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                       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, 2000 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 0-22019

                               HEALTH GRADES, INC.
             (Exact name of registrant as specified in its charter)

                DELAWARE                                62-1623449
      (State or other jurisdiction          (I.R.S. Employer Identification No.)
   of incorporation or organization)

                          44 UNION BOULEVARD, SUITE 600
                            LAKEWOOD, COLORADO               80228
               (Address of principal executive offices)   (Zip Code)

       Registrant's telephone number, including area code: (303) 716-0041

           SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:

                                      None

           SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:

                     COMMON STOCK, PAR VALUE $.001 PER SHARE
                                (Title of class)

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

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in the definitive proxy statement incorporated
by reference in Part III of this annual report on Form 10-K or any amendment to
this annual report on Form 10-K. [ ]

As of March 31, 2001, the aggregate market value of the Common Stock held by
non-affiliates of the registrant was $3,293,348. Such aggregate market value was
computed by reference to the closing sale price of the Common Stock as reported
on the Nasdaq Small Cap Market on such date. For purposes of making this
calculation only, the registrant has defined "affiliates" as including all
directors and beneficial owners of more than five percent of the Common Stock of
the Company.

As of March 31, 2001 there were 21,273,425 shares of the registrant's Common
Stock outstanding.



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                       DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Definitive Proxy Statement for the Registrant's 2001 Annual
Meeting of Stockholders to be filed within 120 days after the end of the fiscal
year covered by this Annual Report on Form 10-K -- Part III.

                                TABLE OF CONTENTS

<TABLE>
<S>          <C>                                                                               <C>
                                             PART I
Item 1.      Business.........................................................................   2
Item 2.      Properties.......................................................................  20
Item 3.      Legal Proceedings................................................................  20
Item 4.      Submission of Matters to a Vote of Security Holders..............................  21

                                             PART II

Item 5.      Market for the Registrant's Common Equity and Related Stockholder Matters........  23
Item 6.      Selected Financial Data..........................................................  24
Item 7.      Management's Discussion and Analysis of Financial Condition And Results
               of Operations..................................................................  24
Item 7A.     Quantitative and Qualitative Disclosures About Market Risk.......................  30
Item 8.      Financial Statements and Supplementary Data......................................  30
Item 9.      Changes in and Disagreements with Accountants on Accounting and Financial
               Disclosure.....................................................................  31

                                            PART III

Item 10.     Directors and Executive Officers of the Registrant...............................  31
Item 11.     Executive Compensation...........................................................  31
Item 12.     Security Ownership of Certain Beneficial Owners and Management...................  31
Item 13.     Certain Relationships and Related Transactions...................................  31

                                             PART IV

Item 14.     Exhibits, Financial Statement Schedules, and Reports on Form 8-K.................  31
</TABLE>

This Report contains forward-looking statements that address, among other
things, the potential for employers to reduce health plan premiums through the
use of our Provider Selection DST, generation of increased revenues,
implementation of certain cost reductions and potential equity and/or debt
financing. These statements may be found under "Item 1-Business," "Item 1-Risk
Factors," and "Item 7-Management's Discussion and Analysis of Financial
Condition and Results of Operations" as well as in the Report generally. We
generally identify forward-looking statements in this report using words like
"believe," "intend," "expect," "may," "will," "should," "plan," "project,"
"contemplate," "anticipate" or similar statements. Actual events or results may
differ materially from those discussed in forward-looking statements as a result
of various factors, including: the inability of our Provider Selection DST to
reduce health plan premiums for employers, failure of the Company to generate
increased revenues, the inability of the Company to implement certain cost
reductions, or the inability of the Company to raise additional financing. In
addition other factors that could cause actual events or results to differ
materially from those discussed in the forward looking statements are addressed
in "Item 1-Risk Factors" and matters set forth in the Report generally. We
undertake no obligation to update publicly any forward-looking statements for
any reason, even if new information becomes available or other events occur in
the future.


                                     PART I

Item 1. Business.

                                    BUSINESS

OVERVIEW

         We are a healthcare ratings services company. We grade, or provide
consumers with the means to assess and compare the quality or qualifications of,
the following types of healthcare providers:

         o  hospitals

         o  physicians

         o  health plans

         o  nursing homes


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         o  home health agencies

         o  hospice programs

         o  fertility clinics

         We also provide profile information for a variety of providers and
facilities. We make this information available to consumers, employers and
health plans to assist them in selecting healthcare providers. For consumers,
this information is available free of charge on our website,
www.healthgrades.com. For employers, we provide, for a fee, customized
information designed to encourage employees to utilize quality providers to
reduce medical benefit costs as well as indirect costs of lost workdays and
productivity. For health plans, we provide, for a fee, customized information
designed to assist them in selecting network providers who can enhance the
quality of care for their members.

         We also offer services to healthcare providers. For providers who have
received high ratings, we offer the opportunity to license our ratings and
trademarks and provide assistance in their marketing programs. For providers who
have not received high ratings, we offer quality improvement services designed
to identify deficiencies and improve quality. We also provide limited physician
practice management services to musculoskeletal practices under management
services agreements that have terms expiring through September 2002.

COMPANY HISTORY

         We were incorporated in Delaware in December 1995 under the name
Specialty Care Network, Inc. Upon commencement of operations in 1996, we were
principally engaged in the management of physician practices engaged in
musculoskeletal care, which is the treatment of conditions relating to bones,
joints, muscles and connective tissues. Through March 31, 1998, we entered into
comprehensive affiliation arrangements with 21 practices including 164
physicians. Due to difficulties in the physician practice management industry in
general, and with respect to our affiliated physician practices in particular,
we terminated or restructured our arrangements with various physician practices,
beginning in late 1998 and continuing thereafter. As a result, the scope of our
physician practice management business has become far more limited, particularly
after a restructuring of our arrangements with nine practices in June 1999.
During 1998, we began to focus on the provision of healthcare information
through the establishment of our health care provider ratings and profile
information, which we first introduced on our website. Since that time, we have
expanded the scope of our healthcare information services to encompass the
direct provision of information to employers, health plans and others.

         We also launched, in August 1999, ProviderWeb.net, a subscription-based
website that provides articles, tools and other resources to physician practice
administrators and managers. Our revenues to date from ProviderWeb.net have not
been material, and although we continue to operate this business, we have
determined to make no further significant investment in ProviderWeb.net. We are
currently exploring strategic alternatives for ProviderWeb.net.

         In January 2000, we changed our name to Healthgrades.com, Inc. In
November 2000, we changed our name to Health Grades, Inc.

HEALTH CARE INFORMATION; HEALTHGRADES.COM

         We compile comprehensive information regarding various healthcare
providers and distill the information to meet the requirements of consumers,
employers, health plans and other customers. For consumers, we provide
information for no charge on our healthgrades.com internet site. Our revenues
are generated, in part, through the provision of health care information derived
from our database in a manner that can be useful to employers, health plans and
others.

         Healthgrades.com is a comprehensive health care information website
that provides rating and other profile information regarding a variety of
providers and facilities. We make this information available through several
health care "report card" sections and provider profile modules. Our goal is to
provide comprehensive, objective health care ratings and profiles to assist
consumers in making the most informed decisions regarding their health and that
of their families.


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         We distinguish the healthgrades.com website from most other health care
information websites based on the nature of the information we provide. Most
other health care information websites provide general information regarding
specific diseases, conditions or procedures. Healthgrades.com, in contrast,
provides information to assist the user in finding quality care or a quality
provider, using our rating and profile information. However, we do not endorse
any particular provider or facility. We strive to provide unbiased ratings
regarding the quality of providers and facilities by developing proprietary
algorithms or other methodologies and applying them to a number of databases
used on our ratings websites.

         We provide information on our healthgrades.com website through the
following sections:

         Hospital Report Cards(TM) - This page provides a list of hospitals and
ratings for the hospitals with respect to different medical procedures or
diagnoses chosen by the user. Information with regard to procedures and
diagnoses is provided in the following areas:

         o  cardiac;

         o  orthopaedics;

         o  neurosciences;

         o  pulmonary/respiratory;

         o  obstetrics; and

         o  vascular surgery.

         For each particular diagnosis or procedure chosen by the user, other
than those relating to obstetrics, we provide a three-tiered, five star rating
system (five stars is the highest rating; one star is the lowest) with regard to
the performance of all hospitals in the United States. We base all of our
ratings, except ratings on obstetrics, on three years of MEDPAR (Medicare
Provider Analysis and Review) data that we purchase from the Health Care
Financing Administration, known as HCFA. The MEDPAR database contains the
inpatient records of all Medicare patients. We apply proprietary algorithms to
the MEDPAR data to account for variations in risk in order to make the data
comparable from hospital to hospital. Generally, approximately 70% of hospitals
studied are classified as three stars. The three star rating is applied when
there is very little difference, statistically speaking, between a hospital's
predicted and actual performance. Approximately 15% of hospitals are rated five
stars, which means that their performance is better than expected on a
statistically significant basis. Approximately 15% of hospitals are rated one
star, meaning that their performance was worse than expected on a statistically
significant basis. We have applied for a patent with respect to our hospital
rating system and methodology.

         For our obstetrics ratings, which also are subject to the five star
rating system, we use state all-payor files from 17 individual states derived
from the inpatient records of persons who utilize hospitals in those states. We
believe that the 17 states are the only states with sufficient data for use on
our website. This data represents all discharges for the 17 states. We did not
use our risk adjustment model with respect to single birth obstetrics procedures
because it did not adequately predict complications. Therefore, the ranking is
based on non-risk adjusted percentages. The top 30% of hospitals (in the 17
states) receive five stars, the middle 40% receive three stars and the bottom
30% receive one star.

         Health Plan Report Cards(TM) - Health Plan Report Cards ranks the
performance of health plans across the United States based on patient
satisfaction survey results as reported in the Sachs/Scarborough Health Plus
database, a national database of consumers healthcare behavior developed jointly
by the Sachs Group, a provider of strategic healthcare information, market
analysis and industry benchmarks, and Scarborough Research Organization, a local
market media and consumer research company. The HealthPlus database is based on
questionnaires from a random sample of adults in a local market area. The
results are derived from the questionnaire, as adjusted by weighting and
statistical factors designed to reflect known characteristics of the population
and to adjust for persons who do not respond or provide incomplete responses.
The HealthPlus database assigns ratings to each health plan analyzed (as of
December 31, 2000, 204 health plans from 31 U.S. metropolitan markets) in the
following areas:

         o  customer services

         o  wellness


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         o  plan coverage

         o  network access

         o  value of plan

         o  medical management

         o  customer loyalty

         o  overall satisfaction

         We apply a statistical analysis to assign weights to the performance
ratings derived from the questionnaires. An overall general score for each
health plan analyzed is derived from a weighted average of the performance
ratings. A five star rating system is used in conjunction with the overall
score. The top 30% of all plans nationally receive five stars, the middle 40%
receive three stars and the bottom 30% receive one star.

         Nursing Home Report Cards(TM) - This page provides rankings of the
performance of nursing homes across the United States that were Medicare or
Medicaid certified and active in these programs as of August 2000. In preparing
the ratings, we analyzed licensing survey data from HCFA's Online Survey
Certification and Reporting (OSCAR) database and complaint data from HCFA's
Skilled Nursing Facility (SNF) Complaint database. Licensing surveys are
inspections that assess compliance with standards of patient care such as
staffing, quality of care and cleanliness. Complaint surveys are investigations
of complaints and serious problems. We performed an analysis of the standards
that were not met (deficiencies) from the four most recent licensing surveys and
the last four years of complaint surveys. Complaint surveys older than October
1996 were not included in the analysis. Medicare and/or Medicaid nursing homes
were analyzed apart from Medicare, hospital-based nursing homes. We did not rate
Medicare, hospital-based nursing homes because these facilities are designed for
short-term patient care. The ratings were assigned on a state by state basis,
rather than nationally, because the surveys from which information is derived
are conducted by state agencies, and there may be variations in the states'
survey process and results.

         Each nursing home received several scores from the analysis of
licensing surveys and complaint surveys. The scores were based upon how unmet
standards impacted resident care. We then performed a statistical analysis of
these scores that produced a weight for each area. The weighted scores were
summed to produce an overall score for each nursing home. Based upon the overall
score, the best 30% of nursing homes received five stars, and the middle 40% of
nursing homes received three stars.


         Home Health Report Cards(TM) - This page provides rankings of the
performance of Medicare certified home health agencies across the United States.
Home health agencies provide health and social services to persons at their
homes. These persons are recovering from an illness or injury or require
assistance with daily needs such as eating, dressing and bathing. We rate home
health agencies based upon data provided by HCFA in the OSCAR database. As is
the case with nursing homes, this information is derived from individual state
agencies, which enter the information into the OSCAR database. Information is
derived from complaint surveys and licensing surveys. Complaint surveys are
conducted by a state survey team in response to one or more complaints about a
home health agency. Licensing surveys are surveys completed for Medicare
certification. These surveys generally occur every 36 months, but may occur more
frequently based on the results of the previous survey. In preparing the
ratings, we reviewed survey information from the most recent licensing surveys
and a maximum of four complaint surveys of home health agencies. Only home
health agencies that were active in the Medicare program during this time period
were included in the analysis. Specifically, we utilized the following elements
to capture the quality of care and operational stability of each home health
agency:

         o  Complaint surveys (two elements):

            o  Number of complaint surveys within the last four years

            o  Number of complaint surveys dated within six months of each other

         o  Condition level deficiencies (very serious deficiencies that may
            give cause for penalties or de-certification by Medicare) (four
            elements) - Number of condition level deficiencies on each of the
            past four surveys


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         o  Standard level deficiencies (non-serious deficiencies that require a
            plan for correction) (four elements) - Number of standard level
            deficiencies on each of the last four surveys

         o  Condition level deficiencies reported on both the most recent and
            prior survey

         o  Standard level deficiencies reported on both the most recent and
            prior survey

         o  Surveyor's summary score on the quality of care during the most
            recent survey

         o  Years in operation

         o  Ownership changes as compared to years in operation

         Working with a group of health care professionals whose area of
expertise is home health care, we developed a proprietary weighting system that
translates the 15 elements detailed above into numeric scores. Home health
agencies were sorted by state based upon the overall score. The top 30% of home
health agencies in each state received five stars, the middle 60% received three
stars and the bottom 10% received one star. As is the case with nursing homes,
the ratings were assigned on a state-by-state basis, rather than nationally,
because the surveys from which information is derived on the OSCAR database are
conducted by state agencies, and there may be variations in the states' survey
process and results. In addition, our site provides specific information with
regard to particular deficiencies found in the surveys.

         Physician Report Cards(TM) - This page differs from some of our other
report card pages in that it does not provide ratings. Instead, it provides
users with the means to assess physicians across the United States. Using data
obtained from a number of publicly and privately available sources, we provide
information regarding physicians practicing in 64 medical and surgical
specialties within 11 major health categories. Our page provides users with a
list of physicians in each specialty and enables users to refine their search
based upon the following criteria:

         o  whether a physician is board certified in the specialty in which he
            or she is practicing;

         o  whether the physician had any state medical board or Medicare
            sanctions within the past five years;

         o  whether the physician practices in a hospital that is ranked by
            Health Grades as at least a three or five star hospital on our
            Hospital Report Cards page (if the physician practices in a
            specialty covered by our hospital ratings)

         o  whether the physician has been in practice for at least two, ten,
            20 or 30 years; and

         o  whether the physician is male or female.

For example, a user may refine the list of orthopaedic surgeons to only include
female board certified surgeons who have been in practice for at least ten
years, are affiliated with a hospital that has at least a three star rating and
had no state medical board or Medicare sanctions in the past five years.

         In addition, our physician listings provide additional data for each
physician including office addresses, telephone numbers, medical schools
attended, board certifications, hospital affiliations and other information.

         Hospice Report Cards(TM) - Like our Physician Report Card page, this
page does not provide ratings. Instead, it provides users with the means to
assess hospice programs across the United States that participate in Medicare.
The data on our Hospice Report Card site is purchased from HCFA, and is derived
from their Provider of Service ("POS") file. The POS file contains data on every
hospice program that participates in Medicare. Hospice services are categorized
as "core services" or "non-core services." Core services, as defined in the POS
file, are important, basic elements of hospice care that are crucial to
virtually every hospice patient and their family. These services include the
following:

         o  nursing care provided by or under the supervision of a registered
            nurse;

         o  medical social services provided under the direction of a physician;


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         o  physician services; and

         o  counseling.

         Non-core services are also important to high-quality hospice care, but
each non-core service may be inappropriate or unnecessary for every hospice
patient. Non-core hospice services, as defined in the POS file, include:

         o  physical therapy;

         o  occupational therapy;

         o  speech pathology;

         o  home health aide;

         o  homemaker services;

         o  medical supplies; and

         o  short-term inpatient care.

         Hospice report cards provide users with a list of hospices from which
they can refine their search based upon the following criteria:

         o  whether the program provides nursing care directly by hospice
            employees;

         o  whether the program provides medical social services directly by
            hospice employees;

         o  whether the program provides physician services directly by hospice
            employees;

         o  whether the program provides counseling directly by hospice
            employees; and

         o  whether the program provides all non-core hospice services.

         Fertility Clinic Report Cards(TM) - Like our Physician Report Card and
Hospice Report Card pages, this page differs from our other report card pages in
that it does not provide ratings. Instead, it provides users with the means to
assess fertility clinics across the United States. Information on
healthgrades.com represents one year (1997) of assisted reproductive technology
("ART") data. ART is defined as any clinical treatment or procedure that
involves the handling of human eggs and sperm to help a woman become pregnant.
Types of ART include IVF (in vitro fertilization), GIFT (gamete intrafallopian
transfer), ZIFT (zygote intrafallopian transfer), egg or embryo donation and
surrogate birth.

         The ART data on the healthgrades.com website is acquired from an annual
report published by the National Center for Chronic Disease Prevention and
Health Promotion of the Centers for Disease Control and Prevention ("CDC"), the
American Society of Reproductive Medicine, the Society for Assisted Reproductive
Technology ("SART") and RESOLVE, a national consumer group. Fertility clinics in
the United States are required to provide ART data to SART and information for
335 fertility clinics are represented in the 1997 CDC/SART report.

         Each fertility clinic profile consists of the following five elements:

             o  General information (contact information for each facility)

             o  Program characteristics. Program characteristics include whether
                the clinic accepts single women and gestational carriers (women
                who carry children for other women), whether the clinic utilizes
                a donor egg program and whether the clinic is a member of SART.
                Users are informed of the percentage of facilities nationwide
                that has the designated program characteristics.


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             o  Type of ART (each fertility clinic's ART procedures (e.g., % of
                procedures using IVF) is compared to the national average)

             o  Patient diagnosis (individual clinic patient diagnoses are
                compared to the national average)

             o  Pregnancy success rates (individual clinic pregnancy success
                rates are compared in four age categories to the national
                average). For each age category, success rates are provided for
                three types of ART cycles: cycles that utilize fresh embryos
                from nondonor eggs, cycles that utilize frozen embryos from
                non-donor eggs, and cycles that utilize donor eggs.

         Other Provider Profiles - In addition to the report card sections, we
provide profiles containing information with regard to the following providers
or facilities. The approximate number of providers or facilities addressed in
each profile is indicated in parenthesis:

             o  Hospitals (5,000);

             o  Children's Hospitals (75);

             o  Dentists (150,000);

             o  Chiropractors (60,000);

             o  Assisted living residences (21,000);

             o  Mammography facilities (10,000);

             o  Acupuncturists (6,000);

             o  Naturopathic physicians (700);

             o  Birth centers (75); and

             o  Cancer Centers (50).

INFORMATION AND RELATED SERVICES FOR PROVIDERS, EMPLOYERS AND HEALTH PLANS

         The information provided on our healthgrades.com website, and the
database from which this information is derived, forms the basis of our
marketing efforts. While the information provided on our website is free to
consumers, we seek to generate revenues from hospitals and other providers, as
well as employers, health plans and others as described below:

SERVICES FOR HOSPITALS AND OTHER PROVIDERS - We offer a Strategic Quality
Initiative (SQI) program and a Quality Assessment and Improvement program for
hospitals, nursing homes, home health agencies and health plans. The SQI program
provides business development tools to providers that are highly rated on our
website. Under our SQI program, we license the Health Grades name and our
"report card" ratings and data to providers. We also assist providers in
promoting their ratings and measuring the success of their efforts. We offer the
SQI program to highly rated providers only after our ratings are completed and
do not adjust our ratings based on whether a provider is willing to license with
us.

         Our Quality Assessment and Improvement program is principally directed
to lower-rated providers and is designed to help providers measure and improve
the quality of their care. Using our database, we can help identify areas of
improvement for providers that are not highly rated and assist them in their
improvement efforts.

         As of March 31, 2001, sixty hospitals have joined either our SQI
program or our Quality Assessment and Improvement program.


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SERVICES FOR EMPLOYERS, HEALTH PLANS AND OTHERS - We offer services for
employers designed to reduce direct and indirect healthcare costs and improve
the quality of care for employees and health plan members. Our Quality Usage
Analysis provides information on the quality of hospital services utilized by
employees or health plan members, using their customer claims data. Our Health
Plan Decision Support Tool ("DST"), provides detailed quality rating comparisons
of health plan provider networks within a given market. Our Provider Selection
DST offers customized Internet and intranet services that can be used by
employees to assist them in selecting the optimal physician or facility within
the network of providers in their health plan. Our customer specific ratings
enable us to create hospital quality ratings based upon the customer's claims
data. We then apply our proprietary rating methodology to the customer's claims
data to develop ratings and reports.

         Quality Solution Analysis - The Quality Solution Analysis is a
multi-step process that utilizes our proprietary ratings and the claims data
from a customer to analyze the quality of care received by a customer's employee
or plan participants. The steps involved in our Quality Solution Analysis are
the following:

         o  We review historical claims data of a company's employees to
            determine the extent to which higher quality hospitals have been
            utilized for specified procedures.

         o  We evaluate the correlation between negative events and ratings of
            hospitals.

         o  We assess the quality of hospitals that may be accessed through
            competing health plans in specified markets.

         o  Utilizing the information derived from the preceding steps, we
            identify opportunities for migrating employees to higher quality
            facilities, whether through selection of a health plan or a facility
            within a health plan's network.

         Our Quality Solutions Analysis is marketed to employers, benefit
consultants and managed care plans.

         Health Plan DST - Our Health Plan DST rates and compares health plans
in a particular market on various quality measures. Using our proprietary
Hospital Report Card and Physician Report Card database, we provide information
that enables employers to differentiate health plans on objective quality
measures. We provide an overall hospital score for a health plan based on the
performance rating of each hospital in the health plan's network that takes into
account risk-adjusted outcomes information for specified medical procedures. In
addition, we provide physician information including scores by specialty and an
overall physician score for physicians in a health plan's network. These scores
are based on the criteria utilized on our Physician Report Cards page. Our
customized Health Plan DST Reports can rate every health plan available to an
employer. We believe that use of our Health Plan DST can enhance acceptance of
an employer's plan choice insofar as it is based on quality considerations.

         In addition to employers, we market our Health Plan DST to benefit
consultants, health plans and managed care consultants.

         Provider Selection DST - Our Provider Selection DST is a customized
Internet/intranet version of our healthgrades.com web page. Provider Selection
DST provides ratings and other information on physicians and provider facilities
available to employees through the employees' health plan network. As is the
case on our website, search criteria can be focused on a physician, hospital or
other provider. Provider Selection DST also permits search refinement based on a
provider's health plan affiliation.

         We believe that Provider Selection DST provides meaningful benefits to
employers. Because it enables ratings comparisons for providers within a health
plan's own network, we believe employees and health plan members are more likely
to select higher quality providers. Moreover, employee migration to higher
quality providers can potentially reduce claims expense and, as a result, health
plan premium expense.

         We market our Provider Selection DST to employers, health plans and
benefit consultants.

ARRANGEMENTS WITH CONTENT PROVIDERS

         We market our website through relationships with other companies that
operate internet websites and an aggressive public relations campaign. Several
of the companies' pay a fee to us to license access to our information, and some
others provide on-line content to us. These arrangements provide additional
exposure to our website. As a result, we believe our marketing to health care
providers, employers, payors and others is enhanced because of the increased
user population that we can make available to those entities who wish to license
our data in connection with their own marketing programs.


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         In addition, we have engaged in an aggressive public relations
campaign, which includes references to our website in connection with our
licensing of data to hospitals, appearances on national television and radio
programs and coverage in newspapers and periodicals.

COMPETITION

         We believe that www.healthgrades.com is the most comprehensive source
of healthcare ratings and provider profiles on the Internet. Moreover, we
believe our provider profiles include more extensive information than
directories on other websites. HealthGrades has six report cards and ten
provider profiles, more than any other Internet company. Most competitors have a
physician directory as one of the search selections. Only a few competitors have
physician directories containing expanded information such as hospital
affiliations, health plans affiliations, board certifications, customer
satisfaction survey ratings or sanctions but HealthGrades is the only physician
search engine containing all of these elements. A few competitors such as
carescout.com and certain state agency websites provide ratings of home health
agencies and nursing homes but charge for the information or only display a
geographic part of the industry. HealthGrades not only has a national search for
all home health and nursing home providers but displays rating information for
free. Many competitors have basic healthcare provider information such as name,
address and phone number while HealthGrades offers expanded information such as
school attended, accreditations and special areas of interest. NCQA has
established a health plan ratings page on its website.

PHYSICIAN PRACTICE MANAGEMENT OPERATIONS

         We provide the following services under management services agreements
to five musculoskeletal physician practices:

         o  assessment of the financial performance, organizational structure,
            wages and strategic plan of the practice;

         o  advice with respect to current and future marketing and contracting
            plans with third-party payors and managed care plans;

         o  negotiation of malpractice insurance coverage;

         o  provision of access to our patient information databases;

         o  analysis of annual performance on a comparative basis with other
            practices that have contracted with us; and

         o  analysis of coding and billing practices.

         The management services agreements have terms expiring through
September 2002. The scope of our physician practice management business has
contracted significantly as a result of the transactions described under
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Modification of Arrangements and Restructuring Transaction."


GOVERNMENT REGULATION

         The delivery of health care services has become one of the most highly
regulated of professional and business endeavors in the United States. Both the
federal government and the individual state governments are responsible for
overseeing the activities of individuals and businesses engaged in the delivery
of health care services. Federal law and regulations are based primarily upon
the Medicare and Medicaid programs. Each of these programs is financed, at least
in part, with Federal funds. State jurisdiction is based upon the state's
interest in regulating the quality of health care in the state, regardless of
the source of payment.

         We believe our Internet service activities and physician practice
management operations materially comply with applicable laws. However, we have
not received or sought a legal opinion from counsel or from any Federal or state
judicial or regulatory authority with respect to our Internet service activities
or our practice management operations. Additionally, many aspects of our
business have not been the subject of state or Federal regulatory
interpretation. The laws applicable to us and the practices that contract with
us are subject to evolving interpretations. If we, or these practices, are
reviewed by a government authority, we may receive a determination that could be
adverse to us or the practices. Furthermore, the laws applicable to either us or
the practices may be amended in a manner that could adversely affect us.

         Federal Anti-kickback Law. A federal law commonly known as the
"Anti-kickback Law" prohibits the knowing or willful solicitation, receipt,
offer or payment of any remuneration that is made in return for:

         o  the referral of patients covered under Medicare, Medicaid and other
            federally-funded health care programs; or


                                       10
<PAGE>   11


         o  the purchasing, leasing or ordering of any good, facility, item or
            service reimbursable under those programs.

         The law also prohibits remuneration that is made for the recommendation
of, or the arranging for, the purchasing, leasing, or ordering of any good,
facility, item or service reimbursable under those programs. The law has been
broadly interpreted by a number of courts to prohibit remuneration that is
solicited, received, offered or paid for otherwise legitimate purposes if one
purpose of the arrangement is to induce referrals or the other prescribed
activities. The penalties for violations of this law include:

         o  civil monetary penalties;

         o  criminal sanctions;

         o  exclusion from further participation in federally funded health care
            programs (mandatory exclusion in certain cases);

         o  the ability of the Secretary of Health and Human Services to refuse
            to enter into or terminate a provider agreement; and

         o  debarment from participation in other federal programs.

         In 1991, the federal government published regulations that provide
exceptions or "safe harbors" to the Anti-kickback Law. Subsequently, in November
1999, final regulations were issued establishing additional safe harbor
provisions under the Anti-kickback Law, as well as clarifying the original 1991
safe harbor regulation. 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.

         There are several aspects of our activities to which the Anti-kickback
Law may be relevant. For example, the Anti-kickback Law has been construed to
apply to referral services, where a consumer group, professional society or some
other organization charges a health care provider a fee or other payment in
exchange for referring such health care provider to a prospective patient. The
Anti-kickback Law, and the safe harbor regulations promulgated thereunder, are
unclear as to whether activities such as our activities with respect to our
HealthGrades.com website would be construed as "referral services." Since, under
certain circumstances, hospitals, nursing homes and other health care providers
achieving a five-star rating may pay us a fee in exchange for banner
advertisements on our website and the use of our name and logo in marketing the
health care provider's services, it is possible that we could be deemed to be
engaged in referral services in such a manner so as to implicate the
Anti-kickback Law. Although a referral services safe harbor was adopted in 1991,
we do not believe that our current activities with respect to our
HealthGrades.com website would qualify under the referral services safe harbor.

         Additionally, the Office of Inspector General has stated on a number of
occasions that any compensation arrangement between a health care provider and
another party for the purpose of marketing health care items or services that
are directly or indirectly reimbursable by a federal health care program
potentially implicates the Anti-kickback Law, irrespective of the methodology
used to compensate the party providing the marketing services. Generally, the
Office of Inspector General takes the position that marketing services fall
under the category of a "recommendation" of a good, facility, item or service
reimbursable under the federal health care program. To the extent that certain
health care providers pay a flat fee payment to us in exchange for placing a
banner ad on our websites or in exchange for other activities by us which could
be construed as marketing services, the Anti-kickback Law may be implicated. In
addressing this issue, the Office of Inspector General has identified several
characteristics of arrangements among health care providers and sales agents
that appear to be associated with an increased potential for program abuse.
These suspect characteristics include:

         o  compensation to the sales agent based on a percentage of sales;

         o  direct billing of a health care program by the health care provider
            for the item or services sold by the sales agent;

         o  direct contact between a sales agent and physicians in a position to
            order items or services;

         o  direct contact between the sales agent and federal health care
            program beneficiaries;

         o  the use of sales agents who are health care professionals or persons
            in a similar position to exert undue influence over purchases or
            patients; or

         o  the marketing of items or services that are separately reimbursable
            by a Federal health care program (whether on the basis of charges or
            costs).


                                       11
<PAGE>   12


         We do not believe that our activities with respect to certain health
care providers who achieve a five-star rating on the healthgrades.com website
involve any of these suspect characteristics, or other characteristics which the
Office of Inspector General would consider abusive or likely to lead to federal
health care program abuse. Fees paid to us by health care providers are not in
any manner determined based on the amount of revenue or other financial benefit
generated by our activities, we are not marketing specific services or items
with respect to hospitals or other health care providers, and our
healthgrades.com website is not directed to physicians, other health care
professionals or federal health care program beneficiaries.

         Finally, we provide, on a limited basis, certain management services to
physician practices. These management services are provided through our
ProviderWeb.net website and under short-term management services agreements with
a limited number of physician practices.

         In at least one advisory opinion, the Inspector General of the
Department of Health and Human Services has stated that under certain
circumstances, payments by a physician practice to a medical practice management
company in exchange for certain marketing services, billing and collection
services, and managed care contract negotiation services could constitute
illegal remuneration as defined in the Anti-kickback Law, especially where the
fee paid by the medical practice to the management company is based on a
percentage of medical practice revenue. We do not believe that the limited
management services we provide to physician practices or the practice management
information and tools we provide to physician practices under our
ProviderWeb.net website are the types of services to which this advisory opinion
is directed, and our fees under our management services arrangements are no
longer based on a percentage of medical practice revenue.

         We do not provide billing and collection services, marketing services
or managed care-contracting services under any of our current physician practice
management operations. Although our healthgrades.com activities (to the extent
they may be deemed "referral services") and general marketing activities do not
qualify for protection under the safe harbor regulations, we believe that our
activities are not the type of activities and arrangements the Anti-kickback Law
prohibits. We are not aware of any legal challenge or proceeding pending against
similar activities under the Anti-kickback Law. A determination that we violated
the Anti-kickback Law would be detrimental to us.

         State Anti-kickback Laws. Many states have laws that prohibit payment
of kickbacks in return for the referral of patients. Some of these laws apply
only to services reimbursable under state Medicaid programs. A number of these
laws apply to all health care services in the state, regardless of the source of
payment for the service. Based on court and administrative interpretation of the
federal Anti-kickback Law, we believe that most of these laws prohibit payments
to referral sources where a purpose for the payment is for a referral. Most
state anti-kickback laws have received limited judicial and regulatory
interpretation. Therefore, it is possible that our activities may be found not
to comply with these laws. Noncompliance with such laws could subject us to
penalties and sanctions.

         Fee-Splitting Laws. Most states prohibit a physician from splitting
fees with a referral source. Some states have a broader prohibition against any
splitting of a physician's fees, regardless of whether the other party is a
referral source. In most states, we believe that a management fee payment made
by a physician to a management company would not be considered fee-spitting if
the payment constitutes reasonable payment for services rendered to the
physician or physician's medical practice.

         We are paid by physicians (and their medical practices) for whom we
provide management services. Although we believe that our ProviderWeb.net
practice management services and our management service agreements comply with
applicable state laws relating to fee-splitting, a state authority may
nevertheless determine that we and the practices that contract with us are
violating the state's fee-splitting laws. Such a determination could render any
of our service agreements in such state unenforceable or subject to modification
in a manner that is adverse to us.

         Health Care Reform. In recent years, a variety of legislative proposals
designed to change access to and payment for health care services in the United
States have been introduced. Although no major health reform proposals have been
passed by Congress to date, such legislation has been and may be considered by
Congress and state legislatures. We can make no prediction as to whether health
care reform legislation or similar legislation will be enacted or, if enacted
its effect on us.

POTENTIAL GOVERNMENT REGULATION OF THE INTERNET

         Any new law or regulation pertaining to the Internet, or the
application or interpretation of existing laws, could decrease demand for our
services, increase our cost of doing business or otherwise cause our business to
suffer.


                                       12
<PAGE>   13


         Laws and regulations may be adopted in the future that address
Internet-related issues, including online content, user privacy, pricing and
quality of products and services. This legislation could increase our cost of
doing business and negatively affect our business. Moreover, it may take years
to determine the extent to which existing laws governing issues like property
ownership, libel, negligence and personal privacy are applicable to the
Internet. Currently, U.S. privacy law consists of disparate state and federal
statutes regulating specific industries that collect personal data. Most of them
predate and therefore do not specifically address online activities. In
addition, a number of comprehensive legislative and regulatory privacy proposals
are now under consideration by federal, state and local governments in the
United States.

INTELLECTUAL PROPERTY

    We regard the protection of our intellectual property rights to be
important. We rely on a combination of trademark, patent, and trade secret
restrictions and contractual provisions to protect our intellectual property
rights. We require selected employees to enter into confidentiality and
invention assignment agreements as well as non-competition agreements. The
contractual provisions and other steps we have taken to protect our intellectual
property may not prevent misappropriation of our technology or deter third
parties from developing similar or competing technologies. We are seeking or
will seek registration of trademarks for HealthGrades, healthgrades.com,
Healthcarereportcards.com, Physician report cards, Physicianreportcards.com,
Dentist report cards, Healthcare Report Cards.com, ProviderWeb.net, The
Healthcare Ratings Experts, Health Plan Report Cards, HMO Report Cards, Nursing
Home Report Cards and our Healthgrades.com plus design with the US Patent and
Trademark Office. We also have a patent pending on our health care rating system
and methods. We cannot assure that this patent will be issued, or that, even if
issued, this patent will adequately protect our technology or processes or
otherwise result in commercial advantage to us.

    There is also significant uncertainty regarding the applicability to the
Internet of existing laws regarding matters such as property ownership and other
intellectual property rights. The vast majority of these laws were adopted prior
to the advent of the Internet and, as a result, do not contemplate or address
the unique issues of the Internet and related technologies.

    For further information, see "Risk Factors - Our propriety rights may not be
fully protected, and we may be subject to intellectual property infringement
claims by others."

EMPLOYEES

    As of March 31, 2001, we had 50 employees, most of who were located at our
corporate offices.


                                       13
<PAGE>   14


                                  RISK FACTORS

                          Risks Related to Our Business

OUR HEALTH CARE INFORMATION BUSINESS HAS NOT BEEN PROFITABLE AND MAY NEVER
BECOME PROFITABLE.

     We began developing our health care information business in 1998. We have
also recently undertaken expense reduction measures, involving a reduction in
our employee base. For the year ended December 31, 2000, net losses before
income taxes for our health care information business were $4,304,056. Despite
our efforts to reduce expenditures, we may continue to incur operating losses as
we fund operating and capital expenditures to expand our health care information
database and website, market our health care information, upgrade our technology
and continue to build our brand. Our business model assumes that consumers will
be attracted to and use the health care ratings and profile information and
related content available on our website, which will, in turn, enable us to
license access to the information on our website to hospitals, other providers
and other Internet sites. In addition, our business model assumes that
employers, health plans and other potential customers will seek our health care
information to help increase the quality and reduce the cost of health care. Our
business model is not yet proven, and we cannot assure you that we will ever
achieve or sustain profitability or that our operating losses will not increase
in the future.

WE MAY BE DELISTED FROM THE NASDAQ SMALLCAP MARKET

     We were notified by the Nasdaq staff on March 1, 2001 that we fail to
comply with the minimum bid price requirement for continued listing and that our
securities are subject to delisting from the Nasdaq SmallCap Market. We
requested a hearing before the Nasdaq Qualifications Panel to review the staff
determination. We cannot assure that we will be able maintain our continued
listing.

SINCE WE HAVE CHANGED OUR PRINCIPAL BUSINESS FOCUS, WE ARE ESSENTIALLY A NEW
COMPANY AND ACCORDINGLY ARE SUBJECT TO THOSE RISKS ASSOCIATED WITH A NEW
COMPANY.

     We were founded in 1995, but have only been engaged in the health care
information business since 1998 and have continued to modify the scope and focus
of our business. As a result, our company is essentially a new venture.
Therefore, we do not have a significant operating history upon which you can
evaluate us or our prospects, and you should not rely upon our past performance
to predict our future performance. In making the transition from a physician
practice management company to a health care ratings services company, we
substantially changed our business operations and management focus. We are also
facing new challenges, including a lack of meaningful historical financial data
upon which to plan future budgets, a radically different competitive environment
and other risks described below. We cannot assure you that our new model will be
successful.

WE MAY NEED ADDITIONAL CAPITAL TO CONTINUE OUR BUSINESS IF WE DO NOT GENERATE
SUFFICIENT REVENUES OVER THE NEXT TWELVE MONTHS.

     We believe that we have sufficient resources to meet our requirements for
at least the next 12 months. However, if our revenues fall short of our
expectations or our expenses exceed our expectations, we may need to raise
additional capital through public or private debt or equity financing. We may
not be able to secure sufficient funds on terms acceptable to us. If equity
securities are issued to raise funds, our stockholders' equity may be diluted.
If additional funds are raised through debt financing, we may be subject to
significant restrictions.

OUR BUSINESS WILL SUFFER IF WE ARE NOT ABLE TO OBTAIN RELIABLE DATA AS A BASIS
FOR OUR HEALTH CARE INFORMATION.

     To provide our health care information, we must be able to receive
comprehensive, reliable data. We currently obtain this data from a number of
public and private sources. Our business could suffer if some of these sources
were to cease to make such information available and suitable alternative
sources are not identified on a timely basis. Moreover, our ability to attract
and retain customer interest is dependent on the reliability of the information
that we purchase. If our information is inaccurate or otherwise erroneous, our
reputation and consumer following could be damaged. In the past, we have had
disputes with two providers of information who sought to terminate our
arrangements based on allegations, which we deny, that our use of the
information violated the terms of our agreements with the providers. We have
located alternate sources of information or modified the scope of information
provided in response to these disputes. Nevertheless, our failure to obtain
suitable information, if needed to use in place of information provided by a
source that determines to stop providing information could hurt our business.

OUR PLAN FOR REVENUE GENERATION MAY NOT BE VIABLE.

         Our business plan contemplates that we will generate revenues from our
health care information business principally by:


                                       14
<PAGE>   15


         o  licensing our data, healthgrades.com name and trademarks to
            highly-rated hospitals and other health care providers for use in
            connection with their marketing programs;

         o  advising lower rated hospitals on improving their quality of care;

         o  providing employees, benefit consultants and health plans with
            information designed to identify opportunities to migrate employees
            to higher quality facilities, through selection of a health plan or
            a facility within a health plan's network;

         o  providing employers and others with information that rates and
            compares health plans in a local area on various quality measures;

         o  providing employers, health plans and benefit consultants with
            information for use by employees in selecting providers and
            facilities available to employees through the employees' health plan
            network; and

         o  licensing access to our ratings content through linking agreements
            to other companies that operate Internet "yellow pages" or health
            care sites;

     However, we do not yet know whether we will be able to generate significant
revenues from these activities. Specifically, we have not yet generated
substantial revenues from any employers or health plans, and we do not know
whether they will view our rating and profile information as useful in
connection with their operations. Moreover, while we have licensed access to our
healthgrades.com content to several health care information websites, these
contracts generally have a relatively short term or can be terminated on short
notice and have generated only limited revenues. Many of the Internet health
care companies that license our data are recently formed entities that do not
have a history of financial viability and may not have the resources to continue
licensing arrangements with us, even if they view such arrangements to be
helpful. In addition, while we have entered into licensing agreements with a
number of hospitals, the use of Internet information in conjunction with
hospital and other provider marketing campaigns is a new, unproven concept. We
may not be able to expand or retain acceptance by hospitals and other providers.

WE MAY BE SUED FOR INFORMATION RETRIEVED FROM OUR WEBSITES OR OTHERWISE PROVIDED
TO EMPLOYERS AND OTHERS.

     We may be subjected to claims for defamation, negligence, copyright or
trademark infringement, personal injury or other legal theories relating to the
information we publish on our websites or otherwise provide to customers. These
types of claims have been brought, sometimes successfully, against online
services as well as print publications in past. We have received threats from
some providers that they will assert defamation and other claims in connection
with the information posted on our healthgrades.com website. One provider has
also alleged that our use of our rating system constitutes a business practice
that violates state law and may also be a basis for product disparagement,
negligent misrepresentation and other claims. The provider threatened to
institute legal action if we do not remove reference to the provider from our
website. We have filed a complaint against the provider seeking a judgment that,
among other things, we did not violate state or federal law as a result of our
rating of the provider and our ratings are protected by the free speech
protections of the United States Constitution and relevant state constitutions.

     Patients who file lawsuits against providers often name as defendants all
persons or companies with any nexus to the providers. As a result, patients may
file lawsuits against us based on treatment provided by hospitals or other
facilities that are highly rated by us, or doctors who are identified on our
website or through other information that we provide. In addition, a court or
government agency may take the position that our delivery of health information
directly, or information delivered by a third-party website that a consumer
accesses through our website, exposes us to malpractice or other personal injury
liability for wrongful delivery of health care services or erroneous health
information. The amount of insurance we maintain with insurance carriers may not
be sufficient to cover all of the losses we might incur from these claims and
legal actions. In addition, insurance for some risks is difficult, impossible or
too costly to obtain, and as a result, we may not be able to purchase insurance
for some types of risks.

IF WE DO NOT ESTABLISH, MAINTAIN AND STRENGTHEN OUR BRAND, OUR ABILITY TO EXPAND
OUR BUSINESS WILL BE IMPAIRED.

     To expand our audience of users and increase our online traffic, and
increase interest in our other health care ratings services, we must establish,
maintain and strengthen our brand. For us to be successful in establishing our
brand, consumers must perceive us as a trusted source of health care
information; hospitals, other providers and other health care information
websites must perceive us as an effective marketing and sales channel for their
services and products; and employees and health plans must perceive us as a
source of valuable information that can be used to enhance the quality and
cost-effectiveness of health care. We may be required to increase substantially
our marketing budget in our efforts to establish brand recognition and brand
loyalty. Our business will suffer if our marketing efforts are not productive or
if we cannot strengthen our brands.


                                       15
<PAGE>   16


OUR BUSINESS WILL SUFFER IF WE ARE UNABLE TO ATTRACT, RETAIN AND MOTIVATE HIGHLY
SKILLED EMPLOYEES.

     We have recently reduced the size of our employee base in order to lower
expenses. Nevertheless, our ability to execute our business plan and be
successful depends upon our ability to attract, retain and motivate highly
skilled employees when needed. We rely on the continued services of our senior
management and other personnel. If we are able to expand our business, we will
need to hire additional personnel to support our operations. We may be unable to
retain our key employees or attract or retain other highly qualified employees
in the future. If we do not succeed in attracting new personnel as needed and
retaining and motivating our current personnel, our business will suffer.



WE MAY EXPERIENCE SYSTEM FAILURES THAT COULD INTERRUPT OUR SERVICES.

     The success of our healthgrades.com website and activities related to the
website will depend on the capacity, reliability and security of our network
infrastructure. We rely on telephone communication providers to provide the
external telecommunications infrastructure necessary for Internet
communications. We will also increasingly depend on providers of online content
and services for some of the content and applications that we make available
through healthgrades.com. Any significant interruptions in our services or an
increase in response time could result in the loss of potential or existing
users or licensees. Although we maintain insurance for our business, we cannot
guarantee that our insurance will be adequate to compensate us for losses that
may occur or to provide for costs associated with business interruptions.

     We must be able to operate our website 24 hours a day, 7 days a week,
without material interruption. To operate without interruption, we and our
content providers must guard against:

         o  damage from fire, power loss and other natural disasters;

         o  communications failures;

         o  software and hardware errors, failures or crashes;

         o  security breaches, computer viruses and similar disruptive problems;
            and

         o  other potential interruptions.

     Our website may be required to accommodate a high volume of traffic and
deliver frequently updated information. Our users may experience slower response
times or system failures due to increased traffic on our website or for a
variety of other reasons. We will also increasingly depend on content and
applications providers to furnish information and data feeds on a timely basis.
We could experience disruptions or interruptions in service due to the failure
or delay in the transmission or receipt of this information. Any significant
interruption of our operations could damage our business.



OUR PROPRIETARY RIGHTS MAY NOT BE FULLY PROTECTED, AND WE MAY BE SUBJECT TO
INTELLECTUAL PROPERTY INFRINGEMENT CLAIMS BY OTHERS.

     Our failure to adequately protect our intellectual property rights could
harm our business by making it easier for our competitors to duplicate our
services. We have a number of trademarks for which we are seeking or will seek
registration with the U.S. Patent and Trademark office, but cannot assure that
the registrations will be forthcoming. We also have a patent pending on our
hospital rating system and methodology, but we can give no assurance that the
patent will be issued. In addition, we require some of our employees to enter
into a confidentiality and invention assignment agreement and, in more limited
cases, non-competition agreements. Nevertheless, our efforts to establish and
protect our proprietary rights may be inadequate to prevent imitation of our
services by others or may be subject to challenge by others. Furthermore, our
ability to protect some of our proprietary rights is uncertain since legal
standards relating to the validity, enforceability and scope of intellectual
property rights in Internet related industries are uncertain and are still
evolving.

     In addition to the risk of failing to adequately protect our proprietary
rights, there is a risk that we may become subject to a claim that we infringe
upon the proprietary rights of others. Although we do not believe that we are
infringing upon the rights of others, third parties may claim that we are doing
so. The possibility of inadvertently infringing upon the proprietary rights of
another is increased for businesses such as ours because there is significant
uncertainty regarding the applicability to the Internet of existing laws
regarding


                                       16
<PAGE>   17


matters such as property ownership, copyrights and other intellectual property
rights. A claim of intellectual property infringement may cause us to incur
significant expenses in defending against the claim. If we are not successful in
defending against an infringement claim, we could be liable for substantial
damages or may be prevented from offering some aspects of our services. We may
be required to make royalty payments, which could be substantial, to a party
claiming that we have infringed their rights. These events could damage our
business.

WE MAY LOSE BUSINESS IF WE ARE UNABLE TO KEEP UP WITH RAPID TECHNOLOGICAL OR
OTHER CHANGES.

     If we are unable to keep up with changing technology and other factors
related to our market, we may be unable to attract and retain users, customers
and licensees, which would reduce or limit our revenues. The markets in which we
compete are characterized by rapidly changing technology, evolving technological
standards in the industry, frequent new service and product announcements and
changing consumer demand. Our future success will depend on our ability to adapt
to these changes, and to continuously improve the content, features and
reliability of our services in response to competitive service and product
offerings and the evolving demands of the marketplace. In addition, the
widespread adoption of new Internet networking or telecommunications
technologies or other technological changes could require us to incur
substantial expenditures to modify or adapt our website or infrastructure, which
might negatively affect our ability to become or remain profitable.

OUR BUSINESS WILL SUFFER IF WE ARE NOT ABLE TO COMPETE SUCCESSFULLY.

     The market for health care information is new, rapidly evolving and
competitive. We expect competition to increase significantly, and our business
will be adversely affected if we are unable to compete successfully. We
currently compete, or potentially compete, with many providers of health care
information services and products, both online and through traditional means. We
compete, directly and indirectly, for users, consumers and licensees principally
with:

         o  companies or organizations providing or maintaining online health
            care information;

         o  vendors of health care information, products and services
            distributed through other means, including direct sales, mail and
            fax messaging.

         o  companies and organizations providing or maintaining general purpose
            consumer online services that provide access to health care content
            and services;

         o  companies and organizations providing or maintaining public sector
            and non-profit websites that provide health care information and
            services without advertising or commercial sponsorships;

         o  companies and organizations providing or maintaining web search and
            retrieval services and other high-traffic websites; and

         o  publishers and distributors of traditional media, some of which have
            established or may establish websites.

Some of these competitors are larger, have greater resources and have more
experience in providing health care information than us.

RISKS RELATED TO HEALTH CARE INFORMATION AND THE INTERNET

HEALTH CARE REFORMS AND THE COST OF REGULATORY COMPLIANCE COULD NEGATIVELY
AFFECT OUR BUSINESS.

     The health care industry is heavily regulated. Various laws, regulations
and guidelines promulgated by government, industry and professional bodies
affect, among other matters, the provision, licensing, labeling, marketing,
promotion and reimbursement of health care services and products. Our failure or
the failure of our subscribers, licensees or customers to comply with any
applicable regulatory requirements or industry guidelines could:

         o  result in limitation or prohibition of business activities;

         o  subject us or licensees or customers to adverse publicity; or

         o  increase the costs of regulatory compliance or subject us or our
            licensees or customers to monetary fines or other penalties.


                                       17
<PAGE>   18


     A federal law commonly known as the Medicare/Medicaid Anti-kickback Law,
and several similar state laws, prohibit payments that are intended to induce
physicians or others either to refer patients or to acquire or arrange for or
recommend the acquisition of health care products or services. Another federal
law, commonly known as the "Stark" law, prohibits physicians from referring
Medicare and Medicaid patients for designated health services to entities with
which they have a financial relationship, unless that relationship qualifies for
an explicit exception to the referral ban. Some of these laws have been applied
to payments by physicians for marketing and referral services and could
constrain our relationships, including financial and marketing relationships
with licensees such as hospitals. It is possible that additional or changed
laws, regulations or guidelines could be adopted in the future.

THE INTERNET IS SUBJECT TO MANY LEGAL UNCERTAINTIES AND POTENTIAL GOVERNMENT
REGULATIONS THAT MAY DECREASE USAGE OF OUR WEBSITE, INCREASE OUR COST OF DOING
BUSINESS OR OTHERWISE HAVE A DAMAGING EFFECT ON OUR BUSINESS.

     Any new law or regulation pertaining to the Internet, or the application or
interpretation of existing laws, could decrease usage for our website, increase
our cost of doing business or otherwise cause our business to suffer.

     Laws and regulations may be adopted in the future that address
Internet-related issues, including online content, user privacy, pricing and
quality of products and services. This legislation could increase our cost of
doing business and negatively affect our business. Moreover, it may take years
to determine the extent to which existing laws governing issues like property
ownership, libel, negligence and personal privacy are applicable to the
Internet. Currently, U.S. privacy law consists of disparate state and federal
statutes regulating specific industries that collect personal data. Most of them
predate and therefore do not specifically address online activities. In
addition, a number of comprehensive legislative and regulatory privacy proposals
are now under consideration by federal, state and local governments in the
United States.

OUR BUSINESS COULD BE IMPAIRED BY STATE AND FEDERAL LAWS DESIGNED TO PROTECT
INDIVIDUAL HEALTH INFORMATION.

     If we fail to comply with current or future laws or regulations governing
the collection, dissemination, use and confidentiality of patient health
information, our business could suffer.

     Consumers sometimes enter private information about themselves or their
family members when using our services. Also, our systems record use patterns
when consumers access our databases that may reveal health-related information
or other private information about the user. In addition, information regarding
employee usage of health care providers and facilities can also be compiled by
our systems in connection with services we offer to employers and other health
plans. Numerous federal and state laws and regulations govern collection,
dissemination, use and confidentiality of patient-identifiable health
information, including:

         o  state privacy and confidentiality laws;

         o  state laws regulating health care professionals, such as physicians,
            pharmacists and nurse practitioners;

         o  Medicaid laws;

         o  the Health Insurance Portability and Accountability Act of 1996 and
            related rules proposed by the Health Care Financing Administration;
            and

         o  Health Care Financing Administration standards for Internet
            transmission of health data.

     Congress has been considering proposed legislation that would establish a
new federal standard for protection and use of health information. While we are
not gathering patient health information at this time, other third-party
websites that consumers access through our website and employees, health plans
and other customers may not maintain systems to safeguard any health information
they may be collecting. In some cases, we may place our content on computers
that are under the physical control of others, which may increase the risk of an
inappropriate disclosure of information. For example, we contract out the
hosting of our website to a third party. In addition, future laws or changes in
current laws may necessitate costly adaptations to our systems.


                                       18
<PAGE>   19


ONLINE SECURITY BREACHES COULD HARM OUR BUSINESS.

     Our security measures may not prevent security breaches. Substantial or
ongoing security breaches on our system or other Internet-based systems could
reduce user confidence in our website, causing reduced usage that adversely
affects our business. The secure transmission of confidential information over
the Internet is essential to maintain confidence in our websites. We believe
that consumers generally are concerned with security and privacy on the
Internet, and any publicized security problems could inhibit the growth of the
Internet and, therefore, our provision of health care information on the
Internet.

     We will need to incur significant expense to protect and remedy against
security breaches when we identify a significant business risk. Currently, we do
not store sensitive information, like patient information or credit card
information, on our websites. If we launch services that require us to gather
sensitive information, our security expenditures will increase significantly.

     A party that is able to circumvent our security systems could steal
proprietary information or cause interruptions in our operations. Security
breaches could also damage our reputation and expose us to a risk of loss or
litigation and possible liability. Our insurance policies may not be adequate to
reimburse us for losses caused by security breaches. We also face risks
associated with security breaches affecting third parties conducting business
over the Internet or customers and others who license our contract.

OTHER RISKS

OUR OFFICERS AND DIRECTORS MAINTAIN SIGNIFICANT CONTROL OF HEALTH GRADES, INC.

     Our officers and directors own approximately 51.6% of our outstanding
common stock. If our officers and directors act together, they will be able to
control the management and affairs of Health Grades, Inc. and will have the
ability to control all matters requiring stockholder approval, including the
election of directors and approval of significant corporate transactions. This
concentration of ownership may have the effect of delaying, deferring or
preventing an acquisition of us and may adversely affect the market price for
our common stock.

OUR CERTIFICATE OF INCORPORATION AND BYLAWS INCLUDE ANTI-TAKEOVER PROVISIONS
THAT MAY DETER OR PREVENT A TAKEOVER ATTEMPT.

     Some provisions of our certificate of incorporation and bylaws and
provisions of Delaware law may deter or prevent a takeover attempt, including an
attempt that might result in a premium over the market price for our common
stock. Our certificate of incorporation requires the vote of 66 2/3% of the
outstanding voting securities in order to effect certain actions, including a
sale of substantially all of our assets, certain mergers and consolidations and
our dissolution or liquidation, unless these actions have been approved by a
majority of the directors. Our certificate of incorporation also authorizes our
Board of Directors to issue up to 2,000,000 shares of preferred stock having
such rights as may be designated by our Board of Directors, without stockholder
approval. Our bylaws provide that stockholders must follow an advance
notification procedure for certain nominations of candidates for the Board of
Directors and for certain other stockholder business to be conducted at a
stockholders meeting. The General Corporation Law of


                                       19
<PAGE>   20


Delaware restricts certain business combinations with interested stockholders
upon their acquisition of 15% or more of our common stock.

     All of these provisions could make it more difficult for a third party to
acquire, or could discourage a third party from attempting to acquire, control
of us.

WE HAVE NO INTENTION TO PAY DIVIDENDS ON OUR COMMON STOCK.

     We have never declared or paid any cash dividends on our common stock. We
currently intend to retain all future earnings to finance the expansion of our
business.

Item 2. Properties

       We have a six-year lease for our approximately 8,600 sq. foot
headquarters facility in Lakewood, Colorado, which expires on February 15, 2001.
Our annual lease payments for this facility is approximately $262,000.

Item 3. Legal Proceedings

Reconstructive Orthopaedic Associates

     On October 27, 1999, Reconstructive Orthopaedic Associates II, P.C.,
("ROA"), filed a complaint against us in the U.S. District Court for the Eastern
District of Pennsylvania. The complaint asserts that, during negotiations
between ROA and us related to the restructure agreement by and between ROA and
us, we agreed that if we entered into a similar restructuring agreement with any
other affiliated practice on financial terms more favorable to such affiliated
practice than those extended to ROA under its restructure agreement, we would
modify and adjust the terms of their restructure agreement to ensure that ROA
received financial terms as favorable as those extended to such other affiliated
practice. The complaint further alleges that one or more lawsuits or other
adversary proceedings between us and one or more other affiliated practices have
been settled, in fact or in principle, on financial terms materially more
favorable to the other affiliated practices than the terms extended to ROA under
its restructure agreement. ROA seeks compensatory, consequential and incidental
damages in excess of $75,000, punitive damages in excess of $1,000,000 and
attorneys fees. Additionally, ROA seeks a declaratory judgment that if any of
the alleged settlements were entered into between us and any other affiliated
practices on terms materially more favorable than those extended to ROA, we
would be required to modify and adjust the terms of ROA's restructure agreement
to ensure that ROA received financial terms as favorable as those extended to
such other affiliated practices.

     Discovery is scheduled to be completed by April 30, 2001. We anticipate
that a trial date will be scheduled. The case is set to be placed in the trial
pool on June 25, 2001.

     On November 8, 1999, we filed a complaint in the U.S. District Court for
the District of Colorado against ROA. The complaint asserts that ROA has taken
actions in direct contravention of our management services agreement with ROA,
including trying to terminate the agreement in a manner not allowed by the
contract, threatening to withhold payments due under the agreement, and filing
suit in another jurisdiction in violation of the agreement. We seek a
declaration and adjudication of both parties' contractual rights and obligations
in order to terminate this dispute. We also seek injunctive relief and damages.
Discovery has been completed. The case is scheduled for trial on December 24,
2001.

     We believe we have strong legal and factual defenses to ROA's claims. We
intend to vigorously defend against ROA's lawsuit and aggressively pursue our
claims.

Orthopaedic Institute of Ohio

     On November 1, 1999, we filed a complaint in the U.S. District Court for
the District of Colorado against the Orthopaedic Institute of Ohio, Inc.
("OIO"). The complaint asserts that, prior to the closing of the restructure
agreement between OIO and us, OIO, its physician owners and the administrator of
OIO diverted over $470,000 from our bank account and deposited such funds into a
bank account held by OIO and the physician owners. The complaint further asserts
that OIO and the physician owners are continuing to withhold from us amounts
that remain due under the restructure agreement of over $720,000. OIO
subsequently filed a Motion for Stay of Proceedings and a Motion to Dismiss.
Essentially, OIO has argued that all claims made by us are subject to the
arbitration clause of the Restructure Agreement by and between us and OIO. We
filed a response to OIO's Motions and oral arguments occurred in March 2000.


                                       20
<PAGE>   21


     On March 27, 2000, the Court entered an order staying the litigation and
ordering the parties to resolve their disputes through arbitration. All written
submissions were provided to the arbitrator. Effective March 28, 2001, we
entered into a settlement agreement with OIO. Under the terms of the agreement,
we received a cash payment of $1,750,000 in full satisfaction of certain notes
receivable and other assets with the practice, the termination of the current
service agreement with the practice and the settlement of a dispute of amounts
owed to us arising out of the restructure transaction with OIO.

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

Not applicable.


                                       21
<PAGE>   22


Executive Officers of the Registrant

The following table sets forth certain information concerning the executive
officers of the Company:

<TABLE>
<CAPTION>
                   NAME                        AGE                      POSITION
<S>                                            <C>    <C>
Kerry R. Hicks..........................       41     Chief Executive Officer
Peter J. Stahl..........................       51     Chief Operating Officer
D. Paul Davis...........................       43     Executive Vice President-Finance, CFO & Treasurer
David G. Hicks..........................       42     Executive Vice President-Information Technology
Timothy D. O'Hare.......................       48     Senior Vice President-Provider Web.net
Peter A. Fatianow.......................       37     Senior Vice President-Business Development
Sarah Loughran..........................       36     Senior Vice President-Content
</TABLE>

KERRY R. HICKS, one of our founders, has served as our Chief Executive Officer
since our inception in 1995. He also served as our President from our inception
until November 1999. From 1985 to 1995, he served as Senior Vice President of
LBA Healthcare Management (LBA). Mr. Hicks received a BS in Business and a
Masters in Information Systems from Colorado State University.

PETER J. STAHL has served as Chief Operating Officer for Health Grades, Inc.
since September 2000. He served from February 1991 to April 2000 as Executive
Vice President of Business Development at Duff & Phelps Credit Rating Co., a
financial advisory company specializing in credit rating and research.

D. PAUL DAVIS has served as our Executive Vice President - since November 1999.
He has been our Chief Financial Officer since March 1997. He was our Senior Vice
President of Finance from March 1997 until August 1998, and from March 1996
until March 1997 he was Vice President of Finance. From January 1993 to March
1996, Mr. Davis served as Vice President of Finance for Surgical Partners of
America, Inc. Mr. Davis received a BS degree in Accounting from the University
of Utah. He is a Certified Public Accountant and a Certified Management
Accountant.

DAVID G. HICKS has served as our Executive Vice President - Information
Technology since November 1999. He was Senior Vice President of Information
Technology from May 1999 to November 1999 and Vice President of Management
Information Systems from March 1996 until May 1999. From 1994 to March 1996, Mr.
Hicks worked as Manager of Information Technology for the Association of
Operating Room Nurses. He was responsible for all information technology
development. From 1992 to 1994, Mr. Hicks worked as Manager of Financial Systems
for Coors Brewing Company. Mr. Hicks received a BS degree in Management
Information Systems from Colorado State University.

TIMOTHY D. O'HARE has served as our Senior Vice President - ProviderWeb.net
since November 1999. He was our Vice President - Operations from August 1996
until November 1999. From 1987 to 1994, Mr. O'Hare served as Vice President and
Executive Director of HealthCare of North Carolina. From 1994 to 1996, Mr.
O'Hare served as Executive Director of Kaiser Foundation Health Plan of North
Carolina. Mr. O'Hare has over 20 years experience in healthcare, having worked
for managed care companies, hospitals, and physicians. Mr. O'Hare received a BS
degree in Business from Virginia Tech and an MHA degree from Virginia
Commonwealth University.


                                       22
<PAGE>   23


PETER A. FATIANOW has served as our Senior Vice President - Business Development
since March 2000. He has served in several capacities for HG.com and Healthcare
Ratings, Inc. since July 1998, most recently as Senior Vice President -
Operations. He was previously our Vice President of Business Development from
our inception until July 1998. From July 1998 until February 1999, he was a
partner of Consolidation Capital Partners LLC, which provided consulting
services to us in connection with our restructuring transaction with our former
affiliated practices. From July 1994 to February 1996, Mr. Fatianow worked as an
Associate Vice President in Healthcare Corporate Finance with Morgan Keegan &
Company, Inc. Previously, he spent two years in Credit Suisse First Boston's
Health Care Group in New York. Mr. Fatianow received a BS in Business Management
with an emphasis in finance from Brigham Young University.

SARAH LOUGHRAN has served as our Senior Vice President - Content since March
2000 and as Senior Vice President - Content of our subsidiary, HG.com and its
successor, Healthcare Ratings, Inc. since 1998. From 1996 to 1997, Ms. Loughran
worked as Assistant Vice President for Product Development for HCIA, where she
developed a number of information application products. From 1994 to 1996, Ms.
Loughran served as a Senior Consultant at LBA Healthcare Management. In this
role, she consulted with more than 35 different hospitals on managing cost by
clinical specialty. Ms. Loughran received a BA in Economics from Vanderbilt
University and an MBA and MHSA from the University of Michigan.

Kerry R. Hicks and David G. Hicks are brothers.

                                     PART II

Item 5. Market for Registrant's Common Equity and Related Stockholder Matters

The following table sets forth the high and low sales prices for our Common
Stock for the quarters indicated as reported on the Nasdaq Stock Market.

<TABLE>
<CAPTION>
                                                            HIGH           LOW
                                                            ----           ---
<S>                                                      <C>            <C>
Year Ended December 31, 1999
    First Quarter................................        $    1 7/8     $     5/8
    Second Quarter...............................             3               3/8
    Third Quarter................................             5 7/8         1 27/32
    Fourth Quarter (1)...........................             4 7/8         1 7/16

Year Ended December 31, 2000
    First Quarter................................        $    3 1/2     $   2
    Second Quarter...............................             2 9/16          15/169
    Third Quarter................................             1 29/32            3/4
    Fourth Quarter ..............................             1 1/4             7/32
</TABLE>

(1) Since November 24, 1999, the Company's common stock has been listed on the
    Nasdaq Small Cap Market. The common stock previously was listed on the
    Nasdaq National Market.

We have never paid or declared any cash dividends and do not anticipate paying
any cash dividends in the foreseeable future. We currently intend to retain any
future earnings for use in our business.


                                       23
<PAGE>   24


Item 6. Selected Financial Data

Statement of Operations Data

<TABLE>
<CAPTION>
                                                       YEAR ENDED       YEAR ENDED     YEAR ENDED       YEAR ENDED     YEAR ENDED
                                                      DECEMBER 31,     DECEMBER 31,    DECEMBER 31,    DECEMBER 31,   DECEMBER 31,
                                                      ------------    -------------   -------------    ------------   ------------
                                                         2000             1999            1998            1997           1996(1)
                                                      ------------    -------------   -------------    ------------   ------------
<S>                                                   <C>             <C>             <C>              <C>            <C>
Revenue:
      Ratings and advisory revenue                    $  1,578,979    $     407,577   $          --    $         --   $         --
      Physician practice service fees                    4,249,658       28,948,397      76,649,778      45,966,531      4,392,050
      Other                                                  9,051        2,229,774       2,531,524       3,689,390             --
                                                      ------------    -------------   -------------    ------------   ------------
                                                         5,837,688       31,585,748      79,181,302      49,655,921      4,392,050
                                                      ------------    -------------   -------------    ------------   ------------
Costs and expenses:
   Ratings and advisory costs and expenses:
      Production, content and product development        2,085,402        1,217,917      55,188,411      31,644,618      2,820,743
      Sales and marketing                                1,572,505        1,853,191              --              --             --
   Physician practice services costs and expenses:
      Clinic expenses                                           --       15,234,416              --              --             --
      Impairment loss on service agreements                     --               --      94,582,227              --             --
      Litigation and other costs                           812,084        5,309,168       3,564,392              --             --
      Impairment loss on intangible assets and
         other long-lived assets                                --               --       3,316,651              --             --
   General and administrative                            8,723,434       10,570,223      14,468,537       7,861,015      3,770,263
                                                      ------------    -------------   -------------    ------------   ------------
      Total costs and expenses                          13,193,425       34,184,915     171,120,218      39,505,633      6,591,006
                                                      ------------    -------------   -------------    ------------   ------------
(Loss) income from operations                           (7,355,737)      (2,599,167)    (91,938,916)     10,150,288     (2,198,956)
Other:
      (Loss) gain on sale of assets,practice disputes
         and amendment and  restatement of service
         agreements                                       (699,010)       2,766,284              --              --             --
      Gain on sale of equity investment                         --          127,974       1,240,078              --             --
      Gain on sale of subsidiary                                --          221,258              --              --             --
      Interest income                                      511,657          312,447         187,450         536,180         11,870
      Interest expense                                    (471,553)      (2,489,427)     (3,741,089)       (942,144)       (90,368)
                                                      ------------    -------------   -------------    ------------   ------------
(Loss) income before income taxes                       (8,014,643)      (1,660,631)    (94,252,477)      9,744,324     (2,277,454)
Income tax benefit (expense)                               469,897        2,625,561      32,466,391      (3,873,926)       506,071
                                                      ------------    -------------   -------------    ------------   ------------

Net (loss) income                                     $ (7,544,746)   $     964,930   $ (61,786,086)   $  5,870,398   $ (1,771,383)
                                                      ============    =============   =============    ============   ============
Net (loss) income per common share (basic)            $      (0.39)   $        0.07   $       (3.39)   $       0.38   $      (0.16)
                                                      ============    =============   =============    ============   ============
Weighted average number of common shares
      used in computation (basic)                       19,535,841       14,202,748      18,237,827      15,559,368     11,422,387
                                                      ============    =============   =============    ============   ============


Net (loss) income per common share (diluted)          $      (0.39)   $        0.07   $       (3.39)   $       0.37   $      (0.14)
                                                      ============    =============   =============    ============   ============

Weighted average number of common
      shares and common share equivalents
      used in computation (diluted)                     19,535,841       14,817,732      18,237,827      16,071,153     12,454,477
                                                      ============    =============   =============    ============   ============
</TABLE>

<TABLE>
<CAPTION>
    BALANCE SHEET DATA

                          DECEMBER 31, 2000    DECEMBER 31, 1999      DECEMBER 31, 1998     DECEMBER 31, 1997     DECEMBER 31, 1996
                          -----------------    -----------------      -----------------     -----------------     -----------------
<S>                       <C>                  <C>                    <C>                   <C>                   <C>
Working capital (deficit)   $  4,292,698         $  1,383,945           $(21,457,105)         $ 21,924,386          $  7,637,724
Total assets                  14,371,174           20,392,868             70,179,278           140,301,650            16,013,125
Total long-term debt                  --            8,803,283                680,152            33,885,141             5,142,450
Total short-term debt          1,559,213            7,702,005             53,514,615                    --                    --
</TABLE>

(1) The 1996 net income (loss) per share and weighted average share amounts have
    been restated to comply with Statement of Financial Accounting Standards No.
    128, Earnings Per Share.


ITEM 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations

GENERAL

We are a healthcare ratings services company. We grade, or provide consumers
with the means to assess and compare the quality or qualifications of, various
types of healthcare providers. We also provide profile information for a variety
of providers and facilities. We make this information available to consumers,
employers, and health plans to assist them in selecting healthcare providers.
For consumers, this information is available free of charge on our website,
www.healthgrades.com. For employers, we provide, for a fee, customized
information designed to encourage employees to utilize quality providers to
reduce medical benefit costs as well as


                                       24
<PAGE>   25


indirect costs of lost workdays and productivity. For health plans, we provide,
for a fee, customized information designed to assist them in selecting network
providers who can enhance the quality of care for their members.

      We also offer services to healthcare providers. For providers who have
received high ratings, we offer the opportunity to license our ratings and
trademarks and provide assistance in their marketing programs. For providers who
have not received high ratings, we offer quality improvement services designed
to identify deficiencies and improve quality. We also provide limited physician
practice management services to musculoskeletal practices under management
services agreements that have terms expiring through September 2002.

     Prior to the restructuring transaction described below under "MODIFICATION
OF ARRANGEMENTS AND RESTRUCTURING TRANSACTION", we entered into long-term
service agreements with 21 practices that affiliated with us. When we entered
into the transactions, we also acquired all of the non-medical assets of the
affiliated practices. In exchange, we paid consideration consisting of cash, our
securities or both. Under our service agreements, we, among other things,
provided facilities and management, administrative and development services to
the affiliated practices, and employed most non-physician personnel of the
affiliated practices, in return for specified service fees. The operating
expenses incurred by us included the salaries, wages and benefits of personnel
(other than physician owners and certain technical medical personnel), supplies,
expenses involved in administering the clinical aspects of the affiliated
practices and depreciation and amortization of assets. In addition to the
operating expenses discussed above, we incurred personnel and administrative
expenses in connection with our corporate offices, which provided management,
administrative and development services to the affiliated practices.

MODIFICATION OF ARRANGEMENTS AND RESTRUCTURING TRANSACTION

     To date, we have closed restructuring transactions and/or entered into
settlement agreement with substantially all of our affiliated practices. Under
the restructure agreements, we transferred, with respect to each practice, all
of the accounts receivable relating to the practice; tangible and intangible
assets purchased or acquired by the Company in respect of the practice, other
than those disposed of in the ordinary course of business since the date the
Company affiliated with the practice; all prepaid expenses relating to the
practice; all inventory relating to the practice; and all other assets relating
to the practice. The amount received by the Company from each practice and its
physician owners for the assets sold to the practice generally equals the sum of
(1) the book value of the accounts receivable relating to the practice on the
effective date of closing; (2) the book value of all fixed assets and other
capital assets relating to the practice on the effective date of closing; (3)
the book value of all prepaid expenses relating to the practice on the effective
date of closing; (4) the book value of all notes and other receivables the
physician owners of the practice owe to the Company on the effective date of
closing; and (5) the cash balance of the practice's deposit account on the
effective date of closing, reduced by the book value of the liabilities and
obligations relating to the practice on the effective date of closing.

     In addition, the Company and each of the practices and their physician
owners entered into a management services agreement to replace the existing
service agreement. As consideration for the Company's agreement to enter into
the management services agreement, the practices and their physician owners paid
to the Company an additional amount of cash, or paid cash and returned to the
Company shares of its common stock.

        During 1999 and 2000, the Company also entered into settlement
agreements with several Affiliated Practices which terminated the service
agreements with the respective Affiliated Practices. As of March 31, 2001, the
Company has five management services arrangements remaining expiring at various
times through September 2002. Three of the practices are subject to monthly
service fees, while two paid a lump sum fee in connection with the closing of
the restructuring transaction, in lieu of the monthly fee obligation.


ACQUISITION OF MINORITY INTERESTS AND OFFICER NOTES; EQUITY FINANCING

    In June 1999, we entered into an agreement with the former stockholders of
Provider Partnerships, Inc. ("PPI") to resolve certain issues raised by the
former stockholders of PPI relating to the transaction in which we acquired PPI.
At that time, we formed HG.com, Inc. (formerly known as Healthgrades.com, Inc.)
("HG.com") and transferred to HG.com certain assets that were developed by us
into one of our websites (formerly HealthCareReportCards.com, currently
Healthgrades.com) and other related internet products. The remaining
non-internet related assets of PPI were transferred to us, and PPI was
subsequently liquidated. Additionally, one of our employees and Venture5 LLC,
whose members consist of the former PPI stockholders, owned minority interests
in HG.com. We owned the majority interest. In September 1999, we entered into an
agreement with Venture5 under which we agreed to purchase a number of shares of
our majority-owned subsidiary, HG.com, Inc. that would increase our ownership in
HG.com, Inc. to 90%. The agreement required that we pay Venture5 $4,000,000 by
November 1, 1999. In November 1999, the purchase date was extended until
December 31, 1999. On December 31, 1999, we paid $4,000,000 to Venture5 (the
"Minority Interest Purchase") in full satisfaction of


                                       25
<PAGE>   26


this obligation. We financed the Minority Interest Purchase by borrowing
$3,550,000 from some of our officers (the "Officers") and issued notes to the
officers totaling $3,550,000 (hereafter, the "Officer Notes").

    On March 17, 2000, we closed on an equity financing transaction (the "Equity
Financing") which raised $18 million. Pursuant to the terms of the Equity
Financing, certain investors paid $14.8 million to us in return for 7,400,000
shares of our common stock and five-year warrants to purchase 2,590,000 shares
of our common stock at an exercise price of $4.00 per share. Net proceeds of the
Equity Financing, after payment of certain legal and other financing fees, were
approximately $14.4 million. In connection with the Equity Financing, we also
issued an aggregate of 165,000 shares to our bank syndicate as a financing fee.
We also issued a warrant to purchase 150,000 shares of our common stock to a
company that served as a financial advisor to us in connection with the Equity
Financing, at an exercise price of $3.45 per share. In connection with the
Equity Financing, certain of our officers exchanged $3.2 million in notes
payable for an aggregate of 1.6 million shares of our common stock and five-year
warrants to purchase 560,000 shares of our common stock at $4.00 per share. In
accordance with the provisions of EIFT 98-5, Accounting for Convertible
Securities with Beneficial Conversion Features or Contingently Adjustable
Conversion Ratios, upon the exchange of the notes payable, we recorded an
expense of $347,200 based upon the estimated fair market value of the warrants
issued to the officers. This expense is included in general and administrative
expenses in our Consolidated Statement of Operations.

    Effective February 3, 2000, we merged our majority-owned subsidiary, HG.com,
Inc., into a recently formed, wholly-owned subsidiary, HealthcareRatings, Inc.
(hereafter, the "Merger Transaction"). In order to effect the Merger
Transaction, we gave the minority shareholders of HG.com 800,000 shares of
Company common stock. In connection with the Merger Transaction, we recorded
goodwill in the amount of $1,850,000 based on the fair value of the stock issued
as of the transaction date. The goodwill is being amortized over an estimated
useful life of seven years.

ACCOUNTING TREATMENT

Commencing January 1, 1999, costs of obtaining long-term service agreements for
practices affiliated with us that were not a party to the restructuring
transaction are amortized using the straight-line method over estimated lives of
five years from January 1, 1999.

Goodwill, which is stated at cost, was acquired in connection with the Minority
Interest Purchase described above and is being amortized on a straight-line
basis over a seven-year period. (See Note 7 to the Consolidated Financial
Statements for further discussion of this transaction.) In addition, the
additional goodwill acquired in February 2000 in connection with the Merger
Transaction described above is also being amortized over an estimated useful
life of seven years.

In the fourth quarter of 2000, we changed our method of accounting for
promotional agreements. Under these agreements, companies that access our
content through licensing agreements offset their cash obligations to us by
providing significant Health Grades branding on their websites or by providing
other services to us. Revenue recognized under such arrangements is commonly
referred to as barter revenue. Previously, we recorded revenue under promotional
agreements at the fair value of the content licensing, in reliance upon
Accounting Principles Board Opinion No. 29, "Accounting for Nonmonetary
Transactions" and disclosed, in our filings with the Securities and Exchange
Commission, the amount of such revenue included in our Statements of Operations.
However, we became aware that, recently, the consensus reached by the Emerging
Issues Task Force in EITF 99-17, "Accounting for Advertising Barter
Transactions," is being applied by the staff of the Securities and Exchange
Commission to a broad range of barter transactions. By its express terms, EITF
99-17 addresses transactions in which companies exchange rights to place
advertisements on each others' web sites and not transactions, such as our
promotional agreements, involving the provision of content to websites.
Management has determined to apply EITF 99-17 to our barter transactions. As a
result, we have restated our year 2000 quarterly financial statements to reverse
revenues and the corresponding expenses relating to our promotional agreements.


                                       26
<PAGE>   27


RESULTS OF OPERATIONS

YEAR ENDED DECEMBER 31, 2000 COMPARED TO YEAR ENDED DECEMBER 31, 1999

REVENUE:

Ratings and advisory revenue

Ratings and advisory revenue was $1.6 million for the year ended December 31,
2000, an increase of $1.2 million from the year ended December 31, 1999. This
increase is primarily due to our entry into additional SQI agreements with
hospitals and other healthcare providers during 2000.

Physician practice service fees

Physician practice service fees include services fees and other revenue derived
from our physician practice management business. For the year ended December 31,
2000, physician practice service fees decreased to approximately $4.2 million
from $28.9 million for the year ended December 31, 1999. This decrease reflects
the substantial reduction in our physician practice management operations. For
the year ended December 31, 2000, physician practice service fees includes a
non-recurring payment of approximately $2.5 million related to the termination
of management services agreements with three of our affiliated practices.

COSTS AND EXPENSES:

Production, content and product development

Production, content and product development costs were approximately $2.1
million for the year ended December 31, 2000, compared to $1.2 million for the
year ended December 31, 1999. The increase from 1999 is primarily due to the
expansion of the healthgrades.com website during the first part of 2000. Since
January 1, 2000, we have enhanced our website by including report card pages for
home health agencies and hospices and adding directories for naturopathic
physicians and birthing centers. Additionally, through an agreement with
GeoAccess, we have enhanced our physician data.


Clinic expenses

Previously, under our long-term service agreements with physician practices, we
provided, among other things, facilities and management, administrative and
development services to the affiliated practices, and employed most
non-physician personnel of the affiliated practices, in return for specified
service fees. The operating expenses incurred by us included the salaries, wages
and benefits of personnel (other than physician owners and certain technical
medical personnel), supplies, expenses involved in administering the clinical
aspects of the affiliated practices and depreciation and amortization of assets.
We did not incur any clinic expenses for the year ended December 31, 2000 as we
are no longer obligated to pay clinic expenses under our management services
arrangements with physician practices.


                                       27
<PAGE>   28


Litigation and other costs

During 2000 we continued to be involved in litigation with certain of our former
affiliated practices. For the year ended December 31, 2000, litigation and other
costs decreased $4.5 million to $.8 million from $5.3 million for the year ended
December 31, 1999. This decrease is due to the fact that during the latter part
of 1999 and in the first half of 2000, we reached settlement agreements with
several former affiliated practices.

General and administrative

General and administrative expenses decreased to approximately $8.7 million for
the year ended December 31, 2000, compared to $10.6 million for the year ended
December 31, 1999. This decrease of approximately $1.9 million is primarily due
to the reduction in employees during the latter part of 1999 as a result of the
substantial reduction in our physician practice management operations.

(Loss) gain on sale of assets and other

During the year ended December 31, 2000, we incurred a loss on sale of assets
and other, of approximately $699,000. This amount consisted primarily of a loss
of $352,000 on the settlement of a dispute with one of our former affiliated
practices, a loss of $275,000 on the sale of two MRI units, a gain of
approximately $142,000 primarily related to a litigation settlement with one of
our former affiliated practices, and a loss of approximately $214,000 related to
the writedown of certain assets.

Interest expense

We incurred interest expense of approximately $472,000 for the year ended
December 31, 2000, compared to interest expense of approximately $2.5 million
for the year ended December 31, 1999. This decrease reflects the reduction of
our indebtedness with our bank syndicate from a balance of approximately $11.9
million as of December 31, 1999 to a balance of approximately $1.4 million as of
December 31, 2000.

YEAR ENDED DECEMBER 31, 1999 COMPARED TO YEAR ENDED DECEMBER 31, 1998

REVENUE:

Ratings and advisory revenue

Ratings and advisory revenue was approximately $408,000 for the year ended
December 31, 1999. There was no corresponding revenue during 1998.

Physician practice services fees

Physician practice service fees were $28.9 million for the year ended December
31, 1999, compared to $76.6 million for 1998. The decrease was primarily the
result of the reduced service fees received by us due to the modification of
arrangements with four practices beginning January 1, 1999 and the restructuring
transaction which resulted in the modification of arrangements with nine
practices. In connection with the restructuring transaction, management services
obligations and service fees were reduced commencing April 1, 1999.

During the year ended December 31, 1999, we terminated our management services
agreements with several of our affiliated practices. As a result of these
terminations, we are no longer required to provide management services to these
practices. Included in service fee revenue for the year ended December 31, 1999
is $2.7 million related to revenue recognized as a result of these terminations.

Other

Other revenue for the year ended December 31, 1999 included $1.7 million of bad
debt recovery related to the settlement of a lawsuit.


                                       28
<PAGE>   29


COSTS AND EXPENSES:

Clinic expenses and general and administrative expenses

For the year ended December 31, 1999, total clinic expenses were $15.2 million
compared to $55.2 million for the same period of 1998. This decrease was
primarily the result of the elimination of our obligation to pay clinic expenses
with respect to practices that were party to the transactions described above
under "Revenues - Service Fees." General and administrative expenses were $12.4
million for the year ended December 31, 1999, compared to $14.5 million for the
same period in 1998. The decrease in general and administrative expenses is
primarily the result of the reduction in corporate overhead due to the
transactions described above.

Production, content and product development costs

Beginning in 1999, we began incurring production, content and product
development costs related to the development and support of our healthgrades.com
and ProviderWeb.net Internet sites. These costs, which consist primarily of
salaries and benefits, consulting fees and other costs related to software
development, application development and operations expense, are expensed as
incurred. Total costs for the year ended December 31, 1999 were $1.2 million.

Statement of Financial Accounting Standards ("SFAS") No. 86, "Accounting for the
Costs of Computer Software to be Sold, Leased, or Otherwise Marketed," requires
the capitalization of certain software development costs subsequent to the
establishment of technological feasibility. Based upon our product development
process, technological feasibility is established upon the completion of a
working model. Costs incurred by us between completion of a working model and
the launch of our websites have not been significant.

Litigation and other costs

As a result of litigation with certain of our affiliated practices, we recorded
a charge of approximately $3.4 million for the year ended December 31, 1999 to
reserve for service fee revenues that were not paid by these practices. For the
year ended December 31, 1999, we incurred approximately $1.1 million in expenses
directly related to these disputes. In addition, for the year ended December 31,
1999, we incurred legal and other consulting fees of approximately $750,000
associated with the restructuring transaction with nine of our affiliated
practices.

Gain on sale of assets, practice disputes and amendment and restatement of
service agreements

Effective June 15, 1999, we closed the restructuring transaction with nine
practices. Additionally, we terminated our relationship with two practices and
entered into litigation settlements with several practices that resulted in
termination of our affiliation with these practices. We recorded a pre-tax gain
on these transactions of approximately $2.8 million for the year ended December
31, 1999.

Gain on sale

During 1998, we funded, through our wholly-owned subsidiary, Ambulatory
Services, Inc. ("ASI"), the purchase of a lease for, and improvements to, a
surgery center in Lutherville, Maryland. The surgery center was the only asset
of SCN of Maryland, LLC (the "LLC"), which was wholly owned by ASI. In March
1999, the LLC issued to ASI, a promissory note in the amount of $2,120,619 with
respect to advances made by ASI to cover development of the surgery center. This
promissory note bore interest at 8% and was payable in sixty monthly
installments beginning July 1, 1999. In March 1999, we sold 68% of our interest
in the LLC to certain physician owners of a practice affiliated with us for
$360,505. The sale resulted in a pre-tax gain of $221,258. In September 1999, we
sold our remaining interest in the LLC to the affiliated practice for $169,650.
In addition, we received $2,212,445, in full payment of the obligation,
including accrued interest, of the LLC to ASI and $502,633 to repay working
capital advances made by ASI to the LLC. This sale resulted in a pre-tax gain of
$127,974. We used approximately $1.6 million of the proceeds from this sale to
reduce the amount outstanding under our credit facility.


                                       29
<PAGE>   30


Income taxes

For the year ended December 31, 1999, our effective income tax benefit rate was
(158%). The effective income tax rate for the year ended December 31, 1999 is
less than the expected federal tax rate principally due to reductions in the
valuation allowance for deferred tax assets recorded resulting from our
restructuring and other transactions. The reduction in the valuation allowance
for the year ended December 31, 1999 was partially offset by our inability to
record a future income tax benefit for our deferred tax assets due to the
uncertainty regarding our ability to produce sufficient taxable income in future
periods necessary to realize such benefits.

LIQUIDITY AND CAPITAL RESOURCES

For the year ended December 31, 2000, we incurred a loss from operations of
approximately $7.5 million and sustained negative cash flows from operations of
approximately $2.4 million due primarily to the development and expansion of our
healthcare ratings business. As described more fully in Note 1 to our
Consolidated Financial Statements, during the latter part of 1999 and in 2000,
we transitioned our core line of business from physician practice management to
healthcare ratings services. In connection with this transition, revenues from
our physician practice management services have been substantially reduced,
while we are incurring significant costs to develop and expand our healthcare
ratings services by, among other things, adding staff to sell our healthcare
ratings services and increasing our information technology personnel to develop
and maintain our healthgrades.com website. Management intends to address these
issues through the generation of increased revenues as we continue to expand our
healthcare ratings services business, the implementation of certain general and
administrative cost reductions and potential equity and/or debt financing. As of
April 16, 2001, we have repaid our note payable with our bank syndicate and
obtained an equity financing commitment of up to $2.0 million, as more fully
described in Note 21 to our Consolidated Financial Statements. Management
believes that the equity financing commitment, in conjunction with its
operational plans will be sufficient to allow us to sustain our operations
through December 31, 2001.

Effective September 1999, we entered into an amendment to our credit facility,
which converted the credit facility to a term loan. The term loan provided for
monthly principal and interest payments through November 2000, with interest
payable at a floating rate based on the lead bank's prime lending rate plus
 .75%. At December 31, 1999, the effective interest rate was 9.25%. The term loan
did not contain any financial covenants other than timely principal and interest
payments. The term loan was secured by substantially all of our assets.

Effective March 2000, we entered into amendment to the term loan. The amendment
extended the final payment on the loan to November 2001. The revised term loan
provided for monthly principal and interest payments through November 2001, with
interest payable at a floating rate based on the lead bank's prime lending rate
plus .75%. At December 31, 2000, the effective interest rate was 10.25%. The
monthly principal payments under the term loan are $50,000 per month beginning
April 2000, with the final payment for any remaining balance on the loan due
November 2001. On March 28, 2001, we repaid the balance of the term loan of
approximately $1.0 million with the proceeds from the settlement of litigation
with a former affiliated practice. (See Note 21 to our Consolidated Financial
Statements for further discussion of this settlement.)

At December 31, 2000, we had working capital of approximately $4.3 million, an
increase of $2.9 million from working capital of $1.4 million as of December 31,
1999. The increase in working capital is primarily a result of the Equity
Financing described above.

For the year ended December 31, 2000, cash flow used in operations was
approximately $2.4 million compared to cash flow used in operations of
approximately $738,000 for the same period of 1999.



ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

None

Item 8. Financial Statements and Supplementary Data

See pages F-1 through F-22 and page S-1 of this document.


                                       30
<PAGE>   31


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

Not applicable.




                                    PART III

Item 10. Directors and Executive Officers of the Registrant

This information (other than the information relating to executive officers
included in Part I) will be included in the Company's Proxy Statement relating
to its Annual Meeting of Stockholders, or in an amendment to this Form 10-K,
which will be filed within 120 days after the close of the Company's fiscal year
covered by this report, and is hereby incorporated by reference to such Proxy
Statement or amendment.

Item 11. Executive Compensation

This information will be included in the Company's Proxy Statement relating to
its Annual Meeting of Stockholders, or an amendment to this Form 10-K, which
will be filed within 120 days after the close of the Company's fiscal year
covered by this report, and is hereby incorporated by reference to such Proxy
Statement or amendment.

Item 12. Security Ownership of Certain Beneficial Owners and Management

This information will be included in the Company's Proxy Statement relating to
its Annual Meeting of Stockholders, or in an amendment to this Form 10-K, which
will be filed within 120 days after the close of the Company's fiscal year
covered by this report, and is hereby incorporated by reference to such Proxy
Statement or amendment.

Item 13. Certain Relationships and Related Transactions

This information will be included in the Company's Proxy Statement relating to
its Annual Meeting of Stockholders, or in an amendment to this Form 10-K, which
will be filed within 120 days after the close of the Company's fiscal year
covered by this report, and is hereby incorporated by reference to such Proxy
Statement or amendment.

                                     PART IV

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

    (a) 1. Financial Statements.

    The financial statements listed in the accompanying Index to Financial
    Statements and Financial Statement Schedule at page S-1 are filed as part of
    this Form 10-K.

    2. Financial Statement Schedules.

The following financial statement schedule is filed as part of this Form 10-K:

Schedule II - Valuation and Qualifying Accounts.

All other schedules have been omitted because they are not applicable, or not
required, or the information is shown in the Financial Statements or notes
thereto.

3. Exhibits.


                                       31
<PAGE>   32


The following is a list of exhibits filed as part of this annual report on Form
10-K. Where so indicated by footnote, exhibits which were previously filed are
incorporated by reference.

<TABLE>
<CAPTION>
                 EXHIBIT
                 NUMBER                        DESCRIPTION
<S>                        <C>
                  3.1      Certificate of Amendment of Amended and Restated
                           Certificate of Incorporation and Amended and Restated
                           Certificate of Incorporation

                  3.2      Amended and Restated Bylaws

                  10.1     1996 Equity Compensation Plan, as amended
                           (incorporated by reference to Exhibit 10.1 to the
                           Company's Quarterly Report on Form 10-Q for the
                           quarter ended March 31, 2000.)

                  10.2     Second Amended and Restated Revolving Loan and
                           Security Agreement dated as of November 21, 1997
                           among Specialty Care Network, Inc., SCN of Princeton,
                           Inc., NationsBank of Tennessee N.A., AmSouth Bank,
                           Banque Paribas, Key Corporate Capital Inc. and
                           NationsBank of Tennessee, N.A., as Agent
                           (incorporated by reference to Exhibit 10.2 to the
                           Company's Annual Report on Form 10-K for the fiscal
                           year ended December 31, 1997)

                  10.3     Amendment No. 3 to the Second Amended and Restated
                           Revolving Loan and Security Agreement dated as of
                           November 21, 1997 among Specialty Care Network, Inc.,
                           SCN of Princeton, Inc., NationsBank of Tennessee
                           N.A., AmSouth Bank, Banque Paribas, Key Corporate
                           Capital Inc. and NationsBank of Tennessee, N.A., as
                           Agent (incorporated by reference to Exhibit 10.3 to
                           the Company's Annual Report on Form 10-K for the
                           fiscal year ended December 31, 1999)

                  10.4     Amendment No. 4 to the Second Amended and Restated
                           Revolving Loan and Security Agreement dated as of
                           November 21, 1997 among Specialty Care Network, Inc,
                           SCN of Princeton, Inc., NationsBank of Tennessee
                           N.A., AmSouth Bank, Banque Paribas, Key Corporate
                           Capital Inc. and NationsBank of Tennessee, N.A., as
                           Agent (incorporated by reference to Exhibit 10.4 to
                           the Company's Annual Report on Form 10-K for the
                           fiscal year ended December 31, 1999)

                  10.5     Employment Agreement dated as of April 1, 1996 by and
                           between Specialty Care Network, Inc. and Kerry R.
                           Hicks (incorporated by reference to Exhibit 10.3 to
                           the Company's Registration Statement on Form S-1
                           (File No. 333-17627))

                  10.6     Employment Agreement dated as of April 1, 1996 by and
                           between Specialty Care Network, Inc. and Patrick M.
                           Jaeckle (incorporated by reference to Exhibit 10.4 to
                           the Company's Registration Statement on Form S-1
                           (File No. 333-17627))

                  10.7     Employment Agreement dated as of February 22, 1996 by
                           and between Specialty Care Network, Inc. and Paul
                           Davis (incorporated by reference to Exhibit 10.6 to
                           the Company's Registration Statement on Form S-1
                           (File No. 333-17627)).

                  10.7.1   Amendment to Employment Agreement between Specialty
                           Care Network, Inc. and D. Paul Davis dated December
                           5, 1997. (incorporated by reference to Exhibit 10.6.1
                           to the Company's Annual Report on Form 10-K for the
                           fiscal year ended December 31, 1997)

                  10.8     Employment Agreement dated as of March 1, 1996 by and
                           between Specialty Care Network, Inc. and David Hicks
                           (incorporated by reference to Exhibit 10.8 of the
                           Company's Registration Statement on Form S-1 (File
                           No. 333-17627))

                  10.9     Amendment to Employment Agreement between Specialty
                           Care Network, Inc. and David Hicks, dated December 2,
                           1997. (incorporated by reference to Exhibit 10.8.1 to
                           the Company's Annual Report on Form 10-K for the
                           fiscal year ended December 31, 1997)

                  10.10    Amended and restated stock purchase agreement dated
                           as of March 3, 2000 among Healthgrades.com, Inc. and
                           Essex Woodlands Health Ventures Fund IV, L.P.,
                           Chancellor V, L.P., Paine Webber as custodian for
                           William J. Punk, I.R.A. and Punk Ziegel & Company
                           Investors, L.L.C. (incorporated by reference to
                           Exhibit 10.2 to the Company's Quarterly Report on
                           Form 10-Q for the quarter ended March 31, 2000)

                  21       Subsidiaries of the registrant.

                  23       Consent of Ernst & Young LLP.
</TABLE>


                                       32
<PAGE>   33

(b) Reports on Form 8-K

The Company did not file any reports on Form 8-K for the quarter ended December
31, 2000.


                                       33
<PAGE>   34


                                   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.

                               HEALTH GRADES, INC.

Date: April 16, 2001                                /s/ Kerry R. Hicks
                                                   -----------------------------
                                                   Kerry R. Hicks
                                                   Chief Executive Officer

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

<TABLE>
<CAPTION>
           NAME                               TITLE                       DATE
---------------------------    ----------------------------------    --------------
<S>                            <C>                                   <C>
/s/ Kerry R. Hicks             Chief Executive Officer               April 16, 2001
-----------------------        (Principal Executive Officer)
Kerry R. Hicks


/s/ D. Paul Davis              Executive Vice President - Finance    April 16, 2001
-----------------------        (Principal Financial Officer) and
D. Paul Davis                  Treasurer


                               Director
-----------------------
Patrick M. Jaeckle


/s/ Peter H. Cheesbrough       Director                              April 16, 2001
-----------------------
Peter H. Cheesbrough


/s/ Leslie S. Matthews, M.D.   Director                              April 16, 2001
-----------------------
Leslie S. Matthews, M.D.


/s/ Mats Wahlstrom             Director                              April 16, 2001
-----------------------
Mats Wahlstrom


/s/ Marc S. Sandroff           Director                              April 16, 2001
-----------------------
Marc S. Sandroff


/s/ Parag Saxena               Director                              April 16, 2001
-----------------------
Parag Saxena


/s/ John Quattrone             Director                              April 16, 2001
-----------------------
John Quattrone


/s/ Allen Dodge                Vice President - Finance/Controller
-----------------------        (Principal Accounting Officer)        April 16, 2001
Allen Dodge
</TABLE>


                                       34
<PAGE>   35


                          INDEX TO FINANCIAL STATEMENTS

<TABLE>
<S>                                                                     <C>
HEALTH GRADES, INC. AND SUBSIDIARIES:
    Report of Independent Auditors....................................     F-1
    Consolidated Balance Sheets.......................................     F-2
    Consolidated Statements of Operations.............................     F-3
    Consolidated Statements of Stockholders' Equity (Deficit).........     F-4
    Consolidated Statements of Cash Flows.............................     F-5
    Notes to Consolidated Financial Statements........................     F-7
</TABLE>


                                       35
<PAGE>   36


                         Report of Independent Auditors

Board of Directors and Stockholders of Health Grades, Inc.

We have audited the accompanying consolidated balance sheets of Health Grades,
Inc. and subsidiaries (collectively the "Company") as of December 31, 2000 and
1999, and the related consolidated statements of operations, stockholders'
equity (deficit), and cash flows for each of the three years in the period ended
December 31, 2000. Our audits also included the financial statement schedule
listed in the Index at Item 14(a). These financial statements and schedule are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements and schedule based on our audits.

We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. 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 consolidated financial position of Health Grades,
Inc. and subsidiaries at December 31, 2000 and 1999, and the consolidated
results of their operations and their cash flows for each of the three years in
the period ended December 31, 2000, in conformity with accounting principles
generally accepted in the United States. Also, in our opinion, the related
financial statement schedule, when considered in relation to the basic
consolidated financial statements taken as a whole, presents fairly in all
material respects the information set forth therein.



                                            /s/ ERNST & YOUNG LLP
                                            ------------------------------------
                                               Ernst & Young LLP

Denver, Colorado
March 9, 2001,
Except for Notes 2 and 21, as to which the
Date is April 16, 2001


                                      F-1
<PAGE>   37



                      Health Grades, Inc. and Subsidiaries

                           Consolidated Balance Sheets

<TABLE>
<CAPTION>
                                                                               DECEMBER 31
                                                                           2000           1999
                                                                       ------------   ------------
<S>                                                                    <C>            <C>
ASSETS
Cash and cash equivalents                                              $  4,797,868   $    316,767
Restricted cash                                                                  --      1,178,848
Accounts receivable, net                                                    827,694      2,744,912
Due from affiliated practices in litigation, net                          1,944,919      2,745,413
Prepaid expenses, inventories and other                                     206,417        205,665
Current portion notes receivable                                            635,186      3,531,099
Prepaid and recoverable income taxes                                             --      1,838,589
                                                                       ------------   ------------
Total current assets                                                      8,412,084     12,561,293

Property and equipment, net                                                 860,953      1,656,613
Goodwill, net of accumulated amortization of
     $816,609 and $-- in 2000 and 1999, respectively
                                                                          5,033,391      4,000,000
Notes receivable, less current portion                                           --      1,661,485
Other assets                                                                 64,746        513,477
                                                                       ------------   ------------
Total assets                                                           $ 14,371,174   $ 20,392,868
                                                                       ============   ============
</TABLE>


<TABLE>
<CAPTION>
                                                                                DECEMBER 31
                                                                           2000            1999
                                                                       ------------    ------------
<S>                                                                    <C>             <C>

LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Accounts payable                                                       $     69,591    $    520,767
Accrued payroll, incentive compensation and related
   expenses                                                                 599,463         278,474
Accrued expenses                                                            646,110       1,531,550
Notes payable                                                             1,559,213       7,352,005
Notes payable to officers                                                        --         350,000
Deferred income                                                           1,170,009       1,144,552
Income taxes payable                                                         75,000              --
                                                                       ------------    ------------
Total current liabilities                                                 4,119,386      11,177,348
Notes payable, less current portion                                              --       5,603,283
Notes payable to officers, less current portion                                  --       3,200,000
Deferred income                                                             188,021         646,847
                                                                       ------------    ------------
Total liabilities                                                         4,307,407      20,627,478

Commitments and contingencies

Stockholders' equity (deficit):
   Preferred stock, $0.001 par value, 2,000,000
     shares authorized, no shares issued or outstanding                          --              --
   Common stock, $0.001 par value, 50,000,000
     shares authorized, and
     28,817,400 and 18,738,686 shares issued and outstanding in
     2000 and 1999, respectively                                             28,817          18,739
   Additional paid-in capital                                            87,381,917      67,509,276
   Accumulated deficit                                                  (64,266,887)    (56,722,141)
   Treasury stock                                                       (13,080,080)    (11,040,484)
                                                                       ------------    ------------
Total stockholders' equity (deficit)                                     10,063,767        (234,610)
                                                                       ------------    ------------
Total liabilities and stockholders' equity (deficit)                   $ 14,371,174    $ 20,392,868
                                                                       ============    ============
</TABLE>


See accompanying notes to consolidated financial statements.

                                      F-2
<PAGE>   38



                      Health Grades, Inc. and Subsidiaries

                      Consolidated Statements of Operations

                            Years ended December 31,

<TABLE>
<CAPTION>
                                                              2000            1999            1998
                                                          ------------    ------------    ------------
<S>                                                       <C>             <C>             <C>
   Revenue:
     Ratings and advisory revenue                         $  1,578,979    $    407,577    $         --
     Physician practice service fees                         4,249,658      28,948,397      76,649,778
     Other                                                       9,051       2,229,774       2,531,524
                                                          ------------    ------------    ------------
                                                             5,837,688      31,585,748      79,181,302
                                                          ------------    ------------    ------------

   Costs and expenses:
     Ratings and advisory costs and expenses:
       Production, content and
        product development                                  2,085,402       1,217,917              --
       Sales and marketing                                   1,572,505       1,853,191              --

   Physician practice services costs and expenses:
     Clinic expenses                                                --      15,234,416      55,188,411
     Litigation and other costs                                812,084       5,309,168       3,564,392
     Impairment loss on service agreements                          --              --      94,582,227
     Impairment loss on intangible assets
       and other long-lived assets                                  --              --       3,316,651
     General and administrative                              8,723,434      10,570,223      14,468,537
                                                          ------------    ------------    ------------

                                                            13,193,425      34,184,915     171,120,218
                                                          ------------    ------------    ------------
   Loss from operations                                     (7,355,737)     (2,599,167)    (91,938,916)
   Other:
     (Loss) gain on sale of assets, practice
        disputes, and amendment and
        restatement of service agreements                     (699,010)      2,766,284              --
      Gain on sale of equity investment                             --         127,974       1,240,078
      Gain on sale of subsidiary                                    --         221,258              --
      Interest income                                          511,657         312,447         187,450
      Interest expense                                        (471,553)     (2,489,427)     (3,741,089)
                                                          ------------    ------------    ------------
   Loss before income taxes                                 (8,014,643)     (1,660,631)    (94,252,477)
   Income tax benefit                                          469,897       2,625,561      32,466,391
                                                          ------------    ------------    ------------
   Net (loss) income                                      $ (7,544,746)   $    964,930    $(61,786,086)
                                                          ============    ============    ============

Net (loss) income per common share (basic)                $      (0.39)   $       0.07    $      (3.39)
                                                          ============    ============    ============
Weighted average number of common shares
      used in computation (basic)                           19,535,841      14,202,748      18,237,827
                                                          ============    ============    ============

   Net (loss) income per common
      share (diluted)                                     $      (0.39)   $       0.07    $      (3.39)
                                                          ============    ============    ============

   Weighted average number of common
      shares and common share equivalents
      used in computation (diluted)                         19,535,841      14,817,732      18,237,827
                                                          ============    ============    ============
</TABLE>

See accompanying notes to consolidated financial statements.


                                      F-3
<PAGE>   39


                      Health Grades, Inc. and Subsidiaries

                    Consolidated Statements of Stockholders'
                          Equity (Deficit) Years ended
                        December 31, 2000, 1999 and 1998


<TABLE>
<CAPTION>
                                              COMMON STOCK                          (ACCUMULATED
                                             $0.001 PAR VALUE         ADDITIONAL      DEFICIT)
                                         ------------------------      PAID-IN        RETAINED        TREASURY
                                           SHARES        AMOUNT        CAPITAL        EARNINGS          STOCK           TOTAL
                                         -----------    ---------    ------------   ------------    -------------    ------------
<S>                                      <C>            <C>          <C>            <C>             <C>              <C>
Balances at January 1, 1998               17,703,293    $  17,703    $ 60,995,177   $  4,099,015    $          --    $ 65,111,895
Shares and other equity
  instruments issued in
  connection with the
  acquisitions of net assets of
  affiliated practices and
  Provider Partnerships, Inc.                879,480          880       5,561,101             --               --       5,561,981
Exercise of employee stock options            36,100           36         231,314             --               --         231,350
2,237,644 shares acquired as
  treasury stock                                  --           --              --             --       (3,963,673)     (3,963,673)
Tax benefit related to employee
  stock options                                   --           --          86,863             --               --          86,863
Non-cash compensation expense
  related to employee stock
  options                                         --           --         119,172             --               --         119,172
Net loss                                          --           --              --    (61,786,086)              --     (61,786,086)
                                         -----------    ---------    ------------   ------------    -------------    ------------
Balances at December 31, 1998             18,618,873       18,619      66,993,627    (57,687,071)      (3,963,673)      5,361,502
                                         -----------    ---------    ------------   ------------    -------------    ------------
Non-cash compensation expense
 related to employee stock options                --           --         448,374             --               --         448,374
Exercise of employee stock options           119,813          120          67,275             --               --          67,395
4,182,634 shares acquired as
 treasury stock                                   --           --              --             --       (7,076,811)     (7,076,811)
Net income                                        --           --              --        964,930               --         964,930
                                         -----------    ---------    ------------   ------------    -------------    ------------
Balance at December 31, 1999              18,738,686       18,739      67,509,276    (56,722,141)     (11,040,484)       (234,610)
                                         -----------    ---------    ------------   ------------    -------------    ------------
Non-cash compensation expense
 related to employee stock options                                         55,718                                          55,718
Exercise of employee stock options           113,714          113          62,688             --               --          62,801
888,779 shares acquired as
 treasury stock                                   --           --              --             --       (2,039,596)     (2,039,596)
Equity financing, net                      7,565,000        7,565      14,348,635             --               --      14,356,200
Cancellation of officer notes              1,600,000        1,600       3,198,400             --               --       3,200,000
Non-cash compensation expense
  related to officer note cancellation            --           --         347,200             --               --         347,200
Acquisition of minority interest             800,000          800       1,849,200             --               --       1,850,000
Retainer warrants - SmallCaps Online              --           --          10,800             --               --          10,800
Net loss                                          --           --              --     (7,544,746)              --      (7,544,746)
                                         -----------    ---------    ------------   ------------    -------------    ------------
Balance at December 31, 2000              28,817,400    $  28,817    $ 87,381,917   $(64,266,887)   $ (13,080,080)   $ 10,063,767
                                         ===========    =========    ============   ============    =============    ============
</TABLE>


See accompanying notes to consolidated financial statements.


                                      F-4
<PAGE>   40


                      Health Grades, Inc. and Subsidiaries

                      Consolidated Statements of Cash Flows

                            Years ended December 31,

<TABLE>
<CAPTION>
                                                                   2000            1999            1998
                                                               ------------    ------------    ------------
<S>                                                            <C>             <C>             <C>
OPERATING ACTIVITIES
Net (loss) income                                              $ (7,544,746)   $    964,930    $(61,786,086)
Adjustments to reconcile net income (loss) to net
   cash provided by (used in) operating activities:
     Non-cash compensation expense related to
       employee stock options                                        55,718         448,374         119,172
     Retainer warrants                                               10,800              --              --
     Depreciation expense                                           707,408       1,757,700       2,227,101
     Amortization expense                                           816,609       1,567,352       4,374,607
    Bad debt expense                                                324,607          33,570              --
    Gain on sale of equity investment                                    --        (127,973)     (1,240,078)
    Gain on sale of subsidiary                                           --        (221,258)             --
    Non-cash compensation expense related to officer
      note cancellation                                             347,200              --
    Loss on disposal of assets                                      699,748         181,251              --
    Gain on sale of assets, practice disputes,
      and amendment and restatement of
      service agreements                                                 --      (2,766,284)             --
    Impact of termination agreement                                      --      (1,073,777)             --
    Equity in loss of investee                                           --          23,852              --
     Impairment loss on service agreements, non-cash                     --              --      94,582,227
     Impairment loss on intangible assets and
       other long-lived assets, non-cash                                 --              --       3,316,651
     Litigation and other costs, non-cash                                --              --       3,431,734
     Deferred income tax benefit                                         --      (1,083,178)    (31,520,026)
     Changes in operating assets and liabilities, net
       of the effects of the non-cash acquisitions of
       net assets of affiliated physician practices and
       Provider Partnerships, Inc., sale of assets
       and execution of new service agreements
       and practice disputes:
         Accounts receivable, net                                 1,785,701        (259,264)     (9,092,730)
         Due from affiliated practices in litigation               (243,261)     (1,360,023)             --
         Prepaid expenses and other assets                          (16,019)        600,456      (1,265,926)
         Prepaid and recoverable income taxes                     1,913,589       2,419,513      (4,170,177)
         Accounts payable and accrued expenses                   (1,105,507)        962,440       1,420,027
         Accrued payroll, incentive compensation
           and related expenses                                     320,989      (1,270,994)        735,390
         Income taxes payable                                            --              --        (944,632)
         Deferred income                                           (433,369)      1,791,399              --
         Due to affiliated physician practices, net                      --      (3,326,014)        734,676
                                                               ------------    ------------    ------------
Net cash (used in) provided by operating activities              (2,360,533)       (737,928)        921,930

INVESTING ACTIVITIES
Purchases of property and equipment                                (418,642)     (1,140,438)     (9,141,785)
Proceeds from sale of medical equipment                             125,000       1,001,856              --
Increase in other assets                                              4,352              --              --
Proceeds from sale of majority interest in a subsidiary
  and equity investments, net of cash                                    --       3,208,397       1,075,000
Repayments of advances to affiliates and
   notes receivable                                                      --              --       1,022,621
Increases in  goodwill and intangible assets                             --      (4,000,000)       (116,048)
Repayments from (advances to) affiliates                                 --         131,233      (1,753,742)
Advances to investee                                                     --        (991,386)             --
Acquisitions of physician practices and Provider
   Partnerships, Inc., net of cash acquired                              --              --     (12,636,948)
                                                               ------------    ------------    ------------
Net cash used in investing activities                              (289,290)     (1,790,338)    (21,550,902)
</TABLE>


                                      F-5
<PAGE>   41


<TABLE>
<CAPTION>
                                                                           2000            1999            1998
                                                                       ------------    ------------    ------------
<S>                                                                    <C>             <C>             <C>
FINANCING ACTIVITIES
Proceeds from sale of assets, practice disputes                        $         --    $ 39,416,313    $         --
   and amendment and restatement of service agreements
Cash restricted for repayment of note payable                                    --      (1,178,848)             --
Proceeds from line-of-credit agreement                                           --              --      20,325,000
Proceeds from officer notes                                                      --       3,550,000              --
Net proceeds from equity financing                                       14,356,200              --              --
Issuance of notes receivable                                                (35,000)             --              --
Principal repayments on line-of-credit agreement                                 --              --        (400,000)
Principal repayments on note payable                                    (10,406,673)    (41,030,000)             --
Principal repayments on officer notes                                      (350,000)             --              --
Principal repayments on capital lease obligations                                --         (48,805)       (221,757)
Purchases of treasury stock                                                      --              --        (921,491)
Exercise of employee stock options                                           62,801          67,395         231,350
Principal payments from loans to physician
   stockholders                                                                  --         124,756          78,427
Repayments of notes receivable                                            3,503,596         556,569              --
Loans to physician stockholders                                                  --         (30,548)       (488,873)
                                                                       ------------    ------------    ------------
Net cash provided by financing activities                                 7,130,924       1,426,832      18,602,656
                                                                       ------------    ------------    ------------

Net increase (decrease) in cash and
   cash equivalents                                                       4,481,101      (1,101,434)     (2,026,316)
Cash and cash equivalents at beginning of period                            316,767       1,418,201       3,444,517
                                                                       ------------    ------------    ------------
Cash and cash equivalents at end of period                             $  4,797,868    $    316,767    $  1,418,201
                                                                       ============    ============    ============

SUPPLEMENTAL CASH FLOW INFORMATION
Interest paid                                                          $    559,700    $  2,393,289    $  3,509,592
                                                                       ============    ============    ============
Income taxes (received) paid                                           $ (2,383,485)   $ (3,961,898)   $  4,169,506
                                                                       ============    ============    ============

SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING
   AND FINANCING ACTIVITIES
   Effects of the acquisitions of net assets of
     affiliated physician practices:
       Assets acquired                                                                 $         --    $ 23,196,873
       Convertible note payable issued                                                           --      (6,044,054)
       Less: Cash paid for acquisitions                                                          --     (12,400,360)
                                                                                       ------------    ------------
                                                                                       $         --    $  4,458,417
                                                                                       ============    ============
   Realized loss on four affiliated practice restructurings in
     1998:
       Assets disposed of                                                              $         --    $ 29,909,279
       Liabilities transferred                                                                   --      (1,361,040)
       Convertible debentures payable forgiven                                                   --      (5,454,439)
       Treasury stock acquired                                                                   --      (2,656,199)
       Less: Receivable from affiliated practices                                                --      (7,953,068)
                                                                                       ------------    ------------
   Pretax impairment loss on four restructurings closed in 1998                        $         --    $ 12,484,533
                                                                                       ============    ============
Gain on sale of assets, practice disputes and amendment
  and restatement of service agreements
  Assets disposed of                                                                   $ 43,069,171
  Liabilities transferred                                                                (3,859,015)
  Treasury stock acquired                                                                (7,076,811)
  Less: Notes receivable                                                                 (3,436,384)
        Cash received                                                                   (31,463,245)
                                                                                       ------------
Gain on sale of assets, practice disputes and amendment
  and restatement of service agreements                                                $ (2,766,284)
                                                                                       ============

Sale of subsidiary
  Assets disposed of                                                                   $      9,619
  Liabilities assumed                                                                       343,832
  Note receivable                                                                          (172,200)
                                                                                       ------------
  Loss on sale of assets                                                               $    181,251
                                                                                       ============
</TABLE>


See accompanying notes to consolidated financial statements.



                                      F-6
<PAGE>   42


                      Health Grades, Inc. and Subsidiaries

                   Notes to Consolidated Financial Statements

                                December 31, 2000

1. DESCRIPTION OF BUSINESS

Health Grades, Inc. ("the Company") is a healthcare information services
company. The Company grades, or provides consumers with the means to assess and
compare the quality or qualifications of, various types of healthcare providers.

The Company also provides profile information for a variety of providers and
facilities. The Company makes this information available to consumers, employers
and health plans to assist them in selecting healthcare providers. For
consumers, this information is available free of charge on the Company's
website, www.healthgrades.com. For employers, the Company offers, for a fee,
customized information designed to encourage employees to utilize quality
providers to reduce medical benefit costs as well as indirect costs of lost
workdays and productivity. For health plans, the Company provides, for a fee,
customized information designed to assist them in selecting network providers
who can enhance the quality of care for their members.

The Company also offers services to healthcare providers. For providers who have
received high ratings, the Company offers the opportunity to license its ratings
and trademarks and provide assistance in their marketing programs. For providers
who have not received high ratings, the Company offers quality improvement
services designed to identify deficiencies and improve quality. The Company also
provides limited physician practice management services to musculoskeletal
practices under management services agreements that have terms expiring through
September 2002.

The Company also launched, in August 1999, ProviderWeb.net, a subscription-based
website that provides articles, tools and other resources to physician practice
administrators and managers. Revenues to date from ProviderWeb.net have not been
material, and although the Company continues to operate this business,
management has determined to make no further significant investment in
ProviderWeb.net. The Company is currently exploring strategic alternatives for
ProviderWeb.net.


During 1996, 1997 and 1998, the Company acquired substantially all of the assets
and certain liabilities of physician practices ("the Affiliated Practices")
through a combination of asset purchases and mergers. Concurrent with its
acquisitions, the Company simultaneously entered into long-term service
agreements with the Affiliated Practices. Under the terms of the service
agreements, the Company, among other things, provided facilities and management,
administrative and development services, including assistance in the
negotiations of contracts signed between the Affiliated Practices and third
party payors, in return for service fees. Such fees were payable monthly and
consisted of the following: (i) service fees based on a percentage ranging from
20%-50% of the adjusted pre-tax income of the Affiliated Practices (generally
defined as revenue of the Affiliated Practices related to professional services
less amounts equal to certain clinic expenses, but not including physician owner
compensation or most benefits to physician owners) plus (ii) reimbursement of
certain clinic expenses.

In 1998 and 1999, the Company restructured its arrangements with most of the
Affiliated Practices. Under the restructured arrangements, the Company
transferred, with respect to each practice, all of the accounts receivable
relating to the practice; tangible and intangible assets purchased or acquired
by the Company in respect of the practice, other than those disposed of in the
ordinary course of business since the date the Company affiliated with the
practice; all prepaid expenses relating to the practice; all inventory relating
to the practice; and all other assets relating to the practice. The amount
received by the Company from each practice and its physician owners for the
assets sold to the practice generally equaled the sum of (1) the book value of
the accounts receivable relating to the practice on the effective date of
closing; (2) the book value of all fixed assets and other capital assets
relating to the practice on the effective date of closing; (3) the book value of
all prepaid expenses relating to the practice on the effective date of closing;
(4) the book value of all notes and other receivables the physician owners of
the practice owed to the Company on the effective date of closing; and (5) the
cash balance of the practice's deposit account on the effective date of closing,
reduced by the book value of the liabilities and obligations relating to the
practice on the effective date of closing.

In addition, the Company and each of the practices and their physician owners
entered into a management services agreement to replace their existing service
agreement. As consideration for the Company's agreement to enter into the
management services


                                       F-7
<PAGE>   43


agreement, the practices and their physician owners paid to the Company an
additional amount of cash, or paid cash and returned to the Company shares of
its common stock.

Under the new management service agreements, the Company reduced the level of
services previously provided to the practices participating in the
restructuring. As a result, services provided to each practice under the new
agreements were as follows:

     o   Assessing the financial performance, organizational structure, wages
         and strategic plan of the practice;

     o   Advising with respect to current and future marketing and contracting
         plans with third party payors and managed care plans;

     o   Negotiating malpractice insurance coverage;

     o   Providing access to patient information databases;

     o   Analyzing annual performance on a comparative basis with other
         practices that have contracted with the Company; and

     o   Analyzing billing practices.

In addition, the terms of the management services arrangements were reduced,
generally from forty-year terms to five-year terms beginning from the initial
affiliation date of the affected practice.

During 1999 and 2000, the Company also entered into settlement agreements with
several Affiliated Practices, which terminated the service agreements with the
respective Affiliated Practices. As of March 9, 2001, the Company has six
management services arrangements remaining expiring at various times through
September 2002. Four of the practices are subject to monthly service fees, while
two paid a lump sum fee in connection with the closing of the restructuring
transaction, in lieu of the monthly fee obligation.

2. BASIS OF PRESENTATION

The accompanying financial statements have been prepared assuming the Company
will continue as a going concern. For the year ended December 31, 2000, the
Company incurred a loss from operations of approximately $7.5 million and
sustained negative cash flows from operations of approximately $2.4 million due
primarily to the development and expansion of its healthcare ratings business.
As described more fully in Note 1, during the latter part of 1999 and in 2000,
the Company transitioned its core line of business from physician practice
management to healthcare ratings services. In connection with this transition,
revenues from the Company's physician practice management services have been
substantially reduced, while the Company is incurring significant costs to
develop and expand its healthcare ratings services by, among other things,
adding staff to sell the Company's healthcare ratings services and increasing
its information technology personnel to develop and maintain the Company's
healthgrades.com website. Management intends to address these issues through the
generation of increased revenues as the Company continues to expand its
healthcare ratings services business, the implementation of certain general and
administrative cost reductions and potential equity and/or debt financing. As of
April 16, 2001, the Company has repaid its note payable with its bank syndicate
and obtained an equity financing commitment of up to $2.0 million, as more fully
described in Note 21. Management believes that the equity financing commitment,
in conjunction with its operational plans will be sufficient to allow the
Company to sustain its operations through December 31, 2001.

3. IMPAIRMENT LOSSES, LITIGATION AND OTHER COSTS

Impairment Loss on Management Service Agreements

Based on the restructuring of our arrangements with many of the Company's
practices, as well as numerous other factors in the physician practice
management industry in general, during the fourth quarter of 1998, management of
the Company undertook an evaluation of the carrying amount of its management
service agreements pursuant to the provisions of Statement of Financial
Accounting Standards No. 121, Accounting for the Impairment of Long-Lived Assets
and for Long-Lived Assets to be Disposed of. As a result of this evaluation, the
Company recorded an impairment loss on its management service agreements of
approximately $94.6 million in December 1998. This impairment loss consisted of
approximately $12.5 million related to the management service agreements on four
transactions which closed effective December 31, 1998, approximately $53.6
million related to the management service agreements for practices which were
party to the restructuring transaction, approximately $9.0 million related to
the management service agreements for practices which were then involved in
litigation with the Company and approximately $19.5


                                      F-8
<PAGE>   44


million related to the management service agreements for practices that were
then maintaining their long-term agreements with the Company. (See Note 16 for
further discussion of legal proceedings involving two of the Company's former
affiliated practices).

Impairment loss on Intangible Assets And Other Long-Lived Assets

During 1998, the Company engaged in negotiations to resolve certain issues
raised by the former stockholders of Provider Partnerships, Inc. ("PPI"), a
corporation acquired by the Company in August 1998. PPI was a company engaged in
providing consulting services to hospitals, and it also provided certain assets
that were developed by the Company into one of its websites. Because of this
dispute, the Company recorded an impairment loss in December 1998 of
approximately $1.2 million on the intangible asset created upon the acquisition
of PPI.

Additionally, as a result of the restructuring transaction, management of the
Company performed a review of the carrying amount of its other long-lived
assets, which resulted in an impairment loss of approximately $2.1 million
during the fourth quarter of 1998.

4. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

PRINCIPLES OF CONSOLIDATION

The consolidated financial statements include the Company and its subsidiaries.
All significant intercompany balances 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 that
affect the amounts reported in the financial statements and footnotes. These
estimates are based on management's knowledge of current events and actions they
may undertake in the future, and actual results could differ from those
estimates.

REVENUE RECOGNITION AND ACCOUNTS RECEIVABLE

Physician practice service fees

Physician practice service fee revenue is recognized based upon the contractual
arrangements of the underlying service agreements between the Company and the
affiliated practices. For the year ended December 31, 2000, physician practice
management revenue includes non-recurring payments of $2.5 million, related to
the termination of management services agreements with three of the Company's
affiliated practices.


                                      F-9
<PAGE>   45


Ratings and advisory revenue

The Company derives revenue from annual fees from hospitals and other providers
in return for the Company serving banner advertisements and providing other
marketing services to the hospitals. Revenue related to these arrangements is
recognized straight-line over the term of the agreement.

In the fourth quarter of 2000, the Company changed its method of accounting for
promotional agreements. Under these agreements, companies that access Health
Grades' content through licensing agreements offset their cash obligations to
the Company by providing significant Health Grades branding on their websites or
by providing other services to the Company. Revenue recognized under such
arrangements is commonly referred to as barter revenue.

Previously, the Company recorded revenue under promotional agreements at the
fair value of the content licensing, in reliance upon Accounting Principles
Board Opinion No. 29, "Accounting for Nonmonetary Transactions" and disclosed,
in the Company's filings with the Securities and Exchange Commission, the amount
of such revenue included in its Statements of Operations. However, the Company
became aware that, recently, the consensus reached by the Emerging Issues Task
Force in EITF 99-17, "Accounting for Advertising Barter Transactions," is being
applied by the staff of the Securities and Exchange Commission to a broad range
of barter transactions. By its express terms, EITF 99-17 addresses transactions
in which companies exchange rights to place advertisements on each others'
websites and not transactions, such as the Company's promotional agreements,
involving the provision of content to websites. Management has determined to
apply EITF 99-17 to its barter transactions. As a result, the Company has
restated its year 2000 quarterly financial statements to reverse revenues and
the corresponding expenses relating to its promotional agreements.


PRODUCTION, CONTENT AND PRODUCT DEVELOPMENT COSTS

Beginning in 1999, the Company began incurring production, content and product
development costs related to the development and support of its healthgrades.com
and ProviderWeb.net websites. These costs (which consist primarily of salaries
and benefits, consulting fees and other costs related to software development,
application development and operations expense) are expensed as incurred.

Statement of Financial Accounting Standards ("SFAS") No. 86, "Accounting for the
Costs of Computer Software to be Sold, Leased, or Otherwise Marketed," requires
the capitalization of certain software development costs subsequent to the
establishment of technological feasibility. Based upon the Company's product
development process, technological feasibility is established upon the
completion of a working model. Costs incurred by the Company between completion
of a working model and the launch of its websites have not been significant.

ADVERTISING COSTS

Advertising costs are expensed as incurred.

RESTRICTED CASH

At December 31, 1999, the Company had $1,178,848 in cash received related to
settlements of practice disputes which was restricted for the paydown of its
indebtedness. In January 2000, the Company used this cash to pay down its note
payable with the bank syndicate.

FINANCIAL INSTRUMENTS

The carrying amounts of financial instruments as reported in the accompanying
balance sheets approximate their fair value primarily due to the short-term
and/or variable-rate nature of such financial instruments.

PROPERTY AND EQUIPMENT

Property and equipment are stated at cost. Costs of repairs and maintenance are
expensed as incurred. Depreciation is computed using the straight-line method
over the estimated useful lives of the underlying assets. Amortization of
capital lease assets and leasehold improvements are computed using the
straight-line method over the shorter of the lease term or the estimated useful
lives of the underlying assets. The estimated useful lives used are as follows:


                                      F-10
<PAGE>   46


<TABLE>
<S>                                         <C>
Computer equipment and software             3-5 years
Furniture and fixtures                      5-7 years
Leasehold improvements                      5 years
</TABLE>

GOODWILL

Goodwill, which is stated at cost, was acquired in connection with two
transactions. During 1999, the Company's purchase of a number of shares of its
majority-owned subsidiary, HG.com, Inc., which increased the Company's ownership
in HG.com, Inc. to 90%, resulted in $4 million in goodwill being recorded. In
connection with a merger transaction that took place during February 2000, the
Company recorded goodwill in the amount of $1,850,000 based on the fair value of
its common stock issued as of the transaction date. Goodwill is being amortized
over an estimated useful life of seven years. (See Note 8 for further discussion
of these transactions.)

Pursuant to the provisions of Statement of Financial Accounting Standards No.
121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed of, the carrying value of long-lived assets, including
goodwill, is reviewed quarterly to determine if any impairment indicators are
present.

STOCK-BASED COMPENSATION

The Company accounts for its stock-based compensation arrangements under the
provisions of Accounting Principles Board Opinion No. 25, Accounting for Stock
Issued to Employees ("APB No. 25"). In 1995, Financial Accounting Standards
Board Statement No. 123, Accounting for Stock-Based Compensation ("SFAS No.
123"), was issued, whereby companies may elect to account for stock-based
compensation using a fair value based method or continue measuring compensation
expense using the intrinsic value method prescribed in APB No. 25. SFAS No. 123
requires that companies electing to continue to use the intrinsic value method
make pro forma disclosure of net income and net income per share as if the fair
value based method of accounting had been applied. See Note 12 for the pro forma
disclosures required by SFAS No. 123.

WARRANTS OR RIGHTS OUTSTANDING

During June 2000, the Company issued to SmallCaps Online Group, LLC five-year
warrants to purchase 20,000 shares of Health Grades common stock at $2.00 per
share, in consideration for certain financial advisory services to be rendered
to the Company.

On August 23, 2000, the Company issued to GeoAccess, Inc. ("GeoAccess") rights
to acquire a total of 125,000 shares of Health Grades common stock in lieu of up
to two cash payments totaling $250,000 for certain services provided by
GeoAccess to the Company. The rights expired on February 23, 2001.


FUTURE ACCOUNTING PRONOUNCEMENTS

Accounting For Derivative Instruments And Hedging Activities

In June 1998, Statement of Financial Accounting Standards No. 133, Accounting
for Derivative Instruments and Hedging Activities ("SFAS No. 133") was issued.
SFAS No. 133 requires the recording of all derivative instruments as assets or
liabilities, measured at fair value. SFAS No. 133 is effective for fiscal years
beginning after June 15, 2000. Management has completed its review of SFAS No.
133 and does not expect there to be any material impact on its financial
position or results of operations from the implementation of this statement.

RECLASSIFICATIONS

Certain reclassifications have been made to the 1999 financial statements to
conform with the 2000 presentation.


                                      F-11
<PAGE>   47


5. ACCOUNTS RECEIVABLE AND MANAGEMENT FEE REVENUE

Accounts receivable consisted of the following:

<TABLE>
<CAPTION>
                                                               DECEMBER, 31
                                                             2000         1999
                                                          ----------   ----------
<S>                                                       <C>          <C>
Trade accounts receivable                                 $  634,197   $  227,454
Less allowance for doubtful accounts                          80,183           --
                                                          ----------   ----------
                                                             554,014      227,454

Management fees, including reimbursement of
  clinic expenses (net of an allowance of $231,895
  and $1,434,073 in 2000 and 1999, respectively)             273,680    2,517,458
                                                          ----------   ----------
                                                          $  827,694   $2,744,912
                                                          ==========   ==========
</TABLE>

Management fee revenue, exclusive of reimbursed clinic expenses, was
approximately $4.2 million, $11.6 million, and $21.5 million for the years ended
December 31, 2000, 1999 and 1998, respectively.

Due from Affiliated Practices in litigation represent amounts due from
Affiliated Practices with which the Company is currently involved in disputes.
See Note 15 for further discussion of legal proceedings involving the Company's
Affiliated Practices. Gross accounts receivable for these practices were
$1,944,919 and $3,584,445, as of December 31, 2000 and 1999, respectively, net
of an allowance for contractual adjustments and doubtful accounts of $0 and
$839,032, respectively. Gross accounts receivable include patient accounts
receivable purchased from the related Affiliated Practice, management fees and
reimbursement of clinic expenses.

6. PROPERTY AND EQUIPMENT

Property and equipment consist of the following:

<TABLE>
<CAPTION>
                                                          DECEMBER 31
                                                     2000            1999
                                                 ------------    ------------
<S>                                              <C>             <C>
Furniture and fixtures                           $    963,325    $  1,481,161
Computer equipment and software                     1,745,836       1,477,896
Leasehold improvements and other                       10,784          10,832
                                                 ------------    ------------
                                                    2,719,945       2,969,889
Accumulated depreciation and amortization          (1,858,992)     (1,313,276)
                                                 ------------    ------------
Net property and equipment                       $    860,953    $  1,656,613
                                                 ============    ============
</TABLE>


7. DEBT

Effective September 1999, the Company entered into an amendment to its credit
facility, which converted the credit facility to a term loan. The term loan
provided for monthly principal and interest payments through November 2000, with
interest payable at a floating rate based on the bank syndicate's prime lending
rate plus .75%. At December 31, 1999, the effective interest rate was 9.25%. The
term loan does not contain any financial covenants other than timely principal
and interest payments. The term loan is secured by substantially all of the
assets of the Company.

Effective March 2000, the Company entered into an amendment to its term loan.
The amendment extended the final payment on the loan to November 2001. The
revised term loan provides for monthly principal and interest payments through
November 2001, with interest payable at a floating rate based on the bank
syndicate's prime lending rate plus .75%. At December 31, 2000, the effective
interest rate was 10.25%. The monthly principal payments under the term loan are
$50,000 per month beginning April 2000, with the final payment for any remaining
balance on the loan due November 2001. The Company's two wholly-owned
subsidiaries, HealthcareRatings, Inc. and ProviderWeb.net, Inc. are guarantors
of the loan. The Company issued 165,000 shares of Company common stock to the
bank syndicate in connection with the amendment as a financing fee.

8.  ACQUISITION OF MINORITY INTERESTS AND OFFICER NOTES

In June 1999, the Company entered into an agreement with the former PPI
stockholders to resolve certain issues raised by the former stockholders of PPI
relating to the transaction in which the Company acquired PPI. At that time, the
Company formed HG.com, Inc. (formerly known as Healthgrades.com, Inc.,
hereafter, "HG.com") and transferred to HG.com one of the Company's websites
(formerly HealthCareReportCards.com, currently healthgrades.com) and other
related internet products. The remaining non-internet related assets of PPI were
transferred into the Company and PPI was subsequently liquidated. Additionally,
Venture5 LLC ("Venture 5"), whose members consist of the former PPI
stockholders, and an employee of the Company owned a minority interest in
HG.com. The Company owned the majority interest. In September 1999, the Company
entered into an agreement with Venture5 under which the Company agreed to
purchase a number of shares of HG.com, Inc. that would increase the Company's
ownership in HG.com, Inc.


                                      F-12
<PAGE>   48


to 90%. The agreement required that the Company pay Venture5 $4,000,000 by
November 1, 1999. In November 1999, the purchase date was extended until
December 31, 1999. On December 31, 1999, the Company paid $4,000,000 to Venture5
(the "Minority Interest Purchase") in full satisfaction of this obligation. The
Company financed the Minority Interest Purchase through the issuance of notes
payable to certain officers (the "Officers") of the Company totaling $3,550,000.

Effective February 3, 2000, the Company merged its majority-owned subsidiary,
HG.com, Inc. into a recently formed, wholly-owned subsidiary, HealthCare
Ratings, Inc. (the "Merger Transaction"). In order to effectuate the Merger
Transaction, the Company gave the remaining minority shareholders of HG.com
800,000 shares of the Company's common stock. In connection with the Merger
Transaction, the Company recorded goodwill in the amount of $1,850,000 based on
the fair value of the Company's common stock issued as of the transaction date.

On March 17, 2000, the Company closed on an equity financing transaction (the
"Equity Financing") which raised $18 million. Pursuant to the terms of the
Equity Financing, certain investors paid $14.8 million to the Company in return
for 7,400,000 shares of Company common stock and five-year warrants to purchase
2,590,000 shares of Company common stock at an exercise price of $4.00 per
share. Net proceeds of the Equity Financing, after payment of certain legal and
other financing fees, were approximately $14.4 million. In connection with the
Equity Financing, the Company also issued an aggregate of 165,000 shares to its
bank syndicate as a financing fee. The Company also issued a five year warrant
to purchase 150,000 shares of Company common stock to a company that served as a
financial advisor to the Company in connection with the Equity Financing, at an
exercise price of $3.45 per share. In connection with the Equity Financing, the
Officers exchanged $3.2 million in notes payable for an aggregate of 1.6 million
shares of Company common stock and five-year warrants to purchase 560,000 shares
of Company common stock at $4.00 per share. In accordance with the provisions of
EIFT 98-5, Accounting for Convertible Securities with Beneficial Conversion
Features or Contingently Adjustable Conversion Ratios, upon the exchange of the
notes payable, the Company recorded an expense of $347,200 based upon the
estimated fair market value of the warrants issued to the Officers. This expense
is included in general and administrative expenses in the Company's Consolidated
Statement of Operations.

9. SALE OF INTEREST IN AMBULATORY SURGERY CENTER

During 1998, the Company funded, through its wholly-owned subsidiary, Ambulatory
Services, Inc. ("ASI"), the purchase of a lease for, and improvements to, a
surgery center in Lutherville, Maryland. The surgery center was the only asset
of SCN of Maryland, LLC, (the "LLC"), which was owned by ASI. In March 1999, a
promissory note in the amount of $2,120,619 was issued to ASI by the LLC with
respect to advances made by ASI to cover development of the surgery center. This
promissory note bore interest at 8% and was payable in sixty monthly
installments beginning July 1, 1999. In March 1999, the Company sold 68% of its
interest in the LLC to certain physician owners of a practice affiliated with
the Company for $360,505. The sale resulted in a pre-tax gain of $221,258. In
September 1999, the Company sold its remaining interest in the LLC to the
affiliated practice for $169,650. This sale resulted in a pre-tax gain of
$127,974. The Company used approximately $1.6 million of the proceeds from this
sale to pay down its credit facility. In December 1999, ASI's remaining net
assets were transferred into the parent company, Healthgrades.com, and ASI was
liquidated. In addition, ASI received $2,212,445, in full payment of the
obligation (including accrued interest) of the LLC to ASI and $502,633 to repay
working capital advances made by ASI to the LLC.

10. SEGMENT DISCLOSURES

Management regularly evaluates the operating performance of the Company by
reviewing results on a product or service provided basis. The Company's
reportable segments are Physician Practice Services ("PPS") and Ratings and
Advisory Revenue. PPS derives its revenue primarily from management services
provided to physician practices. Ratings and Advisory Revenue ("RAR") is derived
primarily from marketing arrangements with hospitals and fees related to the
licensing of its content (including set-up fees). The Company's other segment
represents ambulatory surgery center services and health care consulting for the
year ended December 31, 1999. Both of the Company subsidiaries that generated
revenue for the "other" segment were liquidated during 1999.


The Company uses net (loss) income before income taxes for purposes of
performance measurement. The measurement basis for segment assets includes
intangible assets.


                                      F-13
<PAGE>   49
<TABLE>
<CAPTION>
                                               AS OF AND FOR THE YEAR ENDED
                                                        DECEMBER 31,
                                           2000            1999            1998
                                       ------------    ------------    ------------
<S>                                    <C>             <C>             <C>
PPS
Revenue from external
  customers                            $  4,249,658    $ 28,948,397    $ 76,649,778
Interest income                             148,464         220,621         187,450
Interest expense                            471,553       2,489,427       3,741,089
Segment net (loss) income
before income taxes                      (3,710,587)      5,029,937     (94,252,477)
Segment assets                           25,831,100      26,796,899      70,179,278
Segment asset expenditures                  210,680         794,258       9,141,785

RAR
Revenue from external
  customers                            $  1,578,979    $    407,577    $         --
Interest income                             363,193              --              --
Segment net loss before
income taxes                             (4,304,056)     (5,558,935)             --
Segment assets                            6,068,902       4,634,979              --
Segment asset expenditures                  207,962         346,180              --

OTHER
Revenue from external
  customers                                      --    $    132,831    $         --
Interest income                                  --          91,826              --
Equity in net loss of investee                   --         (23,852)             --
Segment net loss before income taxes             --      (1,023,633)             --
Segment assets                                   --              --              --
Segment asset expenditures                       --              --              --
</TABLE>

<TABLE>
<CAPTION>
                                            AS OF AND FOR THE YEAR ENDED
                                                    DECEMBER 31,
                                        2000            1999            1998
                                    ------------    ------------    ------------
<S>                                 <C>             <C>             <C>
REVENUE
Total for reportable segments       $  5,828,637    $ 29,488,805    $ 76,649,778
Other revenue                              9,051       2,096,943              --
                                    ------------    ------------    ------------
Total consolidated revenue          $  5,837,688    $ 31,585,748    $ 76,649,778
                                    ============    ============    ============

LOSS BEFORE INCOME TAXES
Total net loss before tax for
  reportable segments               $ (8,014,643)   $ (1,552,631)   $(94,252,477)
Adjustment                                    --        (108,000)             --
                                    ------------    ------------    ------------
Income (loss) before income
taxes                               $ (8,014,643)   $ (1,660,631)   $(94,252,477)
                                    ============    ============    ============

ASSETS
Total assets for reportable
segments                            $ 31,900,002    $ 31,431,878    $ 70,179,278
Elimination of advances to
subsidiaries                          (9,733,808)     (5,095,805)             --
Elimination of investment in
  subsidiaries                        (7,795,020)     (5,943,205)             --
                                    ------------    ------------    ------------
Consolidated total assets           $ 14,371,174    $ 20,392,868    $ 70,179,278
                                    ============    ============    ============
</TABLE>

    For each of the years presented, the Company's primary operations and assets
were within the United States.

11.  COMMON STOCK

The Company records treasury stock at cost with regard to monetary transactions.
With regard to non-monetary transactions, the common stock transferred to the
Company is record at estimated fair value.

As of December 31, 2000, the Company had the following common shares reserved
for future issuance:

<TABLE>
<S>                                                                   <C>
Awards under the 1996 Equity Compensation Plan                         6,533,583
Awards under the 1996 Incentive and Non-Qualified Stock Option Plan        3,500
                                                                      ----------
Total shares reserved for future issuance                              6,537,083
                                                                      ==========
</TABLE>

12.  STOCK OPTION PLANS

On March 22, 1996, the Company adopted the 1996 Incentive and Non-Qualified
Stock Option Plan (the "Plan") under which nontransferable options to purchase
up to 5,000,000 shares of common stock of the Company were available for award
to eligible directors, officers, advisors, consultants and key employees. On
January 10, 1997, the Board of Directors voted to terminate the Plan.

                                      F-14
<PAGE>   50


The exercise price for incentive stock options awarded during the year ended
December 31, 1996 was not less than the fair market value of each share at the
date of the grant, and the options granted thereunder had a term of ten years.
Options, which were generally contingent on continued employment with the
Company, could be exercised only in accordance with a vesting schedule
established by the Company's Board of Directors. Of the 553,500 shares
underlying options granted during the year ended December 31, 1996 at an
exercise price of $1.00 per share, 3,500 shares underlying the options remain
outstanding and exercisable at December 31, 2000. The other 550,000 shares
underlying options were forfeited or exercised during 1997.

On October 15, 1996, the Company's Board of Directors approved the 1996 Equity
Compensation Plan (the "Equity Plan"), which initially provided for the grant of
options to purchase up to 2,000,000 shares of the Company's common stock. The
total number of shares for issuance under the Equity Plan increased to 6,000,000
in 1998. On June 20, 2000 the total number of shares authorized for issuance
under by the Equity Plan increased to 7,000,000. Both incentive stock options
and non-qualified stock options may be issued under the provisions of the Equity
Plan. Employees of the Company and any subsidiaries, members of the Board of
Directors and certain advisors are eligible to participate in this plan, which
will terminate no later than October 14, 2006. The granting and vesting of
options under the Equity Plan are authorized by the Company's Board of Directors
or a committee of the Board of Directors.

Pro forma information regarding net income and earnings per share is required by
SFAS No. 123 and has been determined as if the Company had accounted for its
employee stock options under the fair value method of that accounting
pronouncement. The fair value for options awarded during the years ended
December 31, 2000, 1999 and 1998 were estimated at the date of grant using an
option pricing model with the following weighted-average assumptions: risk-free
interest rate over the life of the option of 5.0% to 6.0%; no dividend yield;
and expected two to eight year lives of the options. The estimated fair value
for these options was calculated using the minimum value method in 1996 and may
not be indicative of the future impact since this model does not take into
consideration volatility and the commencement of public trading in the Company's
common stock on February 7, 1997. The Black-Scholes model was utilized to
calculate the value of the options issued during 2000, 1999, and 1998. The
volatility factors utilized in 2000, 1999, and 1998 were, 1.46, 1.55, and 0.36,
respectively.

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

For purposes of pro forma disclosure, the estimated fair value of the options is
amortized to expense over the options' vesting period. Because compensation
expense associated with an award is recognized over the vesting period, the
impact on pro forma net (loss) income as disclosed below may not be
representative of compensation expense in future years.

The Company's pro forma information for the years ended December 31 is as
follows:

<TABLE>
<CAPTION>
                                         2000            1999             1998
                                     -------------    -----------    --------------
<S>                                  <C>              <C>            <C>
Pro forma net loss                   $  (8,384,271)   $  (404,224)   $  (64,073,357)
Pro forma net loss per common
   share (basic)                             (0.43)         (0.03)            (3.51)
Pro forma net loss per common
   share (diluted)                           (0.43)         (0.03)            (3.51)
</TABLE>

                                      F-15
<PAGE>   51
A summary of the Company's stock option activity and related information for the
years ended December 31 is as follows:

<TABLE>
<CAPTION>
                                                   2000                          1999                         1998
                                         --------------------------   --------------------------   --------------------------
                                                          WEIGHTED-                    WEIGHTED-                    WEIGHTED-
                                                          AVERAGE                      AVERAGE                      AVERAGE
                                                          EXERCISE                     EXERCISE                     EXERCISE
                                           OPTIONS         PRICE        OPTIONS         PRICE        OPTIONS         PRICE
                                         ------------    ----------   ------------    ----------   ------------    ----------
<S>                                      <C>             <C>          <C>             <C>          <C>             <C>
Outstanding at Beginning of Year            5,536,312    $     6.10      5,277,665    $     8.41      2,365,007    $     9.57
   Granted
     Exercise price equal to
       fair value of common stock           2,682,489          1.35      2,345,692          0.91      3,625,572          7.89
     Exercised                               (113,714)         0.55       (119,813)         0.56        (36,100)         6.41
     Forfeited                             (1,568,004)         5.86     (1,967,232)         6.43       (676,814)         9.82
                                         ------------    ----------   ------------    ----------   ------------    ----------

     Outstanding at end of year             6,537,083          4.31      5,536,312          6.10      5,277,665          8.40
                                         ============                 ============                 ============

Exercisable at end of year                  3,382,639          5.13      3,130,383          4.52        644,341          9.75
                                         ============                 ============                 ============
</TABLE>

<TABLE>
<CAPTION>
                                                    2000     1999     1998
                                                   ------   ------   ------
<S>                                                <C>      <C>      <C>
Weighted-Average Fair Value of Options:
     Exercise price equal to fair value of
       common stock                                $ 1.09   $  .72   $ 2.56
     Exercise price greater than fair value
       of common stock                                 --       --       --
</TABLE>


Exercise prices for options outstanding and the weighted-average remaining
contractual lives of those options at December 31, 2000 are as follows:

<TABLE>
<CAPTION>
                              OPTIONS OUTSTANDING                                 OPTIONS EXERCISABLE
   ----------------------------------------------------------------------     --------------------------
                                                WEIGHTED
                                                 AVERAGE        WEIGHTED-                       WEIGHTED
                                                REMAINING        AVERAGE                         AVERAGE
         RANGE OF              NUMBER          CONTRACTUAL      EXERCISE        NUMBER          EXERCISE
      EXERCISE PRICES        OUTSTANDING          LIFE            PRICE       EXERCISABLE        PRICE
   --------------------      -----------       -----------      ---------     -----------       --------
<S>                          <C>               <C>              <C>           <C>               <C>
         $ 0.50 - $0.99        2,884,794           8.90         $    0.62       1,731,463       $   0.56
           1.00 -  1.99          722,662           9.59              1.51          13,503           1.56
           2.00 -  4.99          299,500           8.98              3.36          46,669           4.10
           6.00 -  6.99          758,079           7.33              6.69          88,143           6.64
                   8.00          400,000           5.92              8.00         358,000           8.00
           9.00 -  9.99          831,460           7.34              9.86         560,106           9.85
          10.00 - 12.99          605,588           6.80             12.13         549,755          12.22
          13.00 - 13.25           35,000           6.87             13.25          35,000          13.25
   --------------------      -----------       -----------      ---------     -----------       --------
           0.50 - 13.25        6,537,083           8.21              4.31       3,382,639           5.13
   ====================                                                       ===========
</TABLE>

13.  LEASES

The Company is obligated under operating leases for its offices. Future minimum
payments under the operating leases with terms in excess of one year are
summarized as follows for the years ending December 31:

<TABLE>
<S>                           <C>
                  2001        $262,000
                  2002          43,667
                  2003              --
                  2004              --
                  2005              --
                              --------
                Totals        $305,667
                              ========
</TABLE>

Rent expense for the years ended December 31, 2000, 1999 and 1998 under all
operating leases was approximately $240,000, $2,100,000 and $7,800,000,
respectively. Approximately $1,900,000 and $7,600,000, respectively, of such
amounts were charged directly to the Affiliated Practices as clinic expenses for
the years ended December 31, 1999 and 1998, respectively.

14. INCOME TAXES

The Company is a corporation subject to federal and certain state and local
income taxes. The provision for income taxes is made pursuant to the liability
method as prescribed in Statement of Financial Accounting Standards No. 109,
Accounting for Income Taxes. The liability method requires recognition of
deferred income taxes based on temporary differences between the financial
reporting and income tax bases of assets and liabilities, using currently
enacted income tax rates and regulations.

Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
the Company's deferred tax assets and liabilities at December 31, 2000 and 1999
are as follows:

                                      F-16

<PAGE>   52


<TABLE>
<CAPTION>
                                              2000            1999
                                           -----------    -----------
<S>                                        <C>            <C>
Deferred tax assets:
  Deferred start-up expenditures           $   194,362    $   404,360
  Allowance for doubtful accounts              247,934        366,422
  Accrued liabilities                           90,890        283,775
  Web development costs                        121,157        166,449
  Financing fees                                    --         88,147
  Property and equipment, net                  154,714         24,948
  Net operating loss carryforwards           4,941,059      2,025,411
                                           -----------    -----------
                                             5,750,116      3,359,512
Valuation allowance for deferred
  tax assets                                (5,645,584)    (3,011,642)
                                           -----------    -----------
Gross deferred tax asset                       104,532        347,870
                                           -----------    -----------

Deferred tax liabilities:
  Deferred gain on installment sale             33,169        196,362
  Prepaid expenses                              71,363         75,899
  Net cash basis assets assumed in
    Physician practice affiliations                 --         59,324
  Management service agreements                     --         16,285
                                           -----------    -----------
Gross deferred tax liability                   104,532        347,870
                                           -----------    -----------
Net deferred tax liability                 $        --    $        --
                                           ===========    ===========
</TABLE>

The Company has established a $5,645,584 valuation allowance as of December 31,
2000. The valuation allowance results from uncertainty regarding the Company's
ability to produce sufficient taxable income in future periods necessary to
realize the benefits of the related deferred tax assets. During 2000, the
valuation allowance was increased by $2,633,942 principally due to the Company's
2000 operating loss.

The income tax (benefit) expense for the years ended December 31, 2000, 1999,
and 1998 is summarized as follows:

<TABLE>
<CAPTION>
                           2000            1999            1998
                       ------------    ------------    ------------
<S>                    <C>             <C>             <C>
Current:
  Federal              $   (472,897)   $ (1,662,165)   $ (1,071,968)
  State                       3,000         119,782         125,603
                       ------------    ------------    ------------
                           (469,897)     (1,542,383)       (946,365)
                       ------------    ------------    ------------
Deferred:
  Federal                        --        (839,331)    (24,424,176)
  State                          --        (243,847)     (7,095,850)
                       ------------    ------------    ------------
                                 --      (1,083,178)    (31,520,026)
                       ------------    ------------    ------------
Total                  $   (469,897)   $ (2,625,561)   $(32,466,391)
                       ============    ============    ============
</TABLE>

The income tax (benefit) expense differs from amounts currently payable because
certain revenues and expenses are reported in the statement of operations in
periods that differ from those in which they are subject to taxation. The
principal differences relate to business acquisition and start-up expenditures
that are capitalized for income tax purposes and expensed for financial
statement purposes, currently non-deductible book accruals and reserves and the
amortization of certain cash basis net assets included in taxable income in
periods subsequent to the date of affiliation with physician practices.

A reconciliation between the statutory federal income tax rate of 34% and the
Company's (5.9%), (158.1%) and (34.4%) effective tax rates for the years ended
December 31, 2000, 1999, and 1998, respectively, is as follows:

<TABLE>
<CAPTION>
                                                2000        1999        1998
                                              --------    --------    --------
<S>                                           <C>         <C>         <C>
Federal statutory income tax rate                (34.0)%     (34.0)%     (34.0)%
State income taxes, net of federal benefit        (5.6)       (4.9)       (5.8)
Non-deductible goodwill amortization,
 business acquisition and other costs              3.7         5.3          --
Miscellaneous                                     (2.9)        3.4        (0.4)
Deferred tax asset valuation allowance            32.9      (127.9)        5.8
                                              --------    --------    --------
Effective income tax rate                         (5.9)%    (158.1)%     (34.4)%
                                              ========    ========    ========
</TABLE>

The Company has approximately $12,000,000 in net operating loss carryforwards,
which expire in 2019 and 2020. Approximately $4,500,000 of the net operating
loss carryforwards relate to the Company's wholly-owned subsidiary, Healthcare
Ratings, Inc., and are subject to Separate Return Limitation Year ("SRLY")
limitations. The SRLY limitations permit an offset to consolidated taxable
income only to the extent of taxable income attributable to the member with the
SRLY loss.


                                      F-17
<PAGE>   53

15.  LEGAL PROCEEDINGS

Reconstructive Orthopaedic Associates

On October 27, 1999, Reconstructive Orthopaedic Associates II, P.C., ("ROA"),
filed a complaint against the Company in the U.S. District Court for the Eastern
District of Pennsylvania. The complaint asserts that, during negotiations
between ROA and the Company related to the restructure agreement by and between
ROA and the Company, the Company agreed that if the Company entered into a
similar restructuring agreement with any other affiliated practice on financial
terms more favorable to such affiliated practice than those extended to ROA
under its restructure agreement, the Company would modify and adjust the terms
of their restructure agreement to ensure that ROA received financial terms as
favorable as those extended to such other affiliated practice. The complaint
further alleges that one or more lawsuits or other adversary proceedings between
the Company and one or more other affiliated practices have been settled, in
fact or in principle, on financial terms materially more favorable to the other
affiliated practices than the terms extended to ROA under its restructure
agreement. ROA seeks compensatory, consequential and incidental damages in
excess of $75,000, punitive damages in excess of $1,000,000 and attorneys fees.
Additionally, ROA seeks a declaratory judgment that if any of the alleged
settlements were entered into between the Company and any other affiliated
practices on terms materially more favorable than those extended to ROA, the
Company would be required to modify and adjust the terms of their restructure
agreement to ensure that ROA received financial terms as favorable as those
extended to such other affiliated practices.

The discovery cut-off is set for April 3, 2001. The parties are in the process
of taking discovery depositions. The case is set to be placed in the trial pool
on June 25, 2001.

On November 8, 1999, the Company filed a complaint in the U.S. District Court
for the District of Colorado against ROA. The complaint asserts that ROA has
taken actions in direct contravention of our management service agreement with
ROA, including trying to terminate the agreement in a manner not allowed by the
contract, threatening to withhold payments due under the agreement, and filing
suit in another jurisdiction in violation of the agreement. The Company seeks a
declaration and adjudication of both parties' contractual rights and obligations
in order to terminate this dispute. The Company also seeks injunctive relief and
damages. Discovery has been completed. The case has been set for trial on
December 24, 2001.

The Company believes it has strong legal and factual defenses to ROA's claims.
The Company intends to vigorously defend against their lawsuit and aggressively
pursue its claims.

Orthopaedic Institute of Ohio

On November 1, 1999, the Company filed a complaint in the U.S. District Court
for the District of Colorado against the Orthopaedic Institute of Ohio, Inc.
("OIO"). The compliant asserts that, prior to the closing of the restructure
agreement between OIO and the Company, OIO, the physician owners and the
administrator of OIO diverted over $470,000 from the Company's bank account and
deposited such funds into a bank account held by OIO and the physician owners.
The compliant further asserts that OIO and the physician owners are continuing
to withhold from the Company amounts that remain due under the restructure
agreement of over $720,000. OIO subsequently filed a Motion for Stay of
Proceedings and a Motion to Dismiss. Essentially, OIO has argued that all claims
made by the Company are subject to the arbitration clause of the Restructure
Agreement by and between the Company and OIO. On March 27, 2000, the Court
entered an order staying the litigation and ordering the parties to resolve
their disputes through arbitration. All written submissions have been provided
to the arbitrator. Additional information may be requested by the arbitrator or
the arbitrator may decide the dispute based upon the current state of the
record. See footnote 21, Subsequent Events, for recent developments relating to
this complaint.


16.  COMMITMENTS AND CONTINGENCIES

The Company has entered into employment agreements that provide key executives
and employees with minimum base pay, annual incentive awards and other fringe
benefits. The Company expenses all costs related to the agreements in the period
that the services are rendered by the employee. In the event of death,
disability, termination with or without cause, voluntary employee termination,
and change in ownership of the Company, etc., the Company may be partially or
wholly relieved of its financial obligations to such individuals. However, under
certain circumstances, a change in control of the Company may provide
significant and immediate enhanced compensation to the employees possessing
employment contracts. At December 31, 2000, the Company was contractually
obligated to pay base pay compensation to certain officers of $362,167 through
December 31, 2001.


                                      F-18
<PAGE>   54
17.  EARNINGS PER SHARE

The following table sets forth the computation of basic and diluted earnings per
share for the years ended December 31, 2000, 1999 and 1998.

<TABLE>
<CAPTION>
                                                            2000            1999           1998
                                                        ------------    ------------   ------------
<S>                                                     <C>             <C>            <C>
Numerator for both basic and diluted earnings
  per share:
  Net income (loss)                                     $ (7,544,746)   $    964,930   $(61,786,086)
                                                        ============    ============   ============
Denominator:
  Denominator for basic net income (loss) per
     common share--weighted average shares                19,535,841      14,202,748     18,237,827
  Effect of dilutive securities:
     Employee stock options                                       --         614,984             --
                                                        ------------    ------------   ------------
  Denominator for diluted net income (loss) per
     common share--adjusted weighted average
     shares and assumed conversion                        19,535,841      14,817,732     18,237,827
                                                        ============    ============   ============

Net (loss) income per common share (basic)              $      (0.39)   $       0.07   $      (3.39)
                                                        ============    ============   ============
Net (loss) income per common share (diluted)            $      (0.39)   $       0.07   $      (3.39)
                                                        ============    ============   ============
</TABLE>

For additional disclosures regarding employee stock options, and warrants, see
Notes 8, and 12.

Options to purchase 3,608,804 shares of common stock were outstanding during
1999, but were not included in the computation of diluted earnings per share for
the years then ended because the options' exercise price was greater than the
average market price of the common shares and, therefore, the effect would be
antidilutive.

Options to purchase 6,537,083 and 5,261,165 shares of common stock were
outstanding during 2000 and 1998 respectively, but were not included in the
computation of diluted earnings per common share for 2000 and 1998 because the
effect would be antidilutive based on the Company's net loss for the year.

18.  EMPLOYEE BENEFIT PLAN

Effective May 1, 1997, the Company adopted a defined contribution employee
benefit plan covering substantially all employees of the Company, most
affiliated physicians and other employees of the affiliated practices.
Participants must have attained age 21 and completed one year of service with
either the Company or one of the Affiliated Practices in order to participate in
the plan. The plan is designed to qualify under Section 401(k) of the Internal
Revenue Code of 1986, as amended. The plan includes a matching contribution
equal to up to 4% of eligible employee salaries and a discretionary defined
contribution (5.5% in 1997). There was no discretionary contribution made for
the years ended December 31, 1998 and 1999. Although the Company's Board of
Directors has until the filing of the 2000 employee benefit plan financial
statements to determine whether or not a discretionary contribution will be
made, management currently anticipates that there will not be a discretionary
contribution made for the 2000 plan year.

Effective January 1, 1999, the matching contribution component of the employee
benefit plan was eliminated and replaced with a Qualified Non-Elective
Contribution equal to 3% of annual compensation. The employer contribution is
applicable to all eligible participants, regardless of whether or not the
participant contributes to the employee benefit plan. Additionally, effective
April 1, 1999, the age and service requirements of the employee benefit plan
were eliminated. On September 13, 2000, the Board of Directors of the Company
approved the termination of the Company's employee benefit plan. In addition,
the Company established a new retirement savings plan effective January 2001.
The new plan is a defined contribution plan covering substantially all employees
of the Company.

Expense under this plan, including the discretionary defined contributions,
aggregated approximately $108,000, $612,000 and $1,611,000 for 2000, 1999 and
1998, respectively, of which approximately $0, $540,000 and $1,445,000 was
charged directly to the Affiliated Practices as clinic expenses.


                                      F-19
<PAGE>   55
19. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)

The following is a summary of the quarterly results of operations for the years
ended December 31, 2000 and 1999.

<TABLE>
<CAPTION>
                                Previously                    Previously                    Previously
                                 Reported       Restated       Reported       Restated       Reported      Restated
                               ------------   ------------   ------------   ------------   ------------   ------------  -----------
2000                             March 31     March 31 (1)      June 30      June 30 (1)     Sept. 30     Sept. 30 (1)    Dec. 31
                               ------------   ------------   ------------   ------------   ------------   ------------  -----------
<S>                            <C>            <C>            <C>            <C>            <C>            <C>           <C>
Revenue:
   Ratings and advisory
     revenue                   $    433,283   $    310,533   $    829,284   $    376,534   $    909,558   $    428,156  $   463,756
   Physician practice
     service fees                 1,579,430      1,579,430      1,988,381      1,988,381        375,923        375,923      305,924
   Other                              2,719          2,719             --             --          1,128          1,128        5,204
                               ------------   ------------   ------------   ------------   ------------   ------------  -----------
                                  2,015,432      1,892,682      2,817,665      2,364,915      1,286,609        805,207      774,884
Costs and expenses:
   Ratings and advisory
     costs and expenses:
     Production, content and
       product development          618,827        618,827        586,765        586,765        466,593        466,593      413,217
     Sales and marketing            392,059        269,309        854,594        401,844        973,273        491,871      409,481
     Physician practice
       services costs and
       expenses:
     Litigation and other costs     369,223        369,223        202,612        202,612         85,271         85,271      154,978
     General and administrative   2,174,166      2,174,166      1,888,247      1,888,247      2,260,894      2,260,894    2,400,127
                                 ----------     ----------      ---------      ---------     ----------     ----------   ----------
        Total costs and expenses  3,554,275      3,431,525      3,532,218      3,079,468      3,786,031      3,304,629    3,377,803
 (Loss) income from operations   (1,538,843)    (1,538,843)      (714,553)      (714,553)    (2,499,422)    (2,499,422)  (2,602,919)
 Other:
    (Loss) gain on sale of
      assets, practice
      disputes and amendment
      and restatement of
      service agreements           (336,653)      (336,653)       141,874        141,874        (61,473)       (61,473)    (442,758)
    Interest income                  51,154         51,154        208,202        208,202        141,024        141,024      111,277
    Interest expense               (316,075)      (316,075)       (59,718)       (59,718)       (52,648)       (52,648)     (43,112)
                               ------------   ------------   ------------   ------------   ------------   ------------  -----------
(Loss) income before income
      taxes                      (2,140,417)    (2,140,417)      (424,195)      (424,195)    (2,472,519)    (2,472,519)  (2,977,512)
Income tax benefit (expense)             --             --             --             --             --             --      469,897
                               ------------   ------------   ------------   ------------   ------------   ------------  -----------
Net (loss) income                (2,140,417)    (2,140,417)      (424,195)      (424,195)    (2,472,519)    (2,472,519)  (2,507,615)
                               ============   ============   ============   ============   ============   ============  ===========
Net (loss) income per common
  share (basic)                $      (0.16)  $      (0.16)  $      (0.02)  $      (0.02)  $      (0.11)  $      (0.11) $     (0.12)
Weighted average number of
  common shares used in
  computation (basic)            13,504,008     13,504,008     21,522,105     21,522,105     21,536,065     21,536,065   21,538,769

Net (loss) income per common
  share (diluted)              $      (0.16)  $      (0.16)  $      (0.02)  $      (0.02)  $      (0.11)  $      (0.11) $     (0.12)

Weighted average number of
  common shares and
  common share equivalents
  used in computation
  (diluted)                      13,504,008     13,504,008     21,522,105     21,522,105     21,536,065     21,536,065    21,538,769
</TABLE>


                                      F-20
<PAGE>   56


<TABLE>
<CAPTION>
                                                    Previously
                                                     Reported            Restated
                                                   ------------        ------------
1999                                                March 31             March 31         June 30        Sept. 30         Dec. 31
                                                   -------------       ------------    ------------    ------------    ------------
<S>                                                <C>                 <C>             <C>             <C>             <C>
Revenue:
      Ratings and advisory revenue                  $    74,040         $    74,040     $    62,752     $   142,986     $   127,799
      Physician practice service fees                14,398,838          13,939,472       7,810,232       5,280,185       1,918,508
      Other                                                  --             459,366              --              --       1,770,408
                                                    -----------         -----------     -----------     -----------     -----------
                                                     14,472,878          14,472,878       7,872,984       5,423,171       3,816,715
Costs and expenses:
   Ratings and advisory costs and expenses:
      Production, content and product
           development                                   62,280              62,280         202,264         477,188         476,185
      Sales and marketing                                    --                  --         119,244         561,096       1,172,851
   Physician practice services costs and expenses:
      Clinic expenses                                 9,575,632           9,575,632       4,866,822         424,236         367,726
      Litigation and other costs                      1,107,700           1,107,700       2,255,560         906,035       1,039,873
   General and administrative                         3,491,697           3,491,697       2,511,287       2,433,118       2,134,121
                                                    -----------         -----------     -----------     -----------     -----------
      Total costs and expenses                       14,237,309          14,237,309       9,955,177       4,801,673       5,190,756
(Loss) income from operations                           235,569             235,569      (2,082,193)        621,498      (1,374,041)
Other:
      (Loss) gain on sale of assets,
         practice disputes
         and amendment and
         restatement of service
         agreements                                          --                  --       3,531,758         117,485        (882,959)
      Gain on sale of equity investment                      --                  --              --         127,974              --
      Gain on sale of subsidiary                        221,258             221,258              --              --              --
      Interest income                                    63,338              63,338          97,158          88,749          63,202
      Interest expense                               (1,007,243)         (1,007,243)       (879,743)       (318,566)       (283,875)
                                                    -----------         -----------     -----------     -----------     -----------
(Loss) income before income taxes                      (487,078)           (487,078)        666,980         637,140      (2,477,673)
Income tax benefit (expense)                            194,254             194,254       1,502,093        (920,786)      1,850,000
                                                    -----------         -----------     -----------     -----------     -----------
Net (loss) income                                      (292,824)           (292,824)      2,169,073        (283,646)       (627,673)
                                                    ===========         ===========     ===========     ===========     ===========
Net (loss) income per common share (basic)          $     (0.02)        $     (0.02)    $      0.14     $     (0.02)    $     (0.05)
Weighted average number of common
      shares used in computation (basic)             16,494,704          16,494,704      15,686,434      12,429,197      12,377,536

Net (loss) income per common share (diluted)        $     (0.02)        $     (0.02)    $      0.13     $     (0.02)    $     (0.05)

Weighted average number of common
      shares and common share equivalents
      used in computation (diluted)                  16,494,704          16,494,704      16,388,548      12,429,197      12,377,536
</TABLE>


(1) In the fourth quarter of 2000, the Company changed its method of accounting
for promotional agreements. Under these agreements, companies that access Health
Grades' content through licensing agreements offset their cash obligations to
the Company by providing significant Health Grades branding on their web sites
or by providing other services to the Company. Revenue recognized under such
arrangements is commonly referred to as barter revenue. The Company previously
recorded revenue under promotional agreements at the fair value of the content
licensing, in reliance upon Accounting Principles Board Opinion No. 29,
"Accounting for Nonmonetary Transactions" and disclosed, in the Company's press
releases and filings with the Securities and Exchange Commission, the amount of
such revenue included in the Company's Statements of Operations. However, the
consensus reached by the Emerging Issues Task Force in EITF 99-17, "Accounting
for Advertising Barter Transactions," is being applied by regulatory authority
and accounting professionals to a broad range of barter transactions. As a
result, Health Grades restated its year 2000 quarterly interim financial
statements to reverse revenues and the corresponding expenses relating to its
promotional agreements. No restatement of 1999 information was necessary as the
Company's 1999 results of operations did not include any revenue under
promotional agreements


20. SUPPLEMENTAL CASH FLOW INFORMATION

Supplemental noncash investing and financing activities for 2000 are as follows:

The Company used approximately $1.2 million classified as restricted cash in its
1999 consolidated balance sheet to pay down the Company's term loan in 2000.


                                      F-21
<PAGE>   57


In January 2000, the Company received 850,000 shares of its common stock under
the terms of a settlement agreement with one of its former affiliated practices.

In February 2000, the Company merged its majority-owned subsidiary, HG.com, Inc.
into a recently formed, wholly-owned subsidiary, HealthCare Ratings, Inc.
(the"Merger Transaction") In connection with the Merger Transaction, the
minority shareholders of HG.com were given 800,000 shares of Company common
stock.

In March 2000, certain of our officers exchanged $3.2 million in notes payable
for an aggregate of 1.6 million shares of Company common stock and five-year
warrants to purchase 560,000 shares of Company common stock at $4.00 per share.

21.  SUBSEQUENT EVENTS

Effective March 28, 2001, the Company entered into a settlement agreement with
the Orthopaedic Institute of Ohio ("OIO"). Under the terms of the agreement, the
Company received a cash payment of $1,750,000 in full satisfaction of certain
notes receivable and other assets with the practice, the termination of the
current service agreement with the practice and the settlement of a dispute of
amounts owed to the Company arising out of the restructure transaction with OIO.

As the amount received pursuant to the settlement agreement with OIO was less
than the carrying value of the notes receivable and other assets, the Company
recorded a write-down of approximately $350,000 in its Statement of Operations
for the year ended December 31, 2000, in the line item (Loss) gain on sale of
assets, practice disputes and amendment and restatement of service agreements.
In addition, the Company reclassified approximately $1.0 million from current
and long-term notes receivable and other assets to due from affiliated practices
in litigation, net of the write-down of $350,000.

Effective April 16, 2001, the Company reached an agreement with certain
investors regarding a commitment to provide equity financing to the Company of
up to $2.0 million. In consideration for the commitment, the Company will issue
warrants (the "Commitment Warrants") to purchase 500,000 shares of Company
common stock at an exercise price per share of $0.26, which was the closing
market price per share of the Company's common stock as reported by NASDAQ on
April 16, 2001. The Commitment Warrants will expire on April 16, 2007. In
addition, warrants issued to the investors in March 2000 to purchase 100,000
shares of Company common stock were amended such that the warrant exercise price
was reduced from $4.00 per share to $0.26 per share.

Under the terms of the agreement, the Company was granted the option, which may
be exercised solely at its discretion on or prior to December 31, 2001, to sell
Company common stock to the investors at an aggregate purchase price up to $2.0
million. If the Company exercises its option, the price per share will be equal
to the lesser of $0.26 and the closing market price per share of the Company's
common stock as reported by NASDAQ on the date notice is given by the Company to
the investors that it intends to exercise its option, but in no event less than
$0.15 per share.

If the Company exercises its option to sell Company common stock to the
investors, the Company will also issue additional warrants to the investors to
purchase a number of shares of Company common stock based upon the dollar
amount of common stock issued, up to a maximum of 350,000 shares. These warrants
will have a term of six years and an exercise price equal to the per share
price of common stock issued as described in the preceding paragraph.


                                      F-22
<PAGE>   58


                      Health Grades, Inc. and Subsidiaries

                Schedule II -- Valuation and Qualifying Accounts

<TABLE>
<CAPTION>
                                       BALANCE AT       CHARGED TO         CHARGED TO                            BALANCE AT
                                       BEGINNING        COSTS AND            OTHER                                 END OF
           DESCRIPTION                 OF PERIOD        EXPENSES            ACCOUNTS         DEDUCTIONS            PERIOD
-------------------------------      --------------  ---------------      ------------     --------------       -------------
<S>                                  <C>             <C>                  <C>              <C>                  <C>
Year ended December 31, 2000
     Allowance for contractual
       adjustments and doubtful
       accounts on receivables
       due from affiliated
       Physician practices in
       litigation                    $      839,032  $            --      $         --     $     (839,032)(6)   $          --

     Allowance for doubtful
       accounts on management fee
       receivables                   $    1,434,073  $        35,090      $         --     $     (357,876)(3)   $     231,895
                                                                                           $     (879,392)(6)

     Allowance for doubtful
       accounts on trade
       receivables                   $           --  $        80,183      $         --     $           --       $      80,183
Year ended December 31, 1999
Reserves and allowances deducted
  from asset accounts:
     Allowance for contractual
       adjustments and doubtful
       accounts on patient
       accounts receivable           $   22,161,082  $            --      $ 29,670,283(1)     (21,862,431)(6)   $          --
                                                                                              (29,968,934)(3)
     Allowance for contractual
       adjustments and doubtful
       accounts on receivables
       due from affiliated
       Physician practices in
       litigation                    $    7,397,144  $     2,407,848      $         --     $   (6,706,068)(6)   $     839,032
                                                          (1,719,532)(4)            --           (540,360)(9)

     Allowance for doubtful
       accounts on management
       fee receivables               $           --  $     1,040,428      $    540,360(9)  $     (146,715)(6)   $   1,434,073

Year ended December 31, 1998
Reserves and allowances deducted
  from asset accounts:
     Allowance for contractual
       adjustments and doubtful
       accounts on patient
       accounts receivable           $   26,225,860  $     1,210,126 (8)   125,086,140(1)     (12,454,506)(6)   $  22,161,082
                                                            (592,659)(4)     6,816,751(2)    (119,406,005)(3)
                                                                                               (4,724,624)(7)
     Allowance for contractual
       adjustments and doubtful
       accounts on receivables
       due from affiliated
       physician practices
       in litigation                 $           --  $     2,672,520 (5)  $  4,724,624(7)  $           --       $   7,397,144
</TABLE>

(1) Contractual adjustments recognized in the purchase of monthly net accounts
    receivable balances for the periods presented.

(2) Acquired in conjunction with acquisition of affiliated practices.

(3) Represents actual amounts charged against the allowance for the periods
    presented.

(4) Recoveries of amounts previously reserved, included in other revenue in the
    consolidated financial statements.

(5) Charged to litigation and other costs in the consolidated statements of
    operations.

(6) Sold in conjunction with disposition of restructured affiliated practices.


                                      S-1
<PAGE>   59


(7) Transferred from allowance for contractual adjustments and doubtful accounts
    for patient accounts receivable to allowance for contractual adjustments and
    doubtful accounts due from affiliated practices in litigation.

(8) Charged to impairment loss on service agreements in the consolidated
    statements of operations.

(9) Transferred from allowance for contractual adjustments and doubtful accounts
    due from affiliated practices in litigation to allowance for doubtful
    accounts on management service fee receivables.



                                      S-2
<PAGE>   60


                                INDEX TO EXHIBIT

<TABLE>
<CAPTION>
       EXHIBIT
       NUMBER                          DESCRIPTION
       --------                        -----------
<S>               <C>
         3.1      Certificate of Amendment of Amended and Restated Certificate
                  of Incorporation and Amended and Restated Certificate of
                  Incorporation

         3.2      Amended and Restated Bylaws

         10.1     1996 Equity Compensation Plan, as amended (incorporated by
                  reference to Exhibit 10.1 to the Company's Quarterly Report on
                  Form 10-Q for the quarter ended March 31, 2000.)

         10.2     Second Amended and Restated Revolving Loan and Security
                  Agreement dated as of November 21, 1997 among Specialty Care
                  Network, Inc., SCN of Princeton, Inc., NationsBank of
                  Tennessee N.A., AmSouth Bank, Banque Paribas, Key Corporate
                  Capital Inc. and NationsBank of Tennessee, N.A., as Agent
                  (incorporated by reference to Exhibit 10.2 to the Company's
                  Annual Report on Form 10-K for the fiscal year ended December
                  31, 1997)

         10.3     Amendment No. 3 to the Second Amended and Restated Revolving
                  Loan and Security Agreement dated as of November 21, 1997
                  among Specialty Care Network, Inc., SCN of Princeton, Inc.,
                  NationsBank of Tennessee N.A., AmSouth Bank, Banque Paribas,
                  Key Corporate Capital Inc. and NationsBank of Tennessee, N.A.,
                  as Agent (incorporated by reference to Exhibit 10.3 to the
                  Company's Annual Report on Form 10-K for the fiscal year ended
                  December 31, 1999)

         10.4     Amendment No. 4 to the Second Amended and Restated Revolving
                  Loan and Security Agreement dated as of November 21, 1997
                  among Specialty Care Network, Inc, SCN of Princeton, Inc.,
                  NationsBank of Tennessee N.A., AmSouth Bank, Banque Paribas,
                  Key Corporate Capital Inc. and NationsBank of Tennessee, N.A.,
                  as Agent (incorporated by reference to Exhibit 10.4 to the
                  Company's Annual Report on Form 10-K for the fiscal year ended
                  December 31, 1999)

         10.5     Employment Agreement dated as of April 1, 1996 by and between
                  Specialty Care Network, Inc. and Kerry R. Hicks (incorporated
                  by reference to Exhibit 10.3 to the Company's Registration
                  Statement on Form S-1 (File No. 333-17627))

         10.6     Employment Agreement dated as of April 1, 1996 by and between
                  Specialty Care Network, Inc. and Patrick M. Jaeckle
                  (incorporated by reference to Exhibit 10.4 to the Company's
                  Registration Statement on Form S-1 (File No. 333-17627))

         10.7     Employment Agreement dated as of February 22, 1996 by and
                  between Specialty Care Network, Inc. and Paul Davis
                  (incorporated by reference to Exhibit 10.6 to the Company's
                  Registration Statement on Form S-1 (File No. 333-17627)).

         10.7.1   Amendment to Employment Agreement between Specialty Care
                  Network, Inc. and D. Paul Davis dated December 5, 1997.
                  (incorporated by reference to Exhibit 10.6.1 to the Company's
                  Annual Report on Form 10-K for the fiscal year ended December
                  31, 1997)

         10.8     Employment Agreement dated as of March 1, 1996 by and between
                  Specialty Care Network, Inc. and David Hicks (incorporated by
                  reference to Exhibit 10.8 of the Company's Registration
                  Statement on Form S-1 (File No. 333-17627))

         10.9     Amendment to Employment Agreement between Specialty Care
                  Network, Inc. and David Hicks, dated December 2, 1997.
                  (incorporated by reference to Exhibit 10.8.1 to the Company's
                  Annual Report on Form 10-K for the fiscal year ended December
                  31, 1997)

         10.10    Amended and restated stock purchase agreement dated as of
                  March 3, 2000 among Healthgrades.com, Inc. and Essex Woodlands
                  Health Ventures Fund IV, L.P., Chancellor V, L.P., Paine
                  Webber as custodian for William J. Punk, I.R.A. and Punk
                  Ziegel & Company Investors, L.L.C. (incorporated by reference
                  to Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q
                  for the quarter ended March 31, 2000)
</TABLE>


<PAGE>   61


<TABLE>
<CAPTION>
       EXHIBIT
       NUMBER                          DESCRIPTION
       --------                        -----------
<S>               <C>

         21       Subsidiaries of the registrant.

         23       Consent of Ernst & Young LLP.
</TABLE>