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

FORM 10-K

(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, 1997

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 0-21209

                         ADVANCED HEALTH CORPORATION
            (Exact name of registrant as specified in its charter)

Delaware                            13-3893841
(State or other jurisdiction        (IRS employer identification
of incorporation)                   or organization number)

555 White Plains Road               10591
Tarrytown, New York                 (Zip code)
(Address of principal executive offices)

Registrants' telephone number, including area code: (914) 524-4200

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

Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.01
par value

      Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the 


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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: [ ]

      The aggregate market value of the shares of Common Stock held by
non-affiliates of the registrant is $127,675,436, based on the closing price of
the Common Stock on March 25, 1998. As of March 25, 1998, there were 9,997,371
shares of Common Stock outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

      Portions of the registrant's definitive Proxy Statement for the 1998
Annual Meeting of Stockholders to be filed with the Securities and Exchange
Commission within 120 days after December 31, 1997, are incorporated by
reference in Part III hereof.



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        STATEMENTS MADE OR INCORPORATED INTO THIS ANNUAL REPORT INCLUDE A
NUMBER OF FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF SECTION 27A OF THE
SECURITIES ACT OF 1933, AS AMENDED, AND SECTION 21E OF THE SECURITIES EXCHANGE
ACT OF 1934. FORWARD-LOOKING STATEMENTS INCLUDE, WITHOUT LIMITATION,
STATEMENTS CONTAINING THE WORDS "ANTICIPATES," "BELIEVES," "EXPECTS,"
"INTENDS," "FUTURE" AND WORDS OF SIMILAR IMPORT WHICH EXPRESS MANAGEMENT'S
BELIEF, EXPECTATIONS OR INTENT REGARDING THE COMPANY'S FUTURE PERFORMANCE. THE
COMPANY'S ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE SET FORTH IN THE
FORWARD-LOOKING STATEMENTS. FACTORS THAT MAY CAUSE SUCH DIFFERENCES ARE
DESCRIBED IN THE SECTION ENTITLED "CERTAIN FACTORS THAT MAY AFFECT FUTURE
RESULTS" FOUND ON PAGE 33 OF THIS ANNUAL REPORT.


                                     PART I

ITEM 1.  BUSINESS

Overview

      Advanced Health Corporation (the "Company") provides a full range of
integrated management services and clinical information systems to physician
group practices, single legal entities comprised of multiple physicians, and to
physician networks, aggregations of individual physicians and physician groups
formed for the purpose of entering into contracts with third-party payors. The
Company's clinical information systems are also licensed to hospitals,
integrated delivery systems, information system companies, and other health care
organizations.

      The management services provided by the Company include physician practice
and network development, marketing, payor contracting, financial and
administrative management, clinical information management, human resource
management, and practice and network governance management. Through the
management of multi-specialty and single-specialty physician group practices and
networks, the Company focuses its management efforts on high-cost, high-volume
areas of medical care. The Company currently manages twelve multi-specialty
physician group practices and five cardiology physician group practices
comprised of 342 providers in the greater New York and Philadelphia metropolitan
areas and 15 physician networks with approximately 1,700 physicians in the
greater New York, Philadelphia and Atlanta metropolitan and surrounding areas,
and provides physician group consulting services to more than 50 physicians. The
Company developed its clinical information systems to provide physicians, at the
point of care and on a real-time basis, with patient-specific clinical and payor
information and the ability to generate patient medical orders and facilitate
the implementation of disease management programs.

      In response to the impact of the development of managed care programs on
the delivery of health care services, physician practice management companies
have emerged in recent years to manage the financial and administrative
requirements of physician organizations. More importantly, the Company believes
there exists an even greater need among physicians for clinical management
services and information systems. The Company believes that assisting physicians
in managing the clinical aspects of 


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their practices represents the greatest opportunity to enhance the quality and
reduce the cost of health care.

      The Company believes that it is well positioned to attract, organize and
manage physician group practices and networks by offering a full range of
integrated management services and clinical information systems. The Company
believes that its clinical information systems will allow physicians, at the
point of care and on a real-time basis, (i) to access patient-specific clinical
and payor information, (ii) to generate patient instructions, prescriptions and
orders for tests, specialty referrals and specialty procedures and (iii) to
access databases containing managed care and disease management protocols,
diagnostic treatment preferences and guidelines affecting medical orders. By
combining its group practice and network management services with its clinical
information systems, the Company believes it can provide physicians with
integrated solutions for managing the increased financial opportunities and
risks associated with managed care contracts while allowing physicians to
improve the quality of care.

      The Company's strategy includes (i) establishing long-term contractual
alliances with physician organizations, (ii) managing high-cost, high-volume
areas of medical care in geographic markets that offer concentrations of
physicians seeking the Company's services, (iii) providing physicians with
clinical information at the point of care, and (iv) developing strategic health
care information system ("HCIS") relationships with key industry participants.
Through its recent acquisition of Bukstel and Halfpenny Corporation, a company
involved in clinical data integration and communications, and its other
developing technologies, the Company has entered into licenses with hospitals,
integrated delivery systems, information system companies and other health care
organizations.

      The Company's predecessor, Med-E-Systems Corporation ("MES"), was
incorporated on August 27, 1993 as a clinical information systems development
company. Effective August 23, 1995, MES became a subsidiary of the Company
through a tax-free reorganization. The Company was subsequently merged with and
into Majean, Inc., a Delaware corporation, and the surviving corporation changed
its name to Advanced Health Corporation. On October 3, 1996, the Company
consummated the initial public offering (the "IPO") of its Common Stock
(including the exercise of the underwriters' over-allotment option). In the IPO,
the Company sold 2,645,000 shares of Common Stock at an initial public offering
price of $13.00 per share. On October 7, 1997, the Company completed its
follow-on offering of 2,250,000 shares of Common Stock including the
underwriters' over-allotments option. The follow-on offering generated proceeds
to the Company of approximately $46.0 million, net of underwriting expenses.



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Strategy

      The objective of the Company is to become a leading provider of integrated
management services and clinical information systems to physician organizations.
By enabling physicians to develop and efficiently manage group practices and
networks, the Company seeks to assist physicians in facilitating risk-based
managed care contracts, developing and implementing disease management programs
and monitoring and controlling health care outcomes and costs. The Company's
strategy includes (i) establishing long-term contractual alliances with
physician organizations, (ii) managing high-cost, high-volume areas of medical
care in selected geographic markets that offer concentrations of physicians
seeking the Company's services (iii) providing physicians with clinical
information at the point of care, and (iv) developing strategic HCIS
relationships with key industry participants.

Physician Practice and Network Services

      The Company provides physicians with a full range of integrated services
to form and develop group practices and networks, to manage group practice and
network operations, to develop disease management programs and to manage medical
risk. These integrated services include clinical support and administrative and
marketing services as well as point-of-care information systems and support. The
Company often initially provides physician practice and network services
pursuant to a consulting arrangement. The Company believes that its
point-of-care information systems provide physicians with the information needed
to improve the quality and reduce the cost of health care.

      In addition to providing administrative management services to physician
organizations, the Company seeks to differentiate itself by assisting physicians
in managing the clinical aspects of 


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their practices. The Company believes that its integrated management services
and clinical information systems will enhance the ability of physician group
practices and networks to implement disease management programs and to manage
practices under risk-based contracts. The Company is working to assist
physicians in developing disease-specific clinical practice guidelines and in
practicing in accordance with applicable standards of care.

      The Company markets its physician practice management and network
management services through (i) direct sales methods, (ii) consultative sales
that include providing advice on the development, consolidation and financing of
group practices and networks and (iii) cross-selling to customers of its
clinical information systems.

      The Company offers a comprehensive set of physician practice management
services, including practice formation, operations development and strategic
planning, marketing, payor contracting and management, financial and
administrative management, clinical information management, human resource
management and practice governance.

      The Company's physician network management services include network
development and strategic planning, disease management program development,
payor marketing and contracting, financial and administrative management,
clinical information management and network governance.

Clinical Information Systems

      The Company has developed clinical information systems that link physician
users at the point of care and on a real-time basis with patient data and
clinical guidelines maintained by the Company and third parties. The Company's
clinical information systems consist of proprietary software, third-party
hardware, proprietary and third-party databases and related support services.
The Company's clinical information systems are designed to allow physicians (i)
to access patient-specific clinical and payor information, (ii) to generate
patient instructions, prescriptions and orders for tests, specialty referrals
and specialty procedures and (iii) to access databases containing managed care
and disease management guidelines, diagnostic/treatment preferences and
guidelines affecting medical orders.


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      In September 1997, the Company acquired Bukstel & Halfpenny Incorporated's
("B&H") proprietary laboratory and other health care information technologies
business. These technologies expanded the Company's product and service
offerings, which provide electronic linkages between physicians and other health
care organizations. The primary acquired asset was B&H's DR. CHART system, which
links physicians with hospital-based clinical systems such as laboratory,
radiology, and pathology systems. This technology allows physicians to view
clinical results rapidly and accurately regardless of which lab or facility
produced the report.

      The Company's clinical information systems are designed to complement
existing health care information systems and to function with third-party
applications. The clinical information system connects to physician users either
through the use of a hand-held computer equipped with a wireless modem or a
desktop computer using a standard wireline modem. Access to the Company's
clinical information systems is delivered to physician users and other health
care professionals via both private and public networks, including the Internet.
The Company's product suites operate within a client/server-based open
architecture. The Company's products support HL-7 interfaces, incorporate TCP/IP
protocols for real-time data transmission and run on the Microsoft Windows
operating system and standard hardware platforms. The Company employs
proprietary processes and standard commercial security measures to ensure the
privacy of the data communication paths within its products. The Company
licenses its clinical information systems to third party health care
organizations as well as its affiliated physicians. The Company continues to
pursue strategic relationships with health care providers as well as hospital
information systems companies, physician practice management systems companies
and on-line services companies for the purpose of further developing and
marketing its information systems.

      The Company offers a broad range of clinical information systems for
physician users, presently through applications summarized as follows:

Product Name                        Product Description

Med-E-Practice(TM)                  Med-E-Practice(TM)is a clinical software
                                    program designed for use by physicians and
                                    their clinical assistants in support of
                                    clinical decision making, clinical
                                    ordering, 


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                                    record keeping and administrative
                                    management. This application can co-exist
                                    with current paper-based filing systems
                                    while supporting a migration path towards a
                                    complete electronic medical record (EMR).
                                    Additionally, Med-E-Practice(TM) allows an
                                    enterprise system to collect clinical data
                                    while working cohesively with its community
                                    providers.

Med-E-Practice(TM) allows physicians to electronically develop the core elements
of a medical record by capturing key patient data as a byproduct of their
routine patient care. A physician's orders are entered directly into
Med-E-Practice(TM), instantly creating a computerized medical record that
includes a patient's allergies, medications, and problem list.

Dr. Chart(TM)                       Dr. Chart(TM) is a clinical software
                                    application that allows physicians, nurses
                                    and other clinicians to effectively manage
                                    patient information from multiple sources,
                                    such as clinical laboratory, radiology,
                                    and pathology systems. Working in 
                                    conjunction with our CDX(TM) integration 
                                    product, Dr. Chart(TM) provides clinicians 
                                    with a common user interface to view, 
                                    annotate, 
                                    


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                                    and print patient data from various
                                    electronic information sources. 


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E-Rx                                E-Rx(TM) is the first application available
                                    to physicians under the EOS-2000(TM)
                                    umbrella. This application creates legible
                                    and complete prescriptions that are screened
                                    for clinical and financial interactions. The
                                    resulting prescription can then be printed,
                                    faxed, or sent electronically to the
                                    patient's pharmacy. The patient's
                                    medication, allergy, and problem history is
                                    automatically stored in a central server,
                                    allowing for convenient data access by any
                                    physician involved in the patient's care.


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The Company believes that the timely development of new clinical information
applications and the enhancement of existing clinical information systems are
important to its competitive position. The Company's product development
strategy is directed toward creating new applications that (i) increase the
functionality of current products by providing enhanced interfaces to
third-party systems and data repositories, (ii) expand coverage along the
continuum of clinical care, (iii) increase coverage to additional disease and
procedure groups and (iv) provide customers with a range of decision support
systems at various price points. The Company has approximately 40 professionals
dedicated to systems development.

Concentration of Revenues

      In the year ended December 31, 1997, Madison Medical - The Private
Practice Group of New York, LLP ("Madison") and the Advanced Heart Physicians &
Surgeons Network, P.C. ("AHP&S") accounted for approximately 17% and 16% of 
revenues, respectively. The Company's management services agreements generally
have an initial term of five to 30 years. Any termination or significant
deterioration of the Company's relationships with its principal


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customers could have a material adverse effect on the Company's business,
financial condition and results of operations. 

Contractual Relationships with Affiliated Physicians

      The Company typically establishes a majority-owned management service
organization ("MSO") for each physician organization it manages. The MSO is a
joint venture between the physician organization and the Company, with the
Company owning at least 51% of the equity in the MSO. The MSO enters into a
long-term management services agreement with the physician organization pursuant
to which the MSO provides group practice management or network management
services that provide both administrative and clinical support to members of the
physician organization. The MSO concurrently enters into a services agreement
with the Company pursuant to which it gains access to management services and
clinical information systems from the Company. The MSO's assets consist
primarily of its management service contracts with the physician group or
network served and its liabilities consist primarily of its obligations under
its agreement with the Company and its obligations to its employees. For certain
MSOs, a stockholders agreement is entered into among the MSO, the physician
organization and the Company. The stockholders agreement, among other things,
(i) restricts the transfer of MSO equity, (ii) provides the terms upon which,
after the occurrence of the Trigger Event (as hereinafter defined), the MSO can,
at the Company's option, be merged with and into a wholly-owned subsidiary of
the Company in a transaction in which interests of the physician groups and
networks in such MSO would be exchanged for Common Stock (the "Roll Up
Transaction") and (iii) grants to the physician organization the right to put
its equity in the MSO to the Company at a price equal to 110% of the
then-current fair market value of the shares of Common Stock that would have
otherwise been issued in the Roll Up Transaction if the Company does not
exercise its option to cause the Roll Up Transaction to occur within one year
after the occurrence of the Trigger Event. In the case of each such MSO, a
Trigger Event will occur at such time as (i) the Company is providing physician
practice management services to at least 300 physicians, (ii) the Company is
providing physician network management services to at least 2,000 physicians,
(iii) the Company has at least $75,000,000 in stockholders' equity and (iv) the
Company's Common Stock is publicly traded. The Company has reserved 548,224
shares of 


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Common Stock for issuance upon the merger of such MSOs into the Company.

      Physician Practices. The management services agreements between the MSO
and a physician practice group generally have an initial term of five to 30
years and are automatically renewable for additional terms. Such agreements
typically are subject to early termination for cause. The management services
agreements generally obligate an MSO to provide certain non-medical practice
management services to the physician practice group for a monthly fee. The fee
paid to the MSO is generally a combination of fixed fees for certain services
and percentage fees for certain services, dependent upon certain state
regulations. For risk-based contracts that the physician practice group enters
into, the management services agreement will generally provide for additional
management fees based upon savings recognized by the physician practice group
because of any cost efficiencies resulting from the MSO's performance. The fees
are set to be competitive within the geographic area in which the physician
practice group is located. A provision restricting the physician practice group
from competing against the MSO or employing the MSO's employees is generally
included in the agreement.

      Physician Networks. The management services agreements between the MSO and
a physician network generally have an initial term of at least five years and
are automatically renewable for additional terms. Such agreements typically are
subject to early termination for cause. The management services agreements
generally obligate an MSO to provide certain non-medical practice management
services to the physician network for a fee. The fee paid to the MSO for
risk-based contracts is generally a service fee equal to a specified percentage
of capitated revenues, for providing the non-medical management services. The
fees are set to be competitive within the geographic area in which the physician
network is located. In the agreement, the physician network agrees that the MSO
will be the exclusive provider of non-medical management services to the
physician network.

      Capitated and Other Fixed-Fee Arrangements. In the future, the Company
anticipates entering into managed care or capitated arrangements, either
indirectly through the assignment of managed care contracts entered into between
its affiliated physicians and third-party payors or directly through the
formation of an independent physician association ("IPA"). The Company has not
earned, recognized or recorded any such revenue through December 31, 1997. The
Company does, however, provide management services 


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to physician groups and networks that have entered into such capitated
contracts. Revenues under any managed care or capitated arrangements entered
into directly by the Company will generally be a fixed amount per enrollee.
Under such an arrangement, the Company would contract with affiliated physicians
for the provision of health care services and the Company would be responsible
for the provision of all or a portion of the health care requirements of such
enrollees.

Proprietary Rights

      The Company is relying upon the effectiveness of protection provided by a
combination of patent, trade secret and copyright laws, nondisclosure and other
contractual provisions and technological measures to protect its proprietary
position in its methodologies, databases and software. The Company has two U.S.
patent applications, which, in March 1998, were allowed by the United States
Patent and Trademark Office, and a foreign patent application having subject
matter common with both U.S. applications. The patent applications are directed
to the Company's electronic prescription management system and related
technologies. No assurance can be given that patent, trade secrets, copyright or
other intellectual property rights can be successfully asserted in any court
action. The Company also has copyrights in its software, user documentation and
databases. The copyright protection accorded to databases, however, is fairly
limited. While the arrangement and selection of data are protectable, the actual
data are not, and others are free to create databases that perform the same
function. The Company distributes its clinical information systems products
under agreements that grant customers non-exclusive licenses and generally
contain terms and conditions restricting the disclosure and use of the Company's
systems. In addition, the Company attempts to protect the secrecy of its
proprietary databases and other trade secrets and proprietary information
through confidentiality agreements with employees, consultants and third
parties.

      The Company believes that, aside from the various legal protections of its
proprietary information and technologies,


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factors such as the technological and creative skills of its personnel and
product maintenance and support are integral to establishing and maintaining its
position within the health care industry. Although the Company believes that its
products do not infringe upon the proprietary rights of third parties, there can
be no assurance that third parties will not assert infringement claims against
the Company in the future.

Competition

      The provision of physician practice and network management services is a
highly competitive business in which the Company competes for contracts with
several national and many regional and local companies. The Company also
competes with traditional managers of health care services that directly recruit
and manage physicians. Certain of the Company's competitors have access to
substantially greater financial resources than the Company. The Company believes
that competition in this industry is generally based on cost and quality of
services.

      The market for health care information systems and services is highly
competitive and rapidly changing. The Company believes that the principal
competitive factors for clinical information systems are the proprietary nature
of methodologies, databases and technical resources, the usefulness of the data
and reports generated by the software, customer service and support,
compatibility with the customer's existing information systems, potential for
product enhancement, vendor reputation, price and the effectiveness of marketing
and sales efforts.

      The Company's competitors include other providers of clinical information
systems and practice management systems. Many of the Company's competitors and
potential competitors have greater financial, product development, technical and
marketing resources than the Company, and currently have, or may develop or
acquire, substantial installed customer bases in the health care industry. In
addition, as the market for clinical information systems and practice management
systems develops, additional competitors may enter the market and competition
may intensify. While the Company believes that it will successfully
differentiate its clinical information systems from those of its competitors,
there can be no assurance that future competition will not have a material
adverse effect on the Company.

Government Regulation


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      As a participant in the health care industry, the Company's operations and
relationships are subject to extensive and increasing regulation by a number of
governmental entities at the federal, state and local levels. The Company
believes its operations are in material compliance with applicable laws.
Nevertheless, because of the nature of the Company's relationship with physician
organizations, many aspects of the Company's business operations have not been
the subject of formal state or federal regulatory interpretations and there can
be no assurance that a review by courts or regulatory authorities of the
Company's business or that of its affiliated physician organizations will not
result in a determination that could adversely affect the operations of the
Company or that the health care regulatory environment will not change so as to
restrict the Company's or the affiliated physicians' existing operations or
their expansion.

      Reimbursement. Management estimates that approximately 40% of the
revenues of the Company's affiliated physician group practices are derived from
payments made by government-sponsored health care programs (principally
Medicare, Medicaid and state reimbursement programs). Consequently, any change
in reimbursement regulations, policies, practices, interpretations or statutes
could adversely affect the operations of the Company. The federal Medicare
program has implemented a system of reimbursement of physician services, RBRVS.
The Company expects that future changes in the RBRVS fee schedule, as required
by law, and in Medicare reimbursement generally, will result, in some cases, in
a reduction and, in some cases, in an increase from historical levels in the
per-patient Medicare revenue received by certain of the physician organizations
with which the Company contracts. Reductions in the RBRVS fee schedule may have
a material adverse effect on the Company, and if adopted by other payors, could
have a further material adverse effect on the Company.

      Billing. There are state and federal civil and criminal statutes, which
impose substantial penalties, including civil and criminal fines and
imprisonment, on health care providers who fraudulently or wrongfully bill
governmental or other third-party payors for health care services. The federal
law prohibiting false billings allows a private person to bring a civil action
in the name of the U.S. government for violations of its provisions. There is no
assurance that the Company's activities will not be challenged or scrutinized by
governmental authorities. Moreover, technical Medicare and other reimbursement
rules affect the structure of physician billing arrangements. The Company
believes


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 it is in material compliance with such regulations, but regulatory authorities
may differ in their interpretations of such regulations and, in such event, the
Company might have to modify its relationship with physician organizations.
Noncompliance with such regulations by either the Company or its affiliated
physician groups could have a material adverse effect on the business, financial
condition and results of operations of the Company and subject it and affiliated
physician groups to penalties and additional costs.

      Billing Agent, and Medicare Reassignment Rules. The Company may be subject
to Medicare rules governing billing agents. These rules prohibit a billing agent
from receiving a fee based on a percentage of Medicare collections if the
billing agent collects Medicare payments for its own account, and may require
Medicare payments for the services of physicians to be made directly to the
physician providing the services or to an account opened solely in the name of
the physician or the physician's group. If an enforcement agency determines
that the physician or his group violated any of these rules, the physician
and/or his group could be excluded from the Medicare program and subject to
civil monetary penalties, and Medicare payments collected under the agency
arrangement would be subject to recoupment, all of which could have a material
adverse effect on the Company.

      In addition, the revenues of physician practices affiliated with the
Company and the Company's revenues from all insurers, including governmental
insurers, are subject to significant regulation. Some payors limit the extent to
which physicians may assign their revenues from services rendered to
beneficiaries. Under these "reassignment" rules, the Company may not be able to
require physicians to assign third-party payor revenues received from
government-sponsored payment programs unless the physicians are employees of the
Company, the Company is a health care delivery system (or physician directed
clinic), the Company is a qualified billing agent for the physicians, or other
conditions are met. In addition, governmental payment programs and certain
commercial insurers will not pay for the services of mid-level practitioners who
are supervised by physicians, unless the mid-level practitioners' services are
rendered "incident to" physician services. To meet this "incident to"
requirement, the mid-level practitioners must be either direct or leased
employees of the physician group at which they work. If an enforcement agency
determines that the Company or an affiliated physician practice has violated any
of the various "reassignment" and "incident to" rules, the affiliated physician
practice could be excluded from such payment program, payments could be
recouped, civil penalties could be imposed, and continued violations, after
notice, could result in criminal penalties.

      Corporate Practice of Medicine and Fee Splitting. The laws of many states
prohibit business corporations such as the Company from practicing medicine and
employing physicians to practice medicine. These laws forbid both direct control
over medical decisions and indirect interference, such as splitting medical fees
with physicians or controlling budgetary allotments for patient care. Laws
regarding the corporate practice of medicine vary from state to state and are
enforced by the courts and by regulatory authorities. All of the management
service agreements ("MSAs") between the Company's majority-owned MSOs and the
physician groups and networks they serve address this issue by providing that
the physician organization retains complete control over medical decisionmaking,
and that the MSO may neither interfere with the professional judgment of medical
personnel nor control, direct or supervise the provision of medical services.
Furthermore, the MSAs provide that the MSO may not perform any services or
activities which constitute the practice of medicine. For instance, the MSO has
no responsibility to make decisions regarding level of patient care,
credentialing or quality monitoring. Each MSO controlled by the Company is a
management organization whose role is to perform administrative and business
functions. Although the Company believes it is in material compliance with
regulations regarding the corporate practice of medicine, no assurance can be
given that its operations will not be challenged by regulatory authorities.

      A recent letter by the general counsel of the New York State Department of
Health has called into question commonplace practices with regard to management
services fees charged to physician practices by corporations such as the
Company. Specifically, this letter took the position that per visit fees and
billing fees based on a percentage of collections violated New York's
prohibition on fee-splitting by licensed professionals. The Company has
abandoned such percentage of collection fees in all of the new MSAs with
physicians in New York and is currently working toward modifying all of its
current MSAs in New York. 

      Furthermore, expansion of the operations of the Company to certain


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jurisdictions may require it to comply with such jurisdictions' regulations
which could lead to structural and organizational modifications of the Company's
form of relationships with physician organizations. Such changes, if any, could
have a material adverse effect on the Company's business, financial condition
and results of operations and on the price of the Common Stock. In addition, a
determination in any state that the Company is engaged in the corporate practice
of medicine or fee splitting could render any management services agreement or
Independent Practice Association ("IPA") provider agreement between the Company
and a practice in such state unenforceable or subject to modification in a
manner materially adverse to the Company.

     Fraud and Abuse Statutes. Certain provisions of the Social Security Act,
commonly referred to as the "Anti-kickback Statute," prohibit the offer,
payment, solicitation or receipt of any form of remuneration which is intended
to induce business for which payment may be made under a federal health care
program. A federal health care program is any plan or program that provides
health benefits, whether directly, through insurance or otherwise, which is
funded directly, in whole or in part, by the United States government (e.g.,
Medicare, Medicaid and CHAMPUS). Excluded from the definition of federal health
care program is the Federal Employee Health Benefits Program. 


     The type of remuneration covered by the Anti-kickback Statute is very
broad. It includes not only kickbacks, bribes and rebates, but also proscribes
any such remuneration, whether made directly or indirectly, overtly or covertly,
in cash or in kind. Moreover, prohibited conduct includes not only remuneration
intended to induce referrals, but also remuneration intended to induce the
purchasing, leasing, arranging or ordering of any goods, facilities, services or
items paid for by a federal health care program. In some instances, for
example, the government may construe some of the marketing and managed care
contracting activities conducted by the Company as arranging for the referral
of patients to physician groups managed by the Company. In addition, in the
event the Company provides management services to two or more physician groups
and charges a percentage-based fee for those services, any cross-referral from
a physician in one group to a physician in another group could be deemed to
benefit the referring physician since the value of that physician's ownership
in the Company will increase if the other physician group pays a management fee
which is related to the service provided pursuant to the referring physician's
referral.

     The Anti-kickback Statute has been broadly interpreted by courts in many
jurisdictions. Read literally, the statute places at risk many business
arrangements potentially subjecting such arrangements to lengthy expensive
investigations and prosecutions initiated by federal and state government
officials. Many states, including some of those in which the Company does
business, have adopted similar prohibitions against payments intended to induce
referrals of Medicaid and other third-party payor patients. The Company believes
that, although it is receiving remuneration under the MSAs for management
services, it is not in a position to make or influence the referral of patients
or services reimbursed under government programs to the physician groups and,
therefore, believes it has not violated the Anti-kickback Statute. Although the
Company will assist physician groups and networks in negotiating its contracts
to provide professional services and will provide marketing and advertising
services on behalf of such groups and networks, the Company will not refer
patients to such groups and networks. Payments to the Company by such groups and
networks in connection with marketing and advertising services should not be
viewed as payments to the Company to induce referrals because the marketing
services provided by the Company are of a general nature, and are not intended
to direct patients to any  particular provider for any particular
Medicare/Medicaid covered item or service. Payments or issuances of Company
stock or stock options to physicians should also not be viewed as payments to
induce the purchase of an item or service reimbursable by Medicare or state
health care programs, and management fees paid by affiliated physician groups
and/or networks to the Company should not be viewed as payments to induce the
Company to refer patients to such groups and networks because such payments will
be consistent with the fair market value of the items or services received in
exchange. Nevertheless, because of the breadth of federal and state
anti-kickback statutes and the absence of court decisions interpreting their
application to arrangements such as those entered into by the Company, there can
be no assurance that the Company's activities will not be challenged by
regulatory authorities or that the Company's position will prevail if
challenged. Although the Company believes that it is in compliance with the
federal fraud and abuse statute, any exclusion or penalty applied to one or more
affiliated physician groups or networks due to a violation of the federal fraud
and abuse laws could have a material adverse effect upon the Company. Moreover,
the Company is not a separate provider of Medicare or state health program
reimbursed services. 

     To the extent the Company is deemed


                                       18

<PAGE>   19

to be either a referral source or a separate provider under its MSAs and to
receive referrals from physicians, the financial arrangements under such
agreements could be subject to scrutiny and prosecution under the Anti-kickback
Statute. Violation of the Anti-kickback Statute is a felony, punishable by
criminal fines up to $25,000 per violation and imprisonment for up to five
years; a civil monetary penalty of $50,000; and/or civil damages of not more
than three times the amount of remuneration offered, paid, solicited or received
without regard to whether any portion of such remuneration was for a lawful
purpose. In addition, the U.S. Department of Health and Human Services ("HHS")
may impose civil penalties excluding violators from participation in Medicare or
state health programs.

      In July 1991, in part to address concerns regarding the Anti-kickback
Statute, the federal government published regulations that provided exceptions,
or "safe harbors," for transactions that will be deemed not to violate the
Anti-kickback Statute. Among the safe harbors included in the regulations were
provisions relating to the sale of practitioner practices, management and
personal services agreements and employee relationships. Additional safe harbors
were proposed in September 1993 offering new protections under the Anti-kickback
Statute to eight activities, including referrals within group practices
consisting of active investors. Proposed amendments to clarify these safe
harbors were published in July 1994 which, if adopted, would cause substantive
retroactive changes to the 1991 regulations. The failure of an activity to
qualify under a safe harbor provision, while potentially leading to greater
regulatory scrutiny, does not render the activity illegal. Although the Company
believes that it is not in violation of the Anti-kickback Statute, its
operations may not fit within any of the existing or proposed safe harbors.

      As a component of the recently enacted Health Insurance Portability and
Accountability Act of 1996, Congress directed the Secretary of HHS to issue
advisory opinions regarding compliance with the Anti-kickback Statute. Advisory
opinions are available concerning what constitutes prohibited remuneration
within the meaning of the Anti-kickback Statute, whether an arrangement
satisfies the statutory exceptions to the Anti-kickback Statute, whether an
arrangement meets a safe harbor, what constitutes an illegal inducement to
reduce or limit services to individuals entitled to benefits covered by the
Anti-kickback Statute and whether an activity constitutes grounds for the
imposition of civil or criminal penalties under the applicable exclusion.
Advisory opinions, however, will not assess fair market value for any goods,
services or property or determine whether an individual is a bona fide employee
within the meaning of the Internal Revenue Code. The statutory language makes
clear that advisory opinions


                                       19

<PAGE>   20

are available for both proposed and existing arrangements. The failure of a
party to seek an advisory opinion, however, may not be introduced into evidence
to prove that the party intended to violate the Anti-kickback Statute. The
Company has not sought, and has no present intention of seeking, an advisory
opinion regarding any aspect of its current operations or arrangements with
physicians.

      Significant prohibitions against physician referrals were enacted by
Congress in the Omnibus Budget Reconciliation Act of 1993. These prohibitions,
commonly known as "Stark II," amended prior physician self-referral legislation
known as "Stark I" by dramatically enlarging the field of physician-owned or
physician-interested entities to which the referral prohibitions apply.
Effective January 1, 1995, Stark II prohibits, subject to certain exceptions, a
physician or a member of his or her immediate family from referring Medicare
patients to an entity providing designated health services in which the
physician has an ownership or investment interest, or with which the physician
has entered into a compensation arrangement, including the physician's group
practice. The designated health services include radiology and other diagnostic
services, radiation therapy services, physical and occupational therapy services
and providing durable medical equipment, parenteral and enteral nutrients,
equipment and supplies, prosthetics, orthotics, outpatient prescription drugs,
home health services and inpatient and outpatient hospital services. The
penalties for violating Stark II include a prohibition on payment by these
government programs and civil penalties of as much as $15,000 for each violative
referral and $100,000 for participation in a "circumvention scheme." The Company
believes that its activities are not in violation of Stark I or Stark II.
Stark II also applies to indirect financial arrangements. To the extent
physicians managed by the Company are determined to have an indirect financial
relationship with physicians in separate practices which are managed by the
Company, absent a Stark II exception, referrals for designated health services
between physicians in different practices could be prohibited.

      Stark II also governs a physician's ability to refer patients for
designated health services within the practices and networks that the Company
manages in light of the physician's ongoing compensation arrangements with such
practices and networks. An exception for in-office ancillary services requires
that the practices and networks meet certain structural and operational
requirements on an ongoing basis in order to bill for in-office ancillary
designated health services rendered by employed or contracted physicians. A key
feature of the in-office ancillary services exception is the Stark law's
definition of "group


                                       20

<PAGE>   21

practice."  In this regard, on January 9, 1998, the Health Care Financing
Administration ("HCFA") published proposed regulations interpreting the scope
and refining the application of the Stark II law. These regulations provide, in
the case of designated health services provided by a group practice, that the
overhead expenses and income from the practice must be distributed according to
methods that indicate that the practice is a unified business and not based on
each satellite office operating as if it were a separate enterprise. There can
be no assurance that the distribution methodologics used by practice groups
managed by the Company will meet the unified business requirement. A
determination that any practice group's sharing of overhead expenses and income
does not comply with Stark II would preclude physician owners of such practice
groups from referring Medicare/Medicaid patients to their practice group(s) for
certain designated health services, and could have a material adverse effect on
such group(s), and therefore the Company.

      In addition, the proposed regulations contemplate that the issuance to
physicians of stock in a company prior to such company being publicly traded
may not satisfy the Stark exception for ownership interests in publicly traded
companies. Thus, to the extent the Company becomes a provider of designated
health services, physicians who have received stock or stock options in the
Company before it became public may be precluded from making Medicare/Medicaid
referrals to the Company and, under certain circumstances, to other affiliated
medical groups, for designated health services, which could have a material
adverse impact on the Company.

      In addition, the proposed Stark II regulations present a variety of
additional modifications, clarifications and additions to the current Stark I
regulations, including changes to the definition of designated health services.
Many of these proposed changes, if finally adopted in their current or even
modified form, could have a material adverse effect on the physician groups and
networks managed by the Company, and therefore could have a material adverse
effect on the Company. It is not clear when the final Stark II regulations will
be issued in their final form.

      In the recently enacted Balanced Budget Act of 1997, Congress directed the
Secretary of HHS to issue advisory opinions as to whether a referral relating to
designated health services (other than clinical laboratory services) is
prohibited under the Stark law. The advisory opinion mechanism is authorized to
begin on or about November 3, 1997. An advisory opinion issued by the Secretary
will be binding as to the Secretary and the party or parties requesting the
opinion. The Company has no present intention to seek an advisory opinion
regarding its current operations, arrangements with physicians or the referral
activities of physicians in the practices and networks it manages.

      A number of states have enacted self-referral laws that are similar in
purpose to Stark II but which impose different restrictions on referrals from
Stark II. These various state self-referral laws have different requirements.
Some states, for example, only prohibit referrals when the physician's financial
relationship with a health care provider is based upon an investment interest.
Other state laws apply only to a limited number of designated health services
or, alternatively, to all health care services furnished by a provider. Some
states do not prohibit referrals at all, but require only that a patient be
informed of the financial relationship before the referral is made. Most of the
states in which the Company conducts business have adopted some form of
self-referral law. Many states, including Pennsylvania, have self-referral laws
that are particularly applicable to workers' compensation patients. The Company
believes that its current operations and the structure of the practices and
networks it manages are in material compliance with the self-referral laws of
the states in which such practices and networks are located.

      Under numerous federal laws, including the Federal False Claims Act (the
"False Claims Act"), the federal government is authorized to impose criminal,
civil and administrative penalties on any health care provider that files a
false claim for reimbursement from a federally funded health program (such as


                                       21

<PAGE>   22

Medicare or Medicaid). Recently enacted federal legislation also imposes federal
criminal penalties on persons who file false or fraudulent claims with private
insurers. While the criminal statutes are generally reserved for instances of
fraud, the civil and administrative penalty statutes are being applied by the
government in an increasingly broad range of circumstances. Civil sanctions may
be imposed if the claimant knew or should have known that billing was improper.
The government also has taken the position that claiming reimbursement for
services that are substandard is a violation of these false claims statutes if
the claimant knew or should have known that the care was substandard or rendered
under improper circumstances. Private persons may bring civil actions to enforce
the False Claims Act. Under certain lower court decisions, claims derived from
the Anti-kickback Statute or the Stark law have been deemed to be, or may under
certain circumstances be construed to be, false claims.


      PIP Regulations. HCFA has issued final regulations (the "PIP regulations")
covering the use of physician incentive plans ("PIPs") by HMOs and other managed
care contractors and subcontractors that contract to arrange for services to
Medicare and Medicaid beneficiaries ("Organizations"). Any Organization that
contracts with a physician group that places the individual physician members of
the group at substantial financial risk for the provision of services that the
group does not directly provide (e.g., if a primary care group takes risk but
subcontracts with a specialty group to provide certain services) must satisfy
certain disclosure, survey and stop-loss requirements. Under the PIP
regulations, payments of any kind, direct or indirect, to induce providers to
reduce or limit covered or medically necessary services are prohibited
("Prohibited Payments"). Further, where there are no Prohibited Payments but
there is risk sharing among participating providers related to utilization of
services by their patients, the regulations contain three groups of
requirements: (i) requirements for physician incentive plans that place
physicians at "substantial financial risk," (ii) disclosure requirements for all
Organizations with PIPs: and (iii) requirements related to subcontracting
arrangements. In case of


                                       22
<PAGE>   23

substantial financial risk (defined in the regulations according to several
methods, but essentially risk in excess of 25% of the maximum payments
anticipated under a plan with less than 25,000 covered lives), Organizations
must conduct enrollee surveys and ensure that all providers have specified
stop-loss protection. The violation of the requirements of the PIP regulations
may result in a variety of sanctions, including suspension of enrollment of new
Medicaid or Medicare members, or a civil monetary penalty of $25,000 for each
determination of noncompliance. In addition, because of the increasing public
concerns regarding PIPs, the PIP regulations may become a model for the industry
as a whole. Although the Company currently has no contracts that require
compliance with the PIP regulations, the new regulations, by limiting the amount
of risk that may be imposed upon physicians in certain arrangements, could have
an effect on the ability of the Company to effectively reduce the costs of
providing services, by limiting the amount of risk that may be imposed upon
physicians.

      Antitrust. Because the physician organizations managed by the Company
remain separate legal entities, they may be deemed competitors subject to a
range of antitrust laws which prohibit anti-competitive conduct, including price
fixing, concerted refusals to deal and divisions of markets. In particular, the
antitrust laws have been interpreted by the Federal Trade Commission and the
United States Department of Justice to prohibit joint negotiations by
competitors of price terms in the absence of financial risk that is shared among
the competitors, other financial integration or substantial clinical integration
among the competitors. The Company intends to comply with such state and federal
laws as may affect its development of, and contracting for, integrated health
care delivery networks, but there can be no assurance that review of the
Company's business by courts or regulatory authorities will not result in a
determination that could adversely affect the operation of the Company and its
affiliated physician groups.

      Insurance Regulations. Laws in all states regulate the business of
insurance and the operation of Health Maintenance Organizations ("HMOs") HMOs.
On August 10, 1995, the National Association of Insurance Commissioners ("NAIC")
issued a report opining that certain risk-transferring arrangements may entail
the business of insurance, to which state licensure laws apply, but that
licensure laws would not apply where an unlicensed entity contracts to assume
"downstream risk" from a duly licensed health insurer or HMO for health care
provided to that carrier's enrollees. In addition, in December 1996, the NAIC
issued a report entitled "Regulation of Health Risk Bearing Entities," which
sets forth issues to be


                                       23
<PAGE>   24

considered by state insurance regulators when considering new regulations, and
encourages that a uniform body of regulation be adopted by the states. Certain
states have enacted statutes or adopted regulations affecting risk assumption in
the health care industry. In some states, including some of those in which the
Company does business, these statutes and regulations subject any physician or
physician network engaged in risk-based contracting, even if through HMOs and
insurance companies, to applicable insurance laws and regulations, or other laws
and regulations, which may include, among other things, providing for minimum
capital requirements and other safety and soundness requirements. Although the
NAIC's conclusions are not binding on the states, the Company believes that
additional regulation at the state level will be forthcoming in response to the
NAIC initiatives. The Company will enter into capitated contracts only with
licensed insurance companies and HMOs, and only if allowed by state law. The
Company believes that it is in compliance with these laws in the states in which
it does business, but there can be no assurance that future interpretations of
insurance laws and health care network laws by the regulatory authorities in
these states or in the states into which the Company may expand will not require
licensure or a restructuring of some or all of the Company's operations.

      Health Care Reform. As a result of the continued escalation of health care
costs and the inability of many individuals to obtain health insurance, numerous
proposals have been and may continue to be introduced in the U.S. Congress and
state legislatures relating to health care reform. There can be no assurance as
to the ultimate content, timing or effect of any health care reform legislation,
nor is it possible at this time to estimate the impact of potential legislation,
which may be material to the Company.

      Confidentiality of Patient Records. The confidentiality of patient records
and the circumstances under which such records may be released is subject to
substantial regulation under state and federal laws and regulations. Although
the Company does not currently collect aggregate clinical data for utilization
review and quality assurance purposes, it plans to develop such databases. Data
entries to these databases would delete any patient identifiers, including name,
address, hospital and physician. With respect to its electronic clinical
information systems, the Company uses a state-of-the-art security system,
including user passwords, 128-bit key encryption technology and a triple-DES
encryption algorithm, to safeguard the privacy of clinical data accessed or
transmitted on both private and public


                                       24
<PAGE>   25

networks, including the Internet, and will continue to employ such security
measures in the future. The Company believes that its procedures comply with the
laws and regulations regarding the collection of patient data in substantially
all jurisdictions, but regulations governing patient confidentiality rights are
evolving rapidly and are often difficult to apply. Additional legislation
governing the dissemination of medical record information has been proposed at
both the state and federal level. Furthermore, the Health Insurance Portability
and Accountability Act of 1996 requires the Secretary of HHS to recommend
legislation or promulgate regulations governing privacy standards for
individually identifiable health information and creates a federal criminal
offense for knowing disclosure or misuse of such information. These statutes and
regulations may require holders of such information to implement security
measures that may be of substantial cost to the Company. There can be no
assurance that changes to state or federal laws would not materially restrict
the ability of the Company to obtain patient information originating from
records.

      Licensure, Certificate of Need and Prescription Laws. Certain of the
ancillary services that the Company anticipates providing on behalf of the
practices and networks it manages are now, or may in the future be, subject to
licensure or certificate of need laws in various states. There can be no
assurance that the Company, or the practices or networks it manages, will be
able to obtain such licenses or certificate of need approval to the extent
required for the particular ancillary service. Each state establishes rules
related to the practice of medicine, including the method of prescribing drugs.
In addition, the federal drug enforcement administration (the "DEA") regulates
the issuance and content of prescriptions for controlled substances. The
application of these federal and state rules to the use of the electronic
prescription writing and management systems (the "Prescription Systems") varies.
Certain states in which the Company does business, such as New York, Delaware
and Tennessee, prohibit the use of the Prescription Systems while the other
states in which the Company does business, Connecticut, Georgia, New Jersey and
Pennsylvania, limit the use of the Prescription Systems and the DEA neither
specifically permits nor specifically prohibits electronic transmission of
prescription orders. The DEA is investigating the possibility of adopting a
policy regarding electronic transmission of prescription orders, such as that
used by the Prescription Systems, for controlled substances. The Company will
advise users of the Prescription Systems of the existence of these restrictions
and limitations and believes its use of the Prescription Systems will be in
compliance with


                                       25

<PAGE>   26

applicable state and federal laws. Modification or further clarification of
federal and state rules regarding use of the Prescription Systems in a manner
that reduces their utility may have a material adverse effect on the Company.

      FDA Regulation. Certain products, including software applications,
intended for use in the diagnosis of disease or other conditions, or in the
cure, treatment, mitigation or prevention of disease, are subject to regulation
by the Food and Drug Administration ("FDA") under the Federal Food, Drug and
Cosmetic Act of 1938, as amended (the "FDCA"). The FDCA imposes substantial
regulatory controls over the manufacturing, testing, labeling, sale,
distribution, marketing and promotion of medical devices and other related
activities. These regulatory controls can include, for example, compliance with
the following: manufacturer establishment registration and device listing;
current good manufacturing practices; FDA clearance of a premarket notification
submission or FDA approval of a premarket approval application; medical device
adverse event reporting; and prohibitions on misbranding and adulteration.
Violations of the FDCA can result in severe criminal and civil penalties, and
other sanctions, including, but not limited to, product seizure, recall, repair
or refund orders, withdrawal or denial of premarket notifications or premarket
approval applications, denial or suspension of government contracts, and
injunctions against unlawful product manufacture, labeling, promotion, and
distribution or other activities.

      In its 1989 Draft Policy Statement, the FDA stated that it intended to
exempt certain clinical decision support software products from a number of
regulatory controls. Under the 1989 Draft Policy Statement, the FDA stated that
it intended to exempt decision support software products that involve "competent
human intervention before any impact on human health occurs (e.g., where
clinical judgment and experience can be used to check and interpret a system
output)" from the following controls: manufacturer establishment registration
and device listing, premarket notification and compliance with the medical
device reporting and current good manufacturing practice regulations. In the
1989 Draft Policy Statement, the FDA stated that until it formally exempted
decision support software products from these requirements, manufacturers of
eligible decision support software products would be required to comply with
those controls.

     Since issuing the 1989 Draft Policy Statement, the FDA has not issued a
final policy on this issue and has not formally exempted any products as
discussed in the 1989 Draft Policy


                                       26
<PAGE>   27

Statement. The FDA has referred to the 1989 Draft Policy Statement in official
presentations regarding software regulation and in decisions and opinions
regarding the regulatory status of various products. Over the last several
years, however, the FDA has stated that it intends to issue a new policy
concerning computer products and has been increasing its efforts to develop this
policy in recent months. Under this new policy, exemptions from regulatory
controls, if any, may be based upon a product specific "risk factor" analysis.
For purposes of this analysis, the FDA may consider, among other things, the
following: (i) seriousness of the disease to be diagnosed or treated, (ii) the
time frame for use of the information, (iii) whether the data output is provided
or manipulated in a novel or non-traditional manner, (iv) whether the software
provides individualized patient care recommendations, (v) whether the mechanism
by which the software arrives at a decision is hidden or transparent and (vi)
whether the product provides new capabilities for the user. Given the FDA's
intent to issue a new policy concerning the regulation of computer software,
there can be no assurance as to the effect of such a policy, if any, upon the
regulatory status of the Company's products.

      The Company's clinical information systems are intended to assist health
care providers in analyzing economic and quality data related to patient care
and expected outcomes in order to maximize the cost-effectiveness of general
treatment plans and practice protocols. These products are not intended to
provide specific diagnostic data, results or affect the use of specific
therapeutic interventions for individual patients. As such, the Company believes
that its clinical information systems are not medical devices under the FDCA
and, thus, are not subject to the controls imposed on manufacturers of medical
devices and do not fall within the scope of the 1989 Draft Policy Statement. The
Company further believes that to the extent that its products might be
determined to be medical devices, they fall within the exemptions for decision
support systems provided by the 1989 Draft Policy Statement. The Company has not
taken action to comply with the requirements that would otherwise apply if the
Company's products were determined to be non-exempt medical devices.

      There can be no assurance that the FDA will not make a request or take
other action to require the Company to comply with any or all current or future
controls applicable to medical devices under the FDCA. There can be no assurance
that, if such a request were made or other action were taken, the Company could
comply in a timely manner, if at all, or that any failure to comply would not
have a material adverse effect on the Company's business, financial condition or
results of operations, or that


                                       27

<PAGE>   28
the Company would not be subjected to significant penalties or other sanctions.
There can be no assurance that the FDA will continue to permit any or all of the
exemptions provided in the 1989 Draft Policy Statement, or in a new policy
statement, if any, or that the FDA will promulgate regulations formally
implementing such exemptions. There can be no assurance that the Company's
current or future clinical information systems will qualify for future
exemptions, if any, nor can there be any assurance that any future requirements
will not have a material adverse effect on the Company's business, financial
condition or results of operations. 

     While the Company believes that it and the MSOs are in compliance with the
foregoing federal and state laws, future regulations could require the Company
to modify the form of its relationships with physician organizations. Moreover,
the violation of any such state or federal law by the Company, the MSOs or the
physician organizations managed by the Company could have a material adverse
effect on the Company.


      The health care industry is subject to changing political, economic and
regulatory influences that may affect the procurement practices and operations
of health care industry participants. During the past several years, government
regulation of reimbursement rates in the United States health care industry has
increased. Lawmakers continue to propose programs to reform the United States
health care system, which may contain proposals to increase government
involvement in health care, lower reimbursement rates and otherwise change the
operating environment for the Company's customers. Health care industry
participants may react to these proposals by curtailing or deferring
investments, including investments in the Company's products. The Company cannot
predict what impact, if any, such factors may have on its business, financial
condition and results of operations or on the price of the common Stock.


Year 2000
       
      The Year 2000 date change issue is believed to affect virtually all
companies and organizations.  If not corrected, many long term applications
could fail or create erroneous reults by or at year 2000.  The Company is
undertaking an investigation to dertermine if
the Company's computer systems, the Company's proprietary software products,
and the computer systems of the physician practices and networks and other
third parties with which the Company does business (as they relate to the
Company) are Year 2000 compliant.  The failure of any of the foregoing matters
to be Year 2000 compliant might materially adversely affect the Company.

Employees

      As of December 31, 1997, the Company had a total of approximately 700
employees, approximately 500 of whom were employed by the MSOs, approximately 
55 of whom were employed in the Company's information systems subsidiary. None
of the Company's employees is subject to a collective bargaining agreement. The
Company has never experienced a work stoppage and believes that its employee
relations are satisfactory.                                                   


ITEM 2. PROPERTIES

      The Company currently occupies 26,302 square feet of leased office space
in Tarrytown, New York, 16,252 of square feet of leased space in Hawthorne, New
York, 4,065 square feet of leased office space in Marietta, Georgia, 8,028
square feet of leased office space in Fort Washington, Pennsylvania and 10,742
square feet of leased office and data center space in Chicago, Illinois. The


                                       28

<PAGE>   29

current lease for the Tarrytown office has an annual rental of approximately
$500,000 and expires in March 2002. The lease for the Marietta office expires in
January 2001 and has an annual rental of approximately $50,000. The lease for
the Fort Washington office expires in December 2002 and has an annual rental
of approximately $128,000. The lease for the Chicago office expires in March
2001 and has an annual rental of $184,000 for the current year. The Company
believes that these facilities are adequate for the foreseeable future.


ITEM 3. LEGAL PROCEEDINGS

      On May 22, 1997, an action captioned Benenson & Associates, Inc and
Michael J. Benenson v. Advanced Health Corporation, Advanced Health Management
Corp. f/k/a Advanced Clinical Networks Corp., Jonathan Edelson, M.D., Steven I.
Hochberg and Alan B. Masarek was filed in the United States District Court for
the Southern District of New York. The action relates to: (i) an Employment
Agreement dated April 1, 1996 between the Company and Michael J. Benenson and
(ii) an Asset Purchase Agreement dated April 1, 1996, among the Company,
Benenson & Associates, Inc. and Mr. Benenson, Plaintiffs have asserted claims
against all defendants for alleged violations of the Exchange Act, common law
fraud and fraudulent inducement, and against the Company for breach of contract.
Plaintiffs' complaint seeks both damages and equitable relief. The Company
believes that each of the plaintiffs' claims is without merit, and it intends to
defend against the action vigorously.

      On September 23, 1997, the Company commenced an action against Synetic,
Inc. ("Synetic") entitled Advanced Health Med-E-Systems Corporation v. Synetic,
Inc. in the Supreme Court of the State of New York to collect $1 million owing
by Synetic to the Company pursuant to a software license agreement dated as of
March 31, 1997, as amended (the "License Agreement"), between Synetic and the
Company, with respect to E-Rx(TM). On October 1, 1997, Synetic filed an answer
to this lawsuit and asserted various counterclaims against the Company, in which
Synetic alleges that the subject software and documentation was not timely
delivered and installed in accordance with the License Agreement. As relief,
Synetic seeks a declaratory judgment that Synetic is not obligated to make the
$1 million payment, as well as unspecified damages. The Company believes that
Synetic's defenses and counterclaims are without merit.


                                       29

<PAGE>   30

      From time to time, the Company is involved in litigation. Although the
actual amount of any liability that could arise with respect to any such
litigation cannot be accurately predicted, in the opinion of management, the
resolution of these matters is not expected to have material adverse effect on
the Company's business, results of operations or financial condition.

Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS

        NONE.


                                       30

<PAGE>   31

                                     PART II

Item 5.  MARKET FOR REGISTRANTS' COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

      The Common Stock began trading on the Nasdaq National
Market under the symbol "ADVH" on October 3, 1996.

            (a)   Market Information

            The following sets forth the high and low bid price for the period
commencing January 1, 1997 through December 31, 1997 as reported by NASDAQ.
Quotations reflect interdealer prices without retail mark-up, mark-down or
commission, and may not represent actual transactions.

<TABLE>
<CAPTION>
             Common Stock                             High           Low
                                                      ----           ---
<S>                                                   <C>           <C>
October 3, 1996 through December 31, 1997            $17.75        $12.50
First Quarter ended March 31, 1997                    18.25          6.625
Second Quarter ended June 30, 1997                    20.75         14.125
Third Quarter ended September 30, 1997                24.875        17.00
Fourth Quarter ended December 31, 1997                28.125        11.00
</TABLE>

             (b)  Approximate Number of Equity Stockholders

                  Based upon information supplied from the Company's transfer
            agent, the Company believes that the number of record holders of the
            Company's equity securities as of March 25, 1998 is approximately
            250
            
                  The Company believes that the number of beneficial holders of
            the Company's Class A Common Stock as of March 25, 1998 is in excess
            of 300.

            (c)  Dividends

            The Company has not declared or paid any cash dividends on its
            capital stock since inception and does not expect to pay cash
            dividends in the foreseeable future. The Company presently intends
            to retain future earnings, if any, to finance the expansion of its
            business. The payment of any cash dividends in the future will
            depend on the Company's earnings, financial condition, results of 


                                       31
<PAGE>   32

            operations, capital needs and other factors deemed pertinent by the
            Company's Board of Directors, subject to laws and regulations then
            in effect.

Item 6. SELECTED FINANCIAL DATA

      The selected consolidated statement of operations data for the years ended
December 31, 1995, 1996 and 1997, and the consolidated balance sheet data as of
December 31, 1996 and 1997, are derived from the consolidated Financial
Statements of the Company included elsewhere in this Annual Report on Form 10-K,
which have been audited by Arthur Andersen LLP, independent public accountants.
The selected consolidated statement of operations data for the period from
inception (August 27, 1993) to December 31, 1993 and the selected consolidated
balance sheet data as of December 31, 1993 and 1994 are derived from the
consolidated financial statements of the Company which have been audited by
Arthur Andersen LLP, independent public accountants, but which are not included
in this Annual Report on Form 10-K. The selected consolidated financial data set
forth below is qualified by reference to, and should be read in conjunction
with, the Company's Consolidated Financial Statements and the Notes thereto and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" contained elsewhere in this Annual Report on Form 10-K.

<TABLE>
<CAPTION>
                                                Period from
                                                 inception
                                             (August 27, 1993)
                                              to December 31,       
                                                   1993         1994          1995        1996        1997
(In thousands, except per share data)

Statement of Operations Data:

<S>                                                <C>          <C>           <C>        <C>         <C>
Revenues                                        $    --        $   379      $  1,054    $ 19,136    $ 61,006
Cost of revenues                                     --             12           340      14,265      45,636
                                                -------        -------      --------    --------    --------
Gross profit                                         --            367           714       4,871      15,370
Operating expenses                                  521          2,901         6,412       7,328       8,954
                                                -------        -------      --------    --------    --------                  
Operating (loss) income                            (521)        (2,534)       (5,698)     (2,457)      6,416
Other income (expense)                               --            (15)           (9)         15       1,144
                                                -------        -------      --------    --------    --------
Net loss before income taxes                       (521)        (2,549)       (5,707)     (2,442)      7,560
Income tax provision (benefit)                       --             --            --        (977)        402
                                                -------        -------      --------    --------    --------
Net (loss) income                               $  (521)       $(2,549)     $ (5,707)   $ (1,465)   $  7,158
                                                =======        =======      ========    ========    ========
Net (loss) income per share; 
  Basic                                         $ (0.30)       $ (1.29)     $  (1.67)   $  (0.28)   $   0.91 
                                                =======        =======      ========    ========    ========                    

  Diluted                                       $ (0.30)       $ (1.29)     $  (1.67)   $  (0.28)   $   0.81    
                                                =======        =======      ========    ========    ======== 
Common shares used in
  computing per share amounts;
  Basic                                           1,725          1,978         3,420       5,149       7,872 
                                                =======        =======      ========    ========    ======== 

  Diluted                                         1,725          1,978         3,420       5,149       8,891
                                                =======        =======      ========    ========    ========                    
                                                
</TABLE>


                                       32

<PAGE>   33

<TABLE>
<CAPTION>
                                            1995        1996     1997
(In thousands)

Balance Sheet Data:

<S>                                       <C>        <C>        <C>
Cash and cash equivalents                 $ 1,464    $12,086    $ 7,534
Investments in marketable securities           --      7,390     34,082 
Certificates of deposit                       -0-        -0-      5,399
Working capital (deficit)                    (741)    26,603     61,644
Total assets                                6,462     35,400     94,358
Total debt                                    235                    26
Total stockholders' equity                  2,675     31,884     93,100
</TABLE>

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

      The following discussion of the results of operations and financial
condition of the Company should be read in conjunction with the Consolidated
Financial Statements and the notes thereto included elsewhere in this Annual
Report on Form 10-K.

CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS

      The Company's actual results could differ materially from its historical
results or from any forward-looking statements made or incorporated into this
Annual Report. Factors that may cause such differences include: the Company's
ability to successfully enter in to new contractual alliances with Physician
organizations and to preserve its existing contractual relationships; the
Company's ability to successfully expand its business to new markets; the
Company's ability to attract and retain qualified personnel and management;
changes in state insurance laws and related government regulations; increased
competition and growth in the medical practice management market; and other
unanticipated changes in economic conditions.

Overview

      Advanced Health Corporation (the "Company") provides a full range of
integrated management services and clinical information systems to physician
group practices, single legal entities comprised of multiple physicians, and to
physician networks, aggregations of individual physicians and physician groups
formed for the purpose of entering into contracts with third-party payors. The
Company's clinical information systems are also licensed to hospitals,
integrated delivery systems, information system companies, and other health care
organizations.



                                       33
<PAGE>   34
The Company generates revenues from (i) fees for managing and providing
consulting services to physician group, practices, (ii) fees for managing
physician networks and (iii) fees for use and support of its clinical
information systems, including licensed, software installation, software
integration, training and data conversion fees.                      

The Company contracts with its physician practice and network management clients
pursuant to long-term agreements with its MSOs, the financial results of such
MSOs are included in the Consolidated Financial Statements.

      The Company believes that its historical results of operations from period
to period are not comparable and that such results are not necessarily
indicative of results for any future periods because the Company was a
development stage company investing in technology development and did not
provide physician practice and network management services prior to December 11,
1995.


Results of Operations

      Year Ended December 31, 1997 and 1996

      Total revenues for the year ended December 31, 1997 increased to $61.0
million from $19.1 million in the year ended December 31, 1996, primarily as a
result of the addition of new physician group practices under management,
provision of incremental network management services and fees for the use and
support of clinical information systems. The provision of physician group
practice management and related services and network management services
accounted for approximately $48.7 million of the Company's net revenues for the
year ended December 31, 1997 as compared to $15.1 million in the year ended
December
                                         

                                       34
<PAGE>   35

31, 1996. The Company earned fees for the use and support of its clinical
information systems, including the recognition of license revenues and software,
systems and training revenues, of approximately $12.3 million for the year ended
December 31, 1997, as compared to $4.0 million in the year ended December 31,
1996. Of the $12.3 million of information technology revenues, approximately
$4.6 million were earned in connection with software licenses or information
management service fees with affiliated entities or with entities in which the
Company has a minority equity interest.
                                        
      Cost of revenues for the year ended December 31, 1997 increased to $45.6
million from approximately $14.3 million for the year ended December 31, 1996.
The increase in cost of revenues related primarily to the expenses outsourced to
the Company from physician group practices under management.

      Operating expenses for the year ended December 31, 1997 increased to $9.0
million from $7.3 million for the year ended December 31, 1996 and included
approximately $.7 million and $2.8 of research and development costs
respectively. The increase in operating expenses related to the increased
provision of physician group practice management and related services.

      For the year ended December 31, 1997, the Company also earned interest
income in the amount of $1.2 million from investments in marketable securities
as a result of the investment proceeds from the IPO and follow-on offerings. The
Company earned interest income in the amount of $.2 million from investments in
marketable securities as a result of the investment of proceeds from the IPO for
the comparable period ended December 31, 1996. The Company incurred interest
expense of approximately $.2 million for the period ending December 31, 1996,
which related primarily to interest on $5.0 million of then outstanding
indebtedness bearing interest at 8% per annum ($3.0 million), 9% per annum
($2.0 million) and interest on capital lease obligations.

      An income tax benefit of approximately $1.0 million was recorded in 1996
as a result of the Company's determination, based on profitable fourth quarter
operations, that the related deferred income tax asset would be realized through
the generation of taxable income in the future. 

      The net income for the year ended December 31, 1997 was $7.2 million
compared to a loss of $1.5 million for the year ended December 31, 1996 due to
the factors describe above.

      Year Ended December 31, 1996 and 1995

      Total revenues for the year ended December 31, 1996 increased to $19.1
million from $1.1 million in the year ended December 31, 1995,


                                       35
<PAGE>   36
primarily as a result of the addition of new physician group practices under
management, provision of incremental network management services and fees for
the use and support of its clinical information systems. The Company began to
provide physician network management services in September 1995 and physician
group practice management and related services in December 1995. The provision
of physician group practice management and related services and network
management services accounted for approximately $15.1 million of the Company's
net revenue in the year ended December 31, 1996 as compared to $.7 million for
the comparable period ended December 31, 1995. The Company earned fees for the
use and support of its clinical information systems, including the recognition
of license revenues and software systems, and from revenues of approximately
$4.0 million for the year ended December 31, 1996, as compared to $.4 million
for the comparable period ended December 31, 1995.

     Operating expenses for the year ended December 31, 1996 increased to $7.3
million from $6.4 million for the year ended December 31, 1995. The increase in
operating expenses was due to the increases in staffing and general corporate
expenses required to fund the Company's transition from a development stage
company involved in the development of clinical information systems to a full
service physician practice and network management company.

     The net loss for the year ended December 31, 1996 was $1.5 million
compared to a loss of $5.7 million for the year ended December 31, 1995.
 
Liquidity and Capital Resources

      At December 31, 1997, the Company had aggregate cash, cash equivalents,
certificates of deposit and marketable securities of $47.0 million, compared
to $19.5 million at December 31, 1996.


      The cash flow from operations in 1997 was $3.6 million versus a net use of
cash of $9.8 million in 1996. This increase in net cash from operations resulted
primarily from an $8.6 million increase in net income. Net cash used in
investing activities grew from $9.7 million in 1996 to $55.4 million in 1997.
This increase was due to several factors, including the investment in
marketable securities of the proceeds of the Company's follow-on equity
offering, the acquisition of Bukstel & Halfpenny, a company that develops and
provides software that links physicians with hospital-based clinical systems
such as laboratory, radiology and pathology systems, a minority investment in
Patient Care Dynamics, a compnay that provides an integrated family of
technology-based patient care support systems and services to physicians, a
minority investment and loan to ACRM, an organization that will provide
advanced cardiovascular research management, a minority investment in Caresoft,
a developer of disease management tools, and capitalized software development
costs.             
                 
      Cash flow from financing activities grew to $47.2 million in 1997 from
$30.2 million in 1996. The net cash provided by financing activities in 1997 was
primarily attributable to the Company's public offering of Common Stock in
October 1997, which raised net proceeds of $46.0 million.

                                       36
<PAGE>   37

      The Company's operating plan for 1998 includes continued development of
the Company's integrated management services and clinical information systems.
The principal categories of expenditures include further development of the
Company's clinical information systems, as well as ongoing business development
and marketing. The Company believes that the net proceeds of the follow-on
equity offering together with other, cash and investments on hand, interest
income and revenues from operations will be sufficient to fund planned
operations of the Company through at least mid 1999. 

      During January and February 1997, the Company loaned $2 million to
Madison, a physician practice it currently manages, secured by the physicians'
49% ownership interest in its MSO. The loan bears interest at prime plus 2
percent and is to be repaid in 12 equal monthly installments beginning January
1998. Furthermore, the Company provided a letter of credit on behalf of Madison
that expires January 8, 1998, in the amount of $1.8 million by depositing
restricted cash with the lending institution that issued the letter of credit.
The Company has no other planned material capital expenditures or other capital
commitments.

      From time to time in the ordinary course of its business, the Company
evaluates possible acquisitions of businesses, products and technologies that
are complementary to those of the Company. 

      Under certain specified circumstances, the Company has the option to cause
certain MSOs to be merged with and into a wholly-owned subsidiary of the Company
in a transaction in which the interests of the physician groups and networks in
such MSOs would be exchanged for Common Stock of the Company. The Company has
reserved 548,224 shares of Common Stock for issuance upon consummation of the
Roll Up Transaction, all of which will be issued if the Company effects the Roll
Up Transaction. In addition, certain of the physician groups and networks
managed by the Company have rights to require the Company to purchase all or
part of such physicians' interest in their respective MSO in the event that the
Company does not consummate the Roll Up Transaction within one year after the
satisfaction of specified conditions. There can be no assurance that the Company
will have the financial resources to purchase such interests in accordance with
its obligations at the time any such rights are exercised, or that the 


                                       37

<PAGE>   38


Company would be able to obtain financing on satisfactory terms or conditions,
if at all, to purchase such interests. In addition, pursuant to its agreement
with one of its physician group practice clients, the Company has agreed, under
certain circumstances, to advance funds to such group practice to finance
working capital. To date, the Company has not made any advances to such group
practice under the agreement and it does not expect to do so in the future.

YEAR 2000

        The Year 2000 date change issue is believed to affect virtually all
companies and organizations. If not corrected, many computer applications could
fail or create erroneous results by or at the year 2000. The Company has not
completed its assessment of compliance issues for the Companys' proprietary
software products, for its computer systems (both hardware and software), for
equipment ancillary to the Company's business that contains computers or
computer chips, for the  computer systems of other entities with which the
Company does business. The Company has also not determined the cost of these
compliance issues or the time it will take to complete compliance.

        The Company expects to complete its full assessment of the Year 2000
issue no later than December 31, 1998, which is prior to any anticipated impact
on its operting systems. As part of the Year 2000 assessment, the Company
expects to communicate with all of its physician practices and networks, as
well as suppliers and third parties with which the Company does business, to
determine the extent to which the Company's interface systems are vulnerable to
those parties' failure to remedy their Year 2000 issues. There is no guarantee
that the systems of other companies on which the Compnay relies will be
corrected in a timely manner or that the failure to correct will not have a
material adverse effect on the Company's systems. Year 2000 modifications and
assessments are based on managements' best estimates, which were derived
utilizing numerous assumptions of future events, including availability of
certain resources and other factors. However, there can be no guarantee the
estimates and assessments will be achieved or come to pass, and actual results
could differ materially from those anticipated.

                                       38
<PAGE>   39

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

                              Financial Statements

Report of Independent Public Accountants                                 F-1
Consolidated Balance Sheets as of December 31, 1996 and 1997             F-2
Consolidated Statements of Operations for the three years ended             
  December 31, 1997                                                      F-3
Consolidated Statements of Stockholders' Equity for the three     
  years ended December 31, 1997                                          F-4
Consolidated Statements of Cash Flows for the three years ended 
  December 31, 1997                                                      F-5
Notes to Consolidated Financial Statements                               F-6

                          Financial Statement Schedules

      All schedules, other than those disclosed, have been omitted because they
are not applicable or not required or because the required information is
included in the Consolidated Financial Statements or notes thereto.           

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

      None.

                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

      The information called for by this item is incorporated herein by
reference to the sections of the definitive Proxy Statement to be filed with the
Securities and Exchange Commission not later than 120 days after December 31,
1997, and delivered to stockholders in connection with the 1998 Annual Meeting
of Stockholders, captioned "Election of Directors," "Executive Officers" and
"Disclosure Pursuant to Section 16 of the Exchange Act."

ITEM 11. EXECUTIVE COMPENSATION


                                       39
<PAGE>   40

      The information called for by this item is incorporated herein by
reference to the sections of the definitive Proxy Statement to be filed with the
Securities and Exchange Commission not later than 120 days after December 31,
1997, and delivered to stockholders in connection with the 1998 Annual Meeting
of Stockholders, captioned "Meetings of the Board of Directors and Committees of
the Board of Directors; Compensation of Directors" and "Executive Compensation
and Related Information."

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

      The information called for by this item is incorporated herein by
reference to the section of the definitive Proxy Statement to be filed with the
Securities and Exchange Commission not later than 120 days after December 31,
1997, and delivered to stockholders in connection with the 1998 Annual Meeting
of Stockholders, captioned "Security Ownership of Certain Beneficial Owners,
Directors and Management."

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

      The information called for by this item is incorporated herein by
reference to the section of the definitive Proxy Statement to be filed with the
Securities and Exchange Commission not later than 120 days after December 31,
1997, and delivered to stockholders in connection with the 1998 Annual Meeting
of Stockholders, captioned "Certain Transactions."

                                     PART IV

Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K

      (a)   Documents Filed as Part of the Report

            1.    Financial Statements

                  The financial statements listed under Item 8 are filed as part
            of this report.

            2.    Financial Statement Schedules


                                       40
<PAGE>   41

                  Certain schedules have been omitted because they are either 
            not applicable or the required information has been disclosed in the
            financial statements or notes thereto.

            3.    Exhibits

                  The exhibits listed on the accompanying Exhibit Index are
            filed as part of this report or incorporated by reference herein.

      (b)   Reports on Form 8-K

            No Current Reports on Form 8-K were filed by the registrant during
      the fourth quarter of the year ended December 31, 1997.

                                   SIGNATURES

      Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized, on the 30th day of
March, 1998.

                                          ADVANCED HEALTH CORPORATION

                                          By /s/ Jonathan Edelson
                                          ------------------------
                                          Jonathan Edelson, M.D.
                                          Chairman of the Board and
                                          Chief Executive Officer

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

    Signature                    Title                               Date


/s/ Jonathan Edelson     Chairman of the Board, Chief            March 30, 1998
--------------------     Executive Officer and Director 
Jonathan Edelson, M.D    (Principal Executive Officer)    


                                       41
<PAGE>   42

/s/ Steven Hochberg      Vice-Chairman and Director              March 30, 1998
--------------------     
Steven Hochberg

/s/ Alan B. Masarek      President and Chief Operating           March 30, 1998
--------------------     Officer
Alan B.Masarek

/s/ Michael W. Rogers    Executive Vice-President, Corporate     March 30, 1998
--------------------     Development and Chief Financial Officer
Michael W. Rogers        (Principal Financial and Accounting
                         Officer)

/s/ James T. Carney      Director                                March 30, 1998
--------------------     
James T. Carney

/s/ Barry Kurokawa       Director                                March 30, 1998
--------------------     
Barry Kurokawa

/s/ Jonathan Lieber      Director                                March 30, 1998
--------------------     
Jonathan Lieber


                                       42
<PAGE>   43

                                  EXHIBIT INDEX

Exhibit No. Description of Exhibit                                         Page

**3.1       Restated Certificate of Incorporation of the Registrant

**3.2       By-laws of the Registrant

+**10.1     Management Services Agreement dated as of December 11, 1995,
            between Madison Medical -- The Private Practice Group of New
            York, L.L.P. and Uptown Physician Management, Inc.

**10.2      Stockholders' Agreement dated as of December 11, 1995, among
            Uptown Physician Management, Inc. and certain stockholders

+**10.3     Management Services Agreement dated as of August 7, 1995,
            among Advanced Heart Institute of New York, P.C., Valavanur A.
            Subramanian, M.D., Jeffrey Moses M.D. and Majean Sub 2, Inc.

+**10.4     Management Services Agreement dated as of July 1, 1996,
            between Specialist Physicians Management, Inc. and Cardiology
            First of New Jersey, P.A.

**10.5      Stockholders' Agreement dated as of July 1, 1996 among
            Specialist Physicians Management, Inc., Specialist Physicians
            MSO, L.L.C. and Advanced Health Management Corporation.

+**10.6     Management Services Agreement dated as of July 1, 1996 between
            Diamond Physician Management, Inc. and Long Island
            Interventional Cardiology.

**10.7      Tarrytown, New York Office Lease Agreement dated November 30,
            1995, between Tarrytown Corporate Center IV, L.P. and the
            Registrant.

**10.8      First Amendment to Lease Agreement between Reckson Operating
            Partnership, LP, as Owner, and the Registrant, as Tenant

**10.9      Chicago Office Lease Agreement dated December 8, 1995, between
            Adams Family, L.L.C. and the Registrant


                                    43
<PAGE>   44

*10.10      Fort Washington Lease Agreement dated November 13, 1997,
            between Comdrive Associates, L.P. and Registrant as Tenant

*10.11      Hawthorne Lease Agreement dated January 8, 1998, between
            United Parcel Service, Inc. and Registrant as Tenant

**10.12     Form of Director Indemnification Agreement

**10.13     Employment Agreement between the Registrant and Jonathan
            Edelson, M.D.

**10.14     Employment Agreement between the Registrant and Steven
            Hochberg

**10.15     Employment Agreement between the Registrant and Alan B.
            Masarek

**10.16     Employment Agreement between the Registrant and Robert Alger

*10.17      Employment Agreement between the Registrant and Michael P.
            Rogers

**10.18     Amended and Restated Advanced Health Corporation 1995 Stock
            Option Plan

**10.19     Employee Stock Purchase Plan

*11.1       Earnings Per Common Share Computation

**21        List of Subsidiaries

*23.2       Consent of Arthur Andersen LLP

*27         Financial Data Schedule

*     Filed herewith.
**    Filed as an exhibit to the Registrant's Registration Statement on Form
S-1, as amended (Registration No. 333-06283), Registrant's Registration
Statement on Form S-1, as amended (Registration No. 333-35115), and
Registrant's Form 10-K, dated March 30, 1997 incorporated herein by reference.


                                    44
<PAGE>   45

+ Portions of such exhibit have been deleted therefrom pursuant to Rule 406
promulgated under the Securities Act of 1933, as amended, and confidential
treatment has been granted therefor.


                                    45


<PAGE>   46

                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

To Advanced Health Corporation:

We have audited the accompanying consolidated balance sheets of Advanced Health
Corporation (a Delaware corporation) and subsidiaries as of December 31, 1996
and 1997, and the related consolidated statements of operations, shareholders'
equity and cash flows for the three years ended December 31, 1997. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.

We conducted our audits in accordance with generally accepted auditing
standards. 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, the financial statements referred to above present fairly, in
all material respects, the financial position of Advanced Health Corporation and
subsidiaries as of December 31, 1996 and 1997, and the results of their
operations and their cash flows for the three years ended December 31, 1997 in
conformity with generally accepted accounting principles.


                                                   ARTHUR ANDERSEN LLP

New York, New York
March 19, 1998


                                      F-1
<PAGE>   47

                  ADVANCED HEALTH CORPORATION AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEETS
                        (in thousands, except share data)

<TABLE>
<CAPTION>
                                                                                   December 31,
                                                                               --------------------
                              ASSETS                                             1996        1997
                              ------                                             ----        ----
<S>                                                                            <C>         <C>     
CURRENT ASSETS:
   Cash and cash equivalents                                                   $ 12,086    $  7,534
   Certificates of deposit                                                           --       5,399
   Investments in marketable securities                                           7,390      34,082
   Accounts receivable, net                                                       8,637      11,059
   Deferred income taxes                                                            977       4,092
   Other current assets                                                             829         736
                                                                               --------    --------
         Total current assets                                                    29,919      62,902

PROPERTY AND EQUIPMENT, net                                                       2,053       3,664

INTANGIBLE ASSETS, net                                                            1,858       9,415

INVESTMENTS IN AFFILIATES                                                            --       7,000

OTHER ASSETS                                                                      1,570      11,377
                                                                               --------    --------
         Total assets                                                          $ 35,400    $ 94,358
                                                                               ========    ========

               LIABILITIES AND SHAREHOLDERS' EQUITY
               ------------------------------------

CURRENT LIABILITIES:
   Accounts payable and accrued expenses                                       $  2,864    $    933
   Other current liabilities                                                        452         325
                                                                               --------    --------
            Total current liabilities                                             3,316       1,258

DEFERRED REVENUE                                                                    200          --
                                                                               --------    --------
         Total liabilities                                                        3,516       1,258
                                                                               ========    ========
COMMITMENTS

SHAREHOLDERS' EQUITY:
   Preferred stock, $.01 par value; 5,000,000 shares authorized;
     0 shares issued and outstanding, respectively                                   --          --
   Common stock, $.01 par value; 15,000,000 shares authorized; 7,166,941 and
     9,869,719 shares issued and outstanding, respectively                           72          99
   Additional paid-in capital                                                    42,069      95,976
   Accumulated deficit                                                          (10,242)     (3,084)
   Net unrealized gain on marketable securities, net of deferred
     income taxes                                                                    60         184
   Less:  Treasury stock, at cost; 8,937 shares, respectively                       (75)        (75)
                                                                               --------    --------
         Total shareholders' equity                                              31,884      93,100
                                                                               --------    --------
         Total liabilities and shareholders' equity                            $ 35,400    $ 94,358
                                                                               ========    ========
</TABLE>

              The accompanying notes are an integral part of these
                          consolidated balance sheets.


                                      F-2
<PAGE>   48

                  ADVANCED HEALTH CORPORATION AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                 (in thousands, except share and per share data)

<TABLE>
<CAPTION>
                                              For the Years Ended December 31,
                                            -----------------------------------
                                               1995          1996        1997
                                               ----          ----        ----
<S>                                         <C>          <C>          <C>      
REVENUES                                    $   1,054    $  19,136    $  61,006

COST OF REVENUES                                  340       14,265       45,636
                                            ---------    ---------    ---------

       Gross profit                               714        4,871       15,370

OPERATING EXPENSES                              6,412        7,328        8,954
                                            ---------    ---------    ---------

       Operating (loss) income                 (5,698)      (2,457)       6,416

INTEREST EXPENSE                                   (9)        (164)         (11)

INTEREST INCOME                                    --          179        1,155
                                            ---------    ---------    ---------

       Net (loss) income before income taxes   (5,707)      (2,442)       7,560

INCOME TAX (BENEFIT) PROVISION                     --         (977)         402
                                            ---------    ---------    ---------

       Net (loss) income                    $  (5,707)   $  (1,465)   $   7,158
                                            =========    =========    =========

PER SHARE INFORMATION:
  Net (loss) income per share:
   Basic                                    $    (1.67)   $   (0.28)   $    0.91
                                            ==========    =========    =========
   Diluted                                  $    (1.67)   $   (0.28)   $    0.81
                                            ==========    =========    =========

  Common shares used in computing per
  share amounts:
   Basic                                     3,419,638    5,149,207    7,872,204
                                            ==========   ==========   ==========
   Diluted                                   3,419,638    5,149,207    8,890,856
                                            ==========   ==========   ==========
</TABLE>

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


                                      F-3
<PAGE>   49

                  ADVANCED HEALTH CORPORATION AND SUBSIDIARIES
                 CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
                        (in thousands, except share data)

<TABLE>
<CAPTION>
                                                                                                                     Unrealized
                                                                 Additional        Common Stock                       Gain On
                                              Common Stock        Paid-in     Subscriptions Receivable  Accumulated  Marketable
                                         ---------------------                ------------------------
                                           Shares    Par Value    Capital       Shares       Amount       Deficit    Securities
                                         ---------   ---------   ---------    ---------    ---------    ---------    ---------
<S>                                      <C>         <C>         <C>            <C>        <C>          <C>          <C>       
BALANCE, December 31, 1994               2,051,539   $      20   $   2,728      185,893    $      (3)   $  (3,070)   $      -- 
  Issuance of Common Stock                  50,641           1          (1)          --           --           --           -- 

  Issuance of Series C convertible
   Preferred Stock                         178,743           2       1,498           --           --           --           -- 
  Issuance of common stock in private
   placement                                79,780           1         624           --           --           --           -- 
  Redemption of common stock
   subscriptions                                --          --          --     (185,893)           3           --           -- 
  Exercise of stock options                885,279           9          11           --           --           --           -- 

  Common stock issued for acquisitions     649,753           7       1,629           --           --           --           -- 
  Issuance of Series D Convertible
   Preferred Stock                         595,535           6       4,992           --           --           --           -- 
  Repurchase of treasury stock                  --          --          --           --           --           --           -- 
  Net loss                                      --          --          --           --           --       (5,707)          -- 
                                         ---------   ---------   ---------    ---------    ---------    ---------    ---------
BALANCE, December 31, 1995               4,491,270          46      11,481           --           --       (8,777)          -- 
  Common stock issued for acquisition        8,937          --          45           --           --           --           -- 
  Exercise of stock options                 21,734          --          86           --           --           --           -- 
  Issuance of common stock in public
   offering, net of expenses of $3,922   2,645,000          26      30,457           --           --           --           -- 
  Unrealized gain on marketable
   securities, net of deferred income
   taxes of $40                                 --          --          --           --           --           --           60
  Net loss                                      --          --          --           --           --       (1,465)          -- 
                                         ---------   ---------   ---------    ---------    ---------    ---------    ---------
BALANCE, December 31, 1996               7,166,941          72      42,069           --           --      (10,242)          60
  Issuance of common stock, net of
  expenses of $4,102                     2,250,000          22      45,939           --          --          --             --
  Exercise of stock options                352,614           4       1,249           --          --          --             --
  Common stock issued for
  acquisitions                             100,164           1       3,759           --          --          --             --
  Unrealized gain on marketable
  securities, net of deferred income
  taxes of $79                                  --          --          --           --           --           --          124
  Income tax benefit from exercise
  of stock options                              --          --       2,960           --           --           --           -- 
  Net income                                    --          --          --           --           --        7,158           -- 
                                         ---------   ---------   ---------    ---------    ---------    ---------    ---------
BALANCE, December 31, 1997               9,869,719   $      99   $  95,976    $      --    $      --    $  (3,084)   $     184
                                         =========   =========   =========    =========    =========    =========    =========

<CAPTION>
                                             Treasury Stock   
                                         ---------------------
                                           Shares      Amount       Total     
                                         ---------   ---------    ---------
<S>                                      <C>         <C>          <C>      
BALANCE, December 31, 1994                      --   $      --    $    (325)
  Issuance of Common Stock                      --          --           --

  Issuance of Series C convertible    
   Preferred Stock                              --          --        1,500
  Issuance of common stock in private
   placement                                    --          --          625
  Redemption of common stock
   subscriptions                                --          --            3
  Exercise of stock options                     --          --           20
  Common stock issued for acquisitions          --          --        1,636
  Issuance of Series D Convertible
   Preferred Stock                              --          --        4,998
  Repurchase of treasury stock               8,937         (75)         (75)
  Net loss                                      --          --       (5,707)
                                         ---------   ---------    ---------
BALANCE, December 31, 1995                   8,937         (75)       2,675
  Common stock issued for acquisition           --          --           45
   Exercise of stock options                    --          --           86
  Issuance of common stock in public
   offering, net of expenses of $3,922          --          --       30,483
  Unrealized gain on marketable
   securities, net of deferred income
   taxes of $40                                 --          --           60
  Net loss                                      --          --       (1,465)
                                         ---------   ---------    ---------
BALANCE, December 31, 1996                   8,937         (75)      31,884
  Issuance of common stock, net of
   expenses of $4,102                                                45,961    
  Exercise of stock options                                           1,253
  Common stock issued for
   acquisitions                                                       3,760
  Unrealized gain on marketable
   securities, net of deferred income                                   
   taxes of $79                                 --          --          124
  Income tax benefit from exercise of
  exercise of stock options                     --          --        2,960 
  Net income                                    --          --        7,158
                                         ---------   ---------    ---------
BALANCE, December 31, 1997                   8,937   $     (75)   $  93,100
                                         =========   =========    =========
</TABLE>

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


                                      F-4
<PAGE>   50

                  ADVANCED HEALTH CORPORATION AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (in thousands)

<TABLE>
<CAPTION>
                                                        For the Years Ended December 31,
                                                        --------------------------------
                                                          1995        1996        1997
                                                        --------    --------    --------
<S>                                                     <C>         <C>         <C>     
CASH FLOWS FROM OPERATING ACTIVITIES:
  Net (loss) income                                     $ (5,707)   $ (1,465)   $  7,158
  Adjustments to reconcile net (loss) income to net
   cash used in operating activities-
   Depreciation and amortization                             457         890       1,471
   Deferred income taxes                                      --        (977)         --
   Allowance for doubtful accounts                            --         210         450
   Changes in operating assets and liabilities-
     Accounts receivable                                  (1,021)     (7,826)     (2,872)
     Other current assets                                   (396)       (426)         93
     Other assets                                            (33)       (310)       (400)
     Accounts payable, accrued expenses and other               
       current liabilities                                 1,274       1,162      (2,058)
     Due to affiliate                                       (376)         --          --
     Deferred revenue                                      1,500      (1,100)       (200)
                                                        --------    --------    --------
         Net cash (used in) provided by
           operating activities                          (4,302)     (9,842)      3,642
                                                        --------    --------    --------

CASH FLOWS FROM INVESTING ACTIVITIES:
  Minority investment in affiliated entities                  --          --      (7,000)
  Issuance of note receivable from affiliate                (500)         --      (2,500)
  Proceeds from repayment of note receivable from
   affiliate                                                 500          --          --
  Other assets                                                --      (1,130)     (6,907)
  Investments in certificates of deposit                      --          --      (5,399) 
  Investments in marketable securities                        --      (7,290)    (26,692)
  Intangible assets                                           --          --      (4,021)
  Cash paid for acquisitions                                (150)         --        (306)
  Purchases of property and equipment, net                  (882)     (1,296)     (2,552)
                                                        --------    --------    --------
         Net cash used in investing activities            (1,032)     (9,716)    (55,377)
                                                        --------    --------    --------

CASH FLOWS FROM FINANCING ACTIVITIES:
  (Repayment of) loan payable related to acquisition         (50)        (94)        --
  Net proceeds from sale and issuance of common stock        628      30,483      45,961   
  Net proceeds from exercise of stock options                 20          86       1,254
  Net proceeds from promissory notes                          --       5,000          --
  Repayment of promissory notes                               --      (5,000)         --
  Purchase of treasury stock                                 (75)         --          --
  Net proceeds from issuance of Series C Convertible
   Preferred Stock                                         1,500          --          --
  Net proceeds from issuance of Series D Convertible
   Preferred Stock                                         4,998          --          --
  Repayment of capital lease obligations                    (230)       (295)        (32)
                                                        --------    --------    --------
         Net cash provided by financing activities         6,791      30,180      47,183
                                                        --------    --------    --------
         Net change in cash and cash equivalents           1,457      10,622      (4,552)

CASH AND CASH EQUIVALENTS, beginning of year                   7       1,464      12,086
                                                        --------    --------    --------
CASH AND CASH EQUIVALENTS, end of year                  $  1,464    $ 12,086    $  7,534
                                                        ========    ========    ========

SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
  Cash paid during the year for:
   Interest                                             $     21    $    160    $     11
                                                        ========    ========    ========
   Income taxes                                         $     15    $     36    $    248
                                                        ========    ========    ========

SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING
  ACTIVITIES:
   Capital lease obligations incurred                   $    281    $     58    $     --
                                                        ========    ========    ========
   Fair market value of common stock issued for
    acquisitions                                        $  1,636    $     45    $  3,760
                                                        ========    ========    ========
   Unrealized gain on marketable securities             $      -    $    100    $    297
                                                        ========    ========    ========
   Loan payable issued for acquisition                  $    150    $     23    $     --
                                                        ========    ========    ========
</TABLE>

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


                                      F-5
<PAGE>   51

                  ADVANCED HEALTH CORPORATION AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 1996 AND 1997
                 (in thousands, except share and per share data)

1. ORGANIZATION AND BUSINESS:

The Company

Advanced Health Corporation ("AHC") and subsidiaries (collectively, the
"Company") provide physician groups and networks with professional practice and
network management services and clinical information systems and services. The
Company's wholly-owned subsidiary was incorporated on August 27, 1993 as
Med-E-Systems Corporation, and was engaged at inception to design and develop
clinical information systems for physician users. Effective August 1995,
Med-E-Systems Corporation became a wholly-owned subsidiary of AHC, an entity
incorporated in March 1995, through a stock-for-stock transfer in which
preferred and common shareholders of Med-E-Systems Corporation exchanged their
interests for the same amounts and classes of preferred and common stock in AHC
as those then outstanding in Med-E-Systems Corporation. The Company was
subsequently merged with and into Majean, Inc. (Note 3), a Delaware corporation,
and the surviving corporation changed its name to Advanced Health Corporation.

The Company operates in a highly-regulated environment in which its sources of
revenues are dependent on the Company's ability to successfully negotiate with
third parties for its various services. Currently, the Company depends on
revenue generated by a limited number of customers, including physician groups
and networks which are under long-term contracts.

Formation of Management Service Organizations

The Company has established Management Service Organizations ("MSOs") by forming
majority owned subsidiaries to facilitate the provision of management services
to physician practice and network clients.

In the three years ended December 31, 1997, the Company obtained a 51% interest
in each of one, five and eight newly formed MSOs, respectively, whereby the
Company acquired these interests as part of the formation of the MSOs and
concurrent with the signing of long-term management services agreements between
the MSOs and physician practices.

In forming these MSOs, the Company conveyed 49% interests (Note 3) to the
physician practice or network in exchange for the execution of the long-term
management services agreements described above. The Company records the fair
value of these arrangements, which is, in the opinion of management, more
readily determinable than the 49% MSO interest conveyed. These intangible
assets, which are not material, will be amortized over the life of the related
contracts.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

Basis of Consolidation

The accompanying consolidated financial statements include the accounts of AHC
and its wholly-owned subsidiaries, Advanced Health Management Corporation
("AHM"), Advanced Health Med-E-Systems 


                                      F-6
<PAGE>   52

Corporation ("MES"), Bukstel & Halfpenny, Inc. ("B&H") and the MSOs discussed in
Note 1. The consolidated financial statements for 1995 include the results of
operations of the Company, including other entities formed or acquired from
their formation or acquisition during those years, through December 31, 1995.
The structure of the Company's wholly or majority-owned MSOs presently provides
for the Company to receive activity-based fee income from the MSOs for
management services provided, and reimbursement from the MSOs for certain
expenses incurred, with the result being that there are no profits in the MSO
entity for which a minority interest is required to be calculated. Accordingly,
the consolidated financial statements do not reflect any minority interest in
the operations of the MSOs. In the event that profits remain in MSO entities in
the future, minority interests will be reflected in the Company's consolidated
financial statements. All intercompany accounts and transactions have been
eliminated in consolidation.

Use of Estimates

The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
specifically for the useful lives of capitalized software costs and intangible
assets, 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. Actual results could differ from those estimates.

Revenue Recognition

Operating revenues are generated from three principal sources:

(a) Physician Practice Revenues: A physician group practice is a single legal
entity comprised of multiple physicians. Through its majority or wholly-owned
consolidated MSOs, the Company enters into management services agreements with
physician group practices, whereby such physician practices outsource their
non-medical and administrative functions to the MSO. Activity-based fees are
generated by the MSO through the provision of these outsourced services as well
as certain additional management, marketing and information services. Fees for
such services are either fixed or based on the level of services provided, as
negotiated in the Company's various agreements for the provision of services,
and are recognized monthly or as these services are rendered, respectively,
based on the terms of the related agreements. The Company's contracts with its
physician group practices also include pre-determined incentives which are
earned and recognized as revenue in the event that the Company is successful in
reducing a physician group practice's administrative overhead as a percentage of
collections.

(b) Physician Network Revenues: A physician network is an aggregation of
individual physicians and physician groups formed for the purpose of entering
into contracts with third-party payors. A physician network enters into a
contract with a third-party payor pursuant to which the physicians comprising
the network agree to provide medical services to network enrollees in return for
a fixed per enrollee fee, known as "capitated" payments, or for a fixed fee paid
only on an as incurred basis, known as "case rate" payments. The physician
network then enters into a management services agreement with the Company's
majority-owned, consolidated MSO, pursuant to which the aggregate capitated or
case rate payments are assigned to the MSO. From these payments, the MSO pays a
fixed percentage of the capitated or case rate premium to fund all
administrative and management services required under the contract. After
payment of such administrative and management expenses, the MSO pays the network
physicians in return for the physicians' provision of medical services to
medical enrollees. Such payments are limited, in the aggregate, to the monies
remaining in the MSO after payment of 


                                      F-7
<PAGE>   53

administrative and management expenses. The Company has not earned, recognized
or recorded any capitated revenues, and only nominal case rate revenues, in the
three years ended December 31, 1997.

(c) Information Systems and Services Revenue: The Company's current business
strategy for providing integrated physician practice and network management
services includes licensing its information systems and services as a means of
ultimately providing a full range of services. In order to generate operating
funds and demonstrate the uses of its systems and development capabilities, the
Company has licensed, and may continue to license, certain components of its
software to third parties.

The Company recognizes revenue from the licensing of its information systems and
services (upon installation and acceptance), and from the licensing of its
software to third parties (upon delivery). Certain of these third parties
provide payment in advance for the development and installation of software,
databases and systems. The Company accounts for these advance payments as
deferred revenue when received, and recognizes revenue ratably over the period
of time during which the software is delivered and services are performed. In
December 1991, the American Institute of Certified Public Accountants ("AICPA")
issued Statement of Position ("SOP") 91-1, "Software Revenue Recognition". The
Company's revenue recognition policy is in compliance with the provisions of the
SOP.

Concentration of Credit Risk

Financial instruments that potentially subject the Company to concentrations of
credit risk consist principally of trade receivables from the provision of
management services to physician practices and networks and information systems
and services rendered. The Company has recorded these items in its consolidated
financial statements based on their respective fair values.

Cash and Cash Equivalents

Cash and cash equivalents include cash and highly liquid investments with
original maturities of three months or less when purchased. Included in the
balance at December 31, 1997 is a certificate of deposit that was pledged as
collateral on an outstanding letter of credit related to one of the Company's
management service agreements (Note 4).

Certificates of Deposit

Certificates of deposit consist of a series of time deposits with maturities
greater than three months to one year from December 31, 1997.

Investments in Marketable Securities

The Company accounts for investments in accordance with Statement of Financial
Accounting Standards ("SFAS") No. 115, "Accounting for Certain Investments in
Debt and Equity Securities". In accordance with this pronouncement, the
investment and debt securities held by the Company and included in the
accompanying consolidated balance sheets that may be sold in response to changes
in interest rates, prepayments, and other factors have been classified as
available-for-sale. Such securities are reported at fair value, with unrealized
gains and losses excluded from earnings and reported in a separate component of
shareholders' equity (on an after-tax basis). Gains and losses on the
disposition of securities are recognized on the specific identification method
in the period in which they occur.


                                      F-8
<PAGE>   54

Property and Equipment

Property and equipment, consisting primarily of electronic data processing
equipment, are stated at cost and depreciated on a straight-line basis over the
useful lives of the assets (3 to 5 years). Equipment held under capital leases
is amortized utilizing the straight-line method over the lesser of the term of
the lease or the estimated useful life of the asset.

Capitalized Software Costs

The Company develops computer software, which is marketed to third parties.
Development costs incurred in the research and development of new software
products and enhancements to existing software products are expensed as incurred
until technological feasibility is established. Any additional development costs
are capitalized in accordance with SFAS No. 86, "Accounting for the Costs of
Computer Software to be Sold, Leased or Otherwise Marketed." Amortization of
such costs is provided using the straight-line basis over the estimated economic
life of the products (5 years). The Company performs an annual review of the
recoverability of such capitalized software costs. At the time a determination
is made that capitalized amounts are not recoverable based on estimated cash
flows to be generated from the applicable software, any remaining capitalized
amounts are expensed. Capitalized software costs were $1,130 and $6,037,
respectively for the two years ended December 31, 1997, and are included in
other assets in the accompanying consolidated balance sheets.

Computer software amortization charged to expense aggregated $25, $28 and $300,
respectively, for each of the three years ended December 31, 1997.

Intangible Assets

Goodwill, which represents the excess of the purchase price over the fair value
of the net assets acquired, covenants not-to-compete and management contracts
are included in intangible assets and are presently being amortized over periods
of 4 to 30 years on a straight-line basis. These amortization periods are
evaluated by management on a continuing basis, and will be adjusted if the lives
of the related intangible assets are impaired.

Accounting for Long-Lived Assets

The Company accounts for long-lived assets under the provisions of SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
be Disposed Of". This statement establishes financial accounting and reporting
standards for the impairment of long-lived assets, certain identifiable
intangibles, and goodwill related to those assets to be held and used, and for
long-lived assets and certain identifiable intangibles to be disposed of. This
statement was adopted by the Company in 1996 and the effect of the adoption was
not material to the Company's consolidated financial statements.

Investments in Affiliates

Investments in affiliates represent purchased interest of less than 20% and is
accounted for on the cost method. The Company reviews these investments for
impairment whenever events or changes in circumstances indicate that the
carrying amounts of the assets may not be recoverable.

Research and Development

Research and development costs are expensed as incurred by the Company. Research
and development expense aggregated $3,157, $2,843 and $770, respectively, for
the three years ended December 31, 1997.


                                      F-9
<PAGE>   55

Income Taxes

The Company accounts for income taxes under SFAS No. 109, "Accounting for Income
Taxes", which requires recognition of deferred tax liabilities and assets for
the estimated future tax effects of events that have been recognized in the
financial statements or income tax returns. Under this method, deferred tax
liabilities and assets are determined based on (1) differences between the
financial accounting and income tax bases of assets and liabilities, and (2) net
operating loss carry-forwards, using enacted tax rates in effect for the years
in which the differences and carry-forwards are expected to reverse and be
utilized, respectively (Note 13).

Net Income (Loss) Per Common Share

Effective December 31, 1997, the Company adopted SFAS No. 128, "Earnings Per
Share". Basic net income (loss) per common share ("Basic EPS") is computed by
dividing net income (loss) by the weighted average number of common shares
outstanding. Diluted net income (loss) per common share ("Diluted EPS") is
computed by dividing net income (loss) by the weighted average number of common
shares and dilutive potential common shares then outstanding. SFAS No. 128
requires the presentation of both Basic EPS and Diluted EPS on the face of the
consolidated statements of operations. The impact of the adoption of this
statement was not material to all previously reported EPS amounts.

A reconciliation between the numerator and denominator of Basic EPS and Diluted
EPS is as follows:

<TABLE>
<CAPTION>
                                                                      Net Income
                                                                      (Loss) Per
                                                 Net Income   Common    Common
                                                   (Loss)     Shares    Share
                                                   ------     ------    -----
<S>                                              <C>         <C>        <C>    
For the Year Ended December 31, 1995
Basic EPS
  Net loss attributable to common stock          $  (5,707)  3,419,638  $(1.67)
  Effect of dilutive securities: stock options          --          --     --
                                                 ---------   ---------  -----

Diluted EPS
  Net loss attributable to common stock          $  (5,707)  3,419,638  $(1.67)
                                                 =========   =========  =====

For the Year Ended December 31, 1996
Basic EPS
  Net loss attributable to common stock          $  (1,465)  5,149,207  $(0.28)
  Effect of dilutive securities: stock
   options and warrants                                 --          --     --
                                                 ---------   ---------  -----

Diluted EPS
  Net loss attributable to common stock          $  (1,465)  5,149,207  $(0.28)
                                                 =========   =========  =====

For the Year Ended December 31, 1997
Basic EPS
  Net income attributable to common stock        $   7,158   7,872,204  $0.91
  Effect of dilutive securities: stock
   options and warrants                                 --   1,018,652  (0.10)
                                                 ---------   ---------  -----

Diluted EPS
  Net income attributable to common stock and
   assumed options exercises                     $   7,158   8,890,856  $0.81
                                                 =========   =========  =====
</TABLE>

Diluted EPS for 1995 and 1996 does not include the impact of stock options and
warrants then outstanding as the effect of their inclusion would be
anti-dilutive.


                                      F-10
<PAGE>   56

Stock-Based Compensation

In 1996, the Company adopted the provisions of SFAS No. 123 "Accounting for
Stock-Based Compensation" ("SFAS No. 123"), and elected to continue the
accounting set forth in Accounting Principles Board No. 25, "Accounting for
Stock Issued to Employees" ("APB No. 25") and to provide the necessary pro-forma
disclosures as if the fair value method had been applied (Note 12).

New Accounting Pronouncements

On October 27, 1997, the AICPA issued SOP 97-2 "Software Revenue Recognition".
This new SOP supersedes SOP 91-1. SOP 97-2 applies to all entities that earn
revenue by licensing, selling, leasing or otherwise marketing computer software.
It does not apply to revenue earned on products or services when the software
contained in those products or services is incidental to the products or
services as a whole. SOP 97-2 requires that revenue be allocated to each product
or service upon a high threshold of "vendor-specific objective evidence" and
deferred until all of the following four criteria are met for that particular
product or service: (1) persuasive evidence of an agreement must exist, (2)
delivery must have occurred, (3) the vendor's fee must be fixed or determinable,
and (4) collectibility must be probable. The SOP is effective for all
transactions entered into in fiscal years beginning after December 15, 1997.
Earlier application is acceptable, but must commence at the beginning of either
(a) a fiscal year, or (b) an interim period. The provisions of SOP 97-2 are to
be adopted on a prospective basis. Retroactive application is prohibited. The
Company does not expect the adoption of SOP 97-2 to have a material effect on
its consolidated financial statements.

Reclassifications

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

3. ACQUISITION OF BUSINESSES:

Acquisitions

The transaction with Majean, Inc. described in Note 1 was accounted for as a
purchase through the issuance of 543,564 shares of the Company's stock to the
shareholders of Majean, Inc., who were not previously affiliated with the
Company, for an aggregate purchase price of $1,368. Additionally, options to
purchase 283,010 shares of common stock at $.0112 per share were issued as part
of this transaction. These options are only exercisable, as contingent
consideration, upon the achievement of certain capitalization levels related to
regulatory requirements. The entire purchase price of this acquisition has been
allocated to intangible assets in the accompanying consolidated balance sheets,
as will any contingent consideration which arises due to the option described
above, based on a twenty-year contract with a MSO, which was contributed to
Majean, Inc. by its shareholders upon its formation immediately prior to the
transaction. Accordingly, this intangible asset is being amortized over a period
of twenty-years.

In 1997, as a result of the achievement of certain targeted operating goals, as
defined in previous purchase agreements, certain related parties exercised
warrants for 72,196 shares of the Company's common stock valued at $1,354, which
represents the difference between the market value of the stock at the date of
exercise ($23.13 per share) and the value at the date of grant ($4.38 per share)
and the Company issued 33,966 shares of common stock at a value of $21 per share
for a total value of $713. These amounts have been recorded as adjustments to
the original purchase prices and accordingly included in intangible assets as
goodwill in the accompanying consolidated balance sheet.


                                      F-11
<PAGE>   57
During 1997, the Company acquired certain assets of a B&H clinical information
technology company for $306 in cash, 66,201 shares of common stock ($21.81 per
share) and options for the purchase of 12,012 shares ($21 per share) of the
Company's common stock, for an aggregate purchase price of $2,000. Furthermore,
the B&H purchase agreement calls for the issuance of an additional 114,613
shares of common stock, as contingent consideration.

The Company records the effect of the contingent consideration, if any, related
to these acquisitions based upon the provisions of Emerging Issues Task Force
Issue 95-8, "Accounting for Contingent Consideration Paid to the Shareholders of
an Acquired Company in a Purchase Business Combination", which sets forth the
criteria for determining the allocation of contingent consideration as either
additional purchase price or compensation expense. These criteria provide for
the recognition of contingent consideration, as opposed to compensation expense,
upon the exercisability, if any, of such options and warrants where relevant
facts and circumstances, such as continued employment of the sellers, components
of the selling shareholder group, reasons for contingent payments and other
agreements and issues, indicate that such accounting is warranted. Management of
the Company believes that the terms of the acquisitions described above meet the
criteria for recognition of contingent consideration.

These acquisitions described above were valued based on, as applicable, either
public trading values or on management's estimate of the fair value of common
stock at the date of acquisition, which was determined by the Company's
management by comparisons to (i) arms-length transactions with unrelated
third-parties for the same or similar securities and (ii) an independent
third-party appraisal. Costs and the pro forma effects of these transactions
have not been presented, as the results are immaterial to the Company's
consolidated financial statements taken as a whole.

The stockholders agreements for these MSOs and those MSOs which were formed as
described in Note 1, among other issues, (i) restrict the transfer of MSO
equity, (ii) provide the terms upon which the MSO can, at the Company's option,
be merged with and into a wholly-owned subsidiary of the Company in a
transaction in which the physician practice or network will receive stock of the
Company in exchange for shares in the MSO, and (iii) grant to the physician
practice or network the right to put its equity share in the MSO to the Company
within one year of the Company's satisfaction of certain specified targets if
the Company has not called its right to acquire those interests within that
period. The agreements provide that these call transactions will be paid in the
Company's common stock, and put transactions will be paid in cash, and that
either transaction, if effected, would be based on an agreed-upon amount at the
time of the transaction. The Company will, in the event that these transactions
take place, account for such transactions as purchases at the agreed-upon fair
market value of the MSO interest being purchased.


                                      F-12
<PAGE>   58
4. RELATED PARTY TRANSACTIONS:

Transactions with Officers

In accordance with the Company's Senior Executive Loan Policy, which is
administered by the Compensation Committee of the Board of Directors, the
Company has made loans to certain senior executives of the Company aggregating
$430 and $780, which are included in other assets in the accompanying
consolidated balance sheets as of December 31, 1996 and 1997, respectively.
These loans are due three years from the loan date with interest payable monthly
at a rate of 6% per annum.

Transactions with MSOs

In December 1996, one of the MSOs purchased accounts receivable from a physician
practice, under the terms of its management services agreement, for an aggregate
amount of $4,501, which is included in accounts receivable in the accompanying
consolidated balance sheet as of December 31, 1996. In accordance with the
agreement, all purchased accounts receivable outstanding after ninety days from
the purchase date are to be sold back to the physician practice at face value.
In the event that the physician practice is unable to repurchase the
receivables, the aggregate outstanding amount is converted to a loan which is
collateralized by outstanding shares of the Company held by the shareholders of
the physician practice.

During 1996, a separate MSO made advances aggregating $600, in the ordinary
course of business, to a physician practice with which the MSO has a long-term
management services agreement. These advances were satisfied subsequent to
December 31, 1996, as the physician practice simultaneously assigned certain
accounts receivable to the MSO to satisfy the advances and sold additional
accounts receivable to the MSO. This amount is included in other current assets
in the accompanying consolidated balance sheet as of December 31, 1996. This
amount was paid in full during 1997.

In June 1997, in connection with an amendment to the management services
agreement with Madison, the Company exchanged approximately $3.8 million of
accounts receivable from Madison for an increase in the fees payable by Madison,
an increase in the term of the management services agreement from 20 to 30 years
and the elimination of Madison's right to terminate the agreement, without
cause, prior to the end of the tenth year of the term. This consideration has
been allocated to management contracts and will be amortized over the remaining
life of the related contract, as amended.

Loans to Affiliates

During 1997, the Company loaned $2,000 to Madison Medical - The Private Practice
Group of New York, L.L.P. ("Madison") at the prime rate plus 2%, not to exceed
10%, with interest payable monthly and the outstanding principal payable in
twelve monthly installments beginning in January 1998. In connection with this
loan, the Company has guaranteed a letter of credit to Madison, in the amount
$1,727, by depositing and restricting cash in the same amount in a certificate
of deposit with the same financial institution providing that letter of credit.
These obligations are secured by the 49% ownership interest in Uptown Physician
Management, Inc., an MSO in which the Company has a 51% interest. This amount is
included in other assets from affiliates in the accompanying consolidated
balance sheet.

In connection with an investment in ACRM, Inc. ("ACRM") (Note 8), the Company
loaned ACRM $2,500 at 7% interest, with interest payable monthly and the
outstanding principal payable in full in December 1999.


                                      F-13

<PAGE>   59
Management of the Company believes that these related party transactions were
effected on terms which approximate fair market value

5. INVESTMENTS IN MARKETABLE SECURITIES:

The carrying amounts, gross unrealized gains and losses and estimated market
values of investment securities are summarized as follows:

<TABLE>
<CAPTION>
                                              December 31, 1997
                            ----------------------------------------------------
                                            Gross        Gross      Estimated
                              Carrying    Unrealized   Unrealized     Market
                               Amount       Gains       (Losses)      Value
                               ------       -----       --------      -----
<S>                           <C>           <C>          <C>         <C>    
     Treasury bills           $ 19,500      $ 215        $    -      $19,715
     Commercial paper            2,000          -             -        2,000
     U.S. Government and                                    
      agencies                   9,793         85             -        9,878
     Corporate bonds             2,492          -            (3)       2,489
                            ----------   --------     ----------   ---------
                              $ 33,785      $ 300        $   (3)     $34,082
                              ========      =====        =======     =======
</TABLE>

<TABLE>
<CAPTION>
                                              December 31, 1996
                            ----------------------------------------------------
                                            Gross        Gross      Estimated
                              Carrying    Unrealized   Unrealized     Market
                               Amount       Gains       (Losses)      Value
                               ------       -----       --------      -----
<S>                           <C>           <C>          <C>         <C>    
     Commercial paper         $  7,290      $ 100        $    -      $ 7,390
                              ========      =====        ======      =======
</TABLE>

The carrying amount and estimated market value of investment securities at
December 31, 1997, by contractual maturity, are :

<TABLE>
<CAPTION>
                                                  Estimated
                                      Carrying      Market
                                       Amount       Value
                                      --------     --------
<S>                                   <C>          <C>     
     Due in one year or less          $ 31,293     $ 31,593
     Due after one year through two
      years                              2,492        2,489
                                      --------     --------
                                      $ 33,785     $ 34,082
                                      ========     ========
</TABLE>

Expected maturities will differ from contractual maturities because borrowers
may have the right to call or prepay obligations with or without call or
prepayment penalties.

6. PROPERTY AND EQUIPMENT:

Property and equipment consist of the following:

<TABLE>
<CAPTION>
                                                        December 31,
                                                     -------------------
                                                      1996         1997
                                                     ------       ------
<S>                                                  <C>          <C>   
      Computer equipment and software                $2,276       $4,484
      Equipment under capital leases                    471          471
      Furniture and fixtures                            272          615
      Leasehold improvements                             43           43
                                                     ------       ------
                                                      3,062        5,613

      Less:  Accumulated depreciation and
       amortization                                   1,009        1,949
                                                     ------       ------
      Property and equipment, net                    $2,053       $3,664
                                                     ======       ======
</TABLE>


                                      F-14
<PAGE>   60
Depreciation and amortization aggregated $397, $782 and $940, respectively, for
the three years ended December 31, 1997.

7. INTANGIBLE ASSETS:

Intangible assets consist of the following:

<TABLE>
<CAPTION>
                                                       December 31,
                                                 -----------------------
                                                    1996          1997
                                                    ----          ----
<S>                                                <C>           <C>    
       Management contracts                        $ 1,368       $ 5,131
       Goodwill                                        619         4,644
       Covenants not-to-compete                         20            20
                                                   -------       -------
                                                     2,007         9,795

       Less:  Accumulated amortization                 149           380
                                                   -------       -------
                                                   $ 1,858       $ 9,415
                                                   =======       =======
</TABLE>

Amortization aggregated $42, $108 and $231, respectively, for the three years
ended December 31, 1997.

8. INVESTMENTS IN AFFILIATES:

Investments in affiliates consist of the following:

<TABLE>
<CAPTION>
                                               December 31, 1997
                                               -----------------
<S>                                                 <C>     
       PatientCare Dynamics, LLC (a)                $  5,000
       ACRM(b)                                         1,000
       Caresoft (c)                                      500
       Peachstate Eye Care, LLC (d)                      500
                                                    ========
                                                    $  7,000
                                                    ========
</TABLE>

      (a)   On December 30, 1997, the Company purchased Class B Shares and a
            Warrant equal to $5,000 of PatientCare Dynamics, LLC, a corporation
            that, among other things, provides technology based support systems
            and services to health care professionals.

      (b)   On September 30, 1997, the Company paid $1,000 for 9.9% preferred
            stock ownership of ACRM, a corporation that provides advanced
            cardiovascular research management.

      (c)   In June 1997, the Company purchased $500 of Series A Preferred Stock
            issued by Caresoft, Inc., a corporation that, among other things,
            develops chronic disease and patient compliance software.

      (d)   On November 14, 1997, the Company paid $500 for a 15% interest in
            Peachstate Eye Care, LLC ("Peachstate"), a corporation engaged in
            the business of delivery eye and vision care. The Company has the
            right to purchase the remaining membership interest, or be required
            by Peachstate to purchase the remaining membership interest, in
            future years, as stipulated in the Membership Interest Purchase
            Agreement.

Each of these investments is accounted for under the cost method of accounting
for investments.


                                      F-15

<PAGE>   61
9. ACCOUNTS PAYABLE AND ACCRUED EXPENSES:

Accounts payable and accrued expenses consist of the following:

<TABLE>
<CAPTION>
                                                  December 31, 1996     
                                                  -----------------     
<S>                                                       <C>           
       Accounts payable                                   $ 1,968            
       Public stock offering expenses                         245            
       Other                                                  651            
                                                          -------         
             Total accounts payable and accrued
                expenses                                  $ 2,864         
                                                          =======         
</TABLE>

The Company had no individual accrued expenses in excess of 5% of current
liabilities as of December 31, 1997.

10. OTHER CURRENT LIABILITIES:

Other current liabilities consist of the following:

<TABLE>
<CAPTION>
                                                       December 31,
                                                   ---------------------
                                                    1996          1997
                                                    ----          ----
<S>                                                <C>           <C>    
       Deferred revenue                            $   200       $   200
       Capital lease obligations                       212            46
       Other                                            40           119
                                                   -------       -------
                                                   $   452       $   365
                                                   =======       =======
</TABLE>

11. BRIDGE FINANCING:

Bridge Financing

On February 28, 1996, the Company entered into an agreement to issue three 8%
promissory notes to an investor for an aggregate amount of $3,000. The Company
issued one promissory note and received $1,500 upon the closing, issued a second
promissory note and received $750 at the second closing date, April 26, 1996,
and issued a third promissory note and received the remaining $750 on the third
closing date, June 28, 1996. Each note was due on the earlier of the initial
public offering of the Company's securities or one year from the respective
closing dates. Interest was due quarterly on each of the notes.

In addition, the investor received warrants to purchase 16,757 shares of common
stock of the Company at $16.78 per share which expire on June 28, 2001. The
exercise price of $16.78 per share was, in the opinion of management, greater
than the fair market value of such shares at the date the warrants were issued.
The investor also received 8,937 contingent warrants to purchase the Company's
stock at $8.39 per share. These contingent warrants were to be exercisable
during the period from January 1, 1997 through June 28, 2001 if payment had not
been made on the notes by the agreed-upon payment dates described above or if an
initial public offering was not consummated prior to January 1, 1997; however,
when payments on the notes were made by the specified dates, these contingent
warrants were canceled.


                                      F-16

<PAGE>   62
The Company also entered into an agreement with the owners of the Company's
Series D Convertible Preferred Stock and related warrants (Note 12) for
additional bridge financing in the amount of approximately $2,000. This
financing was unsecured, bore interest at 9% and expired on the earlier of the
consummation of an initial public offering or July 31,1997. On June 19, 1996,
the Company issued three promissory notes in the aggregate principal amount of
$1 million and on August 13, 1996, the Company issued three additional
promissory notes in the aggregate principal amount of $1,000 under this
agreement.

12. SHAREHOLDERS' EQUITY:

Common Stock

(a)   In 1995, the Company sold 79,780 common shares pursuant to a private
      placement agreement dated April 21, 1995 for an aggregate of $625. In
      accordance with this agreement, the holders of these shares have the
      right, on two occasions, to participate on a "piggy-back" basis in a
      registration by the Company under the Securities Act of 1933, as amended,
      subject to certain restrictions, for a period ending on September 30,
      2000, and commencing twelve months from the closing of an initial public
      offering of the securities of the Company.

(b)   In October 1996, the Company completed an initial public offering of its
      common stock. The offering included the sale of 2,300,000 shares of common
      stock (on a basis which reflected the reverse split described below) at
      $13 per share plus an underwriters' overallotment of 345,000 shares. Total
      net proceeds from this offering were $30,483.

(c)   In October 1997, the Company completed a second public offering of its
      common stock. The offering included the sale of 2,000,000 shares of common
      stock by the Company and 500,000 shares of common stock by existing
      shareholders, at $22.25 per share plus an underwriters' overallotment of
      750,000. Total net proceeds to the Company from this offering were
      $45,961.

Preferred Stock

Prior to the initial public offering, the Company had 2,000,000 shares of
authorized Preferred Stock with a par value of $.01 per share, of which 971,800
shares had been designated and issued as Series A Convertible Preferred Stock
and 282,900 shares had been designated and issued as Series B Convertible
Preferred. In January 1995, the Company authorized and sold 200,000 shares of
Series C Convertible Preferred Stock for $1,500 pursuant to a Private Placement
Agreement. In August 1995, the Company authorized and sold 666,360 shares of
Series D Convertible Preferred Stock for $4,998 pursuant to a Private Placement
Agreement. All of the above shares are not redeemable.

Each individual share of Series A, B, C and D Convertible Preferred Stock was
convertible into 1.5 common shares at the holder's option, subject to adjustment
for antidilution. Subject to certain provisions, registration rights, as defined
in the agreement, may be exercised after the earlier of (1) August 23, 1999, or
(2) the effective date of the first registration statement for a public offering
of securities of the Company. Holders of Series B, C and D Convertible Preferred
Stock have voting rights. Furthermore, holders of Series D Convertible Preferred
Stock have the right to purchase 446,858 shares of Class D Convertible Preferred
Stock at $8.39 per share.

Pursuant to the terms of the Series A, B, C and D Convertible Preferred Stock,
these securities were converted, on a 1.5 to 1 share basis, to common stock
immediately prior to the effective date of the initial public offering.


                                      F-17
<PAGE>   63

Stock Splits

In January 1995, the Company authorized a 100 for 1 stock split on its Series A
and B Preferred Stock and a 100 for 1 stock split on the common stock sold in
1993. In April 1996, the Company authorized a 1.5 for 1 stock split on its
common stock in the form of a stock dividend.

In connection with the initial public offering, the Company effected a
recapitalization whereby the presently outstanding common stock (including
converted Series A, B, C and D Convertible Preferred Stock) was converted to
shares of common stock on a .59581 to 1 share basis.

All information in the accompanying consolidated financial statements and
footnotes has been retroactively restated to give effect to these transactions.

Stock Options

During 1995, the Company adopted the 1995 Stock Option Plan (the "1995 Plan")
for the purpose of granting incentive stock options to employees, officers or
directors of, or consultants or advisors to, the Company, provided that
incentive stock options may only granted to individuals who are employees of the
Company. Options granted under the 1995 Plan typically vest annually over a
three-year period and expire ten years from the date of grant. The Company
reserved 1,500,000 shares of common stock for issuance under the 1995 Plan.

The Company also adopted the Advanced Health Corporation Employee Stock Purchase
Plan (the "Employee Plan") during 1996 in order to allow the employees of the
Company to acquire a proprietary interest in the Company through the purchase of
the Company's common stock. Under the Employee Plan, eligible employees will be
granted options to purchase shares of common stock through regular payroll
deductions. The total number of shares of common stock that are authorized for
issuance under the Employee Plan is 1,200,000. No shares have been issued under
the Employee Plan.

The Company accounts for these plans under APB Opinion No. 25, under which no
compensation cost has been recognized.

Had compensation cost for these plans been determined consistent with SFAS No.
123, the Company's net income (loss) and basic net income (loss) per share would
have been changed to the following pro forma amounts:

<TABLE>
<CAPTION>
                                                    1995        1996       1997
                                                  --------    --------    ------
<S>                                               <C>         <C>         <C>
Net income (loss):                  As Reported   $ (5,707)   $ (1,465)   $7,158
                                    Pro Forma       (5,898)     (1,850)    4,370
                                    
Basic net income (loss) per share:
                                    As Reported   $   (1.68)  $   (0.26)  $  .91
                                    Pro Forma         (1.71)      (0.33)     .56
</TABLE>

Because the SFAS No. 123 method of accounting has not been applied to options
granted prior to January 1, 1995, the resulting pro forma compensation cost may
not be representative of that to be expected in future years.


                                      F-18
<PAGE>   64

A summary of the status of the 1995 Plan at December 31, 1996 and 1997, and
changes during the years then ended, is presented in the table and narrative
below:

<TABLE>
<CAPTION>
                                              1996                   1997
                                     ----------------------   ------------------
                                                  Wtd. Avg.            Wtd. Avg.
                                       Shares     Ex Price    Shares   Ex Price
                                     ----------------------   ------------------
<S>                                   <C>           <C>       <C>        <C>
Outstanding at beg. of year            888,916      $ 0.17      804,444  $ 1.31
Grant                                  154,733        6.77    1,775,895   16.85
Exercised                              (21,734)       3.71     (352,005)   3.95
Forfeited                             (217,471)       4.17     (140,007)   8.07
                                     ---------                ---------
Outstanding at end of year             804,444        1.31    2,088,327   13.72
                                     =========                =========
Exercisable at end of year             306,511         N/A      282,583    3.03
                                     =========                =========
Weighted average fair value of
  options granted                       $ 3.54         N/A       $ 8.52
</TABLE>

The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option pricing model with the following weighted-average
assumptions used for grants in 1996 and 1997, respectively: risk-free interest
rates of 6.2%; expected dividend yields of 0%; expected lives of 3 years;
expected stock price volatility of 74%.

13. INCOME TAXES:

Income tax provision (benefit) consists of the following:

<TABLE>
<CAPTION>
                                                 Years Ended December 31,
                                          ------------------------------------
                                             1995         1996        1997
                                             ----         ----        ----
<S>                                          <C>         <C>          <C>  
Federal:
  Current                                    $     -      $    -       $   -
  Deferred                                         -        (757)      2,556
State and Local:
  Current                                          -           -           -
  Deferred                                         -        (220)        451
  Adjustment to valuation allowance
   related to opening net deferred tax
   assets                                          -           -      (2,605)
                                             -------     -------      ------
     Total income tax provision (benefit)    $     -      $ (977)     $  402
                                             =======     =======      ======
</TABLE>

A reconciliation of the difference between the statutory Federal income tax rate
and the Company's effective tax rate for the years ended December 31, 1995,
1996, and 1997 are as follows:

<TABLE>
<CAPTION>
                                                      1995      1996      1997
                                                      ----      ----      ----
<S>                                                    <C>       <C>       <C>
     Tax provision (benefit) at statutory
       rate                                             34%       34%       34%
     State and local taxes                               6%        6%        6%
     Loss without benefit                              (40%)      --        --
     Change in valuation allowance for
       opening net deferred tax assets                  --       (40%)     (35%)
                                                      ----      ----      ----
                                                        --        --         5%
                                                      ====      ====      ====
</TABLE>


                                      F-19
<PAGE>   65

The tax effects of temporary differences that give rise to a significant portion
of the deferred income tax asset, net, at December 31, 1997 and 1996 are as
follows:

<TABLE>
<CAPTION>
                                                          December 31,
                                                    -----------------------
                                                       1996          1997
                                                       ----          ----
<S>                                                   <C>           <C>    
     Net operating loss carryforward                  $ 3,511       $ 2,132
     Exercise of stock options                             --         1,360
     Allowance for doubtful accounts                       84           264
     Amortization                                         380           238
     Deferred revenue                                     160            80
     Other                                                (11)           18
                                                      -------       -------
                                                        4,124         4,092
   Less: Valuation allowance                           (3,147)            -
                                                      -------       -------
           Total current deferred income taxes, net   $   977       $ 4,092
                                                      =======       =======
</TABLE>                                       

At December 31, 1997, the Company had net operating loss carryforwards ("NOLs")
available to offset taxable income of approximately $4,900 expiring in varying
amounts through 2011. In 1997, management of the Company determined that, more
likely than not, its previously-reserved deferred tax assets would be realized
and, accordingly, reduced the related valuation allowance. The reduction in the
valuation allowance is included in the income tax provision in the accompanying
consolidated statement of operations for 1997. The determination that the net
deferred tax asset of $4,092 at December 31, 1997 is realizable is based on the
Company's profitability during 1997. Deferred tax assets of approximately
$1,360, all of which are related to tax benefits associated with the exercise of
stock options, did not result in a tax benefit in the accompanying consolidated
statements of operations but, rather, increase additional paid in capital.

14. COMMITMENTS:

The Company leases certain office space for its operations. Leases for this
space expire through 2002 and call for annual rent, with immaterial escalations
through the end of the leases.

The Company has also entered into several operating leases for office equipment.

Future minimum payments for operating leases at December 31, 1997 are as
follows:

<TABLE>
<CAPTION>
       Year ending December 31,
       ------------------------
<S>                                    <C>    
       1998                            $   969
       1999                              1,158
       2000                                787
       2001                                820
       2002 and thereafter                 239
</TABLE>

Rent expense was $126, $630 and $443, respectively, for the three years ended
December 31, 1997.


                                      F-20
<PAGE>   66

Employment Agreements

During 1997, the Company entered into employment agreements with the following
four employees: (1) the Chairman of the Board and Chief Executive Officer, (2)
Vice Chairman and Director, (3) President and Chief Operating Officer and (4)
Executive Vice President and Chief Information Officer. The employment
agreements provide for initial base salaries of $220, $220, $200, and $174
respectively. The employees are also entitled to receive discretionary bonuses.
The employment agreements provide for a three-year term that is automatically
renewable for successive one-year terms unless either party gives prior written
notice of its intent not to renew.

15. LITIGATION:

On May 22, 1997, a shareholder commenced an action against the Company and
certain of its executives in the United States District Court for the Southern
District of New York. The action relates to: (i) employment Agreement dated
April 1, 1996 between the Company and the shareholder and (ii) an Asset Purchase
Agreement dated April 1, 1996, among the Company, the shareholder, and a company
previously owned by the shareholder. Plaintiffs have asserted claims against all
defendants for alleged violations of the Exchange Act, common law fraud and
fraudulent inducement, and against the Company for breach of contract.
Plaintiffs' complaint seeks both damages and equitable relief. The Company
believes that each of the plaintiffs' claims is without merit, and it intends to
defend against the action vigorously.

On September 23, 1997, the Company commenced an action against a customer to
collect $1,000 owed by the customer to the Company pursuant to a software
license agreement dated as of March 31, 1997, as amended (the "License
Agreement"), between the customer and the Company. On October 1, 1997, the
customer filed an answer to this lawsuit and asserted various counterclaims
against the Company, in which the customer alleges that the subject software and
documentation was not timely delivered and installed in accordance with the
License Agreement. As relief, the customer seeks a declaratory judgment that the
customer is not obligated to make the $1,000 payment, as well as unspecified
damages. The Company believes that the customer defenses and counterclaims are
without merit.

From time to time, the Company is involved in litigation. Although the actual
amount of any liability that could arise with respect to any such litigation
cannot be accurately predicted, in the opinion of management, the resolution of
these matters is not expected to have material adverse effect on the Company's
business, results of operations or financial condition.


                                      F-21
<PAGE>   67


                                                       SUPPLEMENTAL SCHEDULE II



<TABLE>
<CAPTION>
                                                                      (in thousands)

                                                                            Additions
                                                                            ----------
                                                    Balance at    Charged to      Charged to                         Balance at
                                                     beginning      cost and         other                             end
           Description                               of period      expenses        accounts      Deductions          of period
---------------------------------------------------------------------------------------------------------------------------------
<S>                                                  <C>          <C>             <C>             <C>               <C>
December 31, 1995 Allowance for Doubtful Accounts    $      -     $         -     $          -     $          -     $          -
             1996 Allowance for Doubtful Accounts    $      -     $       210     $          -     $          -     $        210
             1997 Allowance for Doubtful Accounts    $    210     $       450     $          -     $          -     $        660
                                                     =============================================================================

</TABLE>





















                                     S-2

<PAGE>   68
             REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON SCHEDULE

To Advanced Health Corporation:

     We have audited, in accordance with generally accepted auditing standards,
the consolidated financial statements of Advanced Health Corporation included
in this annual report on Form 10-K and have issued our report thereon dated
March 19, 1998. Our audits were made for the purpose of forming an opinion on
the basic consolidated financial statements taken as a whole. This schedule is
presented for purposes of complying with the Securities and Exchange
Commission's rules and is not part of the basic consolidated financial
statements. This schedule has been subjected  to the auditing procedures
applied in our audits of the basic  consolidated financial statements and, in
our opinion, fairly states in all material respects the financial data
required to be set forth therein in relation to the basic consolidated
financial statements taken as a whole.   


                                                ARTHUR ANDERSEN LLP


New York, New York
March 19, 1998









                                     S-1
<PAGE>   69

                                  EXHIBIT INDEX

Exhibit No. Description of Exhibit                                         Page

**3.1       Restated Certificate of Incorporation of the Registrant

**3.2       By-laws of the Registrant

+**10.1     Management Services Agreement dated as of December 11, 1995,
            between Madison Medical -- The Private Practice Group of New
            York, L.L.P. and Uptown Physician Management, Inc.

**10.2      Stockholders' Agreement dated as of December 11, 1995, among
            Uptown Physician Management, Inc. and certain stockholders

+**10.3     Management Services Agreement dated as of August 7, 1995,
            among Advanced Heart Institute of New York, P.C., Valavanur A.
            Subramanian, M.D., Jeffrey Moses M.D. and Majean Sub 2, Inc.

+**10.4     Management Services Agreement dated as of July 1, 1996,
            between Specialist Physicians Management, Inc. and Cardiology
            First of New Jersey, P.A.

**10.5      Stockholders' Agreement dated as of July 1, 1996 among
            Specialist Physicians Management, Inc., Specialist Physicians
            MSO, L.L.C. and Advanced Health Management Corporation.

+**10.6     Management Services Agreement dated as of July 1, 1996 between
            Diamond Physician Management, Inc. and Long Island
            Interventional Cardiology.

**10.7      Tarrytown, New York Office Lease Agreement dated November 30,
            1995, between Tarrytown Corporate Center IV, L.P. and the
            Registrant.

**10.8      First Amendment to Lease Agreement between Reckson Operating
            Partnership, LP, as Owner, and the Registrant, as Tenant

**10.9      Chicago Office Lease Agreement dated December 8, 1995, between
            Adams Family, L.L.C. and the Registrant


<PAGE>   70

*10.10      Fort Washington Lease Agreement dated November 13, 1997,
            between Comdrive Associates, L.P. and Registrant as Tenant

*10.11      Hawthorne Lease Agreement dated January 8, 1998, between
            United Parcel Service, Inc. and Registrant as Tenant

**10.12     Form of Director Indemnification Agreement

**10.13     Employment Agreement between the Registrant and Jonathan
            Edelson, M.D.

**10.14     Employment Agreement between the Registrant and Steven
            Hochberg

**10.15     Employment Agreement between the Registrant and Alan B.
            Masarek

****10.16   Employment Agreement between the Registrant and Robert Alger

*10.17      Employment Agreement between the Registrant and Michael P.
            Rogers

**10.18     Amended and Restated Advanced Health Corporation 1995 Stock
            Option Plan

**10.19     Employee Stock Purchase Plan

**11.1      Earnings Net Loss Per Common Share Computation

**21        List of Subsidiaries

*23.2       Consent of Arthur Andersen LLP

*27         Financial Data Schedule

*     Filed herewith.
**    Filed as an exhibit to the Registrant's Registration Statement on Form
S-1, as amended (Registration No. 333-06283), Registrant's Registration
Statement on Form S-1, as amended (Registration No. 333-35115), and
Registrant's Form 10-K, dated March 30, 1997 incorporated herein by reference.
+ Portions of such exhibit have been deleted therefrom pursuant to Rule 406
promulgated under the Securities Act of 1933, as amended, and confidential
treatment has been granted therefor.