our new reinsurance agreements,
which cover new and renewal policies effective on and after January 1, 2003,
have reduced coverage limits and exclusions for terrorist acts.  We continue to
retain the first $500,000 per occurrence but the maximum coverage has been
reduced from statutory limits (i.e., unlimited) to $20.0 million per occurrence.
We also must meet certain annual aggregate deductibles before we can begin to
recover from some of our reinsurers.  This new coverage will result in our
retaining more of the losses and loss adjustment expense, or LAE.  The
reinsurers on the new agreement consist of domestic as well as foreign
reinsurers, and all are rated at least A- or better by the A.M. Best Company as
of December 31, 2003.



Information Systems



We use information systems to support, among other things,
pricing our services, monitoring utilization and other cost factors, providing
bills on a timely basis, identifying accounts for collection, managing the
scheduling and delivery of health care services, processing claims for
reimbursement, delivering customer service and handling various accounting and
reporting functions.



In 2003, we completed the construction of a third data center
supporting our Las Vegas-based operations to provide internal options for
disaster recovery and back up.  We completed the rollout of an e-prescribing
application in our medical clinics as well as a system to capture and view
radiology images electronically.  Dictation and transcription systems were
replaced and we began the migration to a paperless electronic medical record
system.  A new care management system was implemented to support the
coordination of care for seniors enrolled in our Social HMO program.  Compliance
with the Federal Health Insurance Portability and Accountability Act of 1996, or
HIPAA, was achieved as required by the Privacy Rule and the Standards for Code
Sets and Electronic Transactions.  Work was also initiated to achieve compliance
with the HIPAA Security Rule, which must be addressed by April 20, 2005. Other
security and controls work was initiated in 2003 toward compliance with Section
404 of the Sarbanes-Oxley Act of 2002.



There can be no assurance that we will be able to maintain
and enhance our information systems including HIPAA and Sarbanes-Oxley
compliance.  Our failure to maintain and enhance our information systems could
have a material impact on our business and results of operations.



We view our information systems capability as critical to the
performance of ongoing administrative functions and integral to quality
assurance and the coordination of patient care.  We are continually

9

modifying or improving our information systems capabilities in an effort to improve operating
efficiencies and service levels.



Quality Assurance and Improvement



We promote continuous improvement in the quality of member
care and service through our quality programs. Our quality programs are a
combination of quality assurance activities, including the retrospective
monitoring and problem solving associated with the quality of care delivered and
continuous quality improvement activities including the trending and analysis of
ongoing aggregate data for purposes of prospective planning.



Our quality assurance methodology is based on (i) reviews of
adverse health outcomes as well as appropriateness and quality of care; (ii)
focused reviews of high volume/high risk diagnoses or procedures; (iii)
monitoring for trends; (iv) peer review of the clinical process of care; (v)
development and implementation of corrective action plans, as appropriate; (vi)
monitoring compliance/adherence to corrective action plans; and (vii) assessment
of the effectiveness of the corrective action plans.



Our quality improvement methodology is based on (i)
collection and analysis of data; (ii) analysis of barriers to achieving goals
and/or benchmarks; (iii) development and implementation of interventions to
address barriers; (iv) remeasurement of data to assess effectiveness of
interventions; (v) development and implementation of new or additional
interventions, as appropriate; and (vi) follow-up remeasurement of data to
assess effectiveness or sustained impact.



Several independent organizations have been formed for the
purpose of responding to external demands for accountability in the health care
industry.  The National Committee for Quality Assurance, or NCQA, and the
Utilization Review Accreditation Commission, or URAC, currently evaluate certain
of our subsidiaries.



The NCQA is an independent, not-for-profit organization that
evaluates managed care organizations and assesses and reports on the quality of
managed care plans by evaluating over 60 standards that fall into four
categories: (i) quality management and improvement; (ii) utilization management; (iii) members'
rights and responsibilities; and (iv) credentialing and recredentialling.  The NCQA's
accreditation levels include excellent, commendable, accredited, provisional and
denied.  In 2003, we earned a "Commendable" status from the NCQA for
our commercial HMO, commercial POS, and Medicare HMO product lines.
"Commendable" status is awarded to plans that demonstrate levels of
service and clinical quality that meet or exceed NCQA's rigorous requirements
for consumer protection and quality improvement.



URAC's Health Utilization Management Standards, or UM
standards, program is the largest and most recognized program of its type in the
United States.  The UM standards are meant to ensure organizations follow a
process that is clinically sound, promotes quality care and respects members'
rights.  URAC performs reviews of standards in the following categories:
confidentiality, staff qualifications, program qualifications, information upon
which organizations conduct utilization management, procedures for review
determination and procedures for appeals of determinations not to certify
(expedited and standard appeals).  The URAC accreditation levels include full,
conditional, corrective action, denied, or withdrawn.  Applicants who
successfully meet all requirements are awarded a full two-year accreditation.
In 2003, our HPN, SHL, Sierra Health-Care Options, Inc., and Behavioral
Healthcare Options, Inc., utilization management operations were all "Fully
Accredited" by URAC, under URAC's UM standards program.



There can be no assurance, however, that we will maintain
NCQA, URAC or other accreditations in the future and there is no basis to
predict what effect, if any, the lack of accreditations could have on our
competitive position.



Underwriting



HMO.  We develop premium rates for our various health
plans primarily through a community rating by class, or CRC, methodology.  Under
the CRC method, all costs of basic benefit plans for our entire

10

membership population are aggregated, projected forward to future periods and expressed on
a "per member per month" basis.  Subject to certain legal constraints,
actuarial adjustments are made to the base premium rates for demographic
variations specific to each employer group.  Such variations may include, but
are not limited to, the average age and gender of their employees, group size,
area, health status, and industry.  For most employer groups, the adjusted rates
are then converted to tiered premium rates for various coverage types, such as
single or family coverage.  For some small employer groups, the final premium
rates are expressed in a table format using age range bands and gender of each
employee and dependent.



In addition to premiums paid by employers, members also pay
co-payments at the time most services are provided.  We believe that co-payments
encourage appropriate utilization of health care services while allowing us to
offer competitive premium rates.  We also believe that the capitation method of
provider compensation encourages physicians to provide only medically necessary
and appropriate care.



Managed Indemnity.  Premium charges for our managed
indemnity products are set in a manner similar to the CRC method described
above.  The actual health claim experience is used in whole or blended with
calculated CRC rates to develop final premium rates for larger employer groups.
This rating process includes the use of utilization experience, adjustments for
incurred but not reported claims, inflationary factors, credibility and specific
reinsurance pooling levels for large individual claims.  Final premium rates are
again generally expressed as tiered rates for larger employer groups or as
age/gender banded rates for smaller employer groups.



Competition



HMO and Managed Indemnity.  Managed care companies and
HMOs operate in a highly competitive environment.  Our major competition is from
self-funded employer plans, PPO networks, other HMOs, and traditional indemnity
carriers.  Many of our competitors have substantially larger total enrollments,
greater financial resources and offer a broader range of products.  Additional
competitors with greater financial resources may enter our markets in the
future.  We believe that the most important competitive factors are the delivery
of reasonably priced, quality medical benefits to members and the adequacy and
availability of health care delivery services and facilities.  We depend on a
large PPO network and flexible benefit plans to attract new members.
Competitive pressures may result in reduced membership levels.  Any reductions
could materially affect our business and results of operations.



Ratings



Financial strength ratings are the opinion of the rating
agencies and the significance of individual ratings varies from agency to
agency.  Companies with higher ratings generally, in the opinion of the rating
agency, have the strongest capacity for repayment of debt or payment of claims,
while companies at the bottom end of the range have the weakest capacity.
Rating agencies continually review the financial performance and condition of
insurers. The current financial strength ratings of Sierra's HMO and health and
life insurance subsidiaries are as follows:



- A.M. Best Company, Inc., "B+" (Very Good,
6th of 16); and
- Fitch Ratings, "BBB" (Good, 9th of
23).



Debt ratings are assessments of the likelihood that a company
will make timely payments of principal and interest. The principal agencies that
rate Sierra's senior convertible debentures are as follows:



- Standard and Poors Corp., "B+" (Speculative,
14th of 22); and
- Fitch Ratings, "BB" (Speculative, 12th of 23).

11



The ratings reflect the opinion of each rating agency, on our
operating performance and ability to meet obligations to policyholders and
debenture holders, and are not evaluations directed toward the protection of
investors in our common stock or senior convertible debentures.



Losses and Loss Adjustment Expenses



All losses and LAE are related to our discontinued workers'
compensation operations.  In workers' compensation insurance, several years may
elapse between the occurrence of a loss and the final settlement of the loss.
To recognize liabilities for unpaid losses, we establish reserves, which are
balance sheet liabilities representing estimates of future amounts needed to pay
claims and related expenses for insured events, including reserves for events
that have been incurred but not reported or IBNR.



When a claim is reported, our claims personnel initially
establish reserves on a case-by-case basis for the estimated amount of the
ultimate payment.  These estimates reflect the judgment of the claims personnel
based on their experience and knowledge of the nature and value of the specific
type of claim and the available facts at the time of reporting as to severity of
injury and initial medical prognosis.  Included in these reserves are estimates
of the expenses of settling claims, including legal and other fees.  Claims
personnel adjust the amount of the case reserves as the claim develops and as
the facts warrant.



IBNR reserves are established for unreported claims and loss
development relating to current and prior accident years.  In the event that a
claim that occurred during a prior accident year was not reported until the
current accident year, the case reserve for the claim typically will be
established out of previously established IBNR reserves for that prior accident
year.  Unallocated loss adjustment expense reserves are established for the
estimated costs related to the general administration of the claims adjustment
process.



The National Association of Insurance Commissioners requires
that we submit a formal actuarial opinion concerning loss reserves with each
statutory annual report.  The annual report must be filed with each applicable
state department of insurance on or before March 1st of the succeeding year.  A
qualified actuary as determined by the applicable state insurance regulators
must sign the actuarial opinion.  We retain the services of a qualified
independent actuary to periodically review our loss reserves.  We complied with
the actuarial opinion requirement when we filed our 2003 statutory annual
reports.



We review the adequacy of our reserves on a periodic basis
and consider external forces including changes in the rate of inflation, the
regulatory environment, the judicial administration of claims, medical costs and
other factors that could cause actual losses and LAE to change.  Reserves are
reviewed with our independent actuary at least annually and usually twice a
year.  The actuarial projections include a range of estimates reflecting the
uncertainty of projections. We evaluate the reserves in the aggregate, based
upon the actuarial indications, and make adjustments where appropriate.  Our
consolidated financial statements provide for reserves based on the anticipated
ultimate cost of losses. We also supplement our analyses by comparing our paid
losses and incurred losses to similar data provided by the Workers' Compensation
Insurance Rating Bureau of California for all California workers' compensation
insurance companies.



Government Regulation and Recent Legislation



HMOs and Managed Indemnity.  Federal and state
governments have enacted statutes that extensively regulate the activities of
HMOs. Among the areas regulated by federal and state law are the scope of
benefits available to members, grievances, appeals, external review of adverse
benefit determinations, prompt payment of claims, premium structure, enrollment
requirements, the relationships between an HMO and its health care providers and
members, licensing and financial condition.  Government concerns regarding
increasing health care costs and quality of care could result in new or
additional state or federal legislation that would impact health care companies,
including HMOs, PPOs and other health insurers.



Government regulation of health care coverage products and
services is a dynamic area of law that varies from jurisdiction to jurisdiction.
Amendments to existing laws and regulations are continually being considered and
interpretation of the existing laws and rules changes from time to time.
Regulatory

12

agencies generally exercise broad discretion in interpreting laws and promulgating regulations to enforce their interpretations.  Federal legislation
enacted in December 2003 (Medicare Prescription Drug, Improvement, and
Modernization Act of 2003), while generally favorable to our business, may
result in increased competition for Medicare beneficiaries and, thus, may have a
material adverse effect on our business and results of operations.



While we are unable to predict what legislative or regulatory
changes may occur or the impact of any particular change, our operations and
financial results could be negatively affected by any legislative or regulatory
requirements.  For example, any proposals to eliminate or reduce the Employee
Retirement Income Security Act, or ERISA, which regulates insured and self-
insured health care coverage plans offered by employers, pre-emption of state
laws that would increase litigation exposure, affect underwriting practices,
limit rate increases, require new or additional benefits or affect contracting
arrangements (including proposals to require HMOs and PPOs to accept any health
care provider willing to abide by an HMO's or PPO's contract terms), may have a
material adverse effect on our business.  The continued consideration and
enactment of "anti-managed care" laws and regulations by federal and
state bodies may make it more difficult for us to manage medical costs and may
adversely effect our business and results of operations.



In addition to changes in existing laws and regulations, we
are subject to audits, investigations and enforcement actions.  These include
possible government actions relating to ERISA, the Federal Employees Health
Benefit Plan, or FEHBP, federal and state fraud and abuse laws and laws relating
to utilization management and the delivery and payment of health care.  In
addition, our Medicare business is subject to Medicare regulations promulgated
by CMS.  Violation of government laws and regulations may result in an
assessment of damages, civil or criminal fines or penalties, or other sanctions,
including exclusion from participation in government programs.  In addition,
disclosure of any adverse investigation or audit results or sanctions could
negatively affect our reputation in various markets and make it more difficult
for us to sell our products and services.



In December 2003, President Bush signed into law the Medicare
Prescription Drug, Improvement, and Modernization Act of 2003, or MMA, which,
among other changes to Medicare, alters the Medicare+Choice program. Under the
MMA, Medicare+Choice plans, which are renamed Medicare Advantage plans, receive
increased funding from CMS starting March 2004.  Because of the way in which the
increased funding is calculated, both our non-Social HMO Medicare Advantage
benefit plans and our Social HMO benefit plans will receive increased funding.
We have calculated that the MMA will increase our Medicare premium rates by over
15% starting March 1, 2004.  The increased funding must be used in one or more
of the following ways: to reduce beneficiary premiums; reduce beneficiary cost
sharing; enhance benefits; placed into a benefit stabilization fund; or used to
retain providers or expand the provider network as long as the provider network
stabilization or enhancement does not result in increased premiums, increased
cost sharing or reduced benefits.  In response to the announcement of the
specific increased funding amount, we recently filed our Adjusted Community Rate
Proposal, or ACRP, with CMS. We proposed to use the additional funding to
enhance various plan benefits, including a reduction in the amount of Medicare
Part B premium that our members pay to the federal government, and to stabilize
the provider network.  In late February 2004, we received approval of our ACRP
from CMS.



The MMA expands the options that will be available to
Medicare beneficiaries for their health care coverage, including regional
Preferred Provider Organizations.  Beginning with the 2006 contract year, the
payment methodology will change from the current government price-setting to
market-place competition, whereby private health plans will compete for
beneficiaries through a competitive bidding process.



The MMA establishes a Medicare Part D program which, when it
becomes effective January 1, 2006, will provide beneficiaries under the
traditional fee-for-service Medicare program with coverage for outpatient
prescription drugs, a benefit the beneficiaries don't currently have.   Although
varying in structure, we have to date, included coverage for prescription drugs
in our benefit plans.

13



Prior to the implementation of Medicare Part D in 2006, the
MMA provides for an interim prescription drug discount card program.  This
program is expected to be operational in Spring 2004.  Known as the Medicare
Prescription Drug Discount Card and Transitional Assistance Program, this
program is designed to provide savings for beneficiaries through discounts at
retail or through mail order pharmacies, depending upon the benefit design,
until the Medicare Part D program goes into effect.  Low-income beneficiaries
will be eligible for federal subsidies to help pay for their prescription drugs
under this interim program.  We have submitted applications to CMS to
participate in this program as Medicare-endorsed sponsors.  One application is
to participate with a discount card exclusive to our Medicare plan members and
another for marketing to other Medicare beneficiaries.



The MMA also allows for the implementation of Health Savings
Accounts, or HSAs, beginning January 1, 2004.  Not generally available to
Medicare beneficiaries, HSAs are designed for individuals with high-deductible
health plans.  Contributions to the HSAs are permitted up to the applicable plan
deductible, with caps at specific amounts, and are used to pay for qualified
medical expenses.  In addition to allowing for HSA balances to accumulate from
year-to-year, HSAs have tax advantages to employers who contribute on their
employees' behalf and to individuals who contribute themselves.



The legislation also further delayed the "lock-in"
requirement until 2006.  Once fully implemented, "lock-in" will
restrict a Medicare beneficiary's ability to change his or her health care
coverage on a monthly basis as is currently allowed; e.g., from traditional
fee-for-service Medicare to a Medicare Advantage program and back again on a monthly
basis.  The "lock-in" requirement could slow the growth rate of our
Medicare Advantage membership as potential members would have fewer
opportunities to select our plan.



We have HMO licenses in Nevada, Texas and Arizona.  Our HMO
operations are subject to regulation by the Nevada Division of Insurance, the
Nevada State Board of Health, the Texas Department of Insurance and the Arizona
Department of Insurance.  In May 2001, we terminated our HMO operations in
Arizona, and in September 2001, we filed a withdrawal plan with the Department
of Insurance in Texas to terminate our Texas HMO operations, effective on April
17, 2002.  As part of the withdrawal plan, we terminated our Texas CMS
Medicare+Choice and Federal Employees Health Benefits Program contracts at the
end of 2001.



Our Nevada HMO is federally qualified under the Federal HMO
Act and is subject to this Act and its regulations.  In order to obtain federal
qualification, an HMO must, among other things, provide its members certain
services on a fixed, prepaid fee basis and set its premium rates in accordance
with certain rating principles established by federal law and regulation.  The
HMO must also have quality assurance programs in place with respect to health
care providers.  Furthermore, an HMO may not refuse to enroll an employee, in
most circumstances, because of a person's health, and may not expel or refuse to
re-enroll individual members because of their health or their need for health
services.



Our managed indemnity health insurance subsidiary is
domiciled and incorporated in California and is licensed in 44 states and the
District of Columbia.  It is subject to licensing and other regulations of the
California Department of Insurance as well as the insurance departments of the
other states in which it operates or holds licenses.



Our HMO and health insurance subsidiary insurance premium
rate increases are subject to various state insurance department approvals or
reviews.



Our Nevada HMO and managed indemnity health insurance
subsidiaries currently maintain a home office and a regional home office,
respectively, in Las Vegas and, accordingly, are eligible for certain premium
tax credits in Nevada.   We intend to take all necessary steps to continue to
comply with eligibility requirements for these credits. The elimination or
reduction of the premium tax credit would have a material adverse effect on our
business and results of operations.



Under the "corporate practice of medicine"
doctrine, in most states, business organizations, other than those authorized to
do so, are prohibited from providing or holding themselves out as providers of
medical care.  Some states, including Nevada, exempt HMOs from this doctrine.
The laws relating to this doctrine

14

are subject to numerous conflicting interpretations.  Although we seek to structure our operations to comply with
corporate practice of medicine laws in all states in which we operate, there can
be no assurance that, given the varying and uncertain interpretations of these
laws, we would be found to be in compliance with these laws in all states.  A
determination that we are not in compliance with applicable corporate practice
of medicine laws in any state in which we operate could have a material adverse
effect on our business and results of operations if we were unable to
restructure our operations to comply with the laws of that state.



Certain Medicare and Medicaid antifraud and abuse provisions
are codified at 42 U.S.C. Section 1320a-7b(b) (the Anti-kickback Statute) and
Section 1395nn (the Stark Amendments).  Many states have similar anti-kickback
and anti-referral laws.  These statutes prohibit certain business practices and
relationships involving the referral of patients for the provision of health
care items or services under certain circumstances. Violations of the Anti-
kickback Statute and the Stark Amendments may result in criminal penalties,
civil sanctions, fines and possible exclusion from the Medicare, Medicaid and
other federal health care programs.  Similar penalties are provided for
violation of state anti-kickback and anti-referral laws. The U.S. Department of
Health and Human Services, or HHS has issued regulations establishing and
defining "safe harbors" with respect to the Anti-kickback Statute and
the Stark Amendments.  We believe that our business arrangements and operations
are in compliance with the Anti-kickback Statute and the Stark Amendments as
defined by the relevant safe harbors.  However, there can be no assurance that
(i) government officials charged with responsibility for enforcing the
prohibitions of the Anti-kickback Statute and the Stark Amendments or Qui Tam
relators purporting to act on behalf of the Government will not assert that we,
or certain actions we take, are in violation of those statutes; and (ii) such
statutes will ultimately be interpreted by the courts in a manner consistent
with our interpretation.



We participate in a consortium of health plans whose work
includes seeking continuation of the Social HMO program through legislative
action and/or or a CMS administrative remedy.  The Social HMO, a Medicare+Choice
demonstration program that enables our Nevada HMO to offer extended benefits to
seniors, will expire, unless renewed, at the end of 2004.  Substantially all of
our Medicare members are enrolled in the Social HMO program and the
discontinuation of the program would adversely affect our business and results
of operations.



HIPAA contains provisions that impact us and will require
operational changes as various federal departmental regulations required by the
Act are promulgated.  During 2003, two major milestones were achieved.  First,
we established the policies and ongoing procedures to comply with the health
information privacy rule by the compliance date of April 14, 2003.  Complying
with the HIPAA privacy rule requires ongoing diligence to ensure that
appropriate measures are being taken to maintain the privacy of protected health
information.  We have the management processes in place to ensure our ongoing
compliance with the HIPAA privacy rule.  Second, we completed the development of
the information systems capabilities necessary to support the HIPAA requirements
for the use of standard code sets and transactions for specific electronic
health care transactions.  To date, we have implemented claims and enrollment
standard transactions with a number of trading partners (e.g., providers,
clearinghouses and employers).  Relative to the other HIPAA defined
transactions, none of our trading partners have developed the capability to
handle these transactions with us.  Ongoing compliance with the HIPAA privacy
rule and transaction standards will be managed by the Department of Health and
Human Services through a complaint process.  There can be no assurance that a
complaint will not be filed against us or whether there would be any material
impact on our business to resolve the complaint.



A third HIPAA mandated regulatory rule addressing security
requirements for covered entities has been established and work is underway to
meet the requirements of this new rule.  The compliance date for the HIPAA
security rule is April 20, 2005. Failure to comply with the standards and
implementation specifications of HIPAA regulations could result in investigation
by the Office of Civil Rights of HHS and the imposition of criminal penalties
and civil sanctions, including fines.  At this time, we cannot quantify the cost
of compliance or the impact it will have on our business.  There can be no
assurance that the costs to implement and to comply will not adversely affect
our business and results of operations.

15



In November 2000, the Department of Labor published the final
regulation on ERISA claims procedures, the first major revision of the existing
claims procedure requirements since 1977.  The regulation applies to all
employee benefit plans governed by ERISA, whether the benefits are provided
through insurance products or are self-funded.  This regulation impacts claims
filed for our third party administrator services and fully insured health care
products, except Medicaid, Medicare and Federal employees.  The effective date
of this regulation was delayed from January 1, 2002, to the first plan year
after July 1, 2002, but no later than January 1, 2003.  We made operational
changes to comply with this regulation as of July 1, 2002.



In 2003, Congress passed Do Not Call List legislation and the
Federal Trade Commission and the Federal Communications Commission adopted
implementing regulations.  We believe we are in compliance with the current
legislation and regulations and the cost of compliance has been minimal.



Discontinued Workers' Compensation Operations.  We are
subject to extensive governmental regulation and supervision in each state in
which we conduct workers' compensation business.  The primary purpose of the
regulation and supervision is to provide safeguards for policyholders and
injured workers rather than protect the interests of shareholders.  The extent
and form of the regulation may vary, but generally it has its source in statutes
that establish regulatory agencies and delegates to the regulatory agencies
broad regulatory, supervisory and administrative authority.  Typically, state
regulations extend to matters such as licensing insurers, agents and claims
adjusters and regulating their relationships; restricting the types and quality
of an insurer's investments; requiring financial and market conduct examinations
of insurers at regular intervals; regulating premium rates, forms, use of some
underwriting criteria and advertising; limiting the grounds and requiring
notices for cancellation or nonrenewal of policies; prohibiting certain
solicitation and replacement practices; and specifying what might constitute
unfair practices.



Typically, states mandate participation in insurance guaranty
associations, which assess solvent insurers in order to fund claims of
policyholders of insolvent insurers.  Under this arrangement, insurers can be
assessed up to 1%, or 2% in certain states, of premiums written for workers'
compensation insurance in that state each year to pay losses and LAE on covered
claims of insolvent insurers.  In certain states, insurers are allowed to recoup
such assessments from policyholders while several states allow an offset against
premium taxes.  In California, insurance companies are required to recoup
guaranty fund assessments from policyholders.



Starting in 2000, the California Insurance Guarantee
Association, or CIGA, issued assessments as a result of the insolvency of a
number of insolvent workers' compensation insurers.  The assessments are
initially made on direct premiums written, as reported in the prior year, and
are subsequently adjusted to actual direct premiums written in the following
year.  For example, CIGA issued an assessment of 1% in 2000 using 1999 direct
premiums written as the initial assessment.  We began recouping the 1%
assessment from policyholders on policies issued effective January 1, 2001.  Our
initial assessment was adjusted during 2002 to our actual premiums written
during 2001.  Any difference between the actual and initial premium assessment
is either refunded to us, in the case of lower actual premiums, or we may have
to pay additional assessments if actual premiums are higher.  Moreover, any
excess assessments that we recoup must be paid to CIGA.  The CIGA assessment was
increased to 2% effective January 1, 2002 and CIGA has continued to
assess 2% during 2003 and 2004.  It is likely that guarantee fund assessments
related to insolvent workers' compensation insurance companies will continue for
the next several years.



At December 31, 2003, we had receivables of  $3.8 million
relating to CIGA assessments, which are included in the assets of discontinued
operations.   Assessments by non-California states, which are expensed as
incurred, totaled $350,000 during 2001, $580,000 during 2002 and $430,000 during
2003.



General.  Besides state insurance laws, we are subject to
general business and corporation laws, federal and state securities laws,
consumer protection laws, fair credit reporting acts and other laws regulating
the conduct and operation of our subsidiaries.



In the normal course of business, we may disagree with
various government agencies that regulate our activities on interpretations of
laws and regulations, policy wording and disclosures or other related issues.

16

These disagreements, if left unresolved, could result in administrative hearings
and/or litigation.  We attempt to resolve all issues with the regulatory
agencies, but are willing to litigate issues where we believe we have a strong
position.  The ultimate outcome of these disagreements could result in sanctions
and/or penalties and fines assessed against us.  Currently, there are no
litigation matters pending with any government agencies.



Deposits. Our HMO and insurance subsidiaries are required
by state regulatory agencies to maintain certain deposits and must also meet
certain net worth and reserve requirements.  The HMO and insurance subsidiaries,
including the discontinued operations, had restricted assets on deposit in
various states totaling $36.5 million at December 31, 2003. The HMO and
insurance subsidiaries must also meet requirements to maintain minimum
stockholders' equity, on a statutory basis, as well as minimum risk-based
capital requirements, which are determined annually.  Additionally, in
conjunction with the exit from the Texas HMO health care market, the Texas
Department of Insurance approved a plan of withdrawal and Texas Health Choice,
L.C., or TXHC, is now required to maintain deposits of $1.5 million and net
worth of at least $3.5 million. We believe we are in material compliance with
our regulatory requirements.



Dividends. Our HMO and insurance company subsidiaries
are restricted by state law as to the amount of dividends or distributions that
can be declared and paid.  Moreover, insurers and HMOs domiciled in Texas,
Nevada and California generally may not pay extraordinary dividends or
distributions without providing the state insurance commissioner with 30 days
prior notice, during which period the commissioner may disapprove the payment.
An "extraordinary dividend or distribution" is generally defined as a
dividend or distribution whose fair market value together with that of the other
dividends or distributions made within the preceding 12 months exceeds the
greater of (i) ten percent of the insurer's surplus as of the preceding December
31 or (ii) net gain from operations of an insurer, if a life insurer, or net
income if not a life insurer, for the 12-month period ending on the preceding
December 31.



In addition, our California domiciled insurers may not pay a
dividend without the prior approval of the state insurance commissioner to the
extent the cumulative amount of dividends or distributions paid or proposed to
be paid in any year exceeds the amount shown as unassigned funds (reduced by any
unrealized gains included in any such amount) on the insurer's statutory
statement as of the previous December 31.



In 2001, Cal Indemnity received approval to pay an aggregate
of $10.0 million in dividends to CII Financial, all of which was used to
purchase or retire CII Financial's then outstanding subordinated debentures.  In
2002, Cal Indemnity paid dividends of $1.5 million.  No dividends were paid in
2003.  We are not in a position to assess the likelihood of obtaining future
approval for the payment of dividends other than those specifically allowed by
law in each of our subsidiaries' state of domicile.



No prediction can be made as to whether any legislative
proposals relating to dividend rules in the domiciliary states of our
subsidiaries will be made or adopted in the future, whether the insurance
departments of such states will impose either additional restrictions in the
future or a prohibition on the ability of our regulated subsidiaries to declare
and pay dividends or what will be the effect of any such proposals or
restrictions on them.



Employees



We had approximately 3,600 employees as of March 1, 2004.
None of our employees are covered by a collective bargaining agreement.  We
believe that relations with our employees are good.



Other



Our principal executive offices are located at 2724 North
Tenaya Way, Las Vegas, Nevada 89128, and our telephone number is (702) 242-7000.
Our website is
www.sierrahealth.com.  We make
available free of charge on or through our website our annual report on Form
10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments
to those reports filed or furnished pursuant to Section

17

13(a) or 15(d) of the Securities Exchange Act as soon as reasonably practicable after we
electronically file such material with or furnish it to the SEC.



We also make available on our website our Corporate
Governance Guidelines, Code of Ethics for Directors, Code of Ethics, Code of
Conduct for CEO, Nominating and Governance Committee Charter, Compensation
Committee Charter and Audit Committee Charter.  Such information is also
available in print free of charge to stockholders upon request.



Forward-Looking Statements

This annual report on Form
10-K contains "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934, both as amended.



The forward-looking statements regarding our business and
results of operations should be considered by our stockholders or any reader of
our business or financial information along with the risk factors discussed
below.  All statements other than statements of historical fact are forward-
looking statements for purposes of federal and state securities laws. The
cautionary statements are made pursuant to the "safe harbor"
provisions of the Private Securities Litigation Reform Act of 1995, as amended,
and identify important factors that could cause our actual results to differ
materially from those expressed in any projected, estimated or forward-looking
statements relating to us.  These forward-looking statements are identified by
their use of terms and phrases such as "anticipate,"
"believe," "could,"  "estimate,"
"expect,"  "hope,"  "intend,"  "may,"
"plan,"  "predict,"  "project,"
"seeks," "will," "continue," and other similar
terms and phrases, including references to assumptions.  Such forward-looking
statements may be contained in the sections "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and
"Business" among other places.



Some of the potential issues that could cause our actual
results to differ substantially from our expectations are:



- loss of health care premium revenues due to heightened pricing
competition;
- inadequate premium revenues due to heightened competition, miscalculations
of underlying health care cost inflation, utilization and other factors in our
rate filings and in underwriting accounts;
- significant reductions in retaining accounts and members;
- inability or delays in making timely changes to health care benefits to
offset the impact of inadequate premium rates;
- loss of Medicare or Medicaid contracts;
- increased charges and losses from the disposition of our workers'
compensation insurance business or the inability to complete the disposal of
such business at all or on acceptable terms;
- loss of or significant changes in our health care provider contracts;
- inability or unwillingness of our contracted providers to provide health
care services to our members;
- higher than expected medical costs including utilization of services;
- the introduction of new medical technologies and pharmaceuticals;
- higher costs of medical malpractice insurance, increased claims, reduced
coverage that increases our risk exposure or the unavailability of coverage that
either affects us or our contracted providers;
- unpaid health care claims and health care costs resulting from insolvencies
of providers with whom we have capitated contracts;
- terrorist acts that directly affect the operation of our business or our
customers, policyholders and members;
- a sustained economic recession, especially in Nevada;
- adverse loss development on health care payables resulting from
unanticipated increases or changes in our claims costs;
- adverse legal judgments that are not covered by insurance or that indirectly
impact our ability to obtain insurance in the future at reasonable costs;
- significant declines in investment rates;
- inability to implement HIPAA privacy rules or other material regulatory
requirements on a timely, accurate and cost effective basis;
- a ratings downgrade from insurance rating agencies, such as A.M. Best
Company and Fitch Ratings, and from health care quality rating organizations,
such as the NCQA or URAC;
- changes in federal or state tax regulations and laws or programs, including
health care reform;
- inability to maintain or enhance, as required, our management information
systems to ensure, among other things, the timely and accurate billing of
premiums and the timely and accurate payment of claims, in compliance with
applicable governmental and contractual requirements;
- inability to expand our e-business initiatives on a timely basis and in
compliance with government regulations; and
- other factors referenced in this annual report on Form 10-K, including those
set forth under the caption "Risk Factors."

Although we believe that the expectations reflected in any of
our forward-looking statements are reasonable, actual results could differ
materially from those projected or assumed in any of our forward-looking
statements.



In making these statements, we disclaim any intention or
obligation to address or update each factor in future filings or communications
regarding our business or results, and we do not undertake to address how any of
these factors may have caused changes to discussions or information contained in
previous filings or communications.  In addition, any of the matters discussed
below may have affected our past results and may affect future results, so that
our actual results may differ materially from those expressed here and in prior
or subsequent communications.



We urge you to review carefully the section below, "Risk
Factors," in Part 1, Item 1 of this 2003 annual report on Form 10-K for a
more complete discussion of the risks associated with an investment in our
securities.

19



Risk Factors

You should carefully consider the following risks, as well
as the other information contained in this annual report on Form 10-K.  If any
of the following risks actually occur, our business could be adversely affected.
You should refer to the other information set forth in this annual report on
Form 10-K, including the information set forth in "Forward-Looking
Statements," and our consolidated financial statements herein.  The
information specifically set forth under "Forward-Looking Statements"
constitutes additional risks, which, if they actually occur, could adversely
affect our business as well.

Risks Related to our Continuing Operations

The termination of the TRICARE Region 1 contract, expected on
September 1, 2004, will materially adversely affect our revenues and operating
income for future years.

On August 21, 2003, we were advised that the T-Nex
contract for the North Region had been awarded to one of our competitors.  After
health care service begins under the T-Nex contract, which we currently expect
to start September 1, 2004, we will only receive "phase-out" revenues
under our current TRICARE Region 1 contract.  These "phase-out"
revenues will be significantly less than the revenues SMHS earned under the
TRICARE Region 1 contract.  For the year ended December 31, 2003, our Military
Health Services Operations segment accounted for $467.3 million, or 31.5%, of
total consolidated revenues and $14.8 million, or 11.2%, of total consolidated
operating income from continuing operations.  In addition, while the TRICARE
Region 1 contract provides for the payment of certain "phase-out"
costs that we may incur, there can be no assurance that this payment will cover all such
costs.  As a result, our failure to win the competitive procurement for the T-
Nex contract will have a material adverse effect on our revenues and operating
income for future years.



The new Medicare Prescription Drug, Improvement and
Modernization Act of 2003, or MMA, may intensify the competition in Nevada for
the eligible senior population and could lead to a loss of our senior members
and a reduction in Medicare premium revenues.  If we are unable to reduce our
costs timely, our operating margins may be adversely affected.



The MMA will substantially increase the amount of
Medicare premiums paid to health plans.  However, all of the increased revenues
must either be used to enhance benefits, reduce the members' costs or stabilize
network providers.  MMA could bring new competitors into Nevada.  These new
competitors, as well as existing competitors, may offer better benefits or lower
costs to our senior members, which may result in a loss of members and Medicare
revenues.  It could also lead to our retaining a less healthy mix of members who
incur more medical costs.  If we are unable to timely reduce our operating
costs, our operating margins may be adversely affected.

The payment methodology for our Social HMO Medicare
program is expected to result in a lower premium rate increase.  In addition,
there is no guarantee that the Social HMO program will be extended beyond 2004.
If we were unable to compensate by reducing costs, our financial results would
be materially affected.

Our Medicare program accounted for approximately 25% of
our 2003 consolidated revenues from continuing operations.  Starting in 2004,
CMS has changed the Medicare payment methodology to include a risk adjustment
methodology and a frailty adjuster that uses measures of functional impairment
to predict expenditures. Under the new payment methodology, we will be paid 90%
based on the current payment approach and 10% based on the new approach.  The
new payment approach is being phased in and CMS has preliminarily indicated that
it will be completely transitioned to the new approach in 2008.  Based on the
most recent information available to us, our 2004 annual Medicare increase,
before the effect of the new payment approach and the MMA, would have been 3.1%.
The new payment approach reduced this to 2.5%.

20

Every year, we receive adjustments to the amount CMS pays us
for the services we provide to our Medicare enrollees and we adjust the benefits
we provide to Medicare enrollees to reflect the changing CMS payments so that we
can maintain our operating margin.  In addition, the Social HMO program was due
to expire at the end of 2003; however, CMS administratively extended the Social
HMO program for one year.  There are activities taking place on a federal level
to continue the program, but there is no guarantee at this time that the Social
HMO contract will be renewed beyond 2004.  If the Social HMO contract is not
renewed beyond 2004, we would seek to transfer the members into one of our
traditional Medicare plans.  This transfer would allow for the continuity of
care for our members but without the additional Social HMO specific benefits
that are currently available to them.  If we are unable to adjust benefits we
provide to Medicare enrollees to reflect changes in CMS payments and in costs of
providing benefits so that we can continue to maintain our operating margin, or
if our contract with CMS were to be terminated, our financial results would be
materially adversely impacted.



As a health care company, we and our health care providers
may be subject to increased malpractice costs and claims which could adversely
affect our business.

We and our health care providers are subject to
malpractice claims.  We require our health care providers to maintain
malpractice insurance and we set up reserves with respect to potential
malpractice claims.  While we do not believe that our uninsured exposure to
liabilities resulting from malpractice claims is material, there may in the
future be significant malpractice liabilities for which we do not have adequate
reserves or insurance coverage, and this insurance may not continue to be
available at all or on commercially reasonable terms.  In addition, punitive
damage awards are generally not covered by insurance.

If we fail to qualify for the Nevada home office tax
credit, our premium tax costs will increase.

Under existing Nevada law, a 50% premium tax credit is
generally available to HMOs and insurers that own and substantially occupy home
offices or regional home offices within Nevada. In connection with the
settlement of a prior dispute concerning the premium tax credit, the Nevada
Department of Insurance acknowledged in November 1993 that our HMO and insurance
subsidiaries met the statutory requirements to qualify for this tax credit.  We
intend to take all necessary steps to continue to comply with these
requirements.  However, the elimination or reduction of the premium tax credit,
or our failure to qualify for the premium tax credit, would substantially
increase our premium tax burden and, as a result, materially adversely affect
our profitability.



Our ability to obtain and maintain favorable group benefit
agreements with employer groups affects our profitability.



Our ability to obtain and maintain favorable group
benefit agreements with employer groups affects our profitability.  The
agreements are generally renewable on an annual basis but are subject to
termination on 60 days' prior notice.  For the fiscal year ended December 31,
2003, our eight largest HMO employer groups were, in the aggregate, responsible
for less than 10% of our total revenues.  Although none of our employer groups
accounted for more than 3% of our total revenues during that period, the loss of
one or more of the larger employer groups could, if not replaced with similar
membership, have a material adverse effect upon our business.  We have generally
been successful in retaining these employer groups in Nevada.  However, there
can be no assurance that we will be able to renew our agreements with our
employer groups in the future or that we will not experience a decline in
enrollment within our employer groups.



There can be no assurance that we will be able to maintain
and enhance our information systems.

Our information systems are a vital and integral part of
our operations.  We depend on our information systems to enable us to bill and
collect premium revenues, process and pay claims and other operating expenses,
and provide effective and efficient services to our customers.  We also depend
on our information systems to provide us with accurate and complete data to
enable us to adequately price our

21

products and services and report our financial results.  We are required to commit significant ongoing resources to maintain
and enhance our existing information systems as well as develop new systems to
keep pace with continuing changes in technologies, industry practices,
regulatory standards and changing customer preferences.

For example, the administrative simplification provisions of
the Health Insurance Portability and Accountability Act of 1996 or HIPAA and the
Department of Labor's ERISA claim processing regulations require changes to our
current systems.  In 2003, we completed construction of a third data center
supporting our Las Vegas-based operations to provide internal options for
disaster recovery and back up.  We completed the rollout of an e-prescribing
application in our medical clinics as well as a system to capture and view
radiology images electronically.  Dictation and transcription systems were
replaced and we began the migration to a paperless electronic medical record
system.  A new care management system was implemented to support the
coordination of care for seniors enrolled in our Social HMO program.  Compliance
with the Federal Health Insurance Portability and Accountability Act of 1996, or
HIPAA, was achieved as required by the Privacy Rule and the Standards for Code
Sets and Electronic Transactions.  Work was also initiated to achieve compliance
with the HIPAA Security Rule, which must be addressed by April 20, 2005.  Other
security and controls work was initiated in 2003 toward compliance with Section
404 of the Sarbanes-Oxley Act of 2002.

If the information we rely upon to run our businesses was
found to be inaccurate or unreliable or if we fail to maintain effectively our
information systems and data integrity, we could lose existing customers, have
difficulty in attracting new customers, have problems in determining medical
cost estimates and establishing appropriate pricing, have customer and physician
and other health care provider disputes, have regulatory problems, have
increases in operating expenses or suffer other adverse consequences.



We operate in a highly competitive environment.

We operate in a highly competitive environment.  Our
major competition is from self-funded employer plans, PPO products, other HMOs
and traditional indemnity carriers, such as Aetna and Blue Cross/Blue Shield.
Many of our competitors have substantially larger total enrollments, greater
financial resources and offer a broader range of products.  Additional
competitors with greater financial resources may enter our markets in the
future.  We believe that the most important competitive factors are the delivery
of reasonably priced, quality medical benefits to members and the adequacy and
availability of health care delivery services and facilities.  We depend on a
large PPO network and flexible benefit plans to attract new members.
Competitive pressures may result in reduced membership levels.  It is
impractical to attempt to quantify the financial impact of an unspecified
reduction in membership.  However, we believe any reductions in our membership
levels that are not compensated by reductions in operating expenses could
materially affect our business and results of operations.



Our results of operations could be adversely affected by
understatements in our actual liabilities caused by understatements in our
actuarial estimates of incurred but not reported health care claims.

We estimate the amount of our reserves for incurred but
not reported, or IBNR, claims primarily using standard actuarial methodologies
based upon historical data.  These methodologies include, among other factors,
the average interval between the date services are rendered and the date claims
are received and/or paid, denied claims activity, disputed claims activity,
utilization, seasonality patterns and changes in membership.  The estimates for
submitted claims and IBNR claims liabilities are made on an accrual basis and
adjusted in future periods as required.  These estimates could
understate or overstate our actual liability for claims and benefits payable.
For example, during 2003, our actuarial best estimate of the liability recorded
as of December 31, 2002 decreased approximately $14.0 million.  This is compared
to a decrease of $10.9 million in the liability recorded as of December 31, 2001
during 2002.  Any increases to prior estimates could adversely affect results of
operations in future periods.  In addition, the premium pricing of our health
care plans take into consideration past historical cost trends.  If our actual
liability for claims and benefits are higher than our prior recorded estimates,
our business and results of operations in future periods could be adversely
impacted.

22

Our failure to comply with "corporate practice of
medicine" laws in states in which we operate could result in our being
unable to practice medicine in that state and possibly lead to penalties and/or
higher medical expenses.

Under the "corporate practice of medicine"
doctrine, in most states, business organizations, other than those authorized to
do so, are prohibited from providing, or holding themselves out as providers of,
medical care.  Some states, including Nevada, exempt HMOs from this doctrine.
The laws relating to this doctrine are subject to numerous conflicting
interpretations.  Although we seek to structure our operations to comply with
corporate practice of medicine laws in all states in which we operate, there can
be no assurance that, given the varying and uncertain interpretations of these
laws, we would be found in compliance with these laws in all states.  A
determination that our medical provider subsidiary, Southwest Medical Associates
Inc. or SMA is not exempt and is not in compliance with applicable corporate
practice of medicine laws in Nevada could result in SMA being unable to practice
medicine in Nevada and possibly lead to penalties and/or higher medical
expenses.



Approximately 75% of our southern Nevada HMO health care
members choose one of our SMA physicians as their primary provider. A
determination that SMA is not in compliance with applicable corporate practice
of medicine laws in Nevada could require that we divest our ownership interest
in or dissolve SMA.  Alternatively, we may be required to expand our network of
independent contracted providers, all of which could lead to a disruption in our
provider network, member dissatisfaction and ultimately higher medical expenses
for our HMO and health care insurance subsidiaries.



We issued $115.0 million of senior convertible debentures,
which we may not be able to repay in cash and could result in substantial
dilution of our earnings per share.

In March 2003, we issued $115.0 million aggregate
principal amount of 21⁄4% senior convertible debentures due March 15, 2023.  The
debentures pay interest, which is due semi-annually on March 15 and September 15
of each year.  Each $1,000 principal amount of debentures is convertible, at the
option of the holders, into 54.6747 shares of Sierra Health Services, Inc.,
common stock prior to March 15, 2023 if (i) the market price of our common stock
for at least 20 trading days in a period of 30 consecutive trading days ending
on the last trading day of the preceding fiscal quarter exceeds 120% of the
conversion price per share of our common stock; (ii) the debentures are called
for redemption; (iii) there is an event of default with respect to the
debentures; or (iv) specified corporate transactions have occurred.  The
conversion rate is subject to certain adjustments.  This conversion rate
initially represents a conversion price of $18.29 per share.  Holders of the
debentures may require us to repurchase all or a portion of their debentures on
March 15 in 2008, 2013 and 2018 or upon certain corporate events including a
change in control.  In either case, we may choose to pay the purchase price of
such debentures in cash or common stock or a combination of cash and common
stock.  We may not have enough cash on hand or have the ability to access cash
to pay the debentures if presented or at maturity.  In addition, the purchase of
the debentures with shares of our common stock or the conversion of the
debentures into our common stock could result in a substantial dilution of our
earnings per share.  We may redeem all or some of the debentures on or after
March 20, 2008 for cash.

Our debt levels may limit our flexibility in obtaining
additional financing and in pursuing other business opportunities.

As of December 31, 2003 we had approximately $117.0
million of indebtedness on a consolidated basis.  This level of indebtedness
will have several important effects on our future operations, including our
ability to obtain additional financing for working capital, capital
expenditures, acquisitions, general corporate and other purposes.

Our ability to meet our debt service obligations and to
reduce our total indebtedness depends upon our future performance, which will be
subject to general economic conditions, industry cycles and financial, business
and other factors affecting our operations, many of which are beyond our
control.

23

Our senior secured credit facility imposes significant
operating and financial restrictions on us.

We entered into a revolving credit facility on March 3,
2003 and as of December 31, 2003, we have not borrowed on it.  The credit
agreement provides us with a revolving credit facility of $65.0 million and is
secured by guarantees by certain of our subsidiaries and a first priority
perfected security interest in (i) all the capital stock of each of our
unregulated, material domestic subsidiaries (direct or indirect)
as well as all
of the capital stock of certain regulated, material domestic subsidiaries; and
(ii) all other present and future assets and properties of ours and those of our
subsidiaries that guarantee our credit agreement obligations (including, without
limitation, accounts receivable, inventory, real property, equipment, contracts,
trademarks, copyrights, patents, license rights and general intangibles) other
than cash and cash equivalents, subject, in each case, to the exclusion of the
capital stock of CII or any of its subsidiaries and certain other exclusions.



The revolving credit facility restricts our ability and the
ability of our subsidiaries to dispose of assets, incur indebtedness, incur
other liens, make investments, loans or advances, make acquisitions, engage in
mergers or consolidations, or make capital expenditures and otherwise restrict
certain corporate activities. These covenants may prevent us from pursuing
certain business opportunities and taking certain actions. In addition, we are
required to comply with specified financial ratios as set forth in the credit
agreement.  A failure to comply with these covenants would be an event of
default under the credit agreement.  The revolving credit facility matures on
April 30, 2006.  There is no assurance that we will be able to successfully
refinance or pay any outstanding indebtedness when it matures.

We depend on our management for our success and the loss of
our founder, Chairman of the Board and Chief Executive Officer, could have a
material adverse effect on our business.

Our success has been dependent to a large extent upon the
efforts of Anthony M. Marlon, M.D., our founder, Chairman of the Board and Chief
Executive Officer, who has an employment agreement with us. Although we believe
that the development of our management staff has made us less dependent on
Dr. Marlon, the loss of Dr. Marlon could still have a material adverse
effect on our business.



Terrorist attacks, such as the attacks that occurred in
New York and Washington, D.C. on September 11, 2001, and other attacks, acts of
war or military actions, such as military actions in Iraq or elsewhere, may
adversely affect our operating results and financial condition.

The attacks of September 11, 2001 have contributed to
major instability in the U.S. and other financial markets.  These terrorist
attacks, the military response and future developments, or other military
actions such as the military actions in Iraq or elsewhere, may adversely affect
prevailing economic conditions and the insurance and reinsurance markets.  These
developments, depending on their magnitude, could have a material adverse effect
on our operating results and financial condition.

Our business is subject to substantial government regulation
and the impact of this regulation may increase our exposure to lawsuits and/or
penalties or other regulatory actions for non-compliance or may otherwise
adversely affect our business.

The health care industry in general, and HMOs and health
insurance companies, in particular, are subject to substantial federal and state
government regulation.  These regulations, which may increase our exposure to
lawsuits and/or penalties or other regulatory actions for non-compliance,
include, but are not limited to cash reserves; minimum net worth; solvency
standards; licensing requirements; approval of policy language and benefits;
claims payment practices; mandatory products and benefits; provider compensation
arrangements; patient confidentiality; premium rates; changes of control and
related party transaction approval requirements; medical management tools;
dividend payments; investment and risk restrictions; and periodic examinations
by state and federal agencies.



As a result, a portion of our HMOs' and insurance companies'
cash is essentially restricted by various state regulatory or other requirements
limiting certain of our subsidiaries' cash to use within their current

24

operations.  State and federal government authorities are continually
considering changes to laws and regulations that may affect us.  Additionally,
legislators in the states in which we operate continue to face pressure to cut
back services and programs in ways that could adversely affect us.  Many states
in which we operate are currently considering regulations relating to mandatory
benefits, provider compensation, disclosure and composition of physician
networks.  If such regulations were adopted by any of the states in which we
operate, our business could be materially adversely affected.



As a result of the continued escalation of health care costs
and the inability of many individuals to obtain health care insurance, numerous
proposals relating to health care reform have been or may be introduced in the
United States Congress and state legislatures.  Any proposals affecting
underwriting practices, limiting rate increases, requiring new or additional
benefits or affecting contracting arrangements (including proposals to require
HMOs and preferred provider organizations, or PPOs, to accept any health care
providers willing to abide by an HMO's or PPO's contract terms), may make it
more difficult for us to control medical costs and could have a material adverse
effect on our business.



In addition to applicable laws and regulations, we are
subject to various audits, investigations and enforcement actions.  These
include possible government actions relating to ERISA, which regulates insured
and self-insured health coverage plans offered by employers; FEHBP, CMS, which
regulates Medicare and Medicaid programs; federal and state fraud and abuse
laws; and laws relating to utilization management and the delivery of health
care and the timeliness of payment or reimbursement.  Any such government action
could result in assessment of damages, civil or criminal fines or penalties, or
other sanctions, including exclusion from participation in government programs.
In addition, disclosure of any adverse investigation, audit results or sanctions
could negatively affect our reputation in various markets and make it more
difficult for us to sell our products and services.



Risks Related to Our Discontinued Operations

We may not realize the total amount of the estimated net
sales proceeds from our pending sale of the workers' compensation insurance
operations.

In the fourth quarter of 2003, we agreed to sell our
workers' compensation insurance subsidiaries, consisting of California Indemnity
Insurance Company and its wholly-owned insurance subsidiaries, and we reduced
the investment in these operations to their estimated net sales proceeds.  The
closing of the sale is currently pending regulatory approval, which is expected
by April 30, 2004.  The majority of the net sales proceeds will be payable in
2010 and is subject to adjustment based upon the loss and allocated loss
adjustment expense development from the closing date through December 31, 2009.
Factors such as reinsurers failing to honor their obligations to the workers'
compensation subsidiaries, economic recessions and the resulting higher
unemployment rates, over utilization of medical treatments, and the effect of
new legislation or regulations could affect the subsidiaries' loss and allocated
loss adjustment expense development.  The net sales proceeds will be reduced
after closing, up to a maximum of $58 million, by the amount of net adverse loss
development.  The net sales proceeds will increase dollar for dollar on the
first $15.0 million of net favorable loss development and 50% of any favorable
development above that $15.0 million.  While we believe the recorded loss and
loss adjustment expense reserves are appropriately stated on our balance sheets,
we have had net adverse loss development occur in each of the past five years.
For the years ended December 31, 2001, 2002 and 2003, we recorded net adverse
loss development of $8.7 million, $24.0 million and $16.9 million related to
prior periods, respectively.   In addition, effective with the close of the
sale, the workers' compensation claims will be out-sourced to an independent
third party claims administrator or TPA.   Part of the TPA's compensation is
subject to satisfactory adherence to certain agreed upon claims administration
processes and procedures.  While we will audit the claims handling performance
of the TPA, we cannot be certain that all of the claims will be administered in
the most cost effective manner, which could result in adverse loss development.
There is no assurance that we will actually realize the estimated net sales
proceeds and any adjustments after the close of the sale will affect the results
of continuing operations in the year the adjustment occurs. In addition,
insurance regulators may impose significant restrictions on the buyer, which may
allow the buyer to cancel the stock purchase agreement.

25

We will be obligated to perform certain services in
connection with the sale of the workers' compensation insurance operations and
the accrual for the estimated contractual funding shortfall may be insufficient,
which could result in a material adverse effect to our financial results.

The sale of the workers'
compensation insurance operations will require us to perform, or be responsible
for the performance of, certain transition services through December 31, 2009.
This includes claims administration, processing policy transactions, premium
collections and other services related to insurance operations.  We will receive
a limited amount of funds to perform these services from Cal Indemnity and
these funds may be insufficient to cover all of
our costs.  In addition,
due to the discontinued status of the workers' compensation insurance
operations, we may experience significant employee turnover in this segment,
which could result in unanticipated higher costs for temporary staff and/or
retention incentive payments.  If the contractual funding shortfall is
understated, our financial results could be materially adversely affected.



If we are unable to complete the sale of our workers'
compensation subsidiaries, there could be various adverse effects on our
operating results and business.

Since executing the agreement in November 2003 to sell
our workers' compensation insurance subsidiaries, we have taken various steps,
required by the agreement, to cause those subsidiaries to cease writing new and
renewal business, terminate agents as well as to terminate, or not enter into,
various leases and other contracts that were necessary to the conduct of the
worker's compensation insurance business.  In addition, we have taken steps to
reduce staff and have lost staff due to voluntary terminations.  If, for any
reason, we do not complete the sale of that business to the buyer, we will have
lost the employees and closed the facilities necessary to operate the business
and will have also terminated relationships with our workers' compensation
insurance customers.  We will then have few options other than to liquidate the
business, which may result in further losses.  In addition, the failure to
complete that sale, or another sale, may result in our again consolidating the operating results
of the worker's compensation business in our financial statements, resulting in
significant changes to our earnings from continuing operations for prior and
subsequent years.

We exited the Texas HMO health care market and ceased
providing coverage on April 17, 2002.  We have recorded reserves and accrued
expenses for all anticipated exit-related costs but unanticipated expenses could
result in additional losses during the run-out period.

We exited the Texas HMO health care market and stopped
providing health care services on April 17, 2002.  Unanticipated expenses,
primarily related to litigation and provider settlements, could result in
additional losses.





ITEM 2.   PROPERTIES



We own approximately 27,000 square feet of space in Las
Vegas, Nevada, which houses our in-house print shop operations and information
systems data center.  We lease office and clinical space in Nevada totaling
approximately 347,000 and 389,000 square feet, respectively, with the majority
of the lease agreements running through January, 2016. HPN and SHL own a 134,000
square foot administrative building as their Las Vegas headquarters, which
serves as the home office and a regional home office for our Nevada HMO and
health insurance subsidiaries, respectively.



The workers' compensation subsidiary is headquartered in
Nevada and subleases space from us as well as approximately 37,000 square feet
of additional leased office space in California and Colorado with some lease
agreements running through 2008.  Sierra will be required to assume all
outstanding lease agreements upon the sale of Cal Indemnity.

26

We lease approximately 162,000 square feet of office space in
other various states as needed for the SMHS administrative headquarters, TRICARE
service centers and other regional operations with some lease agreements running
through 2012.  We are attempting to sublease certain space we have already
vacated and we will attempt to sublease any remaining space that will be vacant
at the completion of the phase-out period.



We believe that current and planned clinical space will be
adequate for our present needs.  However, additional clinical space may be
required if membership expands in southern Nevada.





ITEM 3.   LEGAL PROCEEDINGS



We are subject to various claims and other litigation in the
ordinary course of business.  Such litigation includes, but is not limited to,
claims of medical malpractice, claims for coverage or payment for medical
services rendered to HMO and other members and claims by providers for payment
for medical services rendered to HMO and other members.  Some litigation may
also include claims for punitive damages that are not covered by insurance.
Also included in such litigation are claims for workers' compensation and claims
by providers for payment for medical services rendered to injured workers.
These actions are in various stages of litigation and some may ultimately be
brought to trial.  With respect to certain pending actions, we maintain
commercial insurance coverage with varying deductibles for which we maintain
estimated reserves for our self-insured portion based upon our current
assessment of such litigation.  Due to recent unfavorable changes in the
commercial insurance market, we have, for certain risks, purchased coverage with
higher deductibles and lower limits of coverage.  In the opinion of management,
based on information presently available, the amount or range of any potential
loss cannot be reasonably estimated but the ultimate resolution of these pending
legal proceedings should not have a material adverse effect on our financial
condition.





ITEM 4.   SUBMISSION OF MATTERS TO A VOTE OF SECURITY
HOLDERS



None

27

PART II





ITEM 5.   MARKET FOR THE REGISTRANT'S COMMON EQUITY AND
RELATED STOCKHOLDER                     MATTERS



Market Information



Our common stock, par value $.005 per share (the "Common
Stock"), is listed on the New York Stock Exchange under the symbol SIE
since April 26, 1994 and, prior to that, had been listed on the American Stock
Exchange since our initial public offering on April 11, 1985.  The
following table sets forth the high and low closing prices for the Common Stock
for each quarter of 2003 and 2002.

`Period                               High         Low
         ---------------------------------  --------    --------
         2003                                                     
           First Quarter.................. $   14.75   $   11.75
           Second Quarter.................     21.67       12.24
           Third Quarter..................     27.09       19.15
           Fourth Quarter.................     29.42       21.25

         2002                                                     
           First Quarter.................. $   13.08   $    8.13
           Second Quarter.................     22.35       13.17
           Third Quarter..................     23.50       16.16
           Fourth Quarter.................     20.17        9.93`

On March 1, 2004, the closing market price of Common
Stock was $34.60 per share.



Holders



The number of record holders of Common Stock at February 27,
2004 was 585.  Based upon information available to us, we believe there are
approximately 6,500 beneficial holders of the Common Stock.

28

Equity Compensation Plan Information



The following table provides information as of December 31,
2003, regarding outstanding awards and shares remaining available for future
issuance under the Company's compensation plans under which equity securities
are authorized for issuance (excluding 401(k) plans and similar tax-qualified
plans):

`(a)                    (b)                    (c)
                                                                                     Number of securities
                                       Number of securities                          remaining available
                                         to be issued upon      Weighted-average      for future issuance
                                           exercise of          exercise price of        under equity
           Plan Category              outstanding options (1)  outstanding options  compensation plans (2)
------------------------------------  -----------------------  -------------------  -----------------------
                                                      (In thousands, except exercise price)
Equity compensation plans
     approved by security
     holders........................                   1,634  $              7.87                      816 (3)

Equity compensation plans
     not approved by security
     holders (4)....................                   3,919                 9.77                    1,396
                                      -----------------------                       -----------------------
Total...............................                   5,553                 9.21                    2,212
                                      =======================                       =======================`

See Note 16 of the Notes to the Consolidated Financial
Statements for additional information on our stock based compensation plans.



(1)	In addition, a total of 50,000 shares of common stock
are subject to options assumed by the Company in connection with acquisitions,
with a weighted average exercise price of $11.33.

(2)	All of the shares available for future issuance
include: (i) 1,773,000 shares under the 1995 Long-Term Incentive Plan, as
amended and restated, issuable as restricted stock or as a bonus; (ii) 248,000
shares under the 1995 Non-Employee Directors' Stock Plan, as amended and
restated, issuable in lieu of directors fees; and (iii) 191,000 shares under the
Amended and Restated 1985 Employee Stock Purchase Plan, or ESPP, which may be
sold directly to employees at a discount. Shares other than those under the ESPP
may also be issued in connection with options, warrant and rights.

(3)	Includes 191,000 shares remaining available for future
issuance under the ESPP of which 119,000 were issued in January 2004.

(4)	The 1995 Long-Term Incentive Plan, or Plan, was
approved by shareholders in 1995, with additional shares authorized by
shareholders in 1998.  Subsequent amendments to the Plan by the Board of
Directors reserved additional shares for the Plan, resulting in 3,734,000 shares
in column (a) and 1,151,000 shares in column (c) at December 31, 2002.  The
Compensation Committee of the Board of Directors, which is permitted to delegate
authority in limited circumstances, administers the Plan.  The Plan authorizes
grants of incentive and non-qualified stock options, stock appreciation rights,
restricted stock, deferred stock, bonus stock (including in lieu of other
payment obligations), dividend equivalents, and other stock-based awards.  The
Committee sets vesting and forfeiture terms of awards.  To date, the Company has
granted primarily options and deferred stock (designated as restricted stock
units) under the Plan.  Options must have an exercise price of at least 100% of
the fair market value of the common stock on the grant date, and generally have
a term not exceeding ten years.  The exercise price may be paid in cash or by
surrender of previously acquired shares.  Restricted stock and restricted stock
units granted under the Plan are generally to be settled only in shares, and are
subject to a risk of forfeiture upon termination of employment for a specified
period, except more

29

favorable terms apply to termination due to death, disability and in other specified cases.  The Plan provides that certain awards
will become vested upon a change in control of the Company.



The 1995 Non-Employee Directors' Stock Plan, as amended and
restated, was approved by shareholders in 1995.  Subsequent amendments to the
Plan by the Board of Directors reserved additional shares for the Plan,
resulting in 185,000 shares in column (a) and 245,000 shares in column (c) at
December 31, 2003.  The Plan is administered by the Board of Directors.  It
authorizes the automatic grant of an option to purchase 10,000 shares to each
newly elected non-employee director and thereafter annually to each eligible
non-employee director.  Options have an exercise price of 100% of the fair
market value of the common stock on the grant date, and expire at the earlier of
ten years after grant, one year after termination of service due to death,
disability, or retirement, or six months after other terminations (subject to
extension if death occurs during the post-termination exercise period).  Options
become exercisable 20% per year beginning one year after grant, subject to
acceleration in the case of death or disability, at a specified date near an
optionee's 78th birthday, or in connection with certain change of control
transactions.  Options may be exercised after termination only to the extent
vested at termination, unless otherwise determined by the Board.  The Plan also
permits discretionary option grants by the Board, with vesting and forfeiture
terms set by the Board.  The exercise price may be paid in cash or by surrender
of previously acquired shares.  The Plan also permits directors to elect to
receive fees in the form of unrestricted shares of common stock or to defer fees
in the form of deferred shares, with the number of such shares or deferred
shares calculated by dividing the replaced or deferred fees by the then-fair
market value of a share of common stock.



Dividends



No cash dividends have been paid on the common stock since
our inception.  We currently intend to retain our earnings for use in our
business and to purchase our common stock and currently do not anticipate paying
any cash dividends.  As a holding company, our ability to service our debt and
to declare and pay dividends is dependent upon cash distributions from our
operating subsidiaries.  The ability of our HMO and our insurance subsidiaries
to declare and pay dividends is limited by state regulations applicable to the
maintenance of minimum deposits, reserves and net worth.  The declaration of any
future dividends will be at the discretion of our Board of Directors and will
depend on, among other things, future earnings, debt covenants, operations,
capital requirements, the tax treatment of dividends, our financial condition
and general business conditions.  Our credit agreement restricts our ability to
pay dividends.

30



ITEM 6.   SELECTED FINANCIAL DATA



The table below presents our selected consolidated financial
information for the years indicated.  The table should be read in conjunction
with the Consolidated Financial Statements and the related Notes thereto,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and other information which appears elsewhere in this 2003 Form
10-K.  The selected consolidated financial data below has been derived from our
audited Consolidated Financial Statements.

`Years Ended December 31,
                                                      ----------------------------------------------------------
                                                         2003        2002        2001        2000        1999
                                                      ----------  ----------  ----------  ----------  ----------
                                                                (In thousands, except per share data)           
Statements of Operations Data:                                                                                  
OPERATING REVENUES:
   Medical Premiums................................. $  962,176  $  857,741  $  718,994  $  637,769  $  594,966
   Military Contract Revenues.......................    465,313     373,589     338,918     330,352     287,398
   Professional Fees................................     37,367      30,923      28,985      33,102      42,069
   Investment and Other Revenues....................     20,223      16,382      16,603      18,393      16,286
                                                      ----------  ----------  ----------  ----------  ----------
     Total..........................................  1,485,079   1,278,635   1,103,500   1,019,616     940,719
                                                      ----------  ----------  ----------  ----------  ----------
OPERATING EXPENSES:
   Medical Expenses.................................    762,865     712,290     608,757     576,738     534,606
   Military Contract Expenses.......................    452,554     360,375     331,621     323,265     276,493
   General and Administrative Expenses..............    137,263     133,979     122,623     112,220     103,340
   Asset Impairment, Restructuring,
      Reorganization and Other Costs (1)............         --          --          --      30,836       7,808
                                                      ----------  ----------  ----------  ----------  ----------
     Total..........................................  1,352,682   1,206,644   1,063,001   1,043,059     922,247
                                                      ----------  ----------  ----------  ----------  ----------
OPERATING INCOME (LOSS) FROM
    CONTINUING OPERATIONS...........................    132,397      71,991      40,499     (23,443)     18,472
Interest Expense....................................     (5,491)     (7,650)    (15,738)    (17,865)    (12,306)
Other Income (Expense), Net.........................       (223)         55      (2,119)      1,084        (674)
                                                      ----------  ----------  ----------  ----------  ----------
INCOME (LOSS) FROM CONTINUING
    OPERATIONS BEFORE INCOME TAXES..................    126,683      64,396      22,642     (40,224)      5,492
(PROVISION) BENEFIT FOR INCOME TAXES................    (44,565)    (22,088)     (7,161)      9,205       1,431
                                                      ----------  ----------  ----------  ----------  ----------
INCOME (LOSS) FROM
   CONTINUING OPERATIONS............................     82,118      42,308      15,481     (31,019)      6,923
LOSS FROM DISCONTINUED OPERATIONS...................    (19,792)     (5,860)    (11,995)   (168,896)    (11,554)
                                                      ----------  ----------  ----------  ----------  ----------
NET INCOME (LOSS)................................... $   62,326  $   36,448  $    3,486  $ (199,915) $   (4,631)
                                                      ==========  ==========  ==========  ==========  ==========
EARNINGS PER COMMON SHARE:
   Income (Loss) From Continuing Operations......... $     2.93  $     1.47  $     0.56  $    (1.15) $     0.26
   Loss from Discontinued Operations................      (0.71)      (0.20)      (0.43)      (6.22)      (0.43)
                                                      ----------  ----------  ----------  ----------  ----------
   Net Income (Loss)................................ $     2.22  $     1.27  $     0.13  $    (7.37) $    (0.17)
                                                      ==========  ==========  ==========  ==========  ==========
   Weighted Average Number of Common
     Shares Outstanding.............................     28,053      28,756      27,685      27,142      26,927
                                                      ==========  ==========  ==========  ==========  ==========
EARNINGS PER COMMON SHARE ASSUMING DILUTION:
   Income (Loss) From Continuing Operations......... $     2.70  $     1.36  $     0.54  $    (1.15) $     0.26
   Loss from Discontinued Operations................      (0.65)      (0.19)      (0.42)      (6.22)      (0.43)
                                                      ----------  ----------  ----------  ----------  ----------
   Net Income (Loss)................................ $     2.05  $     1.17  $     0.12  $    (7.37) $    (0.17)
                                                      ==========  ==========  ==========  ==========  ==========
   Weighted Average Number of Common
     Shares Outstanding Assuming Dilution...........     30,421      31,141      28,509      27,142      26,996
                                                      ==========  ==========  ==========  ==========  ==========`

31

`December 31,
                                                      ----------------------------------------------------------
                                                         2003        2002        2001        2000        1999
                                                      ----------  ----------  ----------  ----------  ----------
                                                                            (In thousands)                      
Balance Sheet Data:                                                                                             
   Working Capital.................................. $  171,652  $  122,252  $   65,986  $   46,201  $  326,841
   Total Assets.....................................  1,134,121   1,065,966   1,064,846   1,162,773   1,130,112
   Long-term Debt (Net of Current Portion)..........    116,645      60,710     163,993     224,970     173,578
   Cash Dividends Per Common Share..................       none        none        none        none        none
   Stockholders' Equity.............................    150,764     156,565      96,519      90,473     278,412`

(1)   We recorded certain
identifiable asset impairment, restructuring, reorganization and other
costs.



Ratio of Earnings to Fixed Charges



The ratio of earnings to fixed charges for the periods shown
has been computed by dividing earnings available for fixed charges (income from
continuing operations before income taxes plus fixed charges including
capitalized interest) by fixed charges (interest expense including capitalized
interest).  Interest expense includes the portion of operating rental expense
which we believe is representative of the interest component of rental
expense.

`Years Ended December 31,
                                                      -----------------------------------------------------
                                                        2003       2002       2001       2000       1999
                                                      ---------  ---------  ---------  ---------  --------- 

                                                                (In thousands, except ratio data)
Income (Loss) from Continuing Operations
  Before Income Taxes............................... $ 126,683  $  64,396  $  22,642  $ (40,224) $   5,492
                                                      ---------  ---------  ---------  ---------  ---------
Fixed Charges:
Interest expense (including capitalized interest)...     5,506      7,700     15,767     17,932     14,315
Interest relating to rental expense (1).............     6,795      5,205      2,609      2,387      2,428
                                                      ---------  ---------  ---------  ---------  ---------
    Total fixed charges.............................    12,301     12,905     18,376     20,319     16,743
                                                      ---------  ---------  ---------  ---------  ---------
Earnings available for fixed charges................ $ 138,984  $  77,301  $  41,018  $ (19,905) $  22,235
                                                      =========  =========  =========  =========  =========

Ratio of earnings to fixed charges (2)..............     11.30       5.99       2.23        -         1.33`

(1)The representative
interest portion of rental expense was deemed to be one-third of all rental
expense. 

(2)   Earnings were not sufficient to cover fixed charges
during the year ended December 31, 2000 by $40.2 million; all other periods had
sufficient income to cover fixed charges.

32



ITEM 7.		MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS



The following discussion and analysis provides information

consolidated financial condition and results of operations.  The discussion
should be read in conjunction with the Consolidated Financial Statements and
related Notes thereto.  The information contained below may be subject to risk
factors. We urge you to review carefully the section "Risk Factors" in
Part 1, Item 1 of this 2003 Form 10-K for a more complete discussion of the
risks associated with an investment in our securities. See "Note on
Forward-Looking Statements and Risk Factors" under Item 1.



Overview



Our continuing operations derive revenues from our health
maintenance organization, or HMO, managed indemnity plans and military health
care services.  To a lesser extent, we also derive revenues from professional
fees (consisting primarily of fees for providing health care services to
non-members, co-payment fees received from members and ancillary products), and
investment and other revenue (consisting of fees for workers' compensation third
party administration, utilization management services and ancillary products).



Our principal expenses consist of medical expenses, military
contract expenses, and general and administrative expenses.  Medical expenses
represent capitation fees and other fee-for-service payments paid to independent
contracted physicians, hospitals and other health care providers to cover
members, pharmacy costs, as well as the aggregate expenses to operate and manage
our wholly-owned multi-specialty medical group and other provider subsidiaries.
As a provider of health care management services, we seek to positively affect
quality of care and expenses by contracting with physicians, hospitals and other
health care providers at negotiated price levels, by adopting quality assurance
programs, monitoring and managing utilization of physician and hospital services
and providing incentives to use cost-effective providers.  Military contract
expenses represent payments to providers for health care services rendered under
the TRICARE program, as well as administrative costs to operate the military
health care subsidiary.  General and administrative expenses generally represent
operational costs other than those directly associated with the delivery of
health care services and military contract services.



Executive Summary

Continuing Operations.  Our 2003 operating results
were significantly improved over 2002.  Our fully diluted income from continuing operations per common
share increased by 98.5% to $2.70 and our income from continuing operations increased by 94.1% to $82.1
million.  The improvement in the 2003 operating results was primarily driven by
medical premium revenue growth from new members, rate increases and an expansion
of our operating margin.  Our HMO membership increased by 7.4% from 272,000 at
December 31, 2002 to 292,000 at December 31, 2003.  Our overall 2003 premium
rates increased by approximately 7.6% over 2002.  The combination of these
factors resulted in a 12.2% increase in our medical premium revenues to $962.2
million.  Our medical expenses, on the other hand, only increased by 7.1% to
$762.9 million.  Medical expenses, as a percentage of medical premiums and
professional fees, decreased to 76.3% from 80.2%, or 390 basis points.  In
addition, our general and administrative expenses only increased by 2.5% to
$137.3 million.  As a percentage of total revenues, our general and
administration expense ratio was reduced by 130 basis points to 9.2%.  Our
operating margin, which is the operating income from continuing operations
divided by total revenues, improved by 330 basis points to 8.9%.

33

Our Military Health Services Operations segment represented
31.5% of our 2003 operating revenues and 11.2% of our 2003 operating income from
continuing operations.  This segment had income before income taxes of $14.9
million in 2003 compared to $15.5 million in 2002.  However, if we exclude the
T-Nex related expenses, the Military Health Services Operations segment would
have had income before income taxes of $24.3 million in 2003 compared to $20.5
million in 2002.  The improvement was due to greater administrative operating
expense efficiencies.  We did not win the T-Nex North Region contract and our
appeal to the United States General Accounting Office was denied in December
2003.  Health care services under our current TRICARE contract for Region 1 will
end on August 31, 2004 and we will then have a six-month phase-out at
substantially reduced revenues and earnings.



Our cash flows from operating activities of continuing
operations increased by 11.1% to $151.9 million and were mainly attributable to
the increase in net income.  In March 2003, we issued $115.0 million aggregate
principal amount of 21⁄4% senior convertible debentures due March 15, 2023, paid
off our old credit facility balance and obtained a new $65 million revolving
credit facility, which we have not yet utilized.  The senior convertible
debentures can be converted into 6.3 million shares of our common stock at a
price of $18.29 per share.  To help compensate for the potential dilution of the
senior convertible debentures, we purchased, as of December 31, 2003, at
prevailing prices in the open market by block purchase or private transactions,
5.3 million shares at an average cost of $18.66 per share.  In January 2004, we
obtained an amendment to our credit facility to allow for up to $60 million of
additional purchases of our common stock and as of March 1, 2004, we have
purchased an additional 708,000 shares for $22.6 million.



Discontinued Operations.  During the third quarter of
2001, we announced our plan to exit the Texas HMO health care market and
received formal approval from the Texas Department of Insurance to withdraw our
HMO operations in mid-October 2001.  We ceased providing HMO health care
coverage in Texas on April 17, 2002.   As part of our plan to exit Texas, in the
third quarter of 2001, we recorded a charge of $17.1 million for premium
deficiency costs, the write down of certain assets, legal and restitution costs,
and various other exit related costs.



We elected to early adopt Statement of Financial Accounting
Standards No. 144, "Accounting for the Impairment or Disposal of Long-Lived
Assets" or SFAS No. 144, effective January 1, 2001.  In accordance with
SFAS No. 144, beginning January 1, 2001, our Texas HMO health care operations
were reclassified and presented as discontinued operations.



On January 15, 2003, we announced that we were exploring
strategic alternatives to dispose of CII.  Sierra's Board of Directors approved
the sale of the operations on December 31, 2002.  Accordingly, beginning in the
fourth quarter of 2002, we reclassified our workers' compensation insurance
business as discontinued operations.



In conjunction with the decision to sell the workers'
compensation operations at the end of 2002, CII recorded valuation adjustments
of $17.3 million, $11.3 million after tax, to reduce this business to its
estimated net realizable value upon disposition.  The valuation adjustments
included the write down of accounts receivable, fixed assets and certain other
assets of $4.0 million, and additional loss reserves of $8.3 million for the 2002
accident year and $5.0 million for prior accident years.



In the second quarter of 2003, we recorded $4.0 million, $2.6
million after tax, in additional valuation adjustments.  On November 25, 2003,
we announced that we had reached an agreement to sell California Indemnity
Insurance Company, or Cal Indemnity, and its subsidiaries.  Cal Indemnity is a
wholly-owned subsidiary of CII and is CII's only significant asset. As part of
the purchase agreement, Cal Indemnity and its subsidiaries have stopped issuing
new or renewal policies except in Nevada. The buyer intends to

34

place Cal Indemnity and its subsidiaries in run-off.  An independent third party claims
administrator has been engaged to administer the claims when the transaction is
consummated.  The transaction was initially valued at $79.5 million, consisting
of $15.5 million payable at closing and a contingent payment of $64.0 million
which will be payable in 2010.  The cash payable at closing is subject to
certain adjustments and the contingent payment can be increased or decreased
based upon favorable or adverse loss and allocated loss adjustment expense
development from closing through December 2009.  We have currently estimated
that the adjustments will reduce the net sales proceeds to approximately $73
million.  In the fourth quarter of 2003, we recorded a charge of $15.6 million,
gross and net of tax, to write down the investment in Cal Indemnity to its
estimated net sales proceeds.  The sale is subject to regulatory approvals and
is expected to close by April 30, 2004.



Results of Operations



The following table sets forth selected operating data as a
percentage of revenues for the periods indicated:

`Years Ended December 31,
                                                      ----------------------------------
                                                         2003        2002        2001
                                                      ----------  ----------  ----------
OPERATING REVENUES:
     Medical Premiums...............................       64.8 %      67.1 %      65.2 %
     Military Contract Revenues.....................       31.3        29.2        30.7
     Professional Fees..............................        2.5         2.4         2.6
     Investment and Other Revenues .................        1.4         1.3         1.5
                                                      ----------  ----------  ----------
        Total.......................................      100.0       100.0       100.0
                                                      ----------  ----------  ----------
OPERATING EXPENSES:
     Medical Expenses...............................       51.4        55.7        55.2
     Military Contract Expenses ....................       30.5        28.2        30.0
     General and Administrative Expenses............        9.2        10.5        11.1
                                                      ----------  ----------  ----------
        Total.......................................       91.1        94.4        96.3
                                                      ----------  ----------  ----------
OPERATING INCOME FROM CONTINUING
     OPERATIONS.....................................        8.9         5.6         3.7
INTEREST EXPENSE....................................       (0.4)       (0.6)       (1.4)
OTHER INCOME (EXPENSE), NET.........................         --          --        (0.2)
                                                      ----------  ----------  ----------
INCOME FROM CONTINUING OPERATIONS
     BEFORE INCOME TAXES ...........................        8.5         5.0         2.1
PROVISION FOR INCOME TAXES..........................       (3.0)       (1.7)       (0.7)
                                                      ----------  ----------  ----------
INCOME FROM CONTINUING OPERATIONS...................        5.5         3.3         1.4
LOSS FROM DISCONTINUED OPERATIONS...................       (1.3)       (0.5)       (1.1)
                                                      ----------  ----------  ----------
NET INCOME..........................................        4.2 %       2.8 %       0.3 %
                                                      ==========  ==========  ==========`

35

Year Ended December 31, 2003 Compared to 2002



Total Operating Revenues increased approximately
16.1% to $1.49 billion from $1.28 billion for 2002.



The change in operating revenues was comprised of the
following:

- An increase in medical premiums of $104.5
million
- An increase in military contract revenues of $91.7
million
- An increase in professional fees of $6.5 million
- An increase in investment and other revenues of $3.8
million



Medical Premiums from our HMO and managed indemnity
insurance subsidiaries increased from $857.7 million to $962.2 million, an
increase of $104.5 million or 12.2%. The increase in premium revenue reflects a
7.2% increase in Medicare member months (the number of months individuals are
enrolled in a plan), a 19.9% increase in Medicaid member months and a 4.8%
increase in commercial member months.  The growth in Medicare member months
contributes significantly to the increase in premium revenues as the Medicare
per member premium rates are more than three times higher than the average
commercial premium rate.



HMO and POS premium rates for renewing commercial groups
increased approximately 13% while the overall recorded per member per month
revenue increase, including new and continuing business, was approximately 11%.
Managed indemnity rates on renewing groups increased approximately 9%.  We did
not receive a Medicaid rate increase in 2002 or 2003.  The basic Medicare rate
increase received in 2003 was approximately 2.0%.  Our overall Medicare rate
increase was approximately 2.8% due primarily to an increase in the Social HMO
membership as a percentage of our total Medicare membership.



Effective January 2004, the Centers for Medicare and Medicaid Services, or CMS, has
adopted a new risk adjustment payment methodology for Medicare beneficiaries who
are enrolled in managed care programs, including the Social HMO. In addition,
CMS has revised the payment factors for the Social HMO members to
include a frailty adjuster that uses measures of functional impairment to
predict expenditures.  Under the new payment methodology, in 2004, we will be
paid 90% based on the current payment approach and 10% based on the new
approach.  The Social HMO program was due
to expire at the end of 2003; however CMS administratively extended the Social
HMO program for one year, through 2004.  If the Social HMO contract is not
renewed beyond 2004, we would seek to transfer the members into one of our
traditional Medicare plans.  This transfer would allow for the continuity of
care of our members but without the additional Social HMO specific benefits that
are currently available to them and the associated higher premiums we receive.
There are activities taking place on a federal level to continue the program,
but there is no guarantee at this time that the Social HMO contract will be
renewed beyond 2004.  Continued medical premium revenue growth is principally
dependent upon continued enrollment in our products and upon competitive and
regulatory factors.



Under the Medicare Prescription Drug, Improvement, and
Modernization Act of 2003, or MMA, and effective March 2004, we have calculated
that the MMA will increase our Medicare premium rates by over 15%.  The
increased funding must be used in one or more of the following ways: to reduce
beneficiary premiums; reduce beneficiary cost sharing; enhance benefits; placed
into a benefit stabilization fund; or used to retain providers or expand the
provider network as long as the provider network stabilization or enhancement
does not result in increased premiums, increased cost sharing or reduced
benefits.  We proposed to use the additional funding to enhance various plan
benefits, including a reduction in the

36

amount of Medicare Part B premium that our members pay to the Federal government, and to stabilize our provider
network.



Our commercial membership increased from 187,000 at December
31, 2002 to 202,000 at December 31, 2003.  In the first two months of 2004, we
have added almost 9,000 additional members.  Our commercial member retention was
approximately 95% for our January 2004 renewals, which represent approximately
50% of our total commercial membership.  The increase in commercial membership
during 2003 is primarily attributed to in-case growth, movement from
self-insured plans to our commercial products and new accounts.



Military Contract Revenues increased from $373.6
million to $465.3 million, an increase of $91.7 million or 24.6%. Included in
the total military contract revenues are incremental change order and bid price
adjustments for 2002 and 2003 of $149 million and $148 million, respectively.
The increase in revenue is the result of higher base contract revenue primarily
due to increased eligible beneficiaries from the call up of reservists in Region
1 and their family members who are eligible for the TRICARE program after 30
days and the positive impact of the first year of our contract extension, which
began June 2003.  The base monthly revenue under the contract extension is
higher than it was under the previous contract.  There were no final settlements
of bid price adjustments in 2002 or 2003.



SMHS completed the fifth year of a five-year contract in May
2003 and is in the first year of a contract extension.  In August 2002, the DoD
requested proposals for managed care services under the Next Generation TRICARE,
or T-Nex, contract.  We submitted our proposal in January 2003 for the T-Nex
North Region contract, which includes Region 1, as well as Michigan, Ohio,
Kentucky, Indiana, Illinois, Wisconsin, Virginia and North Carolina.  However,
in August 2003, the DoD awarded the T-Nex North Region contract to a competitor and
the General Accounting Office denied our protest of the award in December 2003.
The new contractor is scheduled to be operational in Region 1 on September 1,
2004 and the new contract would supersede the remainder of our current TRICARE
Region 1 contract.  After the new contractor is operational on September 1,
2004, SMHS will commence a six-month phase-out of operations at prices
previously negotiated with the DoD.  SMHS does not meet the definition of
discontinued operations since we do not have plans to dispose of the operations
before the phase-out is complete.  For more detail on SMHS' results of
operations see Note 19, Segment Reporting, in the Notes to the
Consolidated Financial Statements.



Professional Fees increased from $30.9 million to
$37.4 million, an increase of $6.5 million, or 20.8% as a result of increased
visits due to membership growth, a higher percentage of members selecting our
owned medical group and an increase in related services performed by our other
provider subsidiaries.



Investment and Other Revenues increased from $16.4
million to $20.2 million, an increase of $3.8 million or 23.4%.  Investment
revenues increased due to higher average invested balances, an increase in net
gains on the sale of investments of $600,000 and an increase in revenues
associated with administrative services of $1.1 million.



Medical Expenses increased from $712.3 million to
$762.9 million, an increase of $50.6 million or 7.1%.  The increase is due
primarily to our increased membership, which is in part offset by a lower
medical care ratio.  This ratio, which is medical expenses as a percentage of medical premiums and
professional fees, decreased to 76.3% from 80.2%.  The favorable decrease in our
medical care ratio is due primarily to premium increases in excess of cost
increases, lower average cost per hospital bed day as a result of a new hospital
contract we entered into in the third quarter of 2002, favorable pharmacy costs
and favorable claims development from prior periods.  The favorable decrease was
partially offset by malpractice cost

37

increases at our medical provider subsidiary.  The number of days in claims payable, which is the medical claims payable balance
divided by the average medical expense per day for the period, at December 31, 2003 was 50.0 compared to 49.6 at December 31, 2002.



Our medical claims payable liability requires us to make
significant estimates.  Any changes to the estimates would be reflected in the
year the adjustments are made.  Included in medical expenses is favorable
development on prior years' estimates of $14.0 million and $10.9 million for the
years ended December 31, 2003 and 2002, respectively.  The favorable development
is a result of claims being settled for amounts less than originally
estimated.



We contract with hospitals, physicians and other independent
contracted providers of health care under capitated or discounted fee-for-
service arrangements, including hospital per diems, to provide medical care
services to members.  Capitated providers are at risk for a portion of the cost
of medical care services provided to our members in the relevant geographic
areas; however, we are ultimately responsible for the provision of services to
our members should the capitated provider be unable to provide the contracted
services.  We incurred capitation expenses of $101.8 million and $88.8 million,
or 13.3% and 12.5%, of our total medical expenses for 2003 and 2002,
respectively.



Military Contract Expenses increased from $360.4
million to $452.6 million, an increase of $92.2 million or 25.6%. The increase
is consistent with the increase in revenues discussed previously and includes
$9.4 million in T-Nex related costs for 2003 compared to $5.1 million in 2002. Health care delivery expense
consists primarily of costs to provide managed health care services to eligible
beneficiaries in accordance with Sierra's TRICARE contract.  Under the contract,
SMHS provides health care services to approximately 707,000 eligible individuals
of active duty military personnel, military retirees under the age of 65 and
dependents of military retirees through a network of approximately 49,700 health
care providers and certain other subcontractor partnerships.  Also included in
military contract expenses are costs incurred to perform specific administrative
services, such as health care appointment scheduling, enrollment, medical and
network management services as well as health care advice line services, and
other administrative functions of the military health care subsidiary. These
administrative services are performed for active duty personnel and family
members as well as retired military families.



Included in military contract expenses is favorable
development of prior years' estimates having an earnings impact of $3.2 million
and $4.6 million for the years ended December 31, 2003 and 2002, respectively.
In addition, favorable development of prior years estimates having a non-
earnings impact were $10.8 million and $16.5 million for 2003 and 2002,
respectively.  The non-earnings impact was offset by a reduction in military
contract revenues pursuant to the gain/loss risk-sharing with the government.
The favorable development was a result of claims being settled for amounts less
than originally estimated.



General and Administrative Expenses, or G&A,
increased from $134.0 million to $137.3 million, an increase of approximately
$3.3 million or 2.4%. G&A expenses increased due to increases in payroll and
benefits and facility lease expense partially offset by a decrease in legal
expenses.  The increase in facility lease expense is due to the rent payments
associated with the sale-leaseback transaction for our administrative buildings
now being recorded as an operating expense.  Previously, the rent payments were
recorded as interest and a reduction of principal and the assets were being
depreciated.  As a percentage of revenues, G&A expenses were 9.2% for 2003,
compared to 10.5% in 2002 as result of the items described above and the overall
increase in revenues.  As a percentage of medical premium revenue, G&A
expenses were 14.3% for 2003, compared to 15.6% for 2002 due to the overall
increase in medical premium revenue.

38

Interest Expense decreased from $7.7 million to $5.5
million, a decrease of approximately $2.2 million or 28.2%.  Interest expense
related to the sale-leaseback transaction decreased by approximately $2.8
million as the remaining buildings qualified as a sale during 2002.  The
decrease in the interest expense related to our revolving credit facility was
primarily offset by an increase in interest related to the new senior
convertible debentures.  We currently incur a fee of 0.375% on the unused
portion of our new revolving credit facility.



Other Income (Expense), Net



Provision for Income Taxes was recorded at $44.6
million for 2003 compared to $22.1 million for 2002. The effective tax rate for
2003 was 35.2% compared to 34.3% for 2002. Our effective tax rate is greater
than the statutory rate due primarily to an increase in state income taxes.



Discontinued Operations consist of our Texas HMO
health care operations and the CII workers' compensation operations. The net
loss from discontinued operations for 2003 was approximately $19.8 million
compared to $5.9 million for 2002.  The Texas HMO health care operations had net
income of approximately $3.1 million for 2003, which was offset by a net loss on
the CII workers' compensation operations of $22.9 million.



Discontinued Texas HMO health care operations. The income
from the Texas HMO health care operations for 2003 included a pre-tax gain on
the early payoff of the remaining Kaiser-Texas mortgage loan of $2.1 million, a
net decrease in litigation accruals of $3.0 million and, favorable development
in medical claim liabilities of $1.8 million partially offset by a loss on the
sale/write down of real estate of approximately $400,000 and other operating
expense and adjustments of $1.7 million. The combined adjustments resulted in
income from the discontinued Texas HMO health care operations of $4.8 million
pre-tax or net income of $3.1 million.



Discontinued CII workers' compensation operations.  The
discontinued workers' compensation operations for 2003 had a net loss of $22.9
million.  Net earned premiums decreased by $53.2 million or 30.2% due primarily
to a decrease in direct earned premiums of $48.4 million and an increase in
ceded reinsurance premiums of $5.7 million partially offset by an increase in
assumed premiums of approximately $900,000.

Investment and other revenue decreased by $3.3 million or
26.4% due to a decrease in the average investment yields during the period.



In conjunction with the decision to sell the workers'
compensation operations at the end of 2002, CII recorded valuation adjustments
of $17.3 million, $11.3 million after tax, to reduce this business to its
estimated net realizable value upon disposition.  The valuation adjustments
included the write down of accounts receivable, fixed assets and certain other
assets of $4.0 million, and additional loss reserves of $8.3 million for the 2002
accident year and $5.0 million for prior accident years.

In the second quarter of
2003, we recorded $4.0 million, $2.6 million after tax, in additional valuation
adjustments.  On November 25, 2003, we announced that we had reached an
agreement to sell Cal Indemnity and its subsidiaries.  In the fourth quarter of
2003, we recorded a charge of $15.6 million, gross and net of tax, to write down
the investment in Cal Indemnity to its estimated net sales proceeds.  We did not
recognize a tax benefit on the charge since our tax basis was less than our
investment in Cal Indemnity.  The sale is subject to regulatory approvals and is
expected to close by April 30, 2004.

39

Excluding the $15.6 million charge, expenses decreased in the
CII workers' compensation operations by approximately $65.8 million or 31.2%.
The decrease is primarily due to the following:



- In 2003, we recorded $16.9 million of net adverse loss
development for prior accident years compared to net adverse loss development of
$24.0 million recorded in 2002. The net adverse loss development recorded in
2003 was largely attributable to higher costs per claim, or claim severity, in
California, primarily on accident years 1997-2002 except 2000.  Higher claim
severity has had a negative impact on the entire California workers'
compensation industry in the past few periods and this trend may
continue.
- The loss and loss adjustment expense, or LAE, ratio for
the 2003 accident year compared to the 2002 accident year was lower by 7.0%,
which resulted in a decrease in loss and LAE of approximately $8.6 million.
The reduction is primarily related to our premium rate increases.
- A $42.1 million reduction in loss and LAE is related to
the decrease in net earned premiums in 2003 compared to 2002.
- The net decrease in underwriting expenses, policyholders'
dividends and other operating expenses was approximately $8.0 million and is
attributable to the lower premium revenue for the period.



The net adverse loss development on prior accident years
included those years that were covered by our reinsurance agreements.  This
resulted in an increase in the reinsurance recoverable balance, which was then
reduced by amounts collected from reinsurers. For the year ended December 31,
2003, we increased our ceded reserves by $40.9 million and received payments
from our reinsurers totaling $53.0 million.



The loss and LAE reserves recorded as of December 31, 2003
reflect our best estimate of the ultimate loss costs for reported and unreported
claims occurring in accident year 2003 as well as those occurring in accident
years prior to 2003.  Workers' compensation claim payments are made over several
years from the date of the claim.  Until the final payments for reported claims
are made, reserves are invested to generate investment income.



The combined ratio is a measurement of the workers'
compensation underwriting profit or loss and is the sum of the loss and LAE
ratio, underwriting expense ratio and policyholders' dividend ratio.  A combined
ratio of less than 100% indicates an underwriting profit.  Our combined ratio
was 118.9% compared to 119.6% for 2002.  The decrease was primarily due to a
decrease in the loss and LAE ratio. Excluding prior accident years' adverse loss
development, the combined ratio would have been 105.2% for 2003 and 106.0% for
2002.



New California workers' compensation insurance reform
legislation was signed into law in September 2003 to address some of the cost
drivers that have led to significantly higher workers' compensation insurance
premium rates over the past three years.  The Workers' Compensation Insurance
Rating Bureau, or WCIRB, has preliminarily indicated that the reform legislation
will reduce the 2004 loss costs by an average of 2.9% to 5.3%.  Prior to the
enactment of the legislation, the WCIRB had indicated that 2004 loss costs
should increase by an average of 12%.  We have not adjusted our reserving
methods and there is no assurance that our rates are adequate given the inherent
uncertainties in any new legislation.



In the wake of the events of September 11, 2001 and the
ensuing hardening of the reinsurance market, our new reinsurance agreements,
which cover new and renewal policies effective on and after January 1, 2003,
have reduced coverage limits and exclusions for terrorist acts.  We continue to
retain the first

40

$500,000 per occurrence but the maximum coverage has been reduced from statutory (i.e., unlimited) limits to $20.0 million per occurrence.
We also must meet certain annual aggregate deductibles before we can begin to
recover from some of our reinsurers.  This new coverage will result in our
retaining more of the losses and LAE.



Reinsurance contracts do not relieve us from our obligations
to injured workers or policyholders.  At December 31, 2003, we had $177.3
million in reinsurance recoverable.  We evaluate the financial condition of our
reinsurers to minimize our exposure to significant losses from reinsurer
insolvencies.  We also periodically review the financial strength ratings of our
reinsurers to determine if an allowance for uncollectible reinsurance is
warranted.  As of December 31, 2003, no allowance was established.  At December
31, 2003, all of our reinsurers were rated A- or better by Fitch Ratings
(7th of 23) and the A.M. Best Company (4th of 16).  Should
these companies be unable to perform their obligations to reimburse us for ceded
losses, we would experience significant losses.



Year Ended December 31, 2002 Compared to 2001



Total Operating Revenues increased approximately
15.9% to $1.28 billion from $1.10 billion for 2001.



The change in operating revenues was comprised of the
following:



- An increase in medical premiums of $138.7
million
- An increase in military contract revenues of $34.7
million
- An increase in professional fees of $1.9 million
- A decrease in investment and other revenues of
approximately $200,000



Medical Premiums from our HMO and managed
indemnity insurance subsidiaries increased from $719.0 million to $857.7
million, an increase of $138.7 million or 19.3%. The increase in
premium revenue reflects a 5.1% increase in Medicare member months (the number
of months individuals are enrolled in a plan), a 52.2% increase in Medicaid
member months and a 20.4% increase in commercial member months.  The growth in
Medicare member months contributes significantly to the increase in premium
revenues as the Medicare per member premium rates are more than three times
higher than the average commercial premium rate.



Military Contract Revenues increased from
$338.9 million to $373.6 million, an increase of $34.7 million or 10.2%. The
increase in revenue is primarily the result of additive change order work and is
significantly offset by increased military contract expenses associated with
those change orders.  In addition, the 2001 revenue included final bid price
adjustments on the first two completed option periods of the TRICARE Region 1
contract.  The final adjustments resulted in revenue reductions of approximately
$300,000 for Option Period 1 (June 1998 to May 1999), which is 0.2% of the final
revenue settlement amount for that period and $1.8 million for Option Period 2
(June 1999 to May 2000), which is 0.9% of the final revenue settlement amount
for that period. The impact on the 2001 net income for the final bid price
adjustments for the first two completed option periods, net of corresponding
expense adjustments noted below, was a reduction of $1.0 million.  There were no
final settlements of bid price adjustments in 2002.



The DoD fiscal year 2001 budget included several sweeping
changes to the TRICARE program.  In April 2001, SMHS began implementation of a
prescription drug program for beneficiaries over age 65.  Likewise, in October
2001, SMHS implemented TRICARE for Life, which is a comprehensive health care
benefit to those retired military beneficiaries age 65 and over.  Both of these
modifications resulted from

41

Congressional changes to the program.  SMHS administers the expanded benefits only to the over age 65 retiree military
population.  SMHS does not directly fund claims payment or bear any health care
underwriting risk on these program modifications for the actual level of health
care service utilization and does not record any claim payments or related
revenue on these program modifications.



Professional Fees increased from $29.0 million
to $30.9 million, an increase of $1.9 million or 6.7% as a result of higher
average co-pays and increased visits at our provider subsidiaries.



Investment and Other Revenues decreased from
$16.6 million to $16.4 million, a decrease of approximately $200,000 or 1.3% due
primarily to a decrease in the average investment yield during the period offset
by an increase in the average invested balance.



Medical Expenses increased from $608.8 million
to $712.3 million, an increase of $103.5 million or 17.0% due primarily to our
increased membership. Medical expenses, as a percentage of medical premiums and
professional fees, decreased to 80.2% from 81.4%.  The decrease is primarily due
to premium yields in excess of cost and utilization increases and favorable
claims development from prior periods, which were partially offset by higher bed
days in 2002.  Included in medical expenses is favorable development on prior
years' estimates of $10.9 million and $7.5 million for the years ended December
31, 2002 and 2001, respectively.  The favorable development is a result of
claims being settled for amounts less than originally estimated.



Military Contract Expenses increased from
$331.6 million to $360.4 million, an increase of $28.8 million or 8.7%. The
increase is consistent with the increase in revenues discussed previously. In
addition, the 2001 contract expenses included final bid price adjustments on the
first two completed option periods of the TRICARE Region 1 contract.  The final
adjustments resulted in a contract expense increase of approximately $600,000
for Option Period 1, which is 0.3% of the final contract expense settlement
amount for that period and a contract expense reduction of $1.2 million for
Option Period 2, which is 0.6% of the final contract expense settlement amount
for that period.  There were no final settlements of bid price adjustments in
2002.



Included in military contract expenses are favorable
development of prior years' estimates having an earnings impact of $4.6 million
for the year ended December 31, 2002 and unfavorable development on prior years'
estimates having an earnings impact of $2.1 million for the year ended December
31, 2001.  In addition, favorable development of prior years estimates having a
non-earnings impact were $16.5 million and $11.9 million for 2002 and 2001,
respectively.  The non-earnings impact was offset by a reduction in military
contract revenues pursuant to the gain/loss risk-sharing with the government.
The favorable development was a result of claims being settled for amounts less
than originally estimated.



General and Administrative Expenses, or
G&A, increased from $122.6 million to $134.0 million, an increase of $11.4
million or 9.3%.  As a percentage of revenues, G&A expenses were 10.5% for
2002, compared to 11.1% in 2001.  As a percentage of medical premium revenue,
G&A expenses were 15.6% for 2002, compared to 17.1% for 2001.



Interest Expense decreased from $15.7 million
to $7.7 million, a decrease of $8.0 million or 51.4%. Interest expense related
to the revolving credit facility decreased $3.7 million due to a decrease in the
average balance of outstanding debt during the period and a decrease in the
weighted average cost of borrowing. Our average interest rate on the revolving
credit facility, excluding the amortization of deferred financing fees, our
interest rate swap agreement and fees on the unused portion of the credit
facility was 4.6% in 2002, compared to 8.1% in 2001.  We incurred a fee of 0.5%
on the unused portion of the

42

revolving credit facility.  Interest expense related to the sale-leaseback transaction decreased by $4.9 million as the
remaining buildings qualified as a sale during 2002.  We had various increases
in interest expense of approximately $600,000.



Other Income (Expense), Net increased $2.2 million
primarily due to a net loss on sale of assets of $2.3 million in 2001.



Provision for Income Taxes was recorded at
$22.1 million for 2002 compared to $7.2 million for 2001. The effective tax rate
for 2002 was 34.3% compared to 31.6% for 2001. Our ongoing effective tax rate is
less than the statutory rate due primarily to tax preferred investments.



Discontinued Operations consist of our Texas
HMO health care operations and the CII workers' compensation operations.   The
loss from discontinued operations for 2002 was $5.9 million compared to $12.0
million for 2001.  The Texas HMO health care operations had a gain of $8.5
million for 2002, which was offset by a loss on the CII workers' compensation
operations of $14.4 million.



Discontinued Texas HMO health care operations.  The
gain from the Texas HMO health care operations for 2002 included gains, net of
tax, related to reserves and accrued liabilities of $5.9 million and to real
estate of $2.6 million.  During 2002, we had favorable development in both
medical claims and legal, restitution and other exit related costs.  As a
result, we reduced our estimate for medical claims payable by $4.8 million and
our legal, restitution and other exit related costs by $4.2 million.  The
adjustments resulted in income, net of tax, from the discontinued Texas HMO
health care operations of $5.9 million.



During 2002, TXHC sold four real estate properties and a
piece of land, which resulted in a gain, net of tax, on the sale of
approximately $700,000.  In conjunction with the sales, we were required, under
the terms of the mortgage loan agreement, to pay pre-determined minimum amounts
of the mortgage note.  Since the principal payments resulted in a reduction of
future interest, future accrued interest was reduced and a gain, net of tax, of
$1.9 million was recorded.



Discontinued CII workers' compensation operations.
The discontinued workers' compensation operations for 2002 had a loss of $14.4
million compared to a profit of $2.0 million in 2001. The 2002 results included
valuation adjustments of $17.3 million, or $11.3 million after tax. Net earned
premiums increased by $3.0 million or 1.7% due primarily to a decrease in ceded
reinsurance premiums of $12.9 million that was partially offset by a $9.9
million decrease in gross earned premiums.  Gross written premiums decreased by
$10.7 million due primarily to reduced California premium writings.



Expenses increased in the CII workers' compensation
operations by approximately $26.3 million or 14.3%. The increase in expenses is
primarily due to the following:



- In conjunction with the decision to dispose of the
workers' compensation operations, CII recorded valuation adjustments, which
included the write down of accounts receivable, fixed assets and certain other
assets of $3.5 million and an increase in loss and LAE reserves of $13.3
million.
- Approximately $2.3 million in additional loss and LAE was
related to the increase in net earned premiums in 2002 compared to
2001.
- In 2002, we recorded $24.0 million of net adverse loss
development for prior accident years compared to net adverse loss development of
$8.7 million recorded in 2001.  Of the $24.0 million recorded, $1.4 million is
related to our mandatory participation in assumed reinsurance pools and $5.0
million was recorded in conjunction with the valuation adjustments described
above.  The net 43

adverse loss development recorded was largely attributable to higher costs per claim, or claim severity, in California, primarily on accident
years 1996, 1997, 2000 and 2001.
- The loss and LAE ratio for the 2002 accident year was
higher by 3.0% which resulted in an increase of approximately $5.3 million in
additional losses including the $8.3 million recorded as part of the valuation
adjustments.  Excluding the valuation adjustment, which represents 4.7% of net
earned premiums, the 2002 accident year loss and LAE ratio would have been 1.7%
less than the 2001 accident year loss ratio.  The decrease is due to the higher
premium rates, which were substantially offset by higher estimated average
incurred claims.
- The net decrease in underwriting expenses, policyholders'
dividends and other operating expenses, excluding the valuation adjustments, was
approximately $100,000.



The net adverse loss development on prior accident years
included those years that were covered by our low level reinsurance agreement.
This resulted in an increase in the reinsurance recoverable balance, which is
then reduced by amounts collected from reinsurers.  During the year ended
December 31, 2002, we increased our ceded reserves by $45.9 million and received
payments from our reinsurers totaling $74.6 million.



The combined ratio is a measurement of the workers'
compensation underwriting profit or loss and is the sum of the loss and LAE
ratio, underwriting expense ratio and policyholders' dividend ratio.  A combined
ratio of less than 100% indicates an underwriting profit.  Our combined ratio,
net of valuation adjustments of 9.6%, was 110.0% compared to 106.1% for 2001.
The increase was primarily due to increased net adverse loss development for
prior accident years. Excluding valuation adjustments and prior accident years'
adverse loss development, the combined ratio would have been 99.3% for 2002 and
101.1% for 2001.



LIQUIDITY AND CAPITAL RESOURCES



We had cash flows from operating activities for continuing
operations of $151.9 million for the year ended December 31, 2003 compared to
$136.6 million in 2002. We used the majority of the cash flow for the repurchase
of the Company's common stock and for capital expenditures.  The improvement in
cash flows from continuing operations over 2002 is primarily attributable to
cash from earnings and the change in operating assets and liabilities.



The cash flow resulting from the change in operating assets
and liabilities of $49.5 million was primarily due to the following:



- a source of cash due to the decrease in the deferred tax
asset balance of $32.7 million
- a source of cash due to the increase in medical claims
payable of $5.7 million
- a source of cash due to the increase in other liabilities
of $9.0 million
- a source of cash due to the increase in other current
liabilities of $21.3 million
- a source of cash due to the increase in military health
care payable balance of $11.4 million
- a use of cash due to the increase in other assets of $7.4
million
- a use of cash due to the increase in other current assets
of $19.1 million
- various other changes in assets and liabilities
accounting for the remaining use of cash of $4.1 million



SMHS receives monthly cash payments equivalent to one-twelfth
of its annual contractual price with the Department of Defense, or DoD.  SMHS
accrues health care revenue on a monthly basis for any monies

44

owed above its monthly cash receipt based on the number of at-risk eligible beneficiaries and
the level of military direct care system utilization.  The contractual bid price
adjustment, or BPA, process serves to adjust the DoD's monthly payments to SMHS,
because the payments are based in part on 1996 DoD estimates for beneficiary
population and beneficiary population baseline health care cost, inflation and
military direct care system utilization.  As actual information becomes
available for the above items, quarterly adjustments are made to SMHS' monthly
health care payment in addition to lump sum adjustments for past months.  In
addition, SMHS accrues change order revenue for DoD directed contract changes.
Our business and cash flows could be adversely affected if the timing or amount
of the BPA and change order reimbursements vary significantly from our
expectations.



The loss of the T-Nex contract will adversely affect our cash
flow from operations starting in the fourth quarter of 2004.  During the
phase-out period, we expect that SMHS will have negative cash from operations as the
payout of the remaining liabilities will exceed SMHS' accounts receivable
balance.



Net cash used for investing activities of continuing
operations during 2003 included $21.8 million in capital expenditures associated
with the continued implementation of new computer systems, leasehold
improvements on facilities, furniture and equipment and other capital purchases
to support our growth.  This was offset by net proceeds of $3.3 million from
property and equipment dispositions.  The net cash change in investments for the
year was an increase in investments of $12.5 million as investments were
purchased with available funds.



Net cash used for financing activities of continuing
operations during 2003 included net payments of $60.7 million on debt related
items offset by $115.0 million in proceeds from the sale of our senior
convertible debentures and $1.5 million from proceeds of other long-term debt.
These proceeds were offset by debt issue costs of $5.8 million.  Proceeds from
the issuance of stock in connection with stock plans were $19.2 million.  We
used cash of $99.5 million to purchase treasury stock.



On December 28, 2000, the majority of our Las Vegas, Nevada
administrative and medical clinic real estate holdings were sold in a
sale-leaseback transaction.  As part of the transaction, a portion of the sales price
was financed with mortgage notes receivable of $22.2 million and deposits of
$4.3 million were provided.  In accordance with Statement of Financial
Accounting Standards No. 98, "Accounting for Leases", or SFAS No. 98,
we recorded the transaction as a financing obligation of $113.7 million offset
by the mortgage notes receivable of $22.2 million.  As of September 30, 2002, we
had received the deposits back and full payment of the outstanding mortgage
obligations.  The payments cured the continuing involvement criteria from SFAS
No. 98 and the transaction then qualified as a sale.



Discontinued operations used cash of $17.8 million in 2003,
compared to $47.9 million in 2002. Cash used in 2003 was primarily for the
payoff of the remaining Kaiser-Texas mortgage loan for $12.9 million and the
redemption of the outstanding 91⁄2% senior debentures for $15.3 million.  Cash
used in 2002 was primarily for the run-out of claims and other legal and
restitution related items. Based on the current estimated Texas HMO health care
run-out costs and recorded reserves, we believe we have adequate funds available
and the ability to invest, should we be required to do so, adequate funds in
Texas to meet the anticipated obligations for our former members' health care
claims.



Sierra Debentures



In March 2003, we issued $115.0 million aggregate principal
amount of 21⁄4% senior convertible debentures due March 15, 2023.  The debentures
pay interest, which is due semi-annually on March 15 and September 15 of each
year.  Each $1,000 principal amount of debentures is convertible, at the option

45

of the holders, into 54.6747 shares of Sierra Health Services, Inc., common
stock prior to March 15, 2023 if (i) the market price of our common stock for at
least 20 trading days in a period of 30 consecutive trading days ending on the
last trading day of the preceding fiscal quarter exceeds 120% of the conversion
price per share of our common stock; (ii) the debentures are called for
redemption; (iii) there is an event of default with respect to the debentures;
or (iv) specified corporate transactions have occurred.  The conversion rate is
subject to certain adjustments.  This conversion rate initially represents a
conversion price of $18.29 per share.  Holders of the debentures may require us
to repurchase all or a portion of their debentures on March 15 in 2008, 2013 and
2018 or upon certain corporate events including a change in control.  In either
case, we may choose to pay the purchase price of such debentures in cash or
common stock or a combination of cash and common stock.  The debentures can be
redeemed by us for cash beginning on or after March 20, 2008.



The debentures were sold to Banc of America Securities LLC,
Credit Lyonnais Securities (USA), Inc., and U.S. Bancorp Piper Jaffray, in
reliance upon the exemption afforded by Section 4(2) of the Securities Act, and
were offered and resold to "qualified institutional buyers" under Rule 144A of
the Securities Act. We filed a registration statement under the Securities Act
to permit registered resales of the debentures and the common stock into which
the debentures are convertible.  The Securities and Exchange Commission declared
this registration statement effective on August 29, 2003.



The aggregate offering price of the debentures was $115.0
million, 100% of the principal amount thereof.  The purchase price paid to the
Company by the initial purchasers was the initial offering price less a discount
of $3.5 million or 3.0% of the principal amount of the debentures.  The Company
used the net proceeds of the offering to repay the $39.0 million outstanding
under the then existing credit facility and to contribute $35.0 million to SMHS.
The Company also used $19.9 million of the proceeds to purchase 1.6 million
shares of the Company's common stock under its repurchase program. The remainder
of the net proceeds were used for working capital and general corporate purposes
including additional share repurchases.



Revolving Credit Facility



On March 3, 2003, we entered into a new $65.0 million
revolving credit facility, which replaced the amended and restated credit
facility.  The new facility may be increased up to an aggregate amount of $125.0
million upon receipt of new commitments from existing or additional lenders.
Interest on the facility was initially LIBOR plus 2.25% and is currently LIBOR
plus 2.00%.  The facility will expire on April 30, 2006, but can be extended, at
the sole discretion of each of the lenders, until March 3, 2008.  The new
facility is available for general corporate purposes.  We have not yet utilized
this facility.



The new credit facility is secured by guarantees by certain
of our subsidiaries and a first priority perfected security interest in (i) all
the capital stock of each of our unregulated, material domestic subsidiaries
(direct or indirect) as well as all of the capital stock of certain regulated,
material domestic subsidiaries; and (ii) all other present and future assets and
properties of ours and those of our subsidiaries that guarantee our credit
agreement obligations (including, without limitation, accounts receivable,
inventory, real property, equipment, contracts, trademarks, copyrights, patents,
license rights and general intangibles) subject, in each case, to the exclusion
of the capital stock of CII Financial, Inc., or any of its subsidiaries and
certain other exclusions.



The new revolving credit facility has covenants that limit
our ability and the ability of our subsidiaries to dispose of assets, incur
indebtedness, incur other liens, make investments, loans or advances, make
acquisitions, engage in mergers or consolidations, repurchase our common stock
or make capital

46

expenditures and otherwise restricts certain corporate activities.  In addition, we are required to comply with specified financial
ratios as set forth in the new credit agreement.  We believe that we are in
compliance with all covenants of the new credit agreement.



Sierra Share Repurchase Program



As of December 31, 2003, our Board of Directors had
authorized a program for the repurchase of up to 7.6 million shares of our
common stock.  Through December 31, 2003, we had purchased, at prevailing prices
in the open market by block purchase or private transactions, 5.3 million shares
for $99.5 million.  As of December 31, 2003, we had Board authorization to
purchase approximately 2.3 million shares of common stock.



Our new revolving credit facility, as amended, allows for
additional stock repurchases of up to $60 million during the remainder of 2004.
As of March 1, 2004, the Company has repurchased an additional 708,000
shares for $22.6 million.



Statutory Capital and Deposit Requirements



Our HMO and insurance subsidiaries are required by state
regulatory agencies to maintain certain deposits and must also meet certain net
worth and reserve requirements.  The HMO and insurance subsidiaries, including
the discontinued operations, had restricted assets on deposit in various states
totaling $36.5 million at December 31, 2003. The HMO and insurance subsidiaries
must also meet requirements to maintain minimum stockholders' equity, on a
statutory basis, as well as minimum risk-based capital requirements, which are
determined annually.  Additionally, in conjunction with the Kaiser-Texas
acquisition, TXHC entered into a letter agreement with the Texas Department of
Insurance whereby TXHC agreed to maintain a net worth of $20.0 million, on a
statutory basis, until certain income levels were achieved.  In conjunction with
the exit from the Texas HMO health care market, the Texas Department of
Insurance approved a plan of withdrawal and TXHC is now required to maintain
deposits of $1.5 million and net worth of at least $3.5 million. We believe we
are in material compliance with our regulatory requirements.



Of the $177.2 million in cash and cash equivalents held at
December 31, 2003, including discontinued operations, $58.7 million was held by
discontinued operations and of the remainder, $51.5 million, was designated for
use only by the regulated subsidiaries.  Amounts are available for transfer to
the holding company from the HMO and insurance subsidiaries only to the extent
that they can be remitted in accordance with the terms of existing management
agreements and by dividends. The holding company will not receive dividends from
its regulated subsidiaries if such dividend payment would cause violation of
statutory net worth and reserve requirements.



Obligations and Commitments

The following schedule
represents our obligations and commitments for long-term debt, capital leases
and operating leases at December 31, 2003.  The amounts presented below include
all future payments associated with each obligation including interest expense.

47

`Long-
                                           Term        Capital     Operating
                                           Debt         Leases      Leases      Total
                                        -----------  ------------  ---------  ---------
                                                          (In thousands)
Continuing Operations
Payments due in less than 1 year...... $     2,684  $        117  $  21,384  $  24,185
Payments due in 1 to 3 years..........       5,368           144     40,171     45,683
Payments due in 4 to 5 years..........       6,146           101     36,408     42,655
Payments due after 5 years............     148,918           123    117,471    266,512
                                        -----------  ------------  ---------  ---------
     Total Continuing Operations...... $   163,116  $        485  $ 215,434  $ 379,035
                                        ===========  ============  =========  =========
Discontinued Operations
Payments due in less than 1 year...... $        --  $        235  $     777  $   1,012
Payments due in 1 to 3 years..........          --            --      1,388      1,388
Payments due in 4 to 5 years..........          --            --        969        969
Payments due after 5 years............          --            --         --         --
                                        -----------  ------------  ---------  ---------
     Total Discontinued Operations.... $        --  $        235  $   3,134  $   3,369
                                        ===========  ============  =========  =========`

Other



We have a 2004 capital budget of $16.9 million and are also
limited in the amount of capital expenditures we can purchase by our new
revolving credit facility.  The 2004 planned expenditures are primarily for a
new medical clinic, the purchase of computer hardware and software, furniture
and equipment and other normal capital requirements.  Our liquidity needs over
the next 12 months will primarily be for the capital items noted above and debt
service.  We believe that our existing working capital, operating cash flow and,
if necessary, equipment leasing, divestitures of certain non-core assets and
amounts available under our credit facility should be sufficient to fund our
capital expenditures and debt service.  Additionally, subject to unanticipated
cash requirements, we believe that our existing working capital and operating
cash flow should enable us to meet our liquidity needs on a long-term basis.



At December 31, 2002, our Chief Executive Officer, or CEO,
had loans outstanding to us in the amount of $4.2 million with a maturity date
of December 31, 2003. During 2003, our CEO paid the entire outstanding balance
including accrued interest.



Inflation



Health care costs continue to rise at a rate faster than the
Consumer Price Index.  We use various strategies to mitigate the negative
effects of health care cost inflation, including setting commercial premiums
based on our anticipated health care costs, risk-sharing arrangements with our
various health care providers and other health care cost containment measures
including member co-payments.  There can be no assurance, however, that in the
future, our ability to manage medical costs will not be negatively impacted by
items such as technological advances, competitive pressures, applicable
regulations, increases in pharmacy costs, utilization changes and catastrophic
items, which could, in turn, result in medical cost increases equaling or
exceeding premium increases.

48

Government Regulation



Our business, offering health care coverage, health care
management services, workers' compensation programs and, to a lesser extent, the
delivery of medical services, is heavily regulated at both the federal and state
levels.



Government regulation of health care coverage products and
services is a dynamic area of law that varies from jurisdiction to jurisdiction.
Amendments to existing laws and regulations are continually being considered and
interpretation of the existing laws and rules changes from time to time.
Regulatory agencies generally exercise broad discretion in interpreting laws and
promulgating regulations to enforce their interpretations.



While we are unable to predict what legislative or regulatory
changes may occur or the impact of any particular change, our operations and
financial results could be negatively effected by any legislative or regulatory
requirements.  For example, any proposals to eliminate or reduce the Employee
Retirement Income Security Act, or ERISA, which regulates insured and self-
insured health care coverage plans offered by employers, pre-emption of state
laws that would increase litigation exposure, affect underwriting practices,
limit rate increases, require new or additional benefits or affect contracting
arrangements (including proposals to require HMOs and PPOs to accept any health
care provider willing to abide by an HMO's or PPO's contract terms) may have a
material adverse effect on our business.  The continued consideration and
enactment of "anti-managed care" laws and regulations by federal and
state bodies may make it more difficult for us to manage medical costs and may
adversely affect financial results.

In addition to changes in existing laws and regulations, we
are subject to audits, investigations and enforcement actions.  These include
possible government actions relating to ERISA, the Federal Employees Health
Benefit Plan, or FEHBP, federal and state fraud and abuse laws and laws relating
to utilization management and the delivery and payment of health care.  In
addition, our Medicare business is subject to Medicare regulations promulgated
by CMS.  Violation of government laws and regulations may result in an
assessment of damages, civil or criminal fines or penalties, or other sanctions,
including exclusion from participation in government programs.  In addition,
disclosure of any adverse investigation or audit results or sanctions could
negatively affect our reputation in various markets and make it more difficult
for us to sell our products and services.



In addition to the items described above, we urge you to
review carefully the section "Risk Factors" in Part 1, Item 1 of this
2003 Form 10-K for a more complete discussion of the risks associated with an
investment in our securities.  See "Note on Forward-Looking Statements and
Risk Factors" under Item 1.



Recently Issued Accounting Standards



In April 2003, the FASB issued Statement of Financial
Accounting Standards No. 149, "Amendment of Statement 133 on Derivative
Instruments and Hedging Activities" ("SFAS No. 149"), which amends and clarifies
financial accounting and reporting for derivative instruments, including certain
derivative instruments embedded in other contracts and for hedging activities
under SFAS No. 133.  SFAS No. 149 is effective for contracts entered into or
modified after June 30, 2003, except for the provisions that were cleared by the
FASB in prior pronouncements. The adoption of SFAS No.149 did not have a
material effect on our consolidated financial position or results of
operations.



In December 2003, the FASB, issued Statement of Financial
Accounting Standards No. 132 (Revised 2003), "Employers' Disclosures about
Pensions and Other Postretirement Benefits, an amendment of

49

FASB Statements No. 87, 88 and 106" or Revised SFAS No. 132.  Revised SFAS No. 132 retains the
disclosure requirement contained in the original FASB Statement No. 132,
"Employers' Disclosures about Pensions and Other Postretirement
Benefits", which it replaces.  The statement also requires additional
disclosures to those in the original FASB Statement No. 132 about the assets,
obligations, cash flows, and net periodic benefit cost of defined benefit
pension plans and other postretirement plans.  See Note 15 for disclosure on our
defined benefit plan.



Critical Accounting Policies and Estimates



Our consolidated financial statements have been prepared
in conformity with accounting principles generally accepted in the United States
of America.  In preparing these financial statements, we are required to make
judgments, assumptions and estimates, which we believe are reasonable and
prudent based on the available facts and circumstances.  These judgments,
assumptions and estimates affect certain of our revenues and expenses and their
related balance sheet accounts and disclosure of our contingent assets and
liabilities.  We base our assumptions and estimates primarily on historical
experience and trends and factor in known and projected trends.  On an on-going
basis, we re-evaluate our selection of assumptions and the method of calculating
our estimates.  Actual results, however, may materially differ from our
calculated estimates and this difference would be reported in our current
operations.  The following discusses our most critical accounting policies and
estimates, which have been reviewed by the Audit Committee of our Board of
Directors.



Medical Premiums and Expenses.  Medical premium
revenues are recorded in the month when we are obligated to provide services to
our enrolled members.  Premiums received in advance of the coverage period are
recorded as unearned premiums.  Our premium revenues are net of an estimate for
an allowance for retroactive adjustments.  At December 31, 2003, our allowance
for retroactive adjustments for health care premium revenues was $2.2 million.
Retroactive adjustments result from changes in enrollments that relate to prior
periods due to delays in processing or reporting by employers.  We use
historical trends and known activities to estimate our premium allowances.  Any
subsequent difference between actual premium adjustments and previously
estimated premium adjustments would be reflected in that subsequent year's
operating results.



Health care medical expenses are recorded in the period when
services are provided to enrolled members, including estimates for provider
costs, which have been incurred as of the balance sheet date but not yet
reported to us.  We use a variety of standard actuarial projection methods to
make these estimates and we must use our judgment in selecting development
factors and assumed trends.  In making our projections, we consider medical cost
utilization and trends, changes in internal processes, the average interval
between the date services are rendered and the date claims are received and/or
paid, denied claims activity, disputed claims activity, utilization, seasonality
patterns and changes in membership.  Our assumptions could be affected by the
timing of the receipt of claims, the timing of processing claims and
unanticipated changes, such as adverse legal outcomes, legislative or regulatory
changes, new interpretations of existing laws or regulations or disputed
contract provisions that result in our having to provide new or extended
benefits and changes in our health care delivery system or costs.  Any
subsequent changes in an estimate for a prior year would be reflected in that
subsequent year's operating results.



Management believes, based on information presently
available, that the recorded liability for medical claims payable, which at
December 31, 2003, represented 10.6% of our total consolidated liabilities or
$103.7 million, is reasonable and adequate to cover future health care claim
payments.  However, a difference between the recorded liability and actual
developed claim payments could have a material

50

impact to our financial results.  For example, a 1% increase in medical claims payable as of December 31, 2003,
would reduce reported net income for the year 2003 by $674,000 or 1.1% and
diluted earnings per share would be reduced by $0.02.



Military Contract Revenues and Expenses.  Military
contract revenue is recorded based on the contract price as agreed to by the
federal government.  The contract was based on prior years' data provided by the
government along with assumptions of future trends.  The contract contains
provisions that adjust the contract price based on actual experience, which we
call the bid price adjustment, or BPA, and for government-directed change
orders.  For the year ended December 31, 2003, we estimate that approximately
$148 million or 32% of the total military contract revenues were for BPA and
change orders. At December 31, 2003, military accounts receivable due from the
federal government was $47.4 million of which approximately $9.9 million was for
accrued BPA and change order revenues.  As the data becomes available from the
government, we compare the actual results to the contract assumptions and the
estimated effects of these adjustments are recognized on a monthly basis.  In
addition, we record revenue based on estimates of the earned portion of any
contract change orders not originally specified in the contract.  The BPA and
government-directed change orders are subject to negotiation and we must use our
judgment in making our estimates.  The actual negotiated price could be
substantially different from what we had originally estimated.  Any subsequent
difference would be reported in that subsequent year's operations.



Military contract health care costs are recorded in the
period when services are provided to eligible beneficiaries, including estimates
for provider costs, which have been incurred as of the balance sheet date but
not reported to us.  We use a variety of actuarial projection methods to make
these estimates and we must use our judgment in selecting development factors
and assumed trends.  Our assumptions, which are in large part related to the
same assumptions we use in estimating military contract revenues, could be
affected by unanticipated changes, such as new interpretations of contract
provisions that result in our having to provide new or extended benefits and
changes in our health care delivery system or costs. We must also factor into
our assumptions the limited risk-sharing that we have with the government in
providing health care services.  Any substantial change in our estimates may to
a large degree be mitigated by the risk-sharing contract provision.  At December
31, 2003, our military health care payable was $76.6 million.  Any subsequent
changes in an estimate for a prior year would be reflected in that subsequent
year's operating results.



Investment Securities.  At December 31, 2003, we had
total investments for continuing operations of $215.2 million.  All of these
investments are classified as available-for-sale and are presented at fair
value. Except for restricted cash and investments, which totaled $17.6 million
at December 31, 2003, and are reported as non-current assets, the remainder of
these investments of $197.6 million are available to support current operations
and are therefore reported as current assets.



Our discontinued operations had total investments of $247.7
million of which $244.2 million was classified as available-for-sale and the
balance of $3.5 million was classified as held-to-maturity.  Held-to-maturity
investments are reported at amortized cost because we have the intent and
ability to hold these investments until they mature.



Unrealized investment gains and losses, net of related income
taxes, on the available-for-sale investments are included as a separate
component of stockholders' equity until realized.  Realized gains and losses are
calculated using the specific identification method and are included in
investment and other revenues.

51

We periodically review our investment portfolio to determine
if there is an impairment that is other than temporary.  We must use our
judgment in testing for impairment and we consider, among other factors, the
length of time and the extent of a security's unrealized loss, the financial
condition and near term prospects of the issuer, economic forecasts and market
or industry trends.  If the impairment is determined to be other than temporary,
a realized loss is recognized at the date of determination.  To date, we have
not experienced any significant impairments that were other than temporary in
our investments.  However, due to the current economic environment and the
volatility of the securities market, testing for impairment has become more
difficult and there is no assurance that future impairments may not be
sustained, which could adversely impact our business and results of operations.
For example, if an other than temporary impairment occurred that reduced our
total investments, including discontinued operations, by 1% at December 31,
2003, our reported net income for the year 2003 would be reduced by $3.0 million
or 4.8% and fully diluted earnings per share would be reduced by $0.10.



Litigation and Legal Accruals.  We are subject to
various claims and other litigation in the ordinary course of business.  Such
litigation includes, but is not limited to, claims of medical malpractice,
claims for coverage or payment for medical services rendered to HMO members and
claims by providers for payment for medical services rendered to HMO and other
members.  We may also face claims for punitive damages that are not covered by
insurance.  We are also subject to claims for workers' compensation and claims
by providers for payment for medical services rendered to injured workers.  With
respect to certain pending actions, we maintain commercial insurance coverage
with varying deductibles for which we maintain estimated reserves for our self-
insured portion based upon our current assessment of such litigation.  In
addition, we accrue estimated legal defense and other settlement costs based on
our assessment of the available information, including our outside legal
counsel's assessment of the case.  We also assess potential legal exposure,
based on currently available information, to determine if a precautionary notice
of potential claim should be reported to our insurers and if an accrual should
be established.



Workers' Compensation Loss and Loss Adjustment Expenses.
Discontinued operations' workers' compensation insurance losses and loss
adjustment expenses, or LAE, are based upon the accumulation of cost estimates
for reported claims occurring during the period as well as an estimate for
losses that have occurred but have not yet been reported.  Similar to the health
care medical expenses, we use a variety of standard actuarial projection methods
to make these estimates and we must use our judgment in selecting development
factors and assumed trends.  Unlike health care medical expenses, where the cost
to provide health care services is substantially completed within one year,
workers' compensation claims can be paid out over a substantial number of years
due to certain lifetime benefits.  In addition, the period between when a claim
is reported to us and when the injury occurred could be longer than one year and
when we are no longer insuring the account.  Loss and LAE reserves have a
significant degree of uncertainty when related to their subsequent payments.
Although our reserves are established on the basis of a reasonable estimate, it
is not only possible but also probable that our reserves will differ from their
related subsequent developments. Underlying causes for this uncertainty include,
but are not limited to, uncertainty in development patterns, unanticipated
inflationary trends affecting the cost of services covered by the insurance
contract, adverse legal outcomes and new interpretations of laws or regulations
or of disputed contract provisions that result in our having to provide new or
extended benefits.  This uncertainty can result in both adverse as well as
favorable development of actual subsequent activity when compared to the reserve
established.  During the past five years (1999-2003), we have had adverse
development in our previously recorded loss and LAE reserves that has ranged
from a low of $8.7 million to a high of $24.0 million.  Any subsequent change in
loss and LAE reserves established in a prior year would be reflected in that
subsequent year's operating results.

52

Management believes, based on information presently
available, that the recorded liability for loss and LAE reserves is reasonable
and adequate to cover future workers' compensation claim payments.  At December
31, 2003, loss and LAE reserves represented 87.9% of the liabilities of
discontinued operations and 42.2% of our total consolidated liabilities.  A
change between the recorded liability and actual developed claim payments could
have a material impact to our business and results of operations.  For example,
a 1% increase in loss and LAE reserves, not covered by reinsurance, as of
December 31, 2003, would reduce reported net income for the year 2003 by $2.7
million or 4.3% and diluted earnings per share would be reduced by $0.09.



Reinsurance Recoverable.  Included in the assets of
discontinued operations is reinsurance recoverable, which represents the
estimated amount of unpaid workers' compensation loss and LAE reserves that
would be recovered from our reinsurers and, to a lesser extent, amounts billed
to the reinsurers for their portion of paid losses and LAE.  Reinsurance
receivable for ceded paid claims is recorded in accordance with the terms of the
agreements and reinsurance recoverable for unpaid losses and LAE is estimated in
a manner consistent with the claim liability associated with the reinsurance
policy.  Any significant changes in the underlying claim liability could
directly affect the amount of reinsurance recoverable.  Reinsurance recoverable,
including amounts related to paid and unpaid losses, are reported as assets
rather than a reduction of the related liabilities.  Reinsurance contracts do
not relieve us from our obligations to enrollees, injured workers or
policyholders.  If our reinsurers were to fail to honor their obligations
because of insolvency, disputed contract provisions or for other reasons, we
could incur significant losses.  Prior to entering into reinsurance contracts,
we evaluate the financial condition of our reinsurers to minimize our exposure
to significant losses from reinsurer insolvencies.  In addition, we periodically
monitor the financial strength of our reinsurers to determine if an allowance
for uncollectible reinsurance recoverables is warranted.  To date, we have never
had to write-off a workers' compensation reinsurance recoverable balance and no
allowance for uncollectible amounts has been established.  At December 31, 2003,
reinsurance recoverable for workers' compensation was $177.3 million.  Any
subsequent change in reinsurance recoverable established in a prior year would
be reflected in that subsequent year's operating results.



Management believes, based on information presently
available, that the recorded balance for reinsurance recoverables is reasonable
and collectible.  A change between the recorded balance and the actual developed
recoverable could have a material impact to our business and results of
operations.  For example, a 1% decrease in reinsurance recoverables as of
December 31, 2003, would reduce reported net income for the year 2003 by $1.2
million or 1.8% and diluted earnings per share would be reduced by $0.04.



Deferred Tax Assets and Liabilities.  Deferred income
tax assets and liabilities result from temporary differences between the tax
basis of assets and liabilities and the reported amounts in the consolidated
financial statements that will result in taxable or deductible amounts in future
years.  Our temporary differences arise principally from certain net operating
losses, accrued expenses, reserves that are discounted for tax return purposes
and depreciation.  We regularly review our deferred tax assets for
recoverability based on historical taxable income, projected future taxable
income and the expected timing of the reversals of the existing temporary
differences.  A valuation allowance is established for those portions of the
deferred tax assets that we consider to be more likely than not unrealizable.
At December 31, 2003, our total deferred tax assets, including discontinued
operations, were $62.7 million and our total deferred tax liabilities were $5.4
million.



Management believes, based on information presently
available, that the recorded deferred tax assets are reasonable and recoverable.
A change between the recorded asset and the subsequently used deferred

53

tax asset could have a material impact to our business and results of operations.  For
example, a 1% decrease in the deferred tax asset as of December 31, 2003, could
reduce reported net income for the year 2003 by $623,000 or 1.0% and diluted
earnings per share would be reduced by $0.02.



Net Proceeds From the Sale of Cal Indemnity.  On
November 25, 2003, we entered into an agreement to sell Cal Indemnity and its
insurance subsidiaries.  The sale requires regulatory approval and is expected
to be completed by April 30, 2004.  The cash portion of the purchase price,
which will be paid when the agreement becomes effective, is subject to certain
adjustments that will not be determined until the transaction is consummated.
The value of certain assets will be subject to further adjustments at future
dates.  The contingent payment portion of the purchase price will be based on
the development that occurs on the loss and allocated loss adjustment expense
reserves from the consummation date through December 31, 2009.  In addition, we
will be obligated to perform, or be responsible for the performance of, certain
transition services through December 31, 2009 for which we will receive a
limited amount of funds for these services.



In the fourth quarter of 2003, we recorded a charge of $15.6
million, gross and net of tax, to write-down the investment in Cal Indemnity to
its estimated net sales proceeds of approximately $73 million.  We did not
recognize a tax benefit on the charge since our tax basis was less than our
investment in Cal Indemnity.  We used estimates and assumptions to project Cal
Indemnity's future operating results, the costs to perform transition services,
the funds to be received for transition services, the expected value of certain
assets, the development of loss and allocated loss adjustment expense reserves,
and the sales transaction costs.  Prior to the effective date, any change to the
net sales proceeds will be included in the results for discontinued operations.
After the effective date, any change to the net sales proceeds will be included
in operating results of continuing operations.  A change to the net sales
proceeds could have a material effect on our financial results.  For example, a
1% decrease in the net sales proceeds as of December 31, 2003, would have reduced
our reported net income for the year 2003 by $730,000 or 1.2% and diluted
earnings per share would be reduced by $.02.



Other.  In addition to the most critical accounting
policies and estimates discussed above, other areas requiring us to use
judgment, assumptions and estimates include, but are not limited to, workers'
compensation earned but unbilled premiums, contractual discounts on professional
fee revenue, allowances for doubtful receivables, other accrued liabilities,
accrued payroll and taxes, post-employment benefit liabilities, accrued
policyholders' dividends, unearned premium revenue and contingent assets and
liabilities.  For a more extensive discussion of our accounting policies, see
Note 2 in the Notes to the Consolidated Financial Statements.

54



ITEM 7a.   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK



We are exposed to market risk for the impact of interest rate
changes and changes in the market value of our investments.  We have not
utilized derivative financial instruments in our investment portfolio.



Our exposure to market risk for changes in interest rates
relates primarily to our investment portfolio and our long-term debt. As of
December 31, 2003, including discontinued operations, we have approximately
$640.1 million in cash and cash equivalents and current, long-term and
restricted investments.  Of the total investments of $462.9 million,
approximately $459.4 million are classified as available-for-sale and $3.5
million are classified as held-to-maturity. These investments are primarily in
fixed income investment grade securities.  Our investment policy emphasizes
return of principal and liquidity and is focused on fixed returns that limit
volatility and risk of principal.  Because of our investment policies, the
primary market risk associated with our portfolio is interest rate risk.



Assuming interest rates were to increase by a factor of 1.1,
the net hypothetical loss in fair value of stockholders' equity related to
financial instruments is estimated to be approximately $9.1 million after tax
(6.1% of total stockholders' equity).  Of the $9.1 million decrease, $4.6
million is related to our discontinued operations.  We believe that such an
increase in interest rates would not have a material impact on future earnings
or cash flows, as it is unlikely that we would need or choose to substantially
liquidate our investment portfolio.



The effect of interest rate risk on potential near-term net
income, cash flow and fair value was determined based on commonly used interest
rate sensitivity analyses.  The models project the impact of interest rate
changes on a wide range of factors, including duration and prepayment.  Fair
value was estimated based on the net present value of cash flows or duration
estimates, assuming an immediate 10% increase in interest rates.  Because
duration is estimated, rather than a known quantity, for certain securities,
other market factors may impact security valuations and there can be no
assurance that our portfolio would perform in line with the estimated
values.

55



ITEM 8.   FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INDEX TO FINANCIAL STATEMENTS



|                                                                                                               | Page
|-------------------------------------------------------------------------------------------------------------- | ----
|Management Report on Consolidated Financial Statements                                                         | 57  
|Independent Auditors' Report                                                                                   | 58  
|Consolidated Balance Sheets at December 31, 2003 and 2002                                                      | 59  
|Consolidated Statements of Operations for the Years Ended
      
   December 31, 2003, 2002 and 2001           | 60  
|Consolidated Statements of Stockholders' Equity
      
   for the Years Ended December 31, 2003, 2002 and 2001 | 61  
|Consolidated Statements of Cash Flows for the Years Ended
      
   December 31, 2003, 2002 and 2001           | 62  
|Notes to Consolidated Financial Statements                                                                     | 63  

56



MANAGEMENT REPORT ON CONSOLIDATED FINANCIAL STATEMENTS



The management of Sierra Health Services, Inc. is responsible
for the integrity and objectivity of the accompanying consolidated financial
statements.  The statements have been prepared in conformity with accounting
principles generally accepted in the United States of America applied on a
consistent basis and are not misstated due to fraud or material error.  The
statements include some amounts that are based upon the Company's best estimates
and judgment.



The accounting systems and controls of the Company are
designed to provide reasonable assurance that transactions are executed in
accordance with management's authorization, that the financial records are
reliable for preparing financial statements and maintaining accountability for
assets, and that assets are safeguarded against losses from unauthorized use or
disposition.  Management believes that for the year ended December 31, 2003,
such systems and controls were adequate to meet the objectives discussed
herein.



The accompanying consolidated financial statements have been
audited by independent certified public accountants, whose audits thereof were
made in accordance with auditing standards generally accepted in the United
States of America and included a review of internal accounting controls to the
extent necessary to design audit procedures aimed at gathering sufficient
evidence to provide a reasonable basis for their opinion on the fairness of
presentation of the consolidated financial statements taken as a whole.



The Audit Committee of the Board of Directors, comprised
solely of directors from outside the Company, meets regularly with management
and the independent auditors to review the work procedures of each.  The
independent auditors have free access to the Audit Committee, without management
being present, to discuss the results of their opinions on the adequacy of the
Company's accounting controls and the quality of the Company's financial
reporting.  The Board of Directors, upon the recommendation of the Audit
Committee, appoints the independent auditors, subject to stockholder
ratification.



/s/Anthony M. Marlon, M.D.
Chairman and Chief Executive Officer



/s/Paul H. Palmer
Senior Vice President, Finance
   Chief Financial Officer and Treasurer

57



INDEPENDENT AUDITORS'
REPORT



To the Board of Directors and Stockholders of
Sierra Health Services, Inc.:



We have audited the accompanying consolidated balance sheets
of Sierra Health Services, Inc. and its subsidiaries (the "Company")
as of December 31, 2003 and 2002, and the related consolidated statements of
operations, stockholders' equity and cash flows for each of the three years in
the period ended December 31, 2003.  Our audits also included the financial
statement schedules listed in the Index at Item 15 (a)(2).  These financial
statements and financial statement schedules are the responsibility of the
Company's management.  Our responsibility is to express an opinion on these
financial statements and financial statement schedules based on our audits.



We conducted our audits in accordance with auditing standards
generally accepted in the United States of America.  Those standards require
that we plan and perform the audit to obtain reasonable assurance about whether
the financial statements are free of material misstatement.  An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements.  An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation.  We believe that our
audits provide a reasonable basis for our opinion.



In our opinion, such consolidated financial statements
present fairly, in all material respects, the financial position of Sierra
Health Services, Inc. and its subsidiaries as of December 31, 2003 and 2002, and
the results of their operations and their cash flows for each of the three years
in the period ended December 31, 2003, in conformity with accounting principles
generally accepted in the United States of America.  Also, in our opinion, such
financial statement schedules, when considered in relation to the basic
consolidated financial statements taken as a whole, present fairly in all
material respects the information set forth therein.

As described in Note 20 to the notes to the consolidated financial statements, the Company adopted
Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets" as of January 1, 2002.

/s/DELOITTE & TOUCHE LLP
Las Vegas, Nevada
March 4, 2004

58



SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEETS
                           December 31, 2003 and 2002
                      (In thousands, except share data)

`2003          2002
                                                                       ------------  ------------
                               ASSETS                                                            
CURRENT ASSETS:
    Cash and Cash Equivalents........................................ $    118,473  $     45,778
    Investments......................................................      197,573       182,452
    Accounts Receivable (Less Allowance for Doubtful
         Accounts: 2003 - $7,342; 2002 - $10,626)....................       12,080        11,232
    Military Accounts Receivable (Less Allowance for Doubtful
         Accounts: 2003 and 2002 - $100).............................       47,389        47,126
    Current Portion of Deferred Tax Asset............................       33,708        50,402
    Prepaid Expenses and Other Current Assets........................       37,478        18,380
    Assets of Discontinued Operations................................      533,756       565,058
                                                                       ------------  ------------
         Total Current Assets........................................      980,457       920,428

PROPERTY AND EQUIPMENT, NET..........................................       63,109        64,868
RESTRICTED CASH AND INVESTMENTS......................................       17,646        17,557
GOODWILL (Less:  Accumulated Amortization $6,972)....................       14,782        14,782
DEFERRED TAX ASSET (Less Current Portion)............................       11,501        14,947
OTHER ASSETS.........................................................       46,626        33,384
                                                                       ------------  ------------
TOTAL ASSETS......................................................... $  1,134,121  $  1,065,966
                                                                       ============  ============
                                                                                                 
                LIABILITIES AND STOCKHOLDERS' EQUITY                                             
CURRENT LIABILITIES:
    Accrued Liabilities.............................................. $     56,327  $     50,349
    Trade Accounts Payable...........................................       37,787        29,249
    Accrued Payroll and Taxes........................................       15,879        13,660
    Medical Claims Payable...........................................      103,749        98,031
    Unearned Premium Revenue.........................................       45,888        40,758
    Military Health Care Payable.....................................       76,605        65,223
    Current Portion of Long-Term Debt................................          163           186
    Liabilities of Discontinued Operations...........................      472,407       500,720
                                                                       ------------  ------------
         Total Current Liabilities...................................      808,805       798,176

LONG-TERM DEBT (Less Current Portion)................................      116,645        60,710
OTHER LIABILITIES....................................................       57,907        50,515
                                                                       ------------  ------------
TOTAL LIABILITIES....................................................      983,357       909,401
                                                                       ------------  ------------
COMMITMENTS AND CONTINGENCIES

STOCKHOLDERS' EQUITY:
    Preferred Stock, $.01 Par Value, 1,000
         Shares Authorized; None Issued or Outstanding
    Common Stock, $.005 Par Value, 60,000 Shares Authorized;
         2003 - 33,173; 2002 - 30,953 Shares Issued..................          166           155
    Treasury Stock: 2003  - 6,221; 2002 - 1,163 Common Stock Shares..     (112,737)      (17,148)
    Additional Paid-In Capital.......................................      227,417       196,711
    Deferred Compensation............................................          (22)         (473)
    Accumulated Other Comprehensive (Loss) Gain .....................         (479)          381
    Retained Earnings (Accumulated Deficit)..........................       36,419       (23,061)
                                                                       ------------  ------------
TOTAL STOCKHOLDERS' EQUITY...........................................      150,764       156,565
                                                                       ------------  ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY........................... $  1,134,121  $  1,065,966
                                                                       ============  ============`

See the accompanying notes to consolidated financial statements.
59



SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS
              For the Years Ended December 31, 2003, 2002 and 2001
                      (In thousands, except per share data)

`2003         2002         2001
                                                                -----------  -----------  -----------
OPERATING REVENUES:
Medical Premiums.............................................. $   962,176  $   857,741  $   718,994
Military Contract Revenues....................................     465,313      373,589      338,918
Professional Fees.............................................      37,367       30,923       28,985
Investment and Other Revenues.................................      20,223       16,382       16,603
                                                                -----------  -----------  -----------
   Total......................................................   1,485,079    1,278,635    1,103,500
                                                                -----------  -----------  -----------
OPERATING EXPENSES:
Medical Expenses..............................................     762,865      712,290      608,757
Military Contract Expenses....................................     452,554      360,375      331,621
General and Administrative Expenses...........................     137,263      133,979      122,623
                                                                -----------  -----------  -----------
   Total......................................................   1,352,682    1,206,644    1,063,001
                                                                -----------  -----------  -----------
OPERATING INCOME FROM CONTINUING
     OPERATIONS...............................................     132,397       71,991       40,499
Interest Expense..............................................      (5,491)      (7,650)     (15,738)
Other Income (Expense), Net...................................        (223)          55       (2,119)
                                                                -----------  -----------  -----------
INCOME FROM CONTINUING OPERATIONS
     BEFORE INCOME TAXES......................................     126,683       64,396       22,642
PROVISION FOR INCOME TAXES....................................     (44,565)     (22,088)      (7,161)
                                                                -----------  -----------  -----------
INCOME FROM CONTINUING OPERATIONS.............................      82,118       42,308       15,481
LOSS FROM DISCONTINUED OPERATIONS (net of income tax
      benefit of $3,578, $2,945 and $5,403)...................     (19,792)      (5,860)     (11,995)
                                                                -----------  -----------  -----------
NET INCOME.................................................... $    62,326  $    36,448  $     3,486
                                                                ===========  ===========  ===========
EARNINGS PER COMMON SHARE:
    Income From Continuing Operations......................... $      2.93  $      1.47  $      0.56
    Loss from Discontinued Operations.........................       (0.71)       (0.20)       (0.43)
                                                                -----------  -----------  -----------
    Net Income................................................ $      2.22  $      1.27  $      0.13
                                                                ===========  ===========  ===========
EARNINGS PER COMMON SHARE ASSUMING DILUTION:
    Income From Continuing Operations......................... $      2.70  $      1.36  $      0.54
    Loss from Discontinued Operations.........................       (0.65)       (0.19)       (0.42)
                                                                -----------  -----------  -----------
    Net Income................................................ $      2.05  $      1.17  $      0.12
                                                                ===========  ===========  ===========`

See the accompanying notes to consolidated financial statements.
60



SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
                         CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
                    For the Years Ended December 31, 2003, 2002 and 2001
                                         (In thousands)

`Accumulated     Retained       Total
                                                        Common Stock        In Treasury       Additional   Deferred        Other        Earnings       Stock-
                                                    ------------------- --------------------    Paid-In    Compensa-   Comprehensive  (Accumulated    holders'
                                                     Shares     Amount   Shares     Amount      Capital      tion       Gain (Loss)     Deficit)       Equity
                                                    ---------  -------- ---------  ---------  -----------  ---------   -------------  -------------  ----------
BALANCE, JANUARY 1, 2001...........................   28,815  $    144     1,523  $ (22,789) $   177,493  $      --   $      (5,667) $     (58,708) $   90,473
Common Stock Issued in Connection
     with Stock Plans..............................      589         3        --         --        2,087         --              --             --       2,090
Income Tax Benefit Realized Upon
     Exercise of Stock Options.....................       --        --        --         --           97         --              --             --          97
Issuance of Restricted Stock.......................      244         1        --         --        1,399     (1,400)             --             --          --
Amortization of Deferred Compensation..............       --        --        --         --           --        342              --             --         342
Comprehensive Income:
   Net Income......................................       --        --        --         --           --         --              --          3,486       3,486
   Other Comprehensive Income:
    Unrealized Holding Gain on Available-
       for-Sale Investments ($374 pretax)..........       --        --        --         --           --         --             243             --         243
    Reclassification Adjustment for Gains
       Included in Net Income ($326 pretax)........       --        --        --         --           --         --            (212)            --        (212)
                                                                                                                       -------------  -------------  ----------
Total Comprehensive Income.........................       --        --        --         --           --         --              31          3,486       3,517
                                                    ---------  -------- ---------  ---------  -----------  ---------   -------------  -------------  ----------
BALANCE, DECEMBER 31, 2001.........................   29,648       148     1,523    (22,789)     181,076     (1,058)         (5,636)       (55,222)     96,519

Common Stock Issued in Connection
     with Stock Plans..............................    1,305         7      (360)     5,641        8,798         --              --         (4,287)     10,159
Income Tax Benefit Realized Upon
     Exercise of Stock Options.....................       --        --        --         --        6,837         --              --             --       6,837
Amortization of Deferred Compensation..............       --        --        --         --           --        585              --             --         585
Comprehensive Income:
   Net Income......................................       --        --        --         --           --         --              --         36,448      36,448
   Other Comprehensive Income:
    Unrealized Holding Gain on Available-
       for-Sale Investments ($10,671 pretax).......       --        --        --         --           --         --           6,936             --       6,936
    Reclassification Adjustment for Losses
       Included in Net Income ($217 pretax)........       --        --        --         --           --         --             141             --         141
    Minimum Pension Liability
       Adjustment ($1,630 pretax)..................       --        --        --         --           --         --          (1,060)            --      (1,060)
                                                                                                                       -------------  -------------  ----------
Total Comprehensive Income.........................       --        --        --         --           --         --           6,017         36,448      42,465
                                                    ---------  -------- ---------  ---------  -----------  ---------   -------------  -------------  ----------
BALANCE, DECEMBER 31, 2002.........................   30,953       155     1,163    (17,148)     196,711       (473)            381        (23,061)    156,565

Common Stock Issued in Connection
     with Stock Plans..............................    2,220        11      (272)     3,896       18,110         --              --         (2,846)     19,171
Income Tax Benefit Realized Upon
     Exercise of Stock Options.....................       --        --        --         --       12,596         --              --             --      12,596
Amortization of Deferred Compensation..............       --        --        --         --           --        451              --             --         451
Repurchase of Common Shares........................       --        --     5,330    (99,485)          --         --              --             --     (99,485)
Comprehensive Income:
   Net Income......................................       --        --        --         --           --         --              --         62,326      62,326
   Other Comprehensive Income:
    Unrealized Holding Loss on Available-
       for-Sale Investments ($4,446 pretax)........       --        --        --         --           --         --          (2,890)            --      (2,890)
    Reclassification Adjustment for Gains
       Included in Net Income ($1,493 pretax)......       --        --        --         --           --         --             970             --         970
    Minimum Pension Liability
       Adjustment ($1,630 pretax)..................       --        --        --         --           --         --           1,060             --       1,060
                                                                                                                       -------------  -------------  ----------
Total Comprehensive Income.........................       --        --        --         --           --         --            (860)        62,326      61,466
                                                    ---------  -------- ---------  ---------  -----------  ---------   -------------  -------------  ----------
BALANCE, DECEMBER 31, 2003.........................   33,173  $    166     6,221  $(112,737) $   227,417  $     (22)  $        (479) $      36,419  $  150,764
                                                    =========  ======== =========  =========  ===========  =========   =============  =============  ==========`

See the accompanying notes to consolidated financial statements.
61



SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
               For the Years Ended December 31, 2003, 2002 and 2001
                                 (In thousands)

`2003        2002        2001
                                                                       ----------  ----------  ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
      Net Income..................................................... $   62,326  $   36,448  $    3,486
      Adjustments to Reconcile Net Income to Net Cash
         Provided by Operating Activities:
          Loss from Discontinued Operations..........................     19,792       5,860      11,995
          Depreciation and Amortization..............................     15,929      18,245      24,184
          Deferred Compensation Expense..............................        451         585         342
          Provision for Doubtful Accounts............................      3,071       2,835       1,251
          Loss on Property and Equipment Dispositions................        825          17       2,311
      Change in Operating Assets and Liabilities:
          Other Assets...............................................     (7,408)        (16)      2,839
          Deferred Tax Asset.........................................     32,688      37,931       2,107
          Other Current Liabilities..................................     21,345      14,660       3,853
          Accounts Receivable........................................     (3,919)      1,267      (2,921)
          Other Current Assets.......................................    (19,097)      6,454      (2,153)
          Military Accounts Receivable...............................       (263)     (6,960)     32,436
          Military Health Care Payable...............................     11,382     (12,038)     (7,598)
          Medical Claims Payable.....................................      5,718      16,369       7,258
          Other Liabilities..........................................      9,023      14,980      18,774
                                                                       ----------  ----------  ----------
         Net Cash Provided by Operating Activities of
            Continuing Operations....................................    151,863     136,637      98,164
                                                                       ----------  ----------  ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
      Capital Expenditures...........................................    (21,774)    (12,392)     (7,136)
      Property and Equipment Dispositions............................      3,256         680       7,265
      Purchase of Available-for-Sale Investments.....................   (540,206)   (847,437)   (130,625)
      Proceeds from Sales/Maturities of
          Available-for-Sale Investments.............................    527,696     712,483     107,540
                                                                       ----------  ----------  ----------
         Net Cash Used for Investing Activities of
            Continuing Operations....................................    (31,028)   (146,666)    (22,956)
                                                                       ----------  ----------  ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
      Proceeds from Long-term Borrowing..............................    116,480          --          --
      Debt Issue Costs...............................................     (5,834)         --          --
      Proceeds on Sale-Leaseback Deposit.............................         --      16,862          --
      Payments on Debt and Capital Leases............................    (60,721)    (30,399)    (53,187)
      Purchase of Treasury Stock.....................................    (99,485)         --          --
      Exercise of Stock in Connection with Stock Plans...............     19,171      10,159       2,090
                                                                       ----------  ----------  ----------
         Net Cash Used for Financing Activities of
            Continuing Operations....................................    (30,389)     (3,378)    (51,097)
                                                                       ----------  ----------  ----------
NET CASH USED FOR DISCONTINUED OPERATIONS............................    (17,751)    (47,929)    (45,954)
                                                                       ----------  ----------  ----------
NET INCREASE (DECREASE) IN CASH AND
       CASH EQUIVALENTS..............................................     72,695     (61,336)    (21,843)
CASH AND CASH EQUIVALENTS AT BEGINNING
       OF YEAR.......................................................     45,778     107,114     128,957
                                                                       ----------  ----------  ----------
CASH AND CASH EQUIVALENTS AT END OF YEAR............................. $  118,473  $   45,778  $  107,114
                                                                       ==========  ==========  ==========`

See the accompanying notes to consolidated financial statements.
62



SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the Years Ended December 31, 2003, 2002 and 2001

1.	BUSINESS



Business.  The consolidated financial statements
include the accounts of Sierra Health Services, Inc. and its subsidiaries
(collectively referred to as "Sierra" or the "Company").
Sierra is a managed health care organization that provides and administers the
delivery of comprehensive health care programs with an emphasis on quality care
and cost management.  Sierra's broad range of managed health care services are
provided through its health maintenance organization ("HMO"), managed
indemnity plans, military health services programs, third-party administrative
services programs for employer-funded health benefit plans and medical
management programs.  Ancillary products and services that complement the
Company's managed health care product lines are also offered.



The Company's continuing operations currently operate in two
reportable segments:  managed care and corporate operations and military health
services operations.  The Company's prior third reportable segment, workers'
compensation operations, has been classified as a discontinued operation.



Discontinued Operations.  During the third quarter of
2001, the Company announced its plan to exit the Texas HMO health care market
and received formal approval from the Texas Department of Insurance to withdraw
its HMO operations in mid-October 2001.  The Company ceased providing HMO
health care coverage in Texas on April 17, 2002.



The Company elected to early adopt Statement of Financial
Accounting Standards No. 144, "Accounting for the Impairment or Disposal of
Long-Lived Assets" ("SFAS No. 144"), effective January 1, 2001.  In
accordance with SFAS No. 144, beginning January 1, 2001, the Texas HMO health
care operations were reclassified and presented as discontinued operations.



In accordance with SFAS No. 144, during the fourth quarter of
2002, the Company reclassified its workers' compensation insurance operations as
discontinued operations.  During the fourth quarter of 2003, the Company
announced that it and its wholly-owned subsidiary, CII Financial Inc.
("CII"), entered into a Stock Purchase Agreement, which provides for
the sale of all of the capital stock of California Indemnity Insurance Company
("Cal Indemnity"), a wholly-owned subsidiary of CII.



The individual line items on the consolidated balance sheets
have been presented net of the discontinued operations with the total assets and
liabilities of the discontinued operations presented on one line within current
assets and current liabilities, respectively. The results of operations from the
discontinued operations have been reported net of tax as a separate component of
income on the consolidated statements of operations. The cash flows from the
discontinued operations have been reported as a separate component on the
consolidated statements of cash flows. See Notes 9 and 10 for disclosure on and
a description of the discontinued operations.



2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES



Principles of Consolidation.  All significant
intercompany transactions and balances have been eliminated in consolidation.
Sierra's consolidated subsidiaries include:  Health Plan of Nevada, Inc.
("HPN") and Texas Health Choice, L.C.  ("TXHC"), which are
licensed HMOs; Sierra Health and Life Insurance Company, Inc. ("SHL"),
a health and life insurance company; Southwest Medical Associates, Inc.
("SMA"), a multi-specialty medical provider group; Sierra Military
Health Services, Inc., and its subsidiary, ("SMHS"), a company that
provides and administers managed care services to certain TRICARE eligible
beneficiaries; CII, a holding company primarily engaged in writing workers'
compensation insurance through its wholly-owned subsidiaries; administrative
services companies; a home health care agency; a hospice; a home medical
products subsidiary; and a company that provides and manages mental health and
substance abuse services.  CII and TXHC have been reported as discontinued
operations.



Medical Premiums.  Membership contracts are generally
established on an annual basis subject to cancellation by the employer group or
Sierra generally upon 60 days written notice.  Premiums, including

63

premiums from both commercial and governmental programs, are due monthly and are recognized as
revenue during the period in which members are entitled to receive services and
are net of estimated retroactive adjustments of members and groups.  Non-
Medicare member enrollment is represented principally by employer groups. HPN
offers a prepaid health care program to Medicare recipients.  Revenues
associated with Medicare recipients were approximately $375.2 million, $340.1
million and $304.7 million in 2003, 2002 and 2001, respectively. Premiums
collected in advance are recorded as unearned premium revenue and can include
payments under prepaid Medicare contracts with the Centers for Medicare and
Medicaid Services ("CMS") and prepaid HPN commercial and SHL preferred
provider organization premiums.



Military Contract Revenues.  Revenue under the Department
of Defense TRICARE contract is recorded based on the contract price as agreed to
by the federal government.  The health care component of the TRICARE contract
has a fixed bid price component (established when the contract was awarded based
on the government's assumptions regarding enrollment and utilization), as well
as a Bid Price Adjustment ("BPA") component.  The BPA is used to
adjust the fixed bid price health care component up or down over the course of
the contract for changes in health care cost trends due to changes in enrollment
and utilization patterns from the government's original assumed enrollment and
utilization patterns.  On a monthly basis, SMHS records the base bid health care
revenue component as stated in the original bid and SMHS also records an
estimate for the BPA using the latest government provided data.  SMHS adjusts
each BPA accrual as it is provided with new government data.  After each BPA
negotiation with the government is completed, SMHS records a final BPA
adjustment for the ultimate negotiated amount.



While the BPA relates to the original contract and is an
ongoing part of the contract, modifications to the original contract are
referred to by the Company as change orders.  The government negotiates both the
cost and profit to be paid on each contract modification.  As SMHS incurs costs
under the government's direction to proceed with a modification to the contract,
the government is contractually obligated to reimburse SMHS for all of its
incremental, allowable costs incurred through the final negotiation date.  The
allowable costs are those costs determined in accordance with Federal
Acquisition Regulation Part 31.  Revenue is realizable and earned when SMHS
starts performing as contractually required, even though the change order profit
has not been fully negotiated.  As costs are incurred, SMHS records an estimate
of its revenue earned under the modification.  The estimate recorded does not
include profit until the profit is determined when it is negotiated and
finalized with the government.  Enrollment fees collected in advance of the
service period are recorded as unearned premium revenue and are earned over the
service period.



Professional Fees.  Revenue for professional medical
services is recorded on the accrual basis in the period in which the services
are provided.  Such revenue is recorded at established rates, net of provisions
for estimated contractual allowances and allowances for doubtful accounts.



Investment and Other Revenues.  Investment income is
recognized in the period earned.  Realized gains and losses are recognized as
incurred and are calculated using the specific identification method.  Other
revenues include administrative services fees and certain ancillary product
revenues.  Such revenues are recognized in the period in which the service is
performed or the period that coverage for services is provided.



Medical Expenses.  Health care expenses are recorded
in the period when services are provided to enrolled members, including
estimates for provider costs, which have been incurred as of the balance sheet
date but not yet reported to the Company.  The Company uses a variety of
standard actuarial projection methods to make these estimates and must use
judgment in selecting development factors and assumed trends.  In making
projections, the Company considers medical cost utilization and trends, changes
in internal processes, the average interval between the date services are
rendered and the date claims are received and/or paid, denied claims activity,
disputed claims activity, seasonality patterns and changes in membership.
Assumptions could be affected by the timing of the receipt of claims, the timing
of processing claims and unanticipated changes, such as adverse legal outcomes,
legislative or regulatory changes, new interpretations of existing laws or
regulations or disputed contract provisions that result in

64

the Company having to provide new or extended benefits and changes in the Company's health care
delivery system or costs.  The Company believes that the recorded liability for
medical claims payable, at December 31, 2003, is reasonable and adequate to
cover future health care claim payments.  Any subsequent changes in an estimate
for a prior year would be reflected in that subsequent year's operating results.



The Company contracts with hospitals, physicians and other
independent contracted providers of health care under capitated or discounted
fee-for-service arrangements including hospital per diems to provide medical
care services to enrollees.  Capitated providers are at risk for a portion of
the cost of medical care services provided to the Company's enrollees in the
relevant geographic areas; however, the Company is ultimately responsible for
the provision of services to its enrollees should the capitated provider be
unable to provide the contracted services.



Military Contract Expenses.  This expense consists
primarily of costs to provide managed health care services to eligible
beneficiaries in accordance with the Company's TRICARE contract.  Under the
contract, SMHS provides health care services to approximately 707,000 dependents
of active duty military personnel, military retirees under the age of 65 and
dependents of military retirees through a network of approximately 49,700 health
care providers and certain other subcontractor partnerships.  Health care costs
are recorded in the period when services are provided to eligible beneficiaries
including estimates for provider costs, which have been incurred as of the
balance sheet date but not reported to the Company. Also included in military
contract expenses are costs incurred to perform specific administrative
services, such as health care appointment scheduling, enrollment, network
management and health care advice line services and other administrative
functions of the military health care subsidiary.  These administrative services
are performed for active duty personnel and dependants as well as retired
military families.



Cash and Cash Equivalents.  The Company considers cash
and cash equivalents as all highly liquid instruments with a maturity of three
months or less at time of purchase.  The carrying amount of cash and cash
equivalents approximates fair value because of the short maturity of these
instruments.



Investments.  Investments consist principally of U.S.
Government and its agencies' securities and municipal bonds, as well as
corporate and mortgage-backed securities.  All non-restricted investments that
are designated as available-for-sale are classified as current assets.  These
investments are available for use in the current operations regardless of
contractual maturity dates.  Non-restricted investments designated as
held-to-maturity are classified as current assets if expected maturity is within one
year of the balance sheet date.  Otherwise, they are classified as long-term
investments. All of the Company's held-to-maturity investments are held by the
discontinued operations.  Realized gains and losses are calculated using the
specific identification method and are included in investment and other
revenues.  Unrealized holding gains and losses on available-for-sale securities
are included as a separate component of stockholders' equity, net of income tax
effects, until realized.



Restricted Cash and Investments.  Certain subsidiaries
are required by state regulatory agencies to maintain deposits and must also
meet net worth and reserve requirements.  The Company believes its subsidiaries
are in compliance with the applicable minimum regulatory and capital
requirements.



Military Accounts Receivable.  Amounts receivable
under government contracts are comprised primarily of amounts due from military
treatment facilities, estimates of adjustments under the contract based on
actual experience and estimates of the earned portion of any change orders not
originally specified in the contract.



During 2001, SMHS adopted SFAS No. 140, "Accounting
for Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities", which provides accounting and reporting standards for
securitizations and other transfers of financial assets and extinguishments of
liabilities.  On November 16, 2001, SMHS entered into a securitization
arrangement with General Electric Capital Corporation.  The arrangement

65

provides for the assignment of SMHS' Federal Government accounts receivable to SMHS
Funding, LLC.  SMHS Funding, LLC is a special purpose limited liability company
owned by SMHS and was formed for the purpose of purchasing all receivables of
SMHS.  This entity is fully consolidated into SMHS.  SMHS Funding, LLC may
assign an undivided interest in certain of the receivables to a subsidiary of
General Electric Capital Corporation in the event that additional financing by
SMHS is warranted.



As of and for the year ended December 31, 2003, SMHS has not
utilized the facility and was incurring an unused facility fee of 0.5% per annum
calculated daily and payable monthly in arrears on the unused portion of the
maximum purchase limit of $32 million. On February 17, 2004, SMHS terminated the
securitization arrangement with General Electric Capital Corporation.



Reinsurance Recoverable.  In the normal course of
business, the Company seeks to reduce the effects of catastrophic and other
events that may cause unfavorable underwriting results by reinsuring certain
levels of risk with other reinsurers.  Reinsurance receivable for ceded paid
claims is recorded in accordance with the terms of the agreements and
reinsurance recoverable for unpaid losses and loss adjustment expense and
medical claims payable is estimated in a manner consistent with the claim
liability associated with the reinsurance policy. Reinsurance receivables,
including amounts related to paid and unpaid losses, are reported as assets
rather than a reduction of the related liabilities.



The Company is covered under medical reinsurance agreements
that provide coverage for 50% - 90% of hospital and other costs in excess of
$300,000 per case, up to a maximum of $2.0 million per member per lifetime for
both the managed indemnity and HMO subsidiaries.



Certain of the Company's HMO members are covered by an excess
catastrophe reinsurance contract and SHL maintains reinsurance on certain of its
insurance products.  Reinsurance premiums of $2.2 million, $2.3 million and $1.7
million, net of reinsurance recoveries of $2.3 million, $1.3 million and $1.8
million, are included in medical expenses for 2003, 2002 and 2001, respectively.



See Note 10 for a discussion of the workers' compensation
insurance operations' reinsurance.



Property and Equipment.  Property and equipment are
stated at cost less accumulated depreciation. Maintenance and repairs that do
not significantly improve or extend the life of the respective assets are
charged to operations.  The Company capitalizes interest expense as part of the
cost of construction of facilities and the implementation of computer systems.
Depreciation is computed using the straight-line method over the estimated
service lives of the assets or terms of leases if shorter.  Estimated useful
lives are as follows:

|Buildings and Improvements
Leasehold Improvements
Furniture, Fixtures and Equipment
Data Processing Hardware and Software | 10
  3
  3
  3 | -
-
-
- | 30
10
  5
10 | years
years
years
years
|------------------------------------------------------------------------------------------------------------------------- | -------------- | ------- | ------------ | -----------------------

Goodwill.  The goodwill balance at December 31, 2003,
was $14.8 million, all of which is part of the managed care and corporate
operations segment.  During 2003 and 2002, the Company's assessment of goodwill
resulted in no impairment of goodwill.  Amortization expense, from continuing
operations, associated with goodwill was $805,000 for the year ended December
31, 2001.  See Note 20 for a pro forma table presenting the results of
operations as though SFAS No. 142 occurred as of January 1, 2001.



Treasury Stock.  Shares purchased and placed in
treasury are valued at cost.  Subsequent sales of treasury stock at amounts in
excess of their cost are credited to additional paid-in capital.  Sale of
treasury stock at amounts below their cost are charged to additional paid-in
capital to the extent it includes gains from previous sales and the remainder to
retained earnings (accumulated deficit).  Sales of treasury shares in 2003 and
2002, at amounts below their cost of $2.8 million and $4.3 million, respectively
were charged to retained earnings (accumulated deficit), as the Company did not
previously have gains in

66

additional paid-in capital.  All sales of treasury shares in 2003 and 2002 were in connection with the exercise of stock
options.



Stock Option Plans.  The Company has several plans,
which are described more fully in Note 16.  In December 2002, the Financial
Accounting Standards Board ("FASB"), issued Statement of Financial
Accounting Standards No. 148, "Accounting for Stock-Based Compensation -
Transition and Disclosure" ("SFAS No. 148").  SFAS No. 148 is an
amendment of Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based Compensation" ("SFAS No. 123").
SFAS No. 148 requires prominent disclosures in interim as well as annual
financial statements about the method of accounting for stock-based employee
compensation and the effect of the method used on reported net income.  The
Company has continued to account for its stock-based compensation using the
intrinsic value method prescribed by Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees," as amended.  Accordingly,
no compensation cost has been recognized for the Company's employee stock plans
except for those expenses associated with the restricted stock units.  Had
compensation cost for the Company's stock-based compensation plans been
determined based on the fair value at the grant dates for awards under those
plans, the Company's net income and earnings per share for the years ended
December 31, would have been reduced to the pro forma amounts indicated
below:

`Years ended December 31,
                                                         -------------------------------------
                                                            2003         2002         2001
                                                         -----------  -----------  -----------

                                                         (In thousands, except per share data)

Net income, as reported................................ $    62,326  $    36,448  $     3,486
Less: total stock-based employee compensation
   expense determined under fair value based
   methods for all awards, net of tax..................      (7,173)      (4,598)      (3,506)
                                                         -----------  -----------  -----------
Pro forma net income (loss)............................ $    55,153  $    31,850  $       (20)
                                                         ===========  ===========  ===========

Net income per share, as reported...................... $      2.22  $      1.27  $      0.13
Pro forma net income...................................        1.97         1.11           --

Net income per share
    assuming dilution, as reported..................... $      2.05  $      1.17  $      0.12
Pro forma net income...................................        1.81         1.02           --`

Due to the fact that the Company's stock option programs vest
over many years and additional awards are made each year, the above pro forma
numbers are not indicative of the financial impact had the disclosure provisions
of Statement of Financial Accounting Standards No. 123, "Accounting for
Stock-Based Compensation" been applied to all the years of previous
option grants.  The above numbers do not include the effect of options granted
prior to 1995.  See Note 16 for a discussion of the assumptions used in the
option pricing model and estimated fair value of employee stock options.



Premium Deficiency Reserves.  Premium deficiency
expenses are recognized when it is probable that the future costs associated
with a group of existing contracts will exceed the anticipated future premiums
on those contracts.  The Company calculates expected premium deficiency expense
based on budgeted revenues and expenses.  Premium deficiency reserves are
evaluated quarterly for adequacy.



Income Taxes.  The Company accounts for income taxes
using the liability method.  Deferred income tax assets and liabilities result
from temporary differences between the tax basis of assets and liabilities and
the reported amounts in the consolidated financial statements that will result
in taxable or deductible amounts in future years.  The Company's temporary
differences arise principally from certain net operating losses, accrued
expenses, reserves and depreciation.

67

Concentration of Credit Risk.  The Company's financial
instruments that are exposed to credit risk consist primarily of cash
equivalents, investments and accounts receivable.  The Company maintains cash
and cash equivalents and investments with various financial institutions.  These
financial institutions are located in many different regions and Company policy
is designed to limit exposure with any one institution.



Credit risk with respect to accounts receivable is generally
diversified due to the large number of entities comprising the Company's
customer base and their dispersion across many different industries.  These
customers are primarily located in the states in which the Company operates and
are principally in Nevada and California.  However, the Company is licensed and
does business in several other states.  In addition, as of December 31, 2003,
the Company had receivables outstanding from the federal government related to
its TRICARE contract in the amount of $47.4 million.  The Company also has
receivables from its reinsurers.  Reinsurance contracts do not relieve the
Company from its obligations to enrollees or policyholders.  Failure of
reinsurers to honor their obligations could result in losses to the Company.
The Company evaluates the financial condition of its reinsurers to minimize its
exposure to significant losses from reinsurer insolvencies. All reinsurers with
whom the Company has reinsurance contracts are rated A- or better by Fitch
Ratings (7th of 23) and the A.M. Best Company (4th of 16).



Recently Issued Accounting Standards.  In April 2003,
the FASB issued Statement of Financial Accounting Standards No. 149, "Amendment
of Statement 133 on Derivative Instruments and Hedging Activities" ("SFAS No.
149"), which amends and clarifies financial accounting and reporting for
derivative instruments, including certain derivative instruments embedded in
other contracts and for hedging activities under SFAS No. 133.  SFAS No. 149 is
effective for contracts entered into or modified after June 30, 2003 except for
the provisions that were cleared by the FASB in prior pronouncements. The
adoption of SFAS No. 149 did not have a material effect on the Company's
consolidated financial position or results of operations.



In December 2003, the FASB, issued Statement of Financial
Accounting Standards No. 132 (Revised 2003), "Employers' Disclosures about
Pensions and Other Postretirement Benefits, an amendment of FASB Statements No.
87, 88 and 106" ("Revised SFAS No. 132").  Revised SFAS No. 132
retains the disclosure requirement contained in the original FASB Statement No.
132, "Employers' Disclosures about Pensions and Other Postretirement
Benefits", which it replaces.  The statement also requires additional
disclosures to those in the original FASB Statement No. 132 about the assets,
obligations, cash flows, and net periodic benefit cost of defined benefit
pension plans and other postretirement plans.  See Note 15 for disclosure on our
defined benefit plan.



Use of Estimates and Assumptions in the Preparation of
Financial Statements.  The preparation of financial statements in conformity
with accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period.  Management must exercise its
judgment taking into consideration the facts and circumstances in selecting
assumptions and other factors in calculating its estimates.  On an on-going
basis, management re-evaluates its assumptions and the methods of calculating
its estimates.  Estimates and assumptions include, but are not limited to,
medical and workers' compensation expenses and reserves, military revenue and
expenses, reinsurance recoverables, legal reserves, fair values of investments,
amounts receivable or payable under government contracts, deferred income taxes,
goodwill, accrued liabilities, malpractice reserves, remaining reserves for restructuring and other charges and the net realizable
values for assets where impairment charges have been recorded.  Actual results
may materially differ from estimates.



Reclassifications.  Certain amounts in the
Consolidated Financial Statements as of and for the years ended
December 31, 2002 and 2001 have been reclassified to conform with the
current year presentation.  The reclassifications have no effect on net income
or stockholders' equity as previously reported.

68

3.	EARNINGS PER SHARE



The following table provides a reconciliation of basic and
diluted earnings per share ("EPS"):

`Years ended December 31,
                                                   -------------------------------------
                                                      2003         2002         2001
                                                   -----------  -----------  -----------
                                                   (In thousands, except per share data)

Income from continuing operations................ $    82,118  $    42,308  $    15,481
Loss from discontinued operations................     (19,792)      (5,860)     (11,995)
                                                   -----------  -----------  -----------
Net income....................................... $    62,326  $    36,448  $     3,486
                                                   ===========  ===========  ===========
Earnings per common share:
Income from continuing operations................ $      2.93  $      1.47  $      0.55
Loss from discontinued operations................       (0.71)       (0.20)       (0.43)
                                                   -----------  -----------  -----------
Net income....................................... $      2.22  $      1.27  $      0.13
                                                   ===========  ===========  ===========
Earnings per common share assuming dilution:
Income from continuing operations................ $      2.70  $      1.36  $      0.54
Loss from discontinued operations................       (0.65)       (0.19)       (0.42)
                                                   -----------  -----------  -----------
Net income....................................... $      2.05  $      1.17  $      0.12
                                                   ===========  ===========  ===========

Weighted average common shares outstanding.......      28,053       28,756       27,685
Dilutive options outstanding.....................       2,246        2,141          787
Restricted shares outstanding....................         122          244           37
Weighted average common shares outstanding         -----------  -----------  -----------
         assuming dilution.......................      30,421       31,141       28,509
                                                   ===========  ===========  ===========`

Stock options to purchase 319,000, 325,000 and 1,591,000
shares in 2003, 2002 and 2001, respectively, were not dilutive and, therefore,
were not included in the computations of diluted earnings per share.   In
addition, the Sierra Debentures were not dilutive at any time during the year
ended December 31, 2003.  See Note 6 for more information on the Sierra
Debentures.





4.  PROPERTY AND EQUIPMENT



Property and equipment at December 31, consists of the
following:

`2003         2002
                                                   -----------  ----------- 
                                                         (In thousands)

Land............................................. $     2,991  $     2,984
Buildings and Improvements.......................      25,269       22,415
Furniture, Fixtures and Equipment................      42,058       39,286
Data Processing Equipment and Software...........      98,489       98,216
Software in Development and Construction
   in Progress...................................         202          697
Less:  Accumulated Depreciation .................    (105,900)     (98,730)
                                                   -----------  -----------
    Property and Equipment, Net.................. $    63,109  $    64,868
                                                   ===========  ===========`

69

The following is an analysis of property and equipment under
capital lease by classification as of December 31:

`2003         2002
                                                   -----------  -----------             
                                                         (In thousands)

Buildings and Improvements....................... $       245  $       245
Data Processing Equipment and Software...........         333          333
Vehicles.........................................         153           --
Less: Accumulated Depreciation...................        (506)        (413)
                                                   -----------  -----------
   Property and Equipment, Net................... $       225  $       165
                                                   ===========  ===========`

Depreciation expense from continuing operations in 2003, 2002
and 2001 was $15.9 million, $18.2 million and $23.4 million, respectively.



5.	CASH AND INVESTMENTS



Investments that the Company has the intention and ability to
hold to maturity are stated at amortized cost and categorized as
held-to-maturity.  All of the held-to-maturity investments are part of the discontinued
workers' compensation operations.  The remaining investments have been
categorized as available-for-sale and are stated at their fair value.  Fair
value is estimated primarily from published market values as of the balance
sheet date.  Gross realized gains on investments, from continuing operations,
for 2003, 2002 and 2001 were $905,000, $82,000 and $27,000, respectively.  Gross
realized losses on investments, from continuing operations, for 2003, 2002 and
2001 were $313,000, $84,000 and $92,000, respectively.

70

The following table summarizes the Company's current and
restricted investments, from continuing operations, as of December 31, 2003:

`Amortized   Unrealized  Unrealized    Fair
                                                                         Cost       Gains       Losses      Value
                                                                      ----------  ----------  ----------  ----------
                                                                                      (In thousands)
Available-for-Sale Investments:
Classified as Current:
    U.S. Government and its Agencies................................ $   73,461  $      168  $      925  $   72,704
    Municipal Obligations...........................................    102,469         283         194     102,558
    Mortgage Backed Securities........................................      961           4          --         965
    Corporate Bonds.................................................        178           8          --         186
    Other Debt Securities...........................................     18,559          --          --      18,559
                                                                      ----------  ----------  ----------  ----------
       Total Debt Securities........................................    195,628         463       1,119     194,972
    Preferred Stock.................................................      2,663          --          62       2,601
                                                                      ----------  ----------  ----------  ----------
 Total Current......................................................    198,291         463       1,181     197,573
                                                                      ----------  ----------  ----------  ----------
Classified as Restricted:
    U.S. Government and its Agencies................................      7,764          99          --       7,863
    Municipal Obligations...........................................      2,260          39          21       2,278
    Other Debt Securities...........................................      7,505          --          --       7,505
                                                                      ----------  ----------  ----------  ----------
 Total Restricted...................................................     17,529         138          21      17,646
                                                                      ----------  ----------  ----------  ----------
          Total Available-for-Sale.................................. $  215,820  $      601  $    1,202  $  215,219
                                                                      ==========  ==========  ==========  ==========`

The fair value of investments with unrealized losses is
$116.6 million.  The fair value of investments with unrealized losses for more
than 12 months is $3.3 million with unrealized losses that total $141,000.  The
Company has not experienced any investment impairments that were considered
other than temporary.



The following table summarizes the Company's current and
restricted investments, from continuing operations, as of December 31, 2002:

`Gross       Gross
                                                                      Amortized   Unrealized  Unrealized    Fair
                                                                         Cost       Gains       Losses      Value
                                                                      ----------  ----------  ----------  ----------
                                                                                      (In thousands)
Available-for-Sale Investments:
Classified as Current:
    U.S. Government and its Agencies................................ $   35,338  $      747  $       19  $   36,066
    Municipal Obligations...........................................     87,701          21          83      87,639
    Corporate Bonds.................................................     54,845           4          --      54,849
    Other Debt Securities...........................................      1,161           4          --       1,165
                                                                      ----------  ----------  ----------  ----------
       Total Debt Securities........................................    179,045         776         102     179,719
    Preferred Stock.................................................      2,754          20          41       2,733
                                                                      ----------  ----------  ----------  ----------
 Total Current......................................................    181,799         796         143     182,452
                                                                      ----------  ----------  ----------  ----------
Classified as Restricted:
    U.S. Government and its Agencies................................      8,785         208          --       8,993
    Municipal Obligations...........................................      1,397          43          10       1,430
    Other Debt Securities...........................................      7,134          --          --       7,134
                                                                      ----------  ----------  ----------  ----------
 Total Restricted...................................................     17,316         251          10      17,557
                                                                      ----------  ----------  ----------  ----------
          Total Available-for-Sale.................................. $  199,115  $    1,047  $      153  $  200,009
                                                                      ==========  ==========  ==========  ==========`

71

The contractual maturities of available-for-sale debt
securities at December 31, 2003 are shown below:

`Amortized     Fair
                                                                         Cost       Value
                                                                      ----------  ----------  
                                                                           (In thousands)

Due in one year or less............................................. $   70,642  $   70,709
Due after one year through five years...............................     74,460      74,677
Due after five years through ten years..............................     33,946      33,225
Due after ten years through fifteen years...........................      9,975       9,973
Due after fifteen years.............................................     24,134      24,034
                                                                      ----------  ----------
     Total.......................................................... $  213,157  $  212,618
                                                                      ==========  ==========`

Expected maturities may differ from contractual maturities
because borrowers may have the right to call or prepay obligations.



Of the cash and cash equivalents and current investments that
total $316.0 million in the accompanying Consolidated Balance Sheet at December
31, 2003, $209.9 million is limited for use only by the Company's regulated
subsidiaries.  Such amounts are available for transfer to Sierra from the
regulated subsidiaries only to the extent that they can be remitted in
accordance with terms of existing management agreements and by dividends, which
customarily must be approved by regulating state insurance departments.  The
remainder is available to Sierra on an unrestricted basis.



6.	LONG-TERM DEBT



Debt at December 31, consists of the following:

`2003        2002
                                                                      ----------  ----------  
                                                                           (In thousands)

21⁄4% Senior Convertible Debentures................................... $  115,000  $       --
Revolving Credit Facility...........................................         --      60,000
Other...............................................................      1,808         896
                                                                      ----------  ----------
  Total.............................................................    116,808      60,896
Less Current Portion................................................       (163)       (186)
                                                                      ----------  ----------
Long-term Debt...................................................... $  116,645  $   60,710
                                                                      ==========  ==========`

72

Sierra Debentures - In March 2003, the Company issued
$115.0 million aggregate principal amount of its 21⁄4% senior convertible
debentures due March 15, 2023.  The debentures pay interest, which is due semi-
annually on March 15 and September 15 of each year.  Each $1,000 principal
amount of debentures is convertible, at the option of the holders, into 54.6747
shares of Sierra Health Services, Inc., common stock prior to March 15, 2023 if
(i) the market price of the Company's common stock for at least 20 trading days
in a period of 30 consecutive trading days ending on the last trading day of the
preceding fiscal quarter exceeds 120% of the conversion price per share of the
Company's common stock; (ii) the debentures are called for redemption; (iii)
there is an event of default with respect to the debentures; or (iv) specified
corporate transactions have occurred.  The conversion rate is subject to certain
adjustments.  This conversion rate initially represents a conversion price of
$18.29 per share.  Holders of the debentures may require the Company to
repurchase all or a portion of their debentures on March 15 in 2008, 2013 and
2018 or upon certain corporate events including a change in control.  In either
case, the Company may choose to pay the purchase price of such debentures in
cash or common stock or a combination of cash and common stock.  The debentures
can be redeemed by the Company for cash beginning on or after March 20,
2008.



The Company evaluates the market price condition each quarter
to determine whether the debentures will be convertible, at the option of the
holder, during the subsequent quarter. For the quarter ended December 31, 2003,
the market price condition was satisfied. As a result, the debentures will be
convertible, at the option of the holder, at any time during the quarter ending
March 31, 2004. When dilutive, the debentures are considered common stock
equivalents and will be included in the calculation of weighted average common
shares outstanding on a diluted basis for the first quarter of 2004.



The Company used the net proceeds of the offering to repay
the $39.0 million outstanding under the then existing credit facility and to
contribute $35.0 million to Sierra Military Health Services, Inc.
("SMHS").  The Company also used $19.9 million of the proceeds to
purchase 1.6 million shares of the Company's common stock under its repurchase
program. The remainder of the net proceeds were used for working capital and
general corporate purposes including additional share repurchases.



Revolving Credit Facility.  On March 3, 2003, the
Company entered into a new $65.0 million revolving credit facility, which
replaced the amended and restated credit facility.  The new facility may be
increased up to an aggregate amount of $125.0 million upon receipt of new
commitments from existing or additional lenders.  Interest on the facility was
initially LIBOR plus 2.25% and is currently LIBOR plus 2.00%.  The facility will
expire on April 30, 2006 but can be extended, at the sole discretion of each of
the lenders, until March 3, 2008.  The new facility is available for general
corporate purposes.  The Company has not yet utilized this facility.



The new credit facility is secured by guarantees by certain
of the Company's subsidiaries and a first priority perfected security interest
in (i) all the capital stock of each of the Company's unregulated, material
domestic subsidiaries (direct or indirect) as well as all of the capital stock
of certain regulated, material domestic subsidiaries; and (ii) all other present
and future assets and properties of the Company and those of its subsidiaries
that guarantee the credit agreement obligations (including, without limitation,
accounts receivable, inventory, real property, equipment, contracts, trademarks,
copyrights, patents, license rights and general intangibles) other than cash and cash equivalents, subject, in each
case, to the exclusion of the capital stock of CII or any of its subsidiaries
and certain other exclusions.



The new revolving credit facility has covenants that limit
the Company's ability and the ability of the Company's subsidiaries to dispose
of assets, incur indebtedness, incur other liens, make investments, loans or
advances, make acquisitions, engage in mergers or consolidations, repurchase
Company common stock or make capital expenditures and otherwise restricts
certain corporate activities.  In addition, the Company is required to comply
with specified financial ratios as set forth in the new credit agreement.  The
Company believes it is in compliance with all covenants of the new credit
agreement.



Other.  The Company has obligations under capital
leases with interest rates from 6.6% to 12.2%.  In

73

addition, the Company has term loans with the City of Baltimore and the State of Maryland with interest
rates of up to 3.0%.  If SMHS does not meet the employment requirements of the
term loans as of December 31, 2004, the term loans will be required to be repaid
on December 31, 2004.



Scheduled maturities of the Company's long-term debt and
future minimum payments under capital leases, together with the present value of
the net minimum lease payments at December 31, 2003, are as follows:

`Obligations
                                                        Long-Term   Under Capital
                                                           Debt        Leases
                                                        ----------  -------------  
                                                               (In thousands)
Years ending December 31,
    2004............................................. $        80  $         117
    2005.............................................          80             72
    2006 ............................................          82             72
    2007.............................................         611             67
    2008.............................................         339             34
    Thereafter.......................................     115,265            123
                                                        ----------  -------------
       Total......................................... $   116,457            485
                                                        ==========
    Less:  Amounts Representing Interest.............                       (134)
                                                                    -------------
    Present Value of Minimum Lease Payments..........              $         351
                                                                    =============`

The fair value of long-term debt, including the current
portion, is estimated to be approximately $116.8 million based on the borrowing
rates currently available to the Company.



7.	SHARE REPURCHASE PROGRAM



As of December 31, 2003, the Company's Board of Directors
had authorized a program for the repurchase of up to 7.6 million shares of the
Company's common stock.  Through December 31, 2003, the Company had purchased,
at prevailing prices in the open market by block purchase or private
transactions, 5.3 million shares for $99.5 million.  As of December 31, 2003,
the Company had Board authorization to purchase approximately 2.3 million shares
of its common stock.



The Company's new revolving credit facility, as amended,
allows for additional stock repurchases of up to $60 million during the
remainder of 2004.  As of March 1, 2004, the Company has repurchased an
additional 708,000 shares for $22.6 million.



8.	INCOME TAXES



A summary of the provision for income taxes for continuing
operations for the years ended December 31, is as follows:

`2003        2002        2001               
                                                                      ----------  ----------  ----------
                                                                                (In thousands)
Provision (Benefit) for Income Taxes:
   Current.......................................................... $    2,909  $  (11,498) $   (2,763)
   Deferred.........................................................     41,656      33,586       9,924
                                                                      ----------  ----------  ----------
     Total.......................................................... $   44,565  $   22,088  $    7,161
                                                                      ==========  ==========  ==========`

74

The following reconciles the difference between the reported
and statutory provision for income taxes, from continuing operations, for the
years ended December 31:

`2003        2002        2001               
                                                                      ----------  ----------  ----------
Statutory Rate......................................................         35 %        35 %        35 %
State Income Taxes..................................................         --          --          (1)
Tax Preferred Investments...........................................         (1)         (1)         (1)
Change in Valuation Allowance.......................................         --          (3)         (2)
Intangible Amortization.............................................         --          --           1
Compensation and Benefit Plans......................................         --           3           1
Other...............................................................          1          --          (1)
                                                                      ----------  ----------  ----------
Provision for Income Taxes..........................................         35 %        34 %        32 %
                                                                      ==========  ==========  ==========`

The tax effects of significant items comprising the Company's
total net deferred tax assets, including discontinued operations, are as follows
at December 31:

`2003        2002               
                                                                      ----------  ----------
Deferred Tax Assets:                                                      (In thousands)
    Medical Claims Payable and
      Losses and Loss Adjustment Expense Reserves................... $   19,165  $   15,611
    Accruals Not Currently Deductible...............................      4,583      16,125
    Compensation Accruals...........................................     12,619      11,259
    Bad Debt Allowances.............................................      2,780       3,140
    Loss Carryforwards and Credits..................................     18,782      28,696
    Depreciation and Amortization...................................         --       3,642
    Unearned Premiums...............................................      2,772       2,976
    Deferred Reinsurance Gains......................................      1,647       1,806
    Unrealized Investment Losses (Gains)............................        257        (777)
    Other...........................................................        105         844
                                                                      ----------  ----------
      Total.........................................................     62,710      83,322
                                                                      ----------  ----------
Deferred Tax Liabilities:
    Deferred Policy Acquisition Costs...............................        479         758
    Depreciation....................................................      3,211          --
    Other...........................................................      1,682         242
                                                                      ----------  ----------
      Total.........................................................      5,372       1,000
                                                                      ----------  ----------
    Net Deferred Tax Asset.......................................... $   57,338  $   82,322
                                                                      ==========  ==========`

75

The tax effects of significant items comprising the net
deferred tax assets of the Company's continuing operations are as follows at
December 31:

`2003        2002    
                                                                      ----------  ----------
                                                                          (In thousands)
Deferred Tax Assets:
    Medical Claims Payable.......................................... $    7,236  $    4,587
    Accruals Not Currently Deductible...............................      4,688      15,162
    Compensation Accruals...........................................     12,217      10,772
    Bad Debt Allowances.............................................      2,428       2,769
    Loss Carryforwards and Credits..................................     18,249      28,544
    Unrealized Investment Losses (Gains)............................        195        (353)
    Depreciation and Amortization...................................         --       3,650
    Other...........................................................        196         218
                                                                      ----------  ----------
      Total.........................................................     45,209      65,349
                                                                      ----------  ----------
Deferred Tax Liabilities:
    Depreciation and Amortization...................................      3,099          --
    Other...........................................................        995         849
                                                                      ----------  ----------
      Total.........................................................      4,094         849
                                                                      ----------  ----------
    Net Deferred Tax Asset.......................................... $   41,115  $   64,500
                                                                      ==========  ==========`

At December 31, 2003, the Company had approximately $41.9
million of regular tax net operating loss carryforwards.  The net operating loss
carryforwards can be used to reduce future taxable income until they expire
through the year 2020.  In addition to the net operating loss carryforwards, the
Company has alternative minimum tax credits of approximately $3.4 million, which
can be used to reduce regular tax liabilities in future years.  There is no
expiration date for the alternative minimum tax credits.



The Company, at a consolidated level including discontinued
operations, does not have a valuation allowance at December 31, 2003 or 2002.
Under the Company's tax sharing agreements, the discontinued operations do have
a valuation allowance at December 31, 2003 and 2002, which is eliminated in the
Company's consolidated financial statements.



Current income tax receivables, including discontinued
operations, total $10.0 million at December 31, 2003 and $2.3 million at
December 31, 2002.



9. TEXAS DISCONTINUED OPERATIONS



During the third quarter of 2001, the Company announced its
plan to exit the Texas HMO health care market and received formal approval from
the Texas Department of Insurance to withdraw its HMO operations in mid-October
2001.  The Company ceased providing HMO health care coverage in Texas on April
17, 2002.



The Company elected to early adopt SFAS No. 144 effective
January 1, 2001. In accordance with SFAS No. 144, the Company's Texas HMO health
care operations were reclassified as discontinued operations.

76

The following are the assets and liabilities of the
discontinued Texas HMO health care operations:

`December 31,
                                                                  -------------------------
                                                                     2003          2002
                                                                  -----------  ------------           
                                                                        (In thousands)
ASSETS
Cash and Cash Equivalents....................................... $        47  $         --
Investments.....................................................       4,048         4,263
Other Assets....................................................         115           916
Property and Equipment, Net.....................................          --        11,967
                                                                  -----------  ------------
TOTAL ASSETS....................................................       4,210        17,146
                                                                  -----------  ------------
LIABILITIES
Accounts Payable and Other Liabilities..........................       2,658         9,059
Medical Claims Payable..........................................         202         1,754
Mortgage Loan...................................................          --        14,961
                                                                  -----------  ------------
TOTAL LIABILITIES...............................................       2,860        25,774
                                                                  -----------  ------------
NET ASSETS (LIABILITIES) OF DISCONTINUED OPERATIONS............. $     1,350  $     (8,628)
                                                                  ===========  ============`

The assets and liabilities above do not include an
intercompany liability of $6.9 million and $38.4 million from Texas Health Choice, L.C.,
("TXHC") to Sierra at December 31, 2003 and 2002, respectively.  The liability has been
eliminated upon consolidation.



Property and equipment consisted mainly of real estate
properties located in the Dallas/Fort Worth metroplex areas.  TXHC acquired
these properties from Kaiser Foundation Health Plan of Texas
("Kaiser-Texas"), for $44.0 million as part of the acquisition of certain assets of
Kaiser-Texas in October 1998.  In June 2000, as part of its restructuring and
reorganization of the Texas HMO health care operations, the Company announced
its intention to sell these properties.  The real estate was written down to its
estimated fair value and the Company recorded an asset impairment charge of
$27.0 million.  The real estate was encumbered by a mortgage loan payable to
Kaiser-Texas, which was guaranteed by Sierra.  In December 2001, the mortgage
loan was restructured and Kaiser-Texas forgave $8.5 million of the outstanding
principal balance of the mortgage loan and extended the maturity from November
1, 2003 to November 1, 2006.  In accordance with accounting principles generally
accepted in the United States of America, the carrying amount of the mortgage
loan was equal to the total future cash payments (interest and principal).



During 2002, TXHC sold four of the eight real estate
properties and a parcel of land.  As required under the terms of the mortgage
loan agreement, pre-determined minimum amounts of the mortgage note are required
to be paid as each piece of real estate is sold.  Accordingly, total payments of
$11.3 million were made to Kaiser-Texas on the mortgage loan.  Since the
principal payments resulted in a reduction of future interest, future accrued
interest was reduced and a gain, net of tax, of $1.9 million was recorded.



During the second quarter of 2003, a final payment of $12.9 million
was made to pay off Kaiser-Texas mortgage loan, resulting in a gain, net of tax,
of  $1.3 million.  During 2003, TXHC sold the four remaining real estate
properties for a net loss of $400,000.

77

The following are condensed statements of operations of the
discontinued Texas HMO health care operations:

`Years ended December 31,
                                                                      ----------------------------------
                                                                         2003        2002        2001
                                                                      ----------  ----------  ----------
                                                                                (In thousands)

  Operating Revenues................................................ $      217  $    4,791  $  181,132
                                                                      ----------  ----------  ----------

  Medical Expenses..................................................     (1,802)     (8,933)    175,333
  General and  Administrative Expenses..............................        624       1,906      29,607
  Asset Impairment, Restructuring,
     Reorganization and Other Costs.................................         --       5,000      (1,250)
  Interest Expense and Other, Net...................................     (3,399)     (6,216)     (1,532)
                                                                      ----------  ----------  ----------
  Income (Loss) from Discontinued Operations Before Income Tax......      4,794      13,034     (21,026)
  Income Tax (Provision) Benefit....................................     (1,703)     (4,562)      7,046
                                                                      ----------  ----------  ----------
  Income (Loss) from Discontinued Operations........................ $    3,091  $    8,472  $  (13,980)
                                                                      ==========  ==========  ==========`

Operating revenues of $217,000, $153,000 and $153,000 for the
years ended December 31, 2003, 2002 and 2001, respectively, are related to
investment income.  All of the discontinued Texas HMO health care operations had
previously been a component of the "managed care and corporate
operations" segment.



During the second quarter of 2001, management revised their
estimates of premium deficiency reserves and reclassified $7.8 million from
premium deficiency maintenance reserve to premium deficiency medical reserve.
This reclassification was based on the latest available medical cost trends,
which did not become evident until late in the second quarter of 2001, and is
reflected as an increase in medical expense and a decrease in general and
administrative expenses on the condensed statements of operations of the
discontinued Texas HMO health care operations.



In conjunction with the Company's plan to exit the Texas HMO
health care market, during the third quarter of 2001, the Company recorded
charges of $10.6 million for premium deficiency medical costs, $1.6 million to
write down certain Texas furniture and equipment, $2.0 million in lease and
other termination costs, $1.8 million in legal and restitution costs, $500,000
in various other exit related costs and $570,000 in premium deficiency
maintenance.



During 2002, the Company had favorable development related to
its medical claims and reduced its medical claims payable and medical expenses
by $9.8 million.  The favorable development was partially offset by an increase
in the estimate of legal, restitution and other exit related costs of $800,000.
The adjustments resulted in income, net of tax, of $5.9 million.



Based on the current estimated Texas HMO health care run-out
costs and recorded reserves, the Company believes it has adequate funds
available and the ability to fund the anticipated obligations for our former
members health care claims.

78

The table below presents a summary of discontinued Texas HMO
health care operations' asset impairment, restructuring, reorganization and
other cost activity for the periods indicated.

`Restructuring
                                      Asset           and           Premium
                                     Impair-        Reorgan-       Deficiency
                                      ment          ization       Maintenance     Other      Total
                                   -----------  ----------------  ------------  ---------  ---------
                                                                 (In thousands)
Balance, January 1, 2001......... $        --  $          3,755  $      9,278  $     800  $  13,833
Charges recorded.................       1,600             4,380           570         --      6,550
Cash used........................          --            (3,716)       (1,478)      (800)    (5,994)
Noncash activity.................      (1,600)             (125)           --         --     (1,725)
Changes in estimate..............          --                --        (7,800)        --     (7,800)
                                   -----------  ----------------  ------------  ---------  ---------
Balance, December 31, 2001.......          --             4,294           570         --      4,864
Charges recorded.................          --                --            --         --         --
Cash used........................          --            (2,490)         (570)        --     (3,060)
Noncash activity.................          --            (4,222)           --         --     (4,222)
Changes in estimate..............          --             5,000            --         --      5,000
                                   -----------  ----------------  ------------  ---------  ---------
Balance, December 31, 2002.......          --             2,582            --         --      2,582
Charges recorded.................          --                --            --         --         --
Cash used........................          --              (909)           --         --       (909)
Noncash activity.................          --              (523)           --         --       (523)
Changes in estimate..............          --            (1,150)           --         --     (1,150)
                                   -----------  ----------------  ------------  ---------  ---------
Balance, December 31, 2003....... $        --  $             --  $         --  $      --  $      --
                                   ===========  ================  ============  =========  =========`

10. CII FINANCIAL, INC. DISCONTINUED
OPERATIONS



On January 15, 2003, the Company announced that it was
exploring strategic alternatives for its workers' compensation company, CII
Financial Inc., ("CII").  Sierra's Board of Directors approved the
sale of the operations on December 31, 2002.  Accordingly, beginning in the
fourth quarter of 2002, the Company reclassified its workers' compensation
insurance business as discontinued operations.



In conjunction with the decision to sell the workers'
compensation operations at the end of 2002, CII recorded valuation adjustments
of $17.3 million, $11.3 million after tax, to reduce this business to its
estimated net realizable value upon disposition.  The valuation adjustments
included the write down of accounts receivable, fixed assets and certain other
assets of $4.0 million and additional loss reserves of $8.3 million for the 2002
accident year and $5.0 million for prior accident years.



In the second quarter of 2003, CII recorded $4.0 million,
$2.6 million after tax, in additional valuation adjustments.  On November 25,
2003, the Company announced that it had reached an agreement to sell Cal
Indemnity and its subsidiaries.  Cal Indemnity is a wholly-owned subsidiary of
CII and is CII's only significant asset.  As part of the purchase agreement, Cal
Indemnity and its subsidiaries have stopped voluntarily issuing new or renewal
policies except in Nevada. The buyer intends to place Cal Indemnity and its
subsidiaries in run-off.  An independent third party claims administrator has
been engaged to administer the claims when the transaction is consummated.  The
transaction was initially valued at $79.5 million, consisting of $15.5 million
payable at closing and a contingent payment of $64.0 million, which will be
payable in 2010.  The cash payable at closing is subject to certain adjustments
and the contingent payment can be increased or decreased based upon favorable or
adverse loss and allocated loss

79

adjustment expense development from closing through December 2009.  The Company currently estimated that the adjustments
would reduce the net sales proceeds to approximately $73 million.  In the fourth
quarter of 2003, the Company recorded a charge of $15.6 million, gross and net
of tax, to write down the investment in Cal Indemnity to its estimated net sales
proceeds.  The Company did not recognize a tax benefit on the charge since the Company's
tax basis was less than our investment in Cal Indemnity.  The sale is subject to regulatory
approvals and is expected to close by April 30, 2004.



Summary of significant accounting policies related to
workers' compensation operations.



Specialty Product Revenues.   These revenues consist
of workers' compensation premiums. Premiums are calculated by formula such that
the premium written is earned pro rata over the term of the policy.  Premiums
written in excess of premiums earned are recorded as an unearned premium revenue
liability.  Premiums earned include an estimate for earned but unbilled
premiums.



Specialty Product Expenses.  These expenses consist
primarily of losses and loss adjustment expense ("LAE"), policy acquisition
costs and other general and administrative expenses associated with issued
workers' compensation policies.  Losses and LAE are based upon the accumulation
of cost estimates for reported claims occurring during the period as well as an
estimate for losses that have occurred but have not yet been reported.  Policy
acquisition costs consist of commissions, premium taxes and other underwriting
costs, which are directly related to the production and retention of new and
renewal business and are deferred and amortized as the related premiums are
earned.  Should it be determined that future policy revenues and earnings on
invested funds relating to existing insurance contracts will not be adequate to
cover related costs and expenses, deferred costs are expensed.



Loss and LAE reserves have a significant degree of
uncertainty when related to their subsequent payments.  Although reserves are
established on the basis of a reasonable estimate, it is not only possible but
also probable that reserves will differ from their related subsequent
developments.  Underlying causes for this uncertainty include, but are not
limited to, uncertainty in development patterns and unanticipated inflationary
trends affecting the cost of services covered by the insurance contract.  This
uncertainty can result in both adverse as well as favorable development of
actual subsequent activity when compared to the reserve established.  Any
subsequent change in loss and LAE reserves established in a prior year would be
reflected in that subsequent year's operating results.

80

The following are the assets and liabilities of the
discontinued operations of CII:

`December 31,
                                                                  -------------------------
                                                                     2003          2002
                                                                  -----------  ------------   
                                                                        (In thousands)
ASSETS
Cash and Cash Equivalents....................................... $    58,634  $     23,060
Investments.....................................................     243,647       287,242
Reinsurance Recoverable.........................................     177,333       189,409
Property and Equipment, Net.....................................       1,612         2,167
Other Assets....................................................      48,320        46,034
                                                                  -----------  ------------
TOTAL ASSETS....................................................     529,546       547,912
                                                                  -----------  ------------

LIABILITIES
Accounts Payable and Other Accrued Expenses.....................      54,208        30,989
Senior Debentures...............................................          --        16,765
Reserve for Loss and Loss Adjustment Expenses...................     415,339       427,192
                                                                  -----------  ------------
TOTAL LIABILITIES...............................................     469,547       474,946
                                                                  -----------  ------------
NET ASSETS OF DISCONTINUED OPERATIONS........................... $    59,999  $     72,966
                                                                  ===========  ============`

The following are condensed statements of operations of the
discontinued operations of CII:

`Years ended December 31,
                                                         -------------------------------------
                                                            2003         2002         2001
                                                         -----------  -----------  -----------
OPERATING REVENUES:                                                 (In thousands)

Specialty Product Revenues............................. $   123,001  $   176,189  $   173,215
Investment and Other Revenues..........................       9,301       12,633       14,786
                                                         -----------  -----------  -----------
    Total Revenues.....................................     132,302      188,822      188,001
                                                         -----------  -----------  -----------

OPERATING EXPENSES:
Specialty Product Expenses.............................     145,824      209,601      183,666
Asset Impairment.......................................      15,610           --           --
Interest Expense and Other, Net........................        (968)       1,059          707
                                                         -----------  -----------  -----------
    Total Expenses.....................................     160,466      210,660      184,373
                                                         -----------  -----------  -----------

(Loss) Income from Discontinued Operations
   Before Income Tax ..................................     (28,164)     (21,838)       3,628

Income Tax Benefit (Provision).........................       5,281        7,506       (1,643)
                                                         -----------  -----------  -----------
Net (Loss) Income from Discontinued Operations......... $   (22,883) $   (14,332) $     1,985
                                                         ===========  ===========  ===========`

All of the discontinued operations of CII were a component of
the "workers' compensation operations" segment for the year ended
December 31, 2001.

81

Property and equipment of the discontinued operations of CII
at December 31, consists of the following:

`2003         2002
                                                   -----------  -----------  
                                                        (In thousands)

Land............................................. $       116  $       116
Buildings and Improvements.......................       1,535        1,522
Furniture, Fixtures and Equipment................           1           70
Data Processing Equipment and Software...........          20        3,534
Software in Development and Construction
   in Progress...................................          --           45
Less: Accumulated Depreciation...................         (60)      (3,120)
                                                   -----------  -----------
    Property and Equipment, Net.................. $     1,612  $     2,167
                                                   ===========  ===========`

82

The following table summarizes the investments of CII as of
December 31, 2003:

`Gross       Gross
                                                                      Amortized   Unrealized  Unrealized     Fair
                                                                         Cost       Gains       Losses      Value
                                                                      ----------  ----------  ----------  ----------
Available-for-Sale Investments:                                                        (In thousands)
Classified as Current:
    U.S. Government and its Agencies................................ $   95,419  $      440  $    1,430  $   94,429
    Municipal Obligations...........................................    123,439         702         414     123,727
    Corporate Bonds.................................................      3,688          60          --       3,748
                                                                      ----------  ----------  ----------  ----------
 Total Current......................................................    222,546       1,202       1,844     221,904
                                                                      ----------  ----------  ----------  ----------
Classified as Restricted:
    U.S. Government and its Agencies................................     12,888         264           7      13,145
    Municipal Obligations...........................................      4,240         212           1       4,451
    Other...........................................................        533          --          --         533
                                                                      ----------  ----------  ----------  ----------
 Total Debt Securities..............................................     17,661         476           8      18,129
    Preferred Stock.................................................         75          --          --          75
                                                                      ----------  ----------  ----------  ----------
 Total Restricted...................................................     17,736         476           8      18,204
                                                                      ----------  ----------  ----------  ----------
          Total Available-for-Sale.................................. $  240,282  $    1,678  $    1,852  $  240,108
                                                                      ==========  ==========  ==========  ==========

Held-to-Maturity Investments:
Classified as Current:
    U.S. Government and its Agencies................................ $    1,748  $       25  $       --  $    1,773
                                                                      ----------  ----------  ----------  ----------
Classified as Long-term:
    Municipal Obligations...........................................        328          18          --         346
                                                                      ----------  ----------  ----------  ----------
Classified as Restricted:
    Municipal Obligations...........................................        638          34          --         672
    Corporate Bonds.................................................        500          11          --         511
    Other...........................................................        325          --          --         325
                                                                      ----------  ----------  ----------  ----------
Total Restricted....................................................      1,463          45          --       1,508
                                                                      ----------  ----------  ----------  ----------
          Total Held-to-Maturity.................................... $    3,539  $       88  $       --  $    3,627
                                                                      ==========  ==========  ==========  ==========`

The fair value of investments with unrealized losses is $111.1 million.  The fair value of investments with unrealized losses for more
than 12 months is $2.6 million with current unrealized losses that total
$20,000. CII has not experienced any investment impairments that were
considered other than temporary.

83

The following table summarizes the investments of CII as of
December 31, 2002:

`Gross       Gross
                                                                      Amortized   Unrealized  Unrealized     Fair
                                                                         Cost       Gains       Losses      Value
                                                                      ----------  ----------  ----------  ----------
                                                                                       (In thousands)
Available-for-Sale Investments:
Classified as Current:
    U.S. Government and its Agencies................................ $  163,384  $    2,682  $      423  $  165,643
    Municipal Obligations...........................................     65,454         338         501      65,291
    Corporate Bonds.................................................     19,830          49       1,919      17,960
    Mortgage Backed Securities.......................................     1,020          47          --       1,067
    Other...........................................................     10,987          46          25      11,008
                                                                      ----------  ----------  ----------  ----------
       Total Debt Securities........................................    260,675       3,162       2,868     260,969
    Preferred Stock.................................................      5,939         210          22       6,127
                                                                      ----------  ----------  ----------  ----------
 Total Current......................................................    266,614       3,372       2,890     267,096
                                                                      ----------  ----------  ----------  ----------
Classified as Restricted:
    U.S. Government and its Agencies................................     12,489         711          --      13,200
    Municipal Obligations...........................................        974          62          --       1,036
    Corporate Bonds.................................................        756           5          --         761
                                                                      ----------  ----------  ----------  ----------
 Total Restricted...................................................     14,219         778          --      14,997
                                                                      ----------  ----------  ----------  ----------
          Total Available-for-Sale.................................. $  280,833  $    4,150  $    2,890  $  282,093
                                                                      ==========  ==========  ==========  ==========

Held-to-Maturity Investments:
Classified as Current:
    Corporate Bonds................................................. $      799  $        3  $       --  $      802
                                                                      ----------  ----------  ----------  ----------
Classified as Long-term:
    U.S. Government and its Agencies................................        662          10          --         672
    Municipal Obligations...........................................        328          25          --         353
    Corporate Bonds.................................................      1,749         113          --       1,862
                                                                      ----------  ----------  ----------  ----------
Total Long-term.....................................................      2,739         148          --       2,887
                                                                      ----------  ----------  ----------  ----------
Classified as Restricted:
    Municipal Obligations...........................................        637          49          --         686
    Corporate Bonds.................................................        974          39          --       1,013
                                                                      ----------  ----------  ----------  ----------
Total Restricted....................................................      1,611          88          --       1,699
                                                                      ----------  ----------  ----------  ----------
          Total Held-to-Maturity.................................... $    5,149  $      239  $       --  $    5,388
                                                                      ==========  ==========  ==========  ==========`

84

The contractual maturities of available-for-sale debt
securities at December 31, 2003 are shown below:

`Amortized      Fair
                                                                         Cost       Value
                                                                      ----------  ----------            
                                                                           (In thousands)

Due in one year or less............................................. $   11,722  $   11,907
Due after one year through five years...............................    137,705     138,088
Due after five years through ten years..............................     63,650      63,435
Due after ten years through fifteen years...........................     12,806      12,976
Due after fifteen years.............................................     14,324      13,627
                                                                      ----------  ----------
     Total.......................................................... $  240,207  $  240,033
                                                                      ==========  ==========`

Expected maturities may differ from contractual maturities
because borrowers have the right to call or prepay obligations.



The contractual maturities of held-to-maturity investments at
December 31, 2003 are shown below:

`Amortized      Fair
                                                                         Cost       Value
                                                                      ----------  ----------            
                                                                           (In thousands)

Due in one year or less............................................. $    2,549  $    2,585
Due after one year through five years...............................         25          25
Due after five years through ten years..............................         --          --
Due after ten years through fifteen years...........................        965       1,017
Due after fifteen years.............................................         --          --
                                                                      ----------  ----------
     Total.......................................................... $    3,539  $    3,627
                                                                      ==========  ==========`

Expected maturities may differ from contractual maturities
because borrowers have the right to call or prepay obligations.



Reinsurance.  CII has reinsurance agreements or
treaties in effect with unrelated entities. Effective July 1, 1998, all claims
with dates of injury occurring on or after that date were reinsured under a
quota share and excess of loss agreement ("low level reinsurance"),
with Travelers Indemnity Company of Illinois ("Travelers").  Travelers
is rated AA and A++ by Fitch Ratings and the A.M. Best Company, respectively.
The low level reinsurance provided quota share protection for 30% of the first
$10,000 of each loss, and excess of loss protection of 75% of the next $40,000
of each loss, and 100% of the next $450,000 on a per occurrence basis.  The
maximum net loss retained on any one claim ceded under this treaty was $17,000.
This agreement continued until June 30, 2000, when CII exercised an option for a
twelve month extension relating to the run-off of policies in force as of June
30, 2000, which covered claims arising under such policies during the term of
the extension.



In addition to the low level reinsurance, effective January
1, 2000, CII entered into a reinsurance contract that provided statutory
(unlimited) coverage for workers' compensation claims in excess of $500,000 per
occurrence.  The contract was in effect for claims occurring on or after January
1, 2000 through December 31, 2002.  There was a twelve month run-out provision
in the contract, which the Company exercised.  The reinsurer, National Union
Fire Insurance Company, is rated AAA and A++ by Fitch Ratings and the A.M. Best
Company, respectively.

85

Effective July 1, 2000, CII entered into a reinsurance
contract with National Union Fire Insurance Company that provided $250,000 of
coverage for workers' compensation claims in excess of $250,000 per occurrence.
The contract was in effect for claims occurring on policies with effective dates
beginning July 1, 2000 and thereafter and for claims incurred prior to July 1,
2001.



The low level reinsurance agreement was consummated early in
the fourth quarter of 1998 but coverage was made retroactive to July 1, 1998.
Therefore, this agreement contained both retroactive (covering claims occurring
in the third calendar quarter of 1998) and prospective reinsurance coverage
(covering claims occurring after September 30, 1998). In accordance with
Statement of Financial Accounting Standards No. 113, "Accounting and
Reporting for Reinsurance of Short-Duration and Long-Duration Contracts"
("SFAS No. 113"), CII bifurcated the low level reinsurance agreement
between the retroactive and prospective components due to the different
accounting treatments for each respective piece.  The amount by which the
estimated ceded liabilities exceeded the amount paid for the retroactive
coverage was reported as a deferred gain and is amortized to income as a
reduction of incurred losses over the estimated remaining settlement period
using the interest method. Any subsequent changes in estimated or actual cash
flows related to the retroactive coverage are accounted for by adjusting the
previously recorded deferred gain to the balance that would have existed had the
revised estimate been available at the inception of the reinsurance
transactions, with a corresponding charge or credit to income. CII recorded an
adjustment to increase its deferred gain related to retroactive reinsurance
coverage by $1.2 million, $1.2 million and $3.0 million in 2003, 2002 and 2001,
respectively.  For the years ended December 31, 2003, 2002 and 2001, CII
amortized deferred gains of $1.7 million, $1.9 million and $2.7 million,
respectively. Such amortization is included as a credit to specialty product
expense on the accompanying condensed consolidated statements of operations.

In the wake of the events of September 11, 2001 and the ensuing hardening of the reinsurance
market, our new reinsurance agreements, which cover new and renewal policies effective on and
after January 1, 2003, have reduced coverage limits and exclusions for terrorist acts.  The
Company continues to retain the first $500,000 per occurrence but the maximum coverage has
been reduced from statutory limits (i.e., unlimited) to $20.0 million per occurrence.  The Company
also must meet certain annual aggregate deductibles before it can begin to recover from some of
its reinsurers.  This new coverage will result in the Company retaining more of the losses and
 LAE.  The reinsurers on the new agreement consist of domestic as well
as foreign reinsurers, and all are rated at least A- or better by the A.M. Best Company as of
December 31, 2003.



In accordance with SFAS No. 113, losses ceded under
prospective reinsurance reduce direct incurred losses and amounts recoverable
are reported as an asset.  At December 31, 2003 and 2002, the amount of
reinsurance recoverable under prospective reinsurance contracts for unpaid loss
and LAE was $159.9 million and $169.0 million, respectively.  At December 31,
2003 and 2002, the amount of reinsurance recoverable under the retroactive
reinsurance contract was $5.3 million and $6.9 million, respectively.  The
amount of reinsurance receivable for paid loss and LAE was $12.1 million and
$13.5 million at December 31, 2003 and 2002, respectively.



Reinsurance contracts do not relieve CII from its obligations
to claimants or policyholders. Failure of reinsurers to honor their obligations
could result in losses to CII.  CII evaluates the financial condition of its
reinsurers to minimize its exposure to significant losses from reinsurer
insolvencies.  To date, CII has never had to write-off a reinsurance recoverable
balance and no allowance for uncollectible amounts has been established.  All of
the reinsurance recoverables are due from reinsurers rated AA- and A+ or better
by Fitch Ratings and the A.M. Best Company, respectively, and all amounts are
considered to be collectible.

86

The following table provides workers' compensation
prospective reinsurance information for the three years ended December 31,
2003:

`Change in
                                                                      Recoveries  Recoverable
                                                                       on Paid    on Unpaid    Premiums
                                                                      Losses/LAE  Losses/LAE    Ceded
                                                                      ----------  ----------  ----------
                                                                                (In thousands)
Year Ended December 31, 2003:
 Low level reinsurance carrier...................................... $   43,818  $  (19,827) $      (27)
 Excess of loss reinsurance carriers................................      6,544      10,698       6,136
                                                                      ----------  ----------  ----------
 Total.............................................................. $   50,362  $   (9,129) $    6,109
                                                                      ==========  ==========  ==========
Year Ended December 31, 2002:
 Low level reinsurance carrier...................................... $   60,314  $  (37,854) $   (2,184)
 Excess of loss reinsurance carriers................................      2,308      19,403       2,617
                                                                      ----------  ----------  ----------
 Total.............................................................. $   62,622  $  (18,451) $      433
                                                                      ==========  ==========  ==========
Year Ended December 31, 2001:
 Low level reinsurance carrier...................................... $   80,932  $  (40,430) $    9,136
 Excess of loss reinsurance carriers................................      4,407       9,125       4,244
                                                                      ----------  ----------  ----------
 Total.............................................................. $   85,339  $  (31,305) $   13,380
                                                                      ==========  ==========  ==========`

Losses and Loss Adjustment Expenses.  The following
table provides a reconciliation of the beginning and ending reserve balances for
workers' compensation unpaid losses and LAE.  The loss estimates are subject to
change in subsequent accounting periods and any change to the current reserve
estimates would be accounted for in the period when the change occurs.

`Years Ended December 31,
                                                                      ----------------------------------
                                                                         2003        2002        2001
                                                                      ----------  ----------  ----------
                                                                                (In thousands)

Net Beginning Losses and LAE Reserve................................ $  258,190  $  198,252  $  155,797
                                                                      ----------  ----------  ----------
Net Provision for Insured Events Incurred in:
   Current Year.....................................................     88,819     139,513     131,923
   Prior Years......................................................     16,877      23,998       8,691
                                                                      ----------  ----------  ----------
     Total Net Provision............................................    105,696     163,511     140,614
                                                                      ----------  ----------  ----------
Net Payments for Losses and LAE
   Attributable to Insured Events Incurred in:
   Current Year.....................................................     16,236      29,448      28,560
   Prior Years......................................................     92,183      74,125      69,599
                                                                      ----------  ----------  ----------
     Total Net Payments.............................................    108,419     103,573      98,159
                                                                      ----------  ----------  ----------
Net Ending Losses and LAE Reserve...................................    255,467     258,190     198,252
Reinsurance Recoverable.............................................    159,872     169,002     187,453
                                                                      ----------  ----------  ----------
Gross Ending Losses and LAE Reserve................................. $  415,339  $  427,192  $  385,705
                                                                      ==========  ==========  ==========`

While management of the Company believes that current
estimates are reasonable, significant adverse or favorable loss development
could occur in the future.



During the years ended December 31, 2003, 2002 and 2001, the
Company experienced prior year net adverse loss development of $16.9 million,
$24.0 million and $8.7 million, respectively.  The net adverse

87

loss development recorded was largely attributable to higher costs per claim, or claim severity,
in California.  Many workers' compensation insurance carriers in California are
also experiencing high claim severity.  Factors influencing the higher claim
severity include rising average temporary disability costs, the increase in the
number of major permanent disability claims, medical inflation and adverse court
decisions related to medical control of a claimant's treatment.



Long-Term Debt - Senior Debentures.  At September 30,
2000, CII had approximately $47.1 million of subordinated debentures outstanding
that were due on September 15, 2001.  These subordinated debentures were neither
assumed nor guaranteed by Sierra and were subordinated to Sierra's credit
facility debt.  In December 2000, CII commenced an offer to exchange the
subordinated debentures for cash and/or new debentures.  On May 7, 2001, CII
closed its exchange offer on $42.1 million of its outstanding subordinated
debentures.  CII purchased $27.1 million in principal amount of subordinated
debentures for $20.0 million in cash and issued $15.0 million in new 91⁄2% senior
debentures, due September 15, 2004, in exchange for $15.0 million in
subordinated debentures. The remaining $5.0 million in subordinated debentures
were paid at maturity.



The transaction was accounted for as a restructuring of debt;
therefore, all subsequent cash payments, including interest, related to the
debentures were reductions of the carrying amount of the debentures and no
additional interest expense was recognized.



On June 3, 2003, CII called the outstanding 91⁄2% senior
debentures and redeemed them at the applicable premium of 102.5% along with all
outstanding accrued interest.  The transaction resulted in a gain of $1.4
million, or $1.3 million net of tax.



Intercompany Notes Receivable/Payable.  In
connection with the exchange offer for the subordinated debentures, CII has
promissory notes payable to Sierra aggregating $17.0 million and bearing
interest at 9.5% under which principal and interest are due on demand.



Also in connection with the exchange offer for the
subordinated debentures, Cal Indemnity, a wholly-owned subsidiary of CII, loaned
Sierra $7.5 million.  The loan bears interest at 8.5%, which is due
semi-annually on March 31 and September 30 of each year, commencing September 30,
2001.  All outstanding principal and accrued interest is due on September 30,
2004.  The loan is secured by the common stock of Sierra Health and Life
Insurance Company, Inc., a wholly-owned subsidiary of Sierra, equal to 120% of
the principal amount outstanding.



In connection with the redemption of the outstanding 91⁄2%
senior debentures on June 3, 2003, CII entered into a promissory note payable to
another unregulated subsidiary of Sierra aggregating $15.6 million.  The loan
bears interest at 7.5%, which is due semi-annually on March 15 and September 15
of each year, commencing September 15, 2003.  The note is payable on demand
after September 15, 2004.  All intercompany notes receivable/payable have been
eliminated upon consolidation.

88

11.  COMMITMENTS AND CONTINGENCIES

Leases.  The Company is the lessee under several
operating leases, most of which relate to office facilities and equipment.  The
rentals on these leases are charged to expense over the lease term as the
Company becomes obligated for payment and, where applicable, provide for rent
escalations based on certain costs and price index factors.  The following is a
schedule, by year, of the future minimum lease payments under existing operating
leases:

`Years Ended December 31,                                        (In thousands)

   2004......................................................... $    21,384
   2005.........................................................      20,402
   2006.........................................................      19,769
   2007.........................................................      19,080
   2008.........................................................      17,328
   Thereafter...................................................     117,471
                                                                  -----------
         Total.................................................. $   215,434
                                                                  ===========`

Rent expense totaled $20.6 million, $15.8 million and $7.9
million for the years ended December 31, 2003, 2002 and 2001, respectively.



Litigation and Legal Matters.  The Company is subject
to various claims and other litigation in the ordinary course of business.  Such
litigation includes, but is not limited to, claims of medical malpractice,
claims for coverage or payment for medical services rendered to HMO members and
claims by providers for payment for medical services rendered to HMO and other
members.  Some litigation may also include claims for punitive damages that are
not covered by insurance.  Also included in such litigation are claims for
workers' compensation and claims by providers for payment for medical services
rendered to injured workers.  These actions are in various stages of litigation
and some may ultimately be brought to trial.  With respect to certain pending
actions, the Company maintains commercial insurance coverage with varying
deductibles for which the Company maintains reserves for its self-insured
portion based upon its current assessment of such litigation. Due to recent
unfavorable changes in the commercial insurance market, the Company has, for
certain risks, purchased coverage with higher deductibles and lower limits of
coverage.  In the opinion of management, based on information presently
available, the amount or range of any potential loss cannot be reasonably
estimated but the ultimate resolution of these pending legal proceedings should
not have a material adverse effect on our financial condition.

12.  RELATED PARTY TRANSACTIONS



At December 31, 2002, the Company's Chief Executive Officer
("CEO") had loans outstanding to the Company in the amount of $4.2
million with a maturity date of December 31, 2003.  During 2003, the Company's
CEO paid the entire outstanding balance including accrued interest.



The Company has a minority interest in a health care
facility in Las Vegas, which is accounted for under the equity method.  The
Company made an initial capital contribution of $1.1 million and has
subsequently increased the carrying amount of its investment by $2.9 million to
reflect its share of the undistributed income of the health care facility.
The Company made capitated payments of $26.7 million, $24.3 million and $21.2
million to the health care facility for services performed in the ordinary
course of business during 2003, 2002 and 2001, respectively.



On February 11, 2004, the Company purchased 500,000 shares at
$32.00 per share from its CEO for a total of $16.0 million.  The closing price of the Company's common
stock on February 11, 2004 was

89

$32.35.  The shares are included in the total repurchases through March 1, 2004, of 708,000.
The purchase was approved by the Company's Board of Directors.



The Company incurred legal fees of $25,000, $24,000 and
$38,000 in the years ended December 31, 2003, 2002 and 2001 respectively, with a
Nevada law firm of which a non-employee Board of Director member is a
shareholder.

13. MEDICAL CLAIMS PAYABLE



The following table reconciles the beginning and ending
balances of medical claims payable:

`Years Ended December 31,
                                                           ----------------------------------------
                                                               2003          2002          2001
                                                           ------------  ------------  ------------
                                                                        (In thousands)

Medical Claims Payable, Beginning of the Period......... $      98,031  $     81,662  $     74,404
Add:  Components of Incurred Medical Expenses
   Current Period Medical Claims........................       776,857       723,167       616,268
   Changes in Prior Periods' Estimates..................       (13,992)      (10,877)       (7,511)
                                                           ------------  ------------  ------------
Total Incurred Medical Expenses.........................       762,865       712,290       608,757
                                                           ------------  ------------  ------------
Less: Medical Claims Paid
   Current Period.......................................       683,597       630,411       541,072
   Prior Period.........................................        73,550        65,510        60,427
                                                           ------------  ------------  ------------
Total Claims Paid.......................................       757,147       695,921       601,499
                                                           ------------  ------------  ------------
Medical Claims Payable, End of Period................... $     103,749  $     98,031  $     81,662
                                                           ============  ============  ============`

Amounts incurred related to prior years show that the
liability at the beginning of each year was ultimately greater than the amount
subsequently incurred.  This favorable development has primarily been a result
of claims being settled for amounts less than originally estimated.



14. MILITARY MEDICAL CLAIMS PAYABLE



The following table reconciles the beginning and ending
balances of military medical claims payable:



`Years Ended December 31,
                                                           ----------------------------------------
                                                               2003          2002          2001
                                                           ------------  ------------  ------------
                                                                        (In thousands)

Military Health Care Payable, Beginning of the Period... $      65,223  $     77,261  $     84,859
Add:  Components of Incurred Medical Expenses
   Current Period Medical Claims........................       318,833       251,632       219,569
   Changes in Prior Periods' Estimates
       Earnings Related Changes.........................        (3,235)       (4,601)        2,088
       Non-Earnings Related Changes.....................       (10,777)      (16,509)      (11,896)
                                                           ------------  ------------  ------------
Total Incurred Medical Expenses.........................       304,821       230,522       209,761
                                                           ------------  ------------  ------------
Less: Military Contract Claims Paid
   Current Period.......................................       244,644       194,659       158,971
   Prior Period.........................................        48,795        47,901        58,388
                                                           ------------  ------------  ------------
Total Military Contract Claims Paid.....................       293,439       242,560       217,359
                                                           ------------  ------------  ------------
Military Health Care Payable, End of Period............. $      76,605  $     65,223  $     77,261
                                                           ============  ============  ============`

90

The military contract expenses presented in
the Consolidated Statements of Operations include the total incurred medical
expenses presented above and the general and administrative
expenses for SMHS.  SMHS' general and administrative
expenses under the military contract totaled $147.7 million, $129.9 million
and $121.9 million for the years ended December 31, 2003, 2002, and 2001,
respectively.  Total incurred medical expenses include the current year expenses
plus adjustments to prior periods' estimates.  Any subsequent change in an
estimate for a prior period is reflected in the current year.  Certain
adjustments to prior periods have a current year earnings impact while other
adjustments do not have a current year earnings impact.  The adjustments that do
not have a current year earnings impact  are the result of an offsetting revenue
adjustment in accordance with SMHS' risk-sharing terms
under SMHS' contract with the Department of Defense ("DoD").  For
example in 2003, SMHS had total adjustments to prior period estimates of $14.0
million.  These adjustments resulted in a reduction of current period expense of $14.0 million
and current period revenue of $10.8 million for a pre-tax increase of $3.2 million to current period earnings.
The favorable development in the earnings related changes for
the years ended December 31, 2003 and 2002 have primarily been a result of
claims being settled for amounts less than originally estimated.



15.	EMPLOYEE BENEFIT PLANS



Defined Contribution Plan.  The Company has a defined
contribution pension and 401(k) plan (the "Plan") for its employees.
The Plan covers all employees who meet certain age and length of service
requirements.  For the six months ended June 30, 1999, the Company contributed a
maximum of 2% of eligible employees' compensation and matched 50% of a
participant's elective deferral up to a maximum of either 10% of an employee's
compensation or the maximum allowable under current IRS regulations.  Effective
July 1, 1999, the Plan was modified such that the Company matches 50%-100% of an
employee's elective deferral up to a maximum of 6% of a participant's annual
compensation, subject to IRS limits. The Plan does not require additional
Company contributions.  Expense under the plan totaled $5.3 million, $4.4
million and $4.8 million for the years ended December 31, 2003, 2002 and 2001,
respectively.



Supplemental Retirement Plans.  The Company has
Supplemental Retirement Plans (the "SRPs") for certain officers,
directors and highly compensated employees.  The SRPs are non-qualified deferred
compensation plans through which participants may elect to postpone the receipt
and taxation of all or a portion of their salary and bonuses received from the
Company.  Until July 1, 1999, the Company matched 50% of those contributions
that participants were restricted from deferring, if any, under the Company's
pension and 401(k) plan.  As contracted with the Company, the participants or
their designated beneficiaries may begin to receive benefits under the SRPs upon
a participant's death, disability, retirement, termination of employment or
certain other circumstances including financial hardship.



Executive Split Dollar Life Insurance Plan.  The
Company has split dollar life insurance agreements with certain officers and key
executives (selected and approved by the Sierra Board of Directors).  The
premiums paid by the Company will be reimbursed upon the occurrence of certain
events as specified in the contract.  No premiums have been paid under these
policies since July 2002.



Supplemental Executive Retirement Plan
("SERP").  The Company has a defined benefit retirement plan
covering certain key employees.  The Company is informally funding the benefits
through the purchase of life insurance policies.  Benefits are based on, among
other things, the employee's average earnings over the five-year period prior to
retirement or termination, and length of service.  Benefits attributable to
service prior to the adoption of the plan are amortized over the estimated
remaining service period for those employees participating in the plan.  The
Company expects to contribute approximately $800,000 to the plan in 2004 to fund
expected benefit payments.  The plan measurement date was December 31, 2003.

91

A reconciliation of ending year SERP balances is as
follows:

`Years ended December 31,
                                                                  ------------------------------------
                                                                     2003          2002         2001
                                                                  -----------  ------------   --------
                                                                              (In thousands)          
Change in benefit obligation                                                                          
Benefit obligation at beginning of year......................... $    23,461  $     19,143   $ 13,698
Service cost....................................................         374           292        322
Interest cost...................................................       1,547         1,375      1,162
Actuarial loss..................................................       5,298         3,435      4,745
Expected benefits paid..........................................        (784)         (784)      (784)
                                                                  -----------  ------------   --------
Benefit obligation at end of year............................... $    29,896  $     23,461   $ 19,143
                                                                  ===========  ============   ========

Change in plan assets                                                                                 
Fair value of plan assets at beginning of year.................. $        --  $         --   $     --
Employer contributions..........................................         784           784        784
Expected benefits paid..........................................        (784)         (784)      (784)
                                                                  -----------  ------------   --------
Fair values of plan assets at end of year....................... $        --  $         --   $     --
                                                                  ===========  ============   ========

Funded status................................................... $   (29,896) $    (23,461)  $(19,143)
Unrecognized prior service cost.................................       8,145         6,761      3,900
Unrecognized net actuarial loss.................................       8,212         5,640      6,566
                                                                  -----------  ------------   --------
Accrued net benefit cost........................................     (13,539)      (11,060)    (8,677)
                                                                  -----------  ------------   --------

Unfunded accumulated benefit obligation.........................     (21,146)      (18,330)   (16,450)
                                                                  -----------  ------------   --------
Additional Minimum Liability....................................      (7,607)       (7,270)    (7,773)
                                                                  -----------  ------------   --------

Intangible Asset................................................       7,607         5,640      7,773
                                                                  -----------  ------------   --------
Accumulated Other Comprehensive Loss............................          --        (1,630)        --
                                                                  -----------  ------------   --------
Benefit liability............................................... $   (21,146) $    (18,330)  $(16,450)
                                                                  ===========  ============   ========

Assumptions:
Discount Rate ..................................................         5.8%          6.5%       7.0%
Rate of Compensation Increase ..................................         3.0%          3.0%       3.0%

Components of Net Periodic Benefit Cost:
Service Cost.................................................... $       374  $        292   $    322
Interest Cost ..................................................       1,547         1,375      1,162
Amortization of Prior Service Credits...........................       1,210           925        925
Recognized Actuarial Loss.......................................         131           575        159
                                                                  -----------  ------------   --------
Net Periodic Benefit Cost....................................... $     3,262  $      3,167   $  2,568
                                                                  ===========  ============   ========`

While the SERP is an unfunded plan, the Company is informally funding the
plan through life insurance contracts on certain Company employees.  The life
insurance contracts had cash surrender values of $14.7 million, $11.7 million
and $10.3 million at December 31, 2003, 2002 and 2001, respectively.

92

16.  CAPITAL STOCK PLANS



Stockholders' Rights Plan.  Each share of Sierra
common stock, par value $.005 per share, contains one right (a
"Right").  Each Right entitles the registered holder to purchase from
Sierra a unit consisting of one one-hundredth (.01) of a share of the Sierra
Series A Junior Participating Preferred Shares (a "Unit"), par value
$.01 per share, or a combination of securities and assets of equivalent value,
at a purchase price of $100.00 per Unit, subject to adjustment.  The Rights have
certain anti-takeover effects.  The Rights will cause substantial dilution to a
person or group that attempts to acquire Sierra on terms not approved by
Sierra's Board of Directors, except pursuant to an offer conditioned on a
substantial number of Rights being acquired.  The Rights should not interfere
with any merger or other business combination approved by the Board of Directors
since Sierra may redeem the Rights at the price of $.02 per Right prior to or
within ten days of the time that a person or group has acquired, or obtained the
right to acquire, beneficial ownership of 20% or more of Sierra common
stock.



Stock Option Plans.  The Company has several plans
that provide common stock-based awards to employees and to non-employee
directors.  The plans provide for the granting of options, stock and other
stock-based awards.  A committee appointed by the Board of Directors grants
awards. Options become exercisable at such times and in such installments as set
by the committee.  The exercise price of each option equals the market price of
the Company's stock on the date of grant. Stock options generally vest at a rate
of 20% - 33% per year.  Options expire from one to eight years after the end of
the vesting period.

The following table reflects the activity of the stock option
plans:

`Number                                Weighted
                                                                      of        Options       Option      Average
                                                                    Shares     Exercisable     Price       Price
                                                                  ----------- -----------  ------------   --------
                                                                              (Number of shares in thousands)

Outstanding January 1, 2001.....................................       4,250         674  $ 3.13 - 24.69 $   7.31

   Granted......................................................       2,218                4.24 -  8.93     6.57
   Exercised....................................................         (72)               3.75 -  8.00     5.25
   Canceled.....................................................        (393)               3.19 - 24.69    10.98
                                                                  ----------- -----------
Outstanding December 31, 2001...................................       6,003       1,391    3.13 - 24.69     6.81

   Granted......................................................         944                8.13 - 13.17    10.88
   Exercised....................................................        (995)               3.25 - 22.38     5.73
   Canceled.....................................................        (100)               3.25 - 24.69    11.32
                                                                  ----------- -----------
Outstanding December 31, 2002...................................       5,852       1,866    3.13 - 24.69     7.56

   Granted......................................................       1,603               12.21 - 23.96    14.48
   Exercised....................................................      (1,918)               3.25 - 24.50     6.92
   Canceled.....................................................        (178)               3.75 - 24.69    13.65
                                                                  ----------- -----------
Outstanding December 31, 2003...................................       5,359       1,384    3.13 - 23.96     9.65
                                                                  =========== ===========

Available for Grant at December 31, 2003........................       2,021
                                                                  ===========`

93

The following table summarizes information about stock
options outstanding at December 31, 2003:

`Weighted Average
                      Weighted Average            Options                Exercise Price
 Range of Exercise    Contractual Life    ------------------------  ------------------------
        Price         Remaining in Days   Outstanding  Exercisable  Outstanding  Exercisable
 -----------------   -------------------  ------------ -----------  -----------  -----------
     $3.13 -  4.80          2,362               1,190         262  $      3.80  $      3.76
      5.73 -  8.82          2,022               1,186         491         6.88         6.72
      8.93 - 12.21          3,148               1,440         498        10.67        10.10
     12.61 - 23.96          3,003               1,543         133        15.34        21.06`

Employee Stock Purchase Plans.  The Company has an
employee stock purchase plan (the "Purchase Plan") whereby employees
may purchase newly issued shares of common stock through payroll deductions at
85% of the fair market value of such shares on specified dates as defined in the
Purchase Plan. During 2003, a total of 574,000 shares were purchased at prices
of $10.21 and $10.38 per share.  At December 31, 2003, the Company had 191,000
shares reserved for purchase under the Purchase Plan of which 119,000 shares
were purchased by employees at $16.28 per share in January 2004.



Restricted Stock Units.  The Company issued 244,000
restricted stock units ("units"), to certain executives during 2001.
The first half of the units vested in 2003 with the remainder vesting in 2004.
Each unit represents a nontransferable right to receive one share of Sierra
stock and there is no cost by the recipient to exercise the units.  The units
are included in total outstanding common shares. In the calculation of earnings
per share, the unvested units are not included in the common shares outstanding
but are included in the calculation of common shares outstanding assuming
dilution.  The transaction was recorded by including the value of the units as
common stock and additional paid-in capital offset by a contra-equity account,
deferred compensation.  The value of the transaction was based on the number of
units issued and the Company stock price on the date of issuance, which was
$5.73.  Compensation expense will be recognized over the period of vesting.
Total expense associated with the plan was $451,000, $585,000 and $342,000 for
2003, 2002 and 2001, respectively.



Accounting for Stock-Based Compensation.  The Company
uses the intrinsic value method in accounting for its stock-based compensation
plans.  The fair value pro forma presentation presented in Note 2 was estimated
at the date of grant using the Black-Scholes option pricing model with the
following weighted average assumptions used for grants in 2003, 2002 and 2001,
respectively: dividend yield of 0% for all years; expected volatility of 73%,
74% and 83%; risk-free interest rates of 2.93%, 3.32% and 4.34%; and expected
lives of two to five years.  The weighted average fair value of options granted
in 2003, 2002 and 2001 was $10.94, $8.60 and $5.58, respectively.



The fair value of the look-back option implicit in each
offering of the Purchase Plans is estimated on the date of grant using the
Black-Scholes option pricing model with the following weighted average
assumptions used for grants in 2003, 2002 and 2001, respectively: dividend yield
of 0% for all years; expected volatility of 64%, 56% and 85%; risk-free interest
rates of 0.93%, 1.48% and 4.36%; and expected lives of six months for all
years.

94

17.  CONSOLIDATED STATEMENTS OF CASH FLOWS SUPPLEMENTAL
INFORMATION



Supplemental statements of cash flows information is
presented below:

`Years ended December 31,
                                                         -------------------------------------
                                                            2003         2002         2001
                                                         -----------  -----------  -----------
                                                                     (In thousands)
Cash Paid During the Year for Interest
     (Net of Amount Capitalized)....................... $     3,342  $     7,205  $    17,164
Cash (Paid) Received During the Year
     for Income Taxes..................................     (10,741)      12,796          221
Non-cash Investing and Financing Activities:
     Retired Sale-Leaseback Assets, Liabilities
       and Financing Obligations.......................          --       89,751       14,552
     Stock Issued for Exercise of Options
       and Related Tax Benefits........................      12,596        6,837           97
     Additions to Capital Leases.......................         153           --           --
     Debentures Exchanged..............................          --           --       19,692`



18.  ASSET IMPAIRMENT, RESTRUCTURING, REORGANIZATION AND
OTHER COSTS



The table below presents a summary of asset impairment,
restructuring, reorganization and other cost activity for the periods indicated
that were included in general and administrative expenses. Discontinued
operations are excluded from this presentation.

`Restructuring
                                            and
                                       Reorganization   Other        Total
                                        -----------  ------------  ---------
                                                    (In thousands)

  Balance, January 1, 2001............ $       594  $      4,447  $   5,041
  Charges recorded....................          --            --         --
  Cash used...........................        (594)           --       (594)
  Noncash activity....................          --            --         --
  Changes in estimate.................          --            --         --
                                        -----------  ------------  ---------
  Balance, December 31, 2001..........          --         4,447      4,447
  Charges recorded....................          --            --         --
  Cash used...........................          --            --         --
  Noncash activity....................          --          (500)      (500)
  Changes in estimate.................          --            --         --
                                        -----------  ------------  ---------
  Balance, December 31, 2002..........          --         3,947      3,947
  Charges recorded....................          --            --         --
  Cash used...........................          --            --         --
  Noncash activity....................          --            --         --
  Changes in estimate.................          --            --         --
                                        -----------  ------------  ---------
  Balance, December 31, 2003.......... $        --  $      3,947  $   3,947
                                        ===========  ============  =========`

The remaining other costs of $3.9 million are related to
legal claims.  Management believes that the remaining reserves, as of December
31, 2003, are appropriate and that no revisions to the estimates are necessary
at this time.

95

19.     SEGMENT REPORTING



The Company has two reportable segments based on the
products and services offered:  managed care and corporate operations, and
military health services operations. The managed care segment includes managed
health care services provided through HMO, managed indemnity plans, third-party
administrative services programs for employer-funded health benefit plans and
self-insured workers' compensation plans, multi-specialty medical groups, other
ancillary services and corporate operations.  The military health services
segment administers a managed care federal contract for the Department of
Defense's TRICARE program in Region 1.



SMHS completed the fifth year of a five-year contract in May
2003 and is in the first year of a contract extension.  In August 2002, the DoD
requested proposals for managed care services under the Next Generation TRICARE
("T-Nex") contract.  The Company submitted its proposal in January
2003 for the T-Nex North Region contract, which includes Region 1, as well as
Michigan, Ohio, Kentucky, Indiana, Illinois, Wisconsin, Virginia and North
Carolina.  However, in August 2003, the DoD awarded the T-Nex North Region
contract to a competitor and the General Accounting Office denied the Company's
protest of the award in December 2003.  The new contractor is scheduled to be
operational in Region 1 on September 1, 2004 and the new contract will supersede
the remainder of the Company's current TRICARE Region 1 contract.  After the new
contractor is operational on September 1, 2004, SMHS will commence a six-month
phase-out of operations at prices previously negotiated with the DoD.  SMHS does
not meet the definition of discontinued operations since the Company does not
have plans to dispose of the operations before the phase-out is complete.



The Company evaluates each segment's performance based on
segment operating profit.  The accounting policies of the operating segments are
the same as those described in the summary of significant accounting policies.

96

Information concerning the operations of the reportable
segments is as follows:

`Managed     Military
                                                               Care and     Health
                                                              Corporate    Services
                                                              Operations  Operations    Total
                                                              ----------  ----------  ----------            
                                                                        (In thousands)                      
Year Ended December 31, 2003                                                                                
Medical Premiums............................................ $  962,176  $       --  $  962,176
Military Contract Revenues..................................         --     465,313     465,313
Professional Fees...........................................     37,367          --      37,367
Investment and Other Revenues...............................     18,192       2,031      20,223
                                                              ----------  ----------  ----------
   Total Revenue............................................ $1,017,735  $  467,344  $1,485,079
                                                              ==========  ==========  ==========

Segment Operating Profit.................................... $  117,607  $   14,790  $  132,397
Interest Expense............................................     (5,217)       (274)     (5,491)
Other Income (Expense), Net.................................       (631)        408        (223)
                                                              ----------  ----------  ----------
Income from Continuing Operations
     Before Income Taxes.................................... $  111,759  $   14,924  $  126,683
                                                              ==========  ==========  ==========

Segment Assets.............................................. $  424,695  $  175,670  $  600,365
Capital Expenditures........................................    (19,768)     (2,006)    (21,774)
Depreciation and Amortization...............................     14,234       1,695      15,929
                                                                                                            
Year Ended December 31, 2002                                                                                
Medical Premiums............................................ $  857,741  $       --  $  857,741
Military Contract Revenues..................................         --     373,589     373,589
Professional Fees...........................................     30,923          --      30,923
Investment and Other Revenues...............................     14,305       2,077      16,382
                                                              ----------  ----------  ----------
   Total Revenue............................................ $  902,969  $  375,666  $1,278,635
                                                              ==========  ==========  ==========

Segment Operating Profit.................................... $   56,700  $   15,291  $   71,991
Interest Expense............................................     (7,455)       (195)     (7,650)
Other Income (Expense), Net.................................       (309)        364          55
                                                              ----------  ----------  ----------
Income from Continuing Operations
     Before Income Taxes.................................... $   48,936  $   15,460  $   64,396
                                                              ==========  ==========  ==========

Segment Assets.............................................. $  387,097  $  113,811  $  500,908
Capital Expenditures........................................    (10,829)     (1,563)    (12,392)
Depreciation and Amortization...............................     15,730       2,515      18,245
                                                                                                            
Year Ended December 31, 2001                                                                                
Medical Premiums............................................ $  718,994  $       --  $  718,994
Military Contract Revenues..................................         --     338,918     338,918
Professional Fees...........................................     28,985          --      28,985
Investment and Other Revenues...............................     14,199       2,404      16,603
                                                              ----------  ----------  ----------
   Total Revenue............................................ $  762,178  $  341,322  $1,103,500
                                                              ==========  ==========  ==========

Segment Operating Profit.................................... $   30,798  $    9,701  $   40,499
Interest Expense............................................    (15,578)       (160)    (15,738)
Other Income (Expense), Net.................................     (2,290)        171      (2,119)
                                                              ----------  ----------  ----------
Income from Continuing Operations
     Before Income Taxes.................................... $   12,930  $    9,712  $   22,642
                                                              ==========  ==========  ==========

Segment Assets.............................................. $  413,871  $  117,302  $  531,173
Capital Expenditures........................................      5,759       1,377       7,136
Depreciation and Amortization (1)...........................     20,159       4,025      24,184`

97

20.   GOODWILL

On January 1, 2002, the Company adopted Statement of
Financial Accounting Standards No. 142, "Goodwill and Other Intangible
Assets" ("SFAS No. 142").  SFAS No. 142 requires, among other
things, the discontinuance of goodwill amortization. In addition, the
pronouncement includes provisions for the reclassification of certain existing
recognized intangibles as goodwill, reassessment of the useful lives of existing
recognized intangibles, reclassification of certain intangibles out of
previously reported goodwill and the identification of reporting units for
purposes of assessing potential future impairments of goodwill. SFAS No. 142
also required the Company to complete a transitional goodwill impairment test
six months from the date of adoption and at least annually thereafter. The net
amortized goodwill balance at December 31, 2003, is $14.8 million. The Company
has determined that the recorded goodwill is not impaired under the guidelines
of the pronouncement.



The following table presents the results of operations as
though the adoption of SFAS No. 142 occurred as of January 1, 2001:

`Year Ended December 31, 2001
                                                                Adjustments
                                                              for Amortization
                                                 As Reported    of Goodwill     As Adjusted
                                                -------------  --------------  -------------
                                                    (In thousands, except per share data)

Income from Continuing Operations............. $      15,481  $          523  $      16,004
Loss from Discontinued Operations.............       (11,995)             --        (11,995)
                                                -------------  --------------  -------------
   Net Income................................. $       3,486  $          523  $       4,009
                                                =============  ==============  =============

Earnings per Common Share:
----------------------------------------------
Income from Continuing Operations............. $        0.56  $         0.02  $        0.58
Loss from Discontinued Operations.............         (0.43)             --          (0.43)
                                                -------------  --------------  -------------
   Net Income................................. $        0.13  $         0.02  $        0.15
                                                =============  ==============  =============

Earnings per Common Share Assuming Dilution:
----------------------------------------------
Income from Continuing Operations............. $        0.54  $         0.02  $        0.56
Loss from Discontinued Operations.............         (0.42)             --          (0.42)
                                                -------------  --------------  -------------
   Net Income................................. $        0.12  $         0.02  $        0.14
                                                =============  ==============  =============`

98

21.     UNAUDITED QUARTERLY INFORMATION

`March        June     September    December
Quarter Ended 2003:                                               31          30          30          31
                                                              ----------  ----------  ----------  ----------
                                                                   (In thousands, except per share data)

Operating Revenues.......................................... $  352,270  $  370,205  $  389,237  $  373,367
Operating Income from Continuing Operations.................     25,275      33,296      35,178      38,648
Net Income from Continuing Operations.......................     15,428      20,510      22,177      24,003
Net Income..................................................     15,022      20,265      22,207       4,832

Basic Earnings per Share:
   Income from Continuing Operations........................ $     0.53  $     0.75  $     0.78  $     0.88
   Net Income...............................................       0.52        0.74        0.78        0.18

Diluted Earnings per Share:
   Income from Continuing Operations........................ $     0.50  $     0.68  $     0.72  $     0.80
   Net Income...............................................       0.49        0.67        0.72        0.16


Quarter Ended 2002:                                                                                         

Operating Revenues.......................................... $  303,748  $  316,968  $  331,017  $  326,902
Operating Income from Continuing Operations.................     13,513      17,808      21,025      19,645
Net Income from Continuing Operations.......................      7,142      10,543      12,394      12,229
Net Income..................................................      7,381      10,523      14,063       4,481

Basic Earnings per Share:
   Income from Continuing Operations........................ $     0.25  $     0.37  $     0.42  $     0.41
   Net Income...............................................       0.26        0.37        0.48        0.15

Diluted Earnings per Share:
   Income from Continuing Operations........................ $     0.24  $     0.34  $     0.39  $     0.39
   Net Income...............................................       0.25        0.34        0.44        0.14`

99



ITEM 9.   CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE



None.





ITEM 9a.   CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

The Company's management, with the participation of the
Company's Chief Executive Officer and Chief Financial Officer, evaluated the
effectiveness of the Company's disclosure controls and procedures as of the end
of the period covered by this report.  Based on that evaluation, the Chief
Executive Officer and Chief Financial Officer concluded that the Company's
disclosure controls and procedures as of the end of the period covered by this
report were designed and were functioning effectively to provide reasonable
assurance that the information required to be disclosed by the Company in
reports filed under the Securities Exchange Act of 1934 is recorded, processed,
summarized and reported within the time periods specified in the SEC's rules and
forms.  The Company believes that a system of controls, no matter how well
designed and operated, cannot provide absolute assurance that the objectives of
the controls are met, and no evaluation of controls can provide absolute
assurance that all control issues and instances of fraud, if any, within a
company have been detected.

Change in Internal Control over Financial Reporting

No change in the Company's internal control over
financial reporting occurred during the Company's most recent fiscal quarter
that has materially affected, or is reasonably likely to materially affect, the
Company's internal control over financial reporting.



PART III





ITEM 10.   DIRECTORS AND EXECUTIVE OFFICERS OF THE
REGISTRANT



The information set forth under the caption "Election of
Directors" in Sierra's Proxy Statement for its 2004 Annual Meeting of
Stockholders, is incorporated herein by reference.





ITEM 11.   EXECUTIVE COMPENSATION



The information set forth under the caption
"Compensation of Executive Officers" in Sierra's Proxy Statement for
its 2004 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 set forth under the caption "Security
Ownership of Certain Beneficial Owners and Management" in Sierra's Proxy
Statement for its 2004 Annual Meeting of Stockholders, is incorporated herein by
reference.





ITEM 13.   CERTAIN RELATIONSHIPS AND RELATED
TRANSACTIONS



The information set forth under the caption "Certain
Relationships and Related Transactions" in Sierra's Proxy Statement for its
2004 Annual Meeting of Stockholders, is incorporated herein by reference.





ITEM 14.   PRINCIPAL ACCOUNTING FEES AND SERVICES

The information set forth under the caption "Principal
Accounting Fees and Services" in Sierra's Proxy Statement for its 2004
Annual Meeting of Stockholders, is incorporated herein by reference.

100

PART IV





ITEM 15.   EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND
REPORTS ON FORM 8-K

(a)(1)			The following consolidated financial statements are
included in Part II, Item 8 of this Report:



|                                                                                                               | Page
|-------------------------------------------------------------------------------------------------------------- | ----
|Independent Auditors' Report                                                                                   | 58  
|Consolidated Balance Sheets at December 31, 2003 and 2002                                                      | 59  
|Consolidated Statements of Operations for the Years Ended
      
   December 31, 2003, 2002 and 2001           | 60  
|Consolidated Statements of Stockholders' Equity
      
   for the Years Ended December 31, 2003, 2002 and 2001 | 61  
|Consolidated Statements of Cash Flows for the Years Ended
      
   December 31, 2003, 2002 and 2001           | 62  
|Notes to Consolidated Financial Statements                                                                     | 63  

(a)(2)			Financial Statement Schedules:



|Schedule I | -   Condensed Financial Information of Registrant                      | S-1
|---------- | ---------------------------------------------------------------------- | ---
|Schedule V | -   Supplemental Information Concerning
   Property-Casualty Insurance | S-5

Other Information:



|Section 403.04 b | -   Exhibit of Redundancies (Deficiencies) | S-6
|---------------- | ------------------------------------------ | ---

All other schedules are omitted because they are not
applicable, not required, or because the required information is in the
consolidated financial statements or notes thereto.



(a)(3)			The following exhibits are filed as part of, or
incorporated by reference into, this Report as required by Item 601 of
Regulation S-K:

|(3.1) | Articles of Incorporation, as amended through September 10, 2003.                                                                                                                                                                                                                                           
|----- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(3.2) | Articles of Incorporation, together with amendments thereto to date, incorporated by
reference to Exhibit 4 (b) to the Registrant's Registration Statement on Form S-8 (No. 33-41543) effective July 3, 1991.                                                                                               
|(3.3) | Certificate of Division of Shares into Smaller Denominations of the Registrant, incorporated
 by reference to Exhibit 3.2 to Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 2001.                                                                                           
|(3.4) | Amended and Restated Bylaws of the Registrant, as amended through March 21, 2002, incorporated
 by reference to Exhibit 3.3 to Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 2001.                                                                                         
|(3.5) | Certificate pursuant to NRS Section 78.207 increasing the
number of authorized shares of common stock to 60,000,000 pursuant to the Company's stock split on May 18, 1998,
 incorporated by reference to Exhibit 3.4 to Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 2001.
|(4.1) | Rights Agreement, dated as of June 14, 1994, between the Registrant and Continental Stock Transfer & Trust Company,
 incorporated by reference to Exhibit 3.4 to the Registrant's Registration Statement on Form S-3
effective October 11, 1994 (Reg. No. 33-83664).                                        

101

|(4.2)  | Rights Agreement, dated as of June 14, 1994, amended as of August 10, 2000, between the Registrant and Wells Fargo Bank Minnesota, N.A.,
incorporated by reference to Exhibit 4.2 to Registrant's Annual Report on
Form 10-K for the fiscal year ended December 31, 2001.                                                                                                                                                                                               
|------ | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(4.3)  | Specimen Common Stock Certificate, incorporated by
reference to Exhibit 4.3 to Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 2001.                                                                                                                                                                                                                                                                                                     
|(10.1) | Form of Contract With Eligible Medicare+Choice Organization and the Centers for Medicare
and Medicaid Services for the period January 1, 2001 to December 31, 2001, incorporated by reference
to Exhibit 10.1 to Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 2001.                                                                                                                                                                   
|(10.2) | Credit Agreement dated as of March 3, 2003, among Sierra Health Services, Inc. as Borrower,
Bank of America N.A. as Administrative Agent and L/C Issuer, Credit Lyonnais New York Branch as Syndication Agent,
 U.S. Bank National Association as Documentation Agent and Banc of America as Sole Lead Arranger and Sole Book Manager, incorporated by
reference to Exhibit 10.5 to Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 2002.
|(10.3) | First Amendment to the Credit Agreement dated as of March 3, 2003, among Sierra Health
Services, Inc. as Borrower, Bank of America N.A. as Administrative Agent and L/C Issuer, Credit Lyonnais New York Branch as Syndication
Agent, U.S. Bank National Association as Documentation Agent and Banc of America as Sole Lead Arranger and Sole Book Manager.                                                                                                            
|(10.4) | Second Amendment to the Credit Agreement dated as of March 3, 2003, among Sierra Health
Services, Inc. as Borrower, Bank of America N.A. as Administrative Agent and L/C Issuer, Credit Lyonnais New York Branch as Syndication
Agent, U.S. Bank National Association as Documentation Agent and Banc of America as Sole Lead Arranger and Sole Book Manager.                                                                                                           
|(10.5) | Compensatory Plans, Contracts and Arrangements.                                                                                                                                                                                                                                                                                                                                                                                                                         

(1)	Employment Agreement with Jonathon W. Bunker
dated February 1, 2003, incorporated by reference to Exhibit 10.6 to
Registrant's Annual Report on Form 10-K for the fiscal year ended December 31,
2002.

(2)	Employment Agreement with Frank E. Collins
dated November 16, 2000, incorporated by reference to Exhibit 10.5 to
Registrant's Annual Report on Form 10-K for the fiscal year ended December 31,
2000.

(3)	Employment Agreement with William R. Godfrey
dated December 10, 1999, incorporated by reference to Exhibit 10.8 to
Registrant's Annual Report on Form 10-K for the fiscal year ended December 31,
1999.

(4)	Employment Agreement with Laurence S. Howard
dated December 10, 1999, incorporated by reference to Exhibit 10.8 to
Registrant's Annual Report on Form 10-K for the fiscal year ended December 31,
1999.

(5)	Employment Agreement with Anthony M. Marlon,
M.D. dated November 16, 2000, incorporated by reference to Exhibit 10.5 to
Registrant's Annual Report on Form 10-K for the fiscal year ended December 31,
2000.

(6)	Employment Agreement with Erin E. MacDonald
dated February 12, 2001, incorporated by reference to Exhibit 10.1 to Registrant's
Quarterly Report on Form 10-Q for the fiscal quarter ended June 30, 2001.

(7)	Employment Agreement with Michael A. Montalvo
dated January 1, 2003, incorporated by reference to Exhibit 10.6 to Registrant's
Annual Report on Form 10-K for the fiscal year ended December 31, 2002.

102

(8)	Employment Agreement with Marie H. Soldo dated
November 16, 2000, incorporated by reference to Exhibit 10.5 to Registrant's
Annual Report on Form 10-K for the fiscal year ended December 31, 2000.

(9)	Employment Agreement with Paul H. Palmer dated
December 1, 2001, incorporated by reference to Exhibit 10.5 to Registrant's
Annual Report on Form 10-K for the fiscal year ended December 31, 2001.

(10)	Form of Split Dollar Life Insurance Agreement
effective as of August 25, 1998, by and between Sierra Health Services, Inc.,
and Jonathon W. Bunker, Frank E. Collins, William R. Godfrey,
Laurence S. Howard, Erin E. MacDonald, Anthony M. Marlon, M.D., Kathleen M.
Marlon, Michael A. Montalvo, John A. Nanson, M.D., Paul H. Palmer and Marie H.
Soldo, incorporated by reference to Exhibit 10.5 to the Registrant's Annual
Report on Form 10-K for the fiscal year ended December 31, 2000.

(11)	Sierra Health Services, Inc. Deferred Compensation
Plan effective May 1, 1996, as Amended and Restated Effective January 1, 2001,
incorporated by reference to Exhibit 10.6 to Registrant's Annual Report on Form
10-K for the fiscal year ended December 31, 2002.

(12)	Sierra Health Services, Inc. Supplemental Executive
Retirement Plan effective July 1, 1997, as Amended and Restated January 1, 2001,
incorporated by reference to Exhibit 10.5 to the Registrant's Annual Report on
Form 10-K for the fiscal year ended December 31, 2000.

(13)	Sierra Health Services, Inc. Supplemental
Executive Retirement Plan effective as of March 1, 1998, incorporated by
reference to Exhibit 10 to the Registrant's Quarterly Report on Form 10-Q for
the fiscal quarter ended March 31, 1998.

(14)	The Registrant's Second Amended and Restated
1986 Stock Option Plan as amended to date, incorporated by reference to Exhibit
4 (a) to the Registrant's Registration Statement on Form S-8 (No. 33-41543)
effective July 3, 1991.

(15)	Amendment No. 1 to The Registrant's Second Amended and
Restated 1986 Stock Option Plan as amended to November 11, 1992, incorporated by
reference to Exhibit 10.5 to Registrant's Annual Report on Form 10-K for the
fiscal year ended December 31, 2001.

(16)	Amendment No. 2 to The Registrant's Second
Amended and Restated 1986 Stock Option Plan as amended to March 16, 1993,
incorporated by reference to Exhibit 10.5 to Registrant's Annual Report on Form
10-K for the fiscal year ended December 31, 2001.

(17)	Sierra Health Services, Inc. Management
Incentive Compensation Plan for the year ended December 31, 2003.

(18)	Sierra Health Services, Inc. 1995 Long-Term
Incentive Plan, as amended and restated through December 11, 2001, incorporated
by reference to Exhibit 10.5 to Registrant's Annual Report on Form 10-K for the
fiscal year ended December 31, 2001.

(19)	Sierra Health Services, Inc. 1995
Non-Employee Directors' Stock Plan, as amended and restated through August 10, 2000,
incorporated by reference to Exhibit 10.7 to the Registrant's Quarterly Report
on Form 10-Q for the fiscal quarter ended September 30, 2000.

|(10.6) | Stock Purchase Agreement, dated as of November 25, 2003, as amended on December 17, 2003,
as further amended on December 29, 2003 and as further amended on January 12, 2004, among Sierra Health Services, Inc., CII Financial,
Inc. and Folksamerica Holding Company, Inc.
|------ | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

103

|(10.7) | Form of Contingent Purchase Price Note Agreement among Folksamerica Holding Company, Inc.,
Sierra Health Services, Inc., CII Financial, Inc., and, with respect to Article 5 only, Folksamerica Reinsurance Company.
|------ | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(12.1) | Statement re Computation of Ratios.                                                                                                                                                                                 
|(21)   | Subsidiaries of the Registrant (listed herein):                                                                                                                                                                     
|       | There is no parent of the Registrant.  The following is a listing of the active subsidiaries of the Registrant:                                                                                                     



|(23.1) | Consent of Deloitte & Touche LLP                                                                                                                            
|------ | ------------------------------------------------------------------------------------------------------------------------------------------------------------
|(31.1) | Rule 13a - 14(a) Certification of Chief Executive Officer.                                                                                                  
|(31.2) | Rule 13a - 14(a) Certification of Chief Financial Officer.                                                                                                  
|(32.1) | Certification pursuant to 18 U.S.C. as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 of Principal Executive Officer dated March 5, 2004.
|(32.2) | Certification pursuant to 18 U.S.C. as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 of Principal Financial Officer dated March 5, 2004.

All other Exhibits are omitted because they are not
applicable.

(b)                Reports on Form 8-K

Current Report on Form 8-K, dated October 22, 2003, with the Securities and
Exchange Commission reporting operating results for the quarter ended September
30, 2003.

Current Report on Form 8-K, dated October 28, 2003, with the
Securities and Exchange Commission announcing an increase in the Company's share
repurchase program.



Current Report on Form 8-K, filed November 26, 2003, with the
Securities and Exchange Commission in connection with the announcement of the
Company hosting a conference for research analysts and institutional investors
on December 2, 2003.



Current Report on Form 8-K, filed November 26, 2003, with the
Securities and Exchange Commission in connection with the announcement that the
Company and its wholly-owned subsidiary CII Financial Inc., entered into a Stock
Purchase Agreement with Folksamerica Holding

104

Company, Inc. which provides for the sale to the Purchaser of all of the capital stock of California Indemnity
Insurance Company ("CIIC"), a wholly-owned subsidiary of CII Financial
Inc.



Current Report on Form 8-K, dated December 8, 2003, with the
Securities and Exchange Commission announcing that the United States General
Accounting Office had denied the Company's protest of the August 2003 award of
Managed Care Support Services Contracts by the United States Department of
Defense.



Current Report on Form 8-K, dated December 17, 2003, with the
Securities and Exchange Commission announcing that under the terms of the
offering memorandum of its 21⁄4% senior convertible debentures due 2023, each
holder of the debentures will have the right to convert them into shares of
Sierra's common stock during the first quarter of 2004.

(d)                Financial Statement Schedules

The Exhibits set forth in Item 15 (a)(2) are filed
herewith.

105



SIGNATURES



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



| | SIERRA HEALTH SERVICES, INC.

                                       By:/s/ Anthony M. Marlon, M.D.

                                                  Anthony M. Marlon, M.D.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Date:  March 5, 2004

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/ Anthony M. Marlon, M.D.

   Anthony M. Marlon, M.D. | Chief Executive Officer and Chairman of the Board
(Chief Executive Officer)                         | March 5, 2004
|/s/ Paul H. Palmer

   Paul H. Palmer                   | Senior Vice President of Finance,
Chief Financial Officer, and Treasurer
(Chief Accounting Officer) | March 5, 2004
|/s/ Erin E. MacDonald

   Erin E. MacDonald             | Director                                                                                            | March 5, 2004
|/s/ Charles L. Ruthe

   Charles L. Ruthe               | Director                                                                                            | March 5, 2004
|/s/ William J. Raggio

   William J. Raggio             | Director                                                                                            | March 5, 2004
|/s/ Thomas Y. Hartley

   Thomas Y. Hartley             | Director                                                                                            | March 5, 2004
|/s/ Albert L. Greene

   Albert L. Greene               | Director                                                                                            | March 5, 2004
|/s/ Michael E. Luce

   Michael E. Luce                 | Director                                                                                            | March 5, 2004
|/s/ Anthony L. Watson

   Anthony L. Watson             | Director                                                                                            | March 5, 2004

106



SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
           SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
                 CONDENSED BALANCE SHEETS - Parent Company Only

`December 31,
                                                                                        --------------------
                                                                                          2003       2002
                                                                                        ---------  ---------  
                                                                                           (In thousands)     
                                        ASSETS                                                                
CURRENT ASSETS:
     Cash and Cash Equivalents........................................................ $   2,515  $   1,751
     Short-term Investments...........................................................       994      1,747
     Current Portion of Deferred Tax Asset............................................    27,612     40,444
     Prepaid Expenses and Other Current Assets........................................    40,823     23,433
                                                                                        ---------  ---------
           Total Current Assets.......................................................    71,944     67,375

PROPERTY AND EQUIPMENT - NET..........................................................    30,093     35,430
EQUITY IN NET ASSETS OF SUBSIDIARIES..................................................   181,946    134,989
NOTES RECEIVABLE FROM SUBSIDIARIES....................................................     9,135      9,246
GOODWILL..............................................................................     2,154      2,154
DEFERRED TAX ASSET....................................................................     4,064     13,394
OTHER.................................................................................    46,267     29,469
                                                                                        ---------  ---------
TOTAL ASSETS.......................................................................... $ 345,603  $ 292,057
                                                                                        =========  =========
                                                                                                                       
                         LIABILITIES AND STOCKHOLDERS' EQUITY                                                          
CURRENT LIABILITIES:
     Accounts Payable and Other Accrued Liabilities................................... $  23,336  $  21,105
     Current Portion of Long-term Debt................................................        47         83
                                                                                        ---------  ---------
           Total Current Liabilities..................................................    23,383     21,188

LONG-TERM DEBT (Less Current Portion).................................................   115,013     67,551
OTHER LIABILITIES.....................................................................    56,443     46,753
                                                                                        ---------  ---------
TOTAL LIABILITIES.....................................................................   194,839    135,492
                                                                                        ---------  ---------
STOCKHOLDERS' EQUITY:
     Capital Stock....................................................................       166        155
     Treasury Stock...................................................................  (112,737)   (17,148)
     Additional Paid-in Capital.......................................................   227,417    196,711
     Deferred Compensation............................................................       (22)      (473)
     Accumulated Other Comprehensive (Loss) Gain......................................      (479)       381
     Retained Earnings (Accumulated Deficit)..........................................    36,419    (23,061)
                                                                                        ---------  ---------
TOTAL STOCKHOLDERS' EQUITY............................................................   150,764    156,565
                                                                                        ---------  ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY............................................ $ 345,603  $ 292,057
                                                                                        =========  =========`

S-1

SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
     SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT (Continued)
             CONDENSED STATEMENT OF OPERATIONS - Parent Company Only

`Years ended December 31,
                                                                                        -------------------------------
                                                                                          2003       2002       2001
                                                                                        ---------  ---------  ---------
                                                                                                (In thousands)
REVENUES:
    Management Fees................................................................... $ 123,669  $  81,363  $  69,603
    Subsidiary Dividends..............................................................    11,000     20,000     10,000
    Investment and Other Income.......................................................     3,179        698      5,250
                                                                                        ---------  ---------  ---------
    Total Revenues....................................................................   137,848    102,061     84,853
                                                                                        ---------  ---------  ---------
EXPENSES:
     Depreciation.....................................................................     9,052     10,699     14,125
     Other............................................................................    37,923     36,186     36,478
     Interest Expense and Other, Net..................................................     2,682      8,017      9,065
                                                                                        ---------  ---------  ---------
     Total Expenses...................................................................    49,657     54,902     59,668
                                                                                        ---------  ---------  ---------
INCOME BEFORE INCOME TAXES............................................................    88,191     47,159     25,185
INCOME TAX PROVISION..................................................................   (26,543)    (8,615)   (37,155)
                                                                                        ---------  ---------  ---------
INCOME (LOSS) OF PARENT COMPANY.......................................................    61,648     38,544    (11,970)
EQUITY IN UNDISTRIBUTED
      INCOME OF SUBSIDIARIES FROM CONTINUING OPERATIONS...............................    20,470      3,764     27,451
                                                                                        ---------  ---------  ---------
INCOME FROM CONTINUING OPERATIONS.....................................................    82,118     42,308     15,481

LOSS FROM DISCONTINUED OPERATIONS.....................................................   (19,792)    (5,860)   (11,995)
                                                                                        ---------  ---------  ---------
NET INCOME............................................................................ $  62,326  $  36,448  $   3,486
                                                                                        =========  =========  =========`

S-2

SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
     SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT (Continued)
            CONDENSED STATEMENTS OF CASH FLOWS - Parent Company Only

`Years ended December 31,
                                                                                        -------------------------------
                                                                                          2003       2002       2001
                                                                                        ---------  ---------  ---------
                                                                                                (In thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
      Net Income From Continuing Operations........................................... $  82,118  $  42,308  $  15,481
      Adjustments to Reconcile Net Income to Net Cash
          Provided by Operating Activities:
          Depreciation and Amortization...............................................     9,052     10,699     14,231
          Deferred Compensation.......................................................       451        585        342
          Loss on Property and Equipment Dispositions.................................       190         --         --
          Equity in Undistributed Income of Subsidiaries Continuing Operations........    20,470      3,764     27,451
          Change in Assets and Liabilities............................................   (88,117)   (51,053)   (25,683)
                                                                                        ---------  ---------  ---------
          Net Cash Provided by Operating Activities...................................    24,164      6,303     31,822
                                                                                        ---------  ---------  ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
      Capital Expenditures............................................................    (6,486)    (5,273)    (3,915)
      Property and Equipment Dispositions.............................................     2,599        144      5,356
      Decrease (Increase) in Investments..............................................       727       (117)    (1,247)
      Dividends from Subsidiaries.....................................................    11,000     20,000     10,000
                                                                                        ---------  ---------  ---------
          Net Cash Provided by Investing Activities ..................................     7,840     14,754     10,194
                                                                                        ---------  ---------  ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
      Proceeds from Long-term Borrowing...............................................   115,000         --      7,500
      Proceeds of Sale Leaseback Deposit..............................................        --      9,462         --
      Reductions in Long-term Obligations and
          Payments on Capital Leases..................................................   (60,092)   (38,927)   (49,926)
      Debt Issue Costs.................................................................   (5,834)        --         --
      Notes Receivable from Subsidiaries..............................................        --         --    (16,910)
      Purchase of Treasury Stock.......................................................  (99,485)        --         --
      Exercise of Stock in Connection with Stock Plans................................    19,171     10,159      2,090
                                                                                        ---------  ---------  ---------
          Net Cash Used for by Financing Activities...................................   (31,240)   (19,306)   (57,246)
                                                                                        ---------  ---------  ---------
Net Increase (Decrease) in Cash and Cash Equivalents..................................       764      1,751    (15,230)
Cash and Cash Equivalents at Beginning of Year........................................     1,751         --     15,230
                                                                                        ---------  ---------  ---------
Cash and Cash Equivalents at End of Year.............................................. $   2,515  $   1,751  $      --
                                                                                        =========  =========  =========
Supplemental condensed statements of cash flows information:
Cash Paid During the Year for Interest
      (Net of Amount Capitalized)..................................................... $   3,254  $  11,559  $  22,075
Cash (Paid) Received During the Year for Income Taxes.................................   (10,324)    13,051         80
Noncash Investing and Financing Activities:
      Stock Issued for Exercise of Options
          and Related Tax Benefits....................................................    12,596      6,837         97
      Retired Sale-Leaseback Assets, Liabilities
          and Financing Obligations...................................................        --     89,751     14,552
      Addition to capital leases......................................................        17         --         --`

S-3

SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
     SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT (Continued)
            NOTES TO CONDENSED INFORMATION OF REGISTRANT
For the Years Ended December 31, 2003 and 2002

1.     LONG-TERM DEBT



Scheduled maturities of long-term debt, including the
principal portion of obligations under capital leases, are as follows:

`December 31,                                                                         (In thousands)
---------------
     2004............................................................................. $      47
     2005.............................................................................         3
     2006.............................................................................         3
     2007.............................................................................         4
     2008.............................................................................         3
     Thereafter.......................................................................   115,000
                                                                                        ---------
         Total........................................................................ $ 115,060
                                                                                        =========`

2.     OTHER



Management Fees.  Sierra Health Services, Inc., receives monthly
management fees from certain wholly-owned subsidiaries for services performed.
 The majority of the fees are from Health Plan of Nevada, Inc.
 under an administrative services agreement that has been approved by the Nevada Division of Insurance.
The fees have been recorded as revenue in the Condensed Financial Information of
Registrant for the three years ended December 31, 2003.

S-4



SIERRA HEALTH SERVICES, INC.
                            SUPPLEMENTAL INFORMATION
                    CONCERNING PROPERTY - CASUALTY INSURANCE
                              (In thousands)

`Claims and Claim
                                               Gross                                                        Adjustment
                                             Reserves     Discount                                      Expenses Incurred    Amortization
                               Deferred     for Unpaid     if any                             Net           Related to       of Deferred   Paid Claims
                                Policy      Claims and    Deducted                Gross     Invest-   ---------------------     Policy     and Claims    Direct
                              Acquisition   Adjustment       in      Unearned    Earned      ment        (1)        (2)      Acquisition   Adjustment   Premiums
Affiliation With Registrant      Costs       Expenses     Column C   Premiums   Premiums    Income     Current   Prior Year     Costs       Expenses     Written
          Column A             Column B      Column C     Column D   Column E   Column F   Column G     Year      Column H     Column I     Column J    Column K
----------------------------  -----------  -------------  ---------  ---------  ---------  ---------  ---------  ----------  ------------  -----------  ---------
Consolidated Property and
  Casualty Entities of CII
  Financial, Inc. for
Years Ended:
    December 31, 2003....... $     1,424  $     415,339  $      --  $  36,847  $ 126,496  $  10,724  $  88,819  $   16,877  $     22,741  $   108,420  $ 148,479
    December 31, 2002.......       2,257        427,192         --     14,446    174,930     14,485    139,513      23,998        28,252      103,573    174,651
    December 31, 2001.......       2,236        385,705         --     14,327    186,296     15,475    131,923       8,691        29,272       98,159    187,129`

S-5



SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
                                SECTION 403.04.b
                     EXHIBIT OF REDUNDANCIES (DEFICIENCIES)
                                 (In thousands)

`Year ended December 31,
                            ----------------------------------------------------------------------------------------------------------------
                               2003     2002      2001       2000       1999       1998       1997      1996      1995      1994      1993
                            --------  --------  ---------  ---------  ---------  ---------  --------  --------  --------  --------  --------
Losses and LAE
    Reserve............... $415,339  $427,192  $ 385,705  $ 374,554  $ 244,394  $ 212,264  $202,699  $187,776  $182,318  $190,962  $200,356
Less Reinsurance
    Recoverables (1)......  159,872   169,001    187,453    218,757    110,089     37,797    21,056    15,676    25,871    29,342    25,841
                            --------  --------  ---------  ---------  ---------  ---------  --------  --------  --------  --------  --------
Net Loss and LAE
    Reserves..............  255,467   258,191    198,252    155,797    134,305    174,467   181,643   172,100   156,447   161,620   174,515
Net Reserve
  Re-estimated as of:
    1 Year Later..........       --   275,068    222,250    164,488    157,598    184,386   172,000   163,130   141,163   139,741   160,562
    2 Years Later.........       --        --    230,545    179,043    171,136    204,029   173,596   146,987   132,193   125,279   141,100
    3 Years Later.........       --        --         --    185,160    183,524    218,626   186,794   140,563   113,766   117,792   126,483
    4 Years Later.........       --        --         --         --    189,724    231,386   198,403   146,266   102,652   102,955   122,517
    5 Years Later.........       --        --         --         --         --    237,137   210,763   153,423   104,249    95,997   114,443
    6 Years Later.........       --        --         --         --         --         --   214,503   159,652   108,208    95,954   112,284
    7 Years Later.........       --        --         --         --         --         --        --   161,432   111,195    98,482   111,883
    8 Years Later.........       --        --         --         --         --         --        --        --   111,842   100,367   113,929
    9 Years Later.........       --        --         --         --         --         --        --        --        --   100,746   115,468
    10 Years Later........       --        --         --         --         --         --        --        --        --        --   115,788
Cumulative (Deficiency)
    Redundancy............       --   (16,877)   (32,293)   (29,363)   (55,419)   (62,670)  (32,860)   10,668    44,605    60,874    58,727
Cumulative Net Paid
    as of:
    1 Year Later..........       --    92,184     74,125     69,599     61,522     80,416    71,933    56,977    45,731    44,519    50,210
    2 Years Later.........       --        --    126,057    105,043    103,855    124,191   117,794    91,765    70,854    68,619    79,788
    3 Years Later.........       --        --         --    128,934    127,505    159,335   143,369   113,054    83,674    80,645    94,865
    4 Years Later.........       --        --         --         --    144,893    179,825   164,584   125,024    91,115    86,381   102,395
    5 Years Later.........       --        --         --         --         --    195,834   178,482   135,421    95,609    89,601   106,012
    6 Years Later.........       --        --         --         --         --         --   188,665   142,508   100,365    91,676   107,850
    7 Years Later.........       --        --         --         --         --         --        --   147,271   103,168    93,789   109,201
    8 Years Later.........       --        --         --         --         --         --        --        --   105,407    95,534   110,743
    9 Years Later.........       --        --         --         --         --         --        --        --        --    96,750   111,948
    10 Years Later........       --        --         --         --         --         --        --        --        --        --   112,932

Net Reserve...............  255,467   258,191    198,252    155,797    134,305    174,467   181,643   172,100   156,447   161,620   174,515
Reins. Recoverables.......  159,872   169,001    187,453    218,757    110,089     37,797    21,056    15,676    25,871    29,342    25,841
                            --------  --------  ---------  ---------  ---------  ---------  --------  --------  --------  --------  --------
Gross Reserve............. $415,339   427,192    385,705    374,554    244,394    212,264   202,699   187,776   182,318   190,962   200,356

Net Re-estimated
  Reserve.................            275,068    230,545    185,160    189,724    237,137   214,503   161,432   111,842   100,746   115,788
Re-estimated Reins
    Recoverables..........            209,774    258,176    315,389    203,145     86,987    39,870    27,879    22,671    18,875    16,035
                                      --------  ---------  ---------  ---------  ---------  --------  --------  --------  --------  --------
Gross Re-estimated
    Reserve...............            484,842    488,721    500,549    392,869    324,124   254,373   189,311   134,513   119,621   131,823
                                      --------  ---------  ---------  ---------  ---------  --------  --------  --------  --------  --------
Gross Cumulative
    (Deficiency)
      Redundancy..........           $(57,650) $(103,016) $(125,995) $(148,475) $(111,860) $(51,674) $ (1,535) $ 47,805  $ 71,341  $ 68,533
                                      ========  =========  =========  =========  =========  ========  ========  ========  ========  ========`

(1)	Amounts reflect reinsurance recoverable under prospective
 reinsurance contracts only.  Reinsurance recoverables on unpaid losses and LAE are shown as an
asset on the balance sheets at December 31, 2003 and 2002.  However, for purposes of the
reconciliation and development tables, loss and LAE information are shown net of reinsurance.

S-6