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

                                   FORM 10-K

                                    MARK ONE
(X)ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
                                    OF 1934
                                 (FEE REQUIRED)

                  For the fiscal year ended December 31, 1997
                                       or

    (   )TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
                              EXCHANGE ACT OF 1934
                               (NO FEE REQUIRED)

               For the transition period from                 to
                         Commission File Number 0-18217

                            TRANSCEND SERVICES, INC.
             (Exact name of registrant as specified in its charter)

                   DELAWARE                       33-0378756
         (State or other jurisdiction           (IRS Employer
                of incorporation)            Identification No.)

         3353 PEACHTREE ROAD, N.E., SUITE 1000, ATLANTA, GEORGIA  30326
             (Address of principal executive offices and zip code)
       Registrant's telephone number, including area code: (404) 836-8000

       Securities registered pursuant to Section 12(b) of the Act:  None
          Securities registered pursuant to Section 12(g) of the Act:
                          Common Stock, $.01 par value
                                (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 definitive proxy or information statements
  incorporated by reference in Parts III of this Form 10-K or any amendment to
                            this Form 10-K. [     ]

    Aggregate market value of the voting stock held by non-affiliates of the
Registrant, computed using the last sale price as reported for the Registrant's
                 common stock on March 9, 1998 was $64,274,184.

Indicate the number of shares outstanding of the Registrant's common stock as of
                          the latest practicable date.

      Class                                   Outstanding at March 9, 1998
      -----

 Common Stock, $.01 par value                           20,567,739
                                                    --------------------


                      DOCUMENTS INCORPORATED BY REFERENCE



Portions of the registrant's proxy statement dated March 27, 1998, for the 1998
                        Annual Meeting of Stockholders,
  are incorporated by reference herein in response to Part III of this report.

================================================================================

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                                     PART I


ITEM 1. BUSINESS


  Certain statements contained in this filing are "forward-looking statements"
within the meaning of the Private Securities Litigation Reform Act of 1995, such
as statements relating to financial results and plans for future business
development activities, and are thus prospective.  Such forward-looking
statements are subject to risks, uncertainties and other factors which could
cause actual results to differ materially from future results expressed or
implied by such forward-looking statements.  Potential risks and uncertainties
include, but are not limited to, economic conditions, competition and other
uncertainties detailed from time to time in the Company"s Securities and
Exchange Commission filings.


GENERAL


  Transcend Services, Inc.  ("Transcend" or the "Company") provides healthcare
information management ("HIM") solutions to hospitals and other associated
healthcare providers. The Company's range of HIM services includes (i) contract
management, or "Co-Sourcing", of medical records and other HIM functions; (ii)
transcription of physicians' dictated medical notes; and (iii) consulting
relating to medical records and reimbursement coding. The Company currently
operates the medical records and certain other HIM functions of 21 general acute
care hospitals located in 11 states and the District of Columbia. The Company,
through its wholly-owned subsidiary Transcend Case Management, Inc. ("TCM"),
also provided case management and disability management services to insurance
carriers, third party administrators and self-insured employers; however, the
net assets of TCM were sold in March 1998.



  With over 5,000 hospitals in the United States, the market for outsourcing the
management of medical records departments, medical transcription services,
medical record coding services, and management of other affiliated departments
is sizable. Approximately 1,500 hospitals in the United States have more than
200 beds and constitute the Company's first tier of market opportunity.  The
Company believes that fewer than 50 such hospitals currently outsource the
management of the medical records department.



  The healthcare industry is undergoing significant and rapid change. Hospitals
and other healthcare providers have come under increased scrutiny from
regulators and third party payers. As a result, hospitals are now looking to
outsource to third parties certain costly or complicated functions that are not
directly related to core competencies or where they are unable to achieve
economies of scale. In particular, patient information, and the delivery of such
information in a timely fashion, have become critical to improving productivity,
efficiency and cost containment, while maintaining a high level of patient care.
For instance, many hospitals are finding that their medical records departments
are inadequate, and to remedy the inadequacies of these functions, they are
beginning to turn to third party service providers which have expertise in
managing mdical records, admissions and other affiliated departments.



  The healthcare industry has recognized the need for improvement in the
processing of healthcare information, and to achieve this improvement, there has
been a dramatic increase in the development of technological solutions offered
by third party vendors of computer hardware and software. Although there have
been significant advances in the management of medical information in general,
little progress has been made introducing technology to the management of the
medical records departments, patient admissions or other affiliated departments
of hospitals that handle the flow of patient information.

  The Company believes that there is a need, and therefore an emerging market,
for third party service providers to assist hospitals and other healthcare
providers in (i) the effective implementation of the available technological
tools for healthcare information management, (ii) the process of managing
healthcare information across the pre-admission to post-discharge continuum of
the healthcare delivery system, and (iii) the management and training of
personnel in healthcare information departments. By managing the entire flow of
patient information through the hospital, errors, inefficiencies and their
associated costs can be minimized.

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INDUSTRY OVERVIEW


          The healthcare industry is undergoing significant and rapid change.
Trends such as government regulation, industry consolidation, increased focus on
quality of care, and technological advancements are providing business
opportunities for Transcend and other healthcare service providers.  Hospitals
and other healthcare providers have come under increased scrutiny from
regulators and third party payers. Reimbursement pressures from managed care
growth have fueled industry consolidation and the formation of various forms of
healthcare integration from integrated delivery networks to managed service
organizations. Documentation requirements have significantly increased resulting
in increases in dictation and transcription of medical notes. Breakthroughs in
technology, telecommunications, the growing acceptance of the Internet, and new
applications such as digital imaging systems and voice recognition systems have
emerged.  As a result, hospitals are now looking towards new technologies to
help them compete.

  The industry has long sought a true "electronic patient record" where all
relevant patient data is captured and organized for use in patient care,
outcomes evaluation, and for automating healthcare administration.  However,
management of the Company believes that the development and wide scale
implementation of such systems are still several years away.  Over the past
several years, new "electronic document management" technologies have emerged
and gained acceptance as a bridge to the electronic patient record.

  Electronic document management systems capture patient demographic and
clinical data via interfaces to existing healthcare information systems and
capture images of paper documents still in use.  Industry sources estimate that
as much as 60% of the patient record is still captured in paper form.  While
electronic document management systems do not capture all relevant information
contained within paper documents as discreet data elements, these systems
automate and image enable the operation of the medical record department
functions.  Electronic document systems also provide instantaneous and
simultaneous access to medical record information to authorized parties.


  Advances in telecommunications, Internet technologies and voice recognition
capabilities are emerging, creating opportunities to apply these technological
advances to various functions within the medical record department, including
medical transcription, abstracting, and coding.  These technologies enable cost-
effective digital movement of voice, images, and data allowing for offsite
processing of these various functions.  The ability to process offsite allows
for faster turnaround times, increased availability of skilled professionals,
and lower costs.


  The healthcare industry has recognized the need for improvement in the
processing of healthcare information, and to achieve this improvement, there has
been a dramatic increase in the development of technological solutions. Although
there have been significant advances in the management of medical information in
general, little progress has been made introducing this technology to the
management of the medical records departments, medical transcription, medical
coding, patient admissions or other areas that handle the flow of patient
information.

          Many hospitals are finding that their medical records departments are
in many respects inadequate and that outsourcing healthcare information
functions and related departments can result in competitive advantages by
reducing costs such as employee training and technology and equipment upgrades.

          Hospitals have outsourced basic services including housekeeping,
laundry and food preparation for a number of years to reduce operating costs and
ensure quality of service.  They are now looking at other costly or complicated
functions that are not directly related to core competencies or where they are
unable to achieve economies of scale. An increasing number of healthcare
providers are now outsourcing the pharmacy, emergency room staffing and physical
therapy staffing functions.  Many functions of health information management
have been widely outsourced including transcription, microfilming, record
storage, release of information, cancer registry and coding.  The Company
believes its comprehensive Co-Sourcing concept is a natural extension of
underlying industry trends.

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HISTORY OF THE COMPANY


  The Company was incorporated in California in 1976 and was reorganized as a
Delaware corporation in 1988. On January 10, 1995, the Company, formerly known
as "TriCare, Inc.," acquired Transcend Services, Inc., then a Georgia
corporation, by the merger of Transcend Services, Inc. into First Western Health
Corporation ("First Western"), a subsidiary of the Company (the "Merger"). On
May 31, 1995, Transcend Services, Inc. and Veritas Healthcare Management
("Veritas"), another subsidiary of the Company, merged into the Company, whose
name was then changed to "Transcend Services, Inc." The Merger was treated for
financial accounting purposes as the acquisition of TriCare, Inc. by Transcend
Services, Inc. and the historical financial statements of the former Transcend
Services, Inc. have become the financial statements of the Company and include
the businesses of both companies after the effective date of the Merger.

  Prior to the Merger, Transcend Services, Inc., which was originally organized
in 1984, provided consulting services for medical records management, quality
and utilization management, records coding and records management software. In
1992, the former Transcend Services, Inc. developed, tested and marketed new
lines of business intended to capitalize on the increasing need for the
outsourcing of medical records, and by the end of 1992 had entered into its
first long-term agreement for the management of a hospital's medical records
department.



  On March 16, 1998, the net assets of the Company's wholly-owned subsidiary,
Transcend Case Management Services, Inc. ("TCM"), formerly Sullivan Health and
Management Services, Inc. were sold to CORE, INC., a publicly traded
corporation.


BUSINESS STRATEGY


  The Company's business strategy focuses on the application of advanced
technological tools and healthcare information management expertise to improve
the efficiency and productivity of HIM services and to improve the clinical
access to patient records. Key elements of the Company's business strategy are
as follows:



  Expand the Core Co-Sourcing Business.   The Company is focused on increasing
its penetration of the healthcare information management market. The Company's
initial target market is comprised of the approximate 1,500 hospitals in the
United States with more than 200 beds. The Company expanded its sales force by
the recent hiring of three new experienced sales professionals and has expanded
the scope of its professional sales force to include medical transcription,
medical coding, and consulting services. In early 1997, the Company implemented
a new lead qualification and sales process that resulted in a decline in the
number of outside assessments, but a dramatic increase in closure rates.



  Apply Leading Technology.  Transcend is a technology oriented service company
and intends to utilize the most effective technology available to improve the
way information is managed in healthcare. The application of advanced technology
will reshape the way information is managed across the healthcare delivery
system in the future and provide margin expansion opportunities. Such technology
is designed to provide instantaneous and simultaneous access to the medical
record by authorized users including physicians and other clinical providers.

  Since July 1997, the  Company has offered a turnkey solution to healthcare
providers where the Company acquires and implements electronic document
management systems for its clients as part of its overall Co-Sourcing solution.
Substantially all of the Company's sales and current prospects involve the
implementation and operation of  electronic document management solutions as
part of the contract.  The Company has sought and will continue to seek business
alliances with leading healthcare information technology companies where the
Company's Co-Sourcing solution enhances the opportunity to implement
technologies.  In order to execute this strategy, the Company has created an
implementation and engineering group responsible for developing and executing a
standard methodology for the implementation of electronic document management
and transcription systems.  Implementation teams will be staffed with project
management, technical support, and process engineering professionals.

  Develop Information Delivery Center Capability.  The Company has developed the
concept of an Information Delivery Center ("IDC") as a business model for the
offsite processing of healthcare information. Under the model the Company plans
to consolidate certain of the functional and technological aspects of HIM
services into service centers.  The initial focus is the development of

                                       4
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offsite coding and abstracting capabilities and a standard national
transcription platform. Additional functions such as chart analysis, release of
information, cancer registry, scheduling, pre-registration information assembly,
benefit verification and procedure precertification, and almost all patient
accounting and billing functions, could also be added.

  In contrast to the current model, under which most of the personnel remains on
site at the customer's facility, much of the staff performing these functions
would be off site, with the potential for a significant portion of the personnel
to become home-based "telecommuters."  Certain employees would remain at the
client hospital with responsibilities for document scanning and customer service
functions, as well as to provide an administrative liaison role in the hospital,
participate in hospital committee functions and oversee compliance issues.

  The IDC offers several benefits, including the ability to (i) perform similar
functions for multiple clients, thereby increasing efficiency and reducing
staffing needs, (ii) offer centralized Co-Sourcing services to larger
geographically dispersed integrated delivery systems, and (iii) increase the
range of potential clients to include larger medical clinics, skilled nursing
facilities, long-term care facilities and, eventually, payors such as HMOs with
complex information management requirements.


  The Company's first information delivery center, located at the Company's
headquarters in Atlanta, recently completed its beta testing and currently
employs three medical coders who perform offsite coding for the Company's
Phoenix, Arizona hospital client.


  Expand Range of Co-Sourcing Services.  Through its services, Transcend
provides immediate and long-term cost savings and revenue and cash flow
improvements to its healthcare provider customers. The Co-Sourcing relationship
could expand in time to include other services such as admissions, utilization
review, quality assurance and business office services. Because such services
are essential to the efficient flow of information in healthcare delivery
systems, and with the advantage of the Company's technology solution, these
services are a natural extension of the Co-Sourcing of the medical records
department.

  Although the Company currently has no contracts for business office services,
the Company is exploring such opportunities. Better management of the business
office benefits the hospital by both reducing costs and increasing the turnover
rate of accounts receivable. The Company has demonstrated that by more
effectively managing medical records, it has significantly reduced the level of
unbilled accounts receivable and has created a more efficient and accurate flow
of information to the business office.

  Pursue Acquisitions and Strategic Alliances.  The Company has historically
used an acquisition strategy to fulfill part of its business plan, and will
continue to seek acquisition opportunities to complement, expand and diversify
its service offerings. The Company will also pursue the formation of strategic
alliances in an effort to accelerate its growth through market expansion. The
Company is presently pursuing joint marketing efforts with other companies to
establish more comprehensive Co-Sourcing relationships, including the business
office of the hospital, to be implemented over a larger shared client base.
However, the Company believes that the Co-Sourcing concept can meet the needs of
many other healthcare providers, and the Company's marketing efforts are
designed to eventually expand its customer profile to include larger clinics,
sub-acute care facilities, HMOs, skilled nursing facilities and others.

  Create Value From Data Captured in Systems.  As the Company develops and
implements its systems, it plans to capture the key data elements from its
systems in a data repository.  Such data can then be "mined", increasing the
value of the services provided by Transcend and potentially creating new revenue
channels.



SERVICES


          Co-Sourcing. The Company's "Co-Sourcing" solution involves the
management by the Company of patient information, both clinical and financial,
throughout the healthcare delivery system beginning before a patient is admitted
and continuing after the patient is discharged. This involves activities related
to the compilation, evaluation, and completion of patient records as well as the
storage and retrieval of patient records.

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  Under the terms of its Co-Sourcing contracts, the Company provides complete
day-to-day management and operation of the facility's medical records
department.   Activities include:


   .    Gathering of patient record information from various sources

   .    Transcription of medical dictation

   .    Coding of inpatient, outpatient, ambulatory, and emergency room visits

   .    Abstraction of medical information
        Issuance of birth certificates

   .    Issuance of death certificates

   .    Reporting of certain data related to trauma and cancer cases to
          governing bodies

   .    Patient record deficiency analysis

   .    Patient record completion

   .    Storage of patient records

   .    Retrieval and delivery of patient records

   .    Release of information to third parties



  The Company's Co-Sourcing contracts are of two types. Under "Management
Only" contracts, the Company provides a department director to supervise a
hospital's medical records department and employs the departmental supervisory
personnel, while all other employees of the department remain on the hospital's
payroll. Under full contract management services agreements, the Company hires
all the employees of the department as the Company's employees. The Company
generally provides supplemental training to these employees once it takes over
the department. The Company prefers, whenever possible, to maintain the
employment of all of the existing employees and is rarely required to hire
additional staff.

          A significant feature of the Company's Co-Sourcing services is the use
of a Professional Services Group, made up of  skilled and experienced
professionals, whose responsibility is to act as an internal consulting team to
its Co-sourced customers. This team is to support the customer sites at any time
and to develop "Best Practices," the Company's quality standards that are
continuously updated to represent the best in the marketplace.   This group also
performs services on a consulting basis to other customers.

          The application of better technology will reshape the way information
is managed across the healthcare delivery system in the future and provide
additional cost savings.  The Company will use the most effective technology
available to deliver its services. Such technology is designed to provide
instantaneous and simultaneous access to the medical record by authorized users.

          Medical Transcription Services.   The Company entered the medical
transcription services business  to improve accuracy, reduce turnaround time and
improve margins for its Co-Sourcing customers, primarily through advances in
technology. Transcription generally consumes 25-35% of the medical record
department budget.  The Company's transcription business provides a computer-
based service for transcription of physician dictation. While its service
arrangements vary by customer, some of which require transcription to be
performed on-site, these services are primarily provided from remote locations
utilizing telecommunications capabilities.  As a result, many of its
transcription employees are able to work as "telecommuters" using networked
computers in their homes.

  The Company is typically paid for its transcription services per line
transcribed. Where transcription services are included as part of the services
provided in the Company's Co-Sourcing contracts, the services are provided
internally by the Company's transcription operations as part of the overall Co-
Sourcing services. The Company seeks wherever possible to cross-market its
transcription services with its Co-Sourcing services.



  Professional Consulting Services.   In addition to supporting its Co-Sourcing
customers, the Professional Services Group offers independent consulting
services to healthcare providers. The group provides advice with respect to
management and operation of medical records departments and related healthcare
information functions, particularly reimbursement coding or data quality
improvement services, as well as consultation services regarding the health
information aspects of hospitals' utilization management and quality management
functions. Such services, which can also include interim medical record
department management and related services, are provided on a negotiated fee for
service basis.

          Case Management.   Case management provided assessment, care planning,
recommendations, and care coordination services for injured and ill persons
covered by workers compensation and health insurance plans. The Company employed

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or contracted with registered nurses who acted as a coordinator between the
patient, the healthcare providers and the insurance carriers or employers,
seeking to ensure the provision of optimal healthcare with an efficient use of
resources. Case management typically involves routine onsite visits to the
patient and monthly reporting to the insurance carriers. In addition, the
Company provided vocational evaluations and computerized skills assessments for
clients covered by insurance programs, workers' compensation, long-term
disability and Social Security disability.



  The Company has viewed the case management operation as non-strategic.  As
such, on March 16, 1998 the Company sold the net assets of its case management
operations and ceased operations.


CUSTOMERS


  The Company's current customer base consists primarily of hospitals for which
the Company provides medical records department management, medical
transcription services, and/or consulting services. However, the Company
believes that the outsourcing concept can meet the needs of many other
healthcare providers, and the Company's marketing efforts are designed to
eventually expand its customer profile to include larger clinics, sub-acute care
facilities, HMOs, skilled nursing facilities and others.



  PRINCIPAL CUSTOMERS. Based on revenues for the fiscal years ended December 31,
1995, 1996, and 1997, no single customer paid fees to the Company which amounted
to or exceeded 10% of the Company's revenues in those periods.


SALES AND MARKETING


  The Company currently employs eight full-time sales professionals, excluding
Transcend Case Management Inc.; five in geographic territories, two national
account executives and the Executive Vice President Sales and Marketing.  The
sales professionals are supported by a sales and marketing support staff of 3
who develop advertising, marketing literature, organize direct mail campaigns
and trade show events.  In addition, the Company engages an outside
telemarketing firm for lead generation and targeted campaigns.

  Transcend's prospects and sales have come principally on the basis of personal
contacts by the Company's sales professionals with senior hospital executives as
well as referrals from its relationships with healthcare information technology
companies, consulting clients and telemarketing leads.  The Company's sales
force provides coverage in virtually every major hospital market in the country,
with sales representatives in each of the principal geographic regions of the
country (Southwest, West, Midwest, Southeast, and Northeast) along with a
national sales representative focused on larger strategic opportunities. The
Company's marketing strategy also includes targeted advertising in industry
trade publications, direct mailings, trade shows, customer testimonials,
seminars and other educational literature that emphasizes the Company's market
leadership position, its management expertise and its track record with current
clients.

          The Company's transcription and consulting services have historically
been marketed primarily through personal contacts and referrals from existing
clients. Beginning in late 1997, the Company assigned sales professionals to
geographic territories for all services offered by the Company, including
transcription and coding services.  Also in 1997, the Company has hired a
national accounts sales professional targeting national opportunities and
broadening strategic alliances.  The Company has also signed an agreement with
VHA, Inc., a national association of non-profit hospitals, whereby Transcend
became VHA's preferred provider of medical records outsourcing, coding, and
medical transcription.


COMPETITION


  The Company's greatest competition presently comes from existing, internal
medical records departments of hospitals, which often resist the Co-Sourcing
concept. Acceptance by hospitals of the outsourcing of medical records and
related departments will depend in part on the ability of the Company to
alleviate concerns of hospital management related to outsourcing.  These include
loss of control, information quality and integrity concerns, employee welfare
concerns and a bias against outsourcing due to previous poor experiences.  There
is currently only one national firm, Pyramid, Inc. (Southern California based),
engaged in comprehensive healthcare information management outsourcing, although
several other new entrants are expected. The Company expects that as the concept
of outsourcing becomes more accepted, it will encounter further competition.
With the substantial market opportunity, some or all of the following sources
are likely to enter the market: healthcare information management consultants;
healthcare information services providers, particularly developers and vendors
of management software; companies that outsource business office functions; and
other parties in contract management businesses (for example, business or
financial management services) desiring to enter the healthcare field.

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  The Company expects that distinguishing competitive factors will include
reputation for expertise in health information management, expertise and
experience in implementing leading technologies, size and scope of referenceable
accounts, prior experience in outsourcing, and pricing. Additionally, there are
national companies that operate in other areas of the health information
management spectrum, primarily, the business office and transcription. As the
Company expands its scope into other areas of health information management, the
Company expects to compete with other, perhaps better established, better
capitalized and larger competitors.

  The Company experiences competition with respect to its transcription
business from a variety of sources, including both local and national
businesses. The medical transcription services market is highly fragmented, with
over 1,500 transcription companies nationally.  In addition, the industry is
undergoing consolidation led by MedQuist, Inc., a publicly held corporation, and
two national venture-backed private corporations, MRC and Rodeer.  The Company
believes the principal competitive factors include reputation, prior experience,
pricing, timeliness (i.e., turnaround times on transcribed documents) and
accuracy of performance.


GOVERNMENT REGULATION


  Virtually all aspects of the practice of medicine and the provision of
healthcare services are regulated by federal or state statutes and regulations,
by rules and regulations of state medical boards and state and local boards of
health and by codes established by various medical associations. The Company has
attempted to structure its operations to comply with these regulations. The
Company is not presently subject to direct regulation as an outsourcing services
provider. Future government regulation of the practice of medicine and the
provision of healthcare services may impact the Company and require it to
restructure its operations in order to comply with such regulations. In
addition, in connection with its case management business, certain of the
Company's employees and independent contractors were registered nurses. These
individuals were subject to certain licensing standards in the states in which
they practice, and were responsible for maintaining their licenses. The
Company's case management division was not subject to any material governmental
regulation, although certain states in which the Company provided case
management services have established fee schedules under their workers'
compensation laws which apply to certain case management services provided by
the Company.



EMPLOYEES


  As of December 31, 1997, the Company had approximately 800 full-time employees
and 208 part-time employees, including 21 administrative and executive employees
at its headquarters office in Atlanta, Georgia; 17 employees in sales and
marketing; 459 employees at Co-Sourcing sites, and 524 employees in its medical
transcription operations. Case Management had 25 full-time employees, 3 part-
time employees and contracts with over 15 registered nurses who were not
employees of the Company. The Company also supervises 93 employees of
contracting hospitals at Co-Sourcing sites. The Company is not a party to any
collective bargaining agreement.  The hospital employees at one Co-Sourcing site
have been solicited by union representatives, but no definitive action toward
representation has been taken. The Company has not experienced any strikes or
work stoppages, and believes that its relations with its employees are good.



ITEM 2. PROPERTIES.


          The Company leases the space for its principal offices in Atlanta,
Georgia, space for satellite sales offices, and space for its transcription
offices in Chicago, Illinois; Pittsburgh, Pennsylvania; Columbus, Ohio; Boston,
Massachusetts; Atlanta, Georgia; Salt Lake City, Utah; Los Angeles, California;
Seattle, Washington; and Portland, Oregon.  Transcend Case Management, Inc.
leased space for its business in Orlando, Florida and Dallas, Texas.

 Co-Sourcing sites utilize the customer's premises without lease commitments.

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ITEM 3. LEGAL PROCEEDINGS.


  The Company is subject to certain claims in the ordinary course of business
which are not material.



  On September 17, 1993, the Company and its former subsidiaries, First Western
Health Corporation and Veritas Healthcare Management, and the physician-owned
medical groups, FWHC Medical Group, Inc. and Veritas Medical Group, Inc., which
had contracts with the healthcare subsidiaries, initiated a lawsuit in the
Superior Court of the State of California, County of Los Angeles, against 22 of
the largest California workers' compensation insurance carriers (the "Lawsuit".)
The Lawsuit was subsequently amended to name 13 defendant insurance groups
including State Compensation Insurance Fund, Continental Casualty Company,
California Compensation Insurance Company, Zenith National Insurance Corporation
and Pacific Rim Assurance Company. The action seeks $115 million in compensatory
damages plus punitive damages. The plaintiffs claim abuse of process,
intentional interference with contractual and prospective business relations,
negligent interference and unlawful or unfair business practices which led to
the discontinuation in April 1993 of the former business of the Company's
subsidiaries and their contracting associated medical groups.  Nine defendants
in the Lawsuit have filed cross complaints against the plaintiffs seeking
restitution, accounting from the plaintiffs for monies previously paid by the
defendants, disgorgement of profits, injunctive relief, attorneys' fees and
punitive damages, based upon allegations of illegal corporate practice of
medicine, illegal referral arrangements, specific statutory violations and
related improper conduct.  The Company and its counsel do not believe that it is
likely that the Company will be held liable on any of the cross complaints;
however, there can be no assurance that the Company will be successful in the
defense of the cross complaints. In addition, there can be no assurance as to
the recovery by the Company of the damages sought in its complaint against the
defendants.



  On March 21, 1997, the Los Angeles County Superior Court sustained the
defendant insurance companies' demurrer to the Third Amended and Supplemental
Complaint of the Company and certain of its subsidiaries, without leave to
further amend the complaint.  The Court determined in such ruling that exclusive
jurisdiction with respect to the claims contained in the Lawsuit resides with
the California Workers' Compensation Appeals Board and that the Superior Court
of the State of California is an improper forum.  The Company has been advised
by counsel that there is no remedy for the damages claimed in the Lawsuit from
the California Workers' Compensation Appeals Board.  A final order dismissing
the Lawsuit was issued by the Court on June 18, 1997.  The Company appealed the
ruling in the California Court of Appeals on June 25, 1997.  There can be no
assurance that the Company will be successful appealing such dismissal.  By
stipulation, the carriers' cross-complaints against the plaintiffs were stayed
pending resolution of the plaintiffs' appeal.  The Company believes that the
trial court's ruling, if upheld by the appellate court, also would result in
dismissal of the cross-complaints.  There can be no assurance, however, that
such cross complaints would be dismissed.  The cross complaints expose the
Company to risk of liability which, if the Company is unsuccessful in the
defense of such cross complaints, could have a materially adverse impact on the
Company's results of operations for a particular period.

  For the year ended December 31,1997, the Company expensed approximately
$147,000 of legal expenses connected with the lawsuit.   Under the original
agreement with the Company's counsel of record in the Lawsuit, there was a cap
on legal expenses and after December 1996, with respect to expenses incurred at
the trial court level, the Company would only be responsible for out-of-pocket
expenses and the payment to counsel of a percentage of any recovery of damages
by the Company.  However, in May 1997, the Company was notified that the partner
principally responsible for the case was leaving the firm with which the Company
contracted to handle the case.  The Company has moved the representation to new
counsel, which resulted in negotiation of a new fee arrangement requiring the
Company to pay additional legal expenses incurred in connection with the appeal.


  On June 22, 1995, an action was filed by Timothy S. Priest in his capacity as
administrator of the estate of Robert V. Taylor against Carol Brown, Debbie
Ostwald, the Company's subsidiary, Transcend Case Management, Inc., and
Fireman's Fund Insurance Company, in the Circuit Court of Franklin County,
Tennessee, alleging breach of the duty to provide reasonably competent nursing
care to an injured individual. The plaintiff demanded compensatory damages in
the amount of $1 million and punitive damages in the amount of $2 million, plus
costs. This matter was settled in March 1998 at no cost to the Company and the
Company was released from all related claims.

                                       9
<PAGE>

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


  No matters were submitted to a vote of security holders during the fourth
quarter ended December 31, 1997.



                                    PART II



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


  Transcend Common Stock is quoted on the National Market.  As of March 9, 1998
there were approximately 523 holders of record of Transcend Common Stock.  The
table below sets forth for the fiscal periods indicated the high and low bid
prices per share of Transcend Common Stock as reported on the National Market.
The policy of the Board of Directors of the Company is to retain earnings for
the expansion and development of the Company"s business and the Board of
Directors does not anticipate paying cash dividends on the Common Stock in the
foreseeable future.  Future dividend policy and the payment of dividends, if
any, will be determined by the Board of Directors in light of circumstances then
existing, including among other things, future earnings, operations, capital
requirements, contractual restrictions, the general financial condition of the
Company, general business conditions and other factors deemed relevant by the
Board.   Pursuant to the terms of certain financing agreements, the Company is
restricted from paying dividends to its common stockholders.
<TABLE>
<CAPTION>


                               PRICE PER SHARE OF
                                  COMMON STOCK
                               -------------------
                                  HIGH      LOW
                               --------  ---------
<S>                             <C>      <C>

Year Ended December 31, 1997
 First Quarter................  $ 5 7/8   $      4
 Second Quarter...............  $ 4 7/8   $1 15/16
 Third Quarter................  $ 4 3/8   $ 2 3/16
 Fourth Quarter...............  $ 4 1/4   $ 2 1/16

Year Ended December 31, 1996
 First Quarter................  $ 9 3/8   $  4 7/8
 Second Quarter...............  $12 1/8   $  7 3/4
 Third Quarter................  $10 3/4   $  3 5/8
 Fourth Quarter...............  $ 6 1/8   $  4 3/8

</TABLE>

 RECENT SALES OF UNREGISTERED SECURITIES



  On November 14, 1997, the Company raised approximately $5.3 million in cash
through a private placement of 212,800 shares of newly issued Series A
Convertible Preferred Stock (the "Preferred Stock") to 15 accredited investors
including members of the Company's Board of Directors.  The Preferred Stock was
sold in compliance with Rule 506 of Regulation D under the Securities Act of
1933, as amended. The Preferred Stock has a $.01 par value, $25.00 stated value,
and a dividend of 9% payable quarterly.  The shares of Preferred Stock are
convertible into shares of common stock at any time at the option of the holder
at a conversion price of $3.375 per share (7.4 shares of Common Stock per share
of Preferred Stock).  Under certain circumstances the Company may, at its
option, redeem the Preferred Stock on or after November 15, 1998, in whole or in
part, at the redemption prices set forth below together with all accrued and
unpaid dividends to the redemption date.



                 Redemption Dates                    Redemption Prices
-------------------------------------------------------------------------------
     November 15, 1998 through November 14, 1999           109%
     November 15, 1999 through November 14, 2000           106%
     November 15, 2000 through November 14, 2001           103%
     November 15, 2001 and after                           100%


  The Preferred Stock has liquidation preferences to common stockholders.
Holders are entitled to 7.4 votes per share of Preferred Stock, and votes with
the common stockholders on all matters.  The shares of common stock underlying
the Preferred Stock carry piggy-back registration rights, subject to certain
limitations, in the event the Company proposes to register the sale of any of
its securities for its own account or for the account of its shareholders.

                                       10
<PAGE>

ITEM 6. SELECTED FINANCIAL DATA

  The following table sets forth selected consolidated financial data of the
Company for the periods indicated, which data has been derived from the
Company's consolidated financial statements.  The report of Arthur Andersen LLP,
independent public accountants, with respect to such consolidated financial
statements as of December 31, 1997 and 1996 and for the three years in the
period ended December 31, 1997 is included on page 21.   This selected financial
data should be read in conjunction with the consolidated financial statements,
related notes and other financial information included and incorporated by
reference herein.

<TABLE>
<CAPTION>

SELECTED FINANCIAL DATA
(in thousands)

                                                     1993      1994       1995      1996     1997
<S>                                                <C>        <C>        <C>       <C>      <C>
---------------------------------------------------------------------------------------------------
RESULTS FROM OPERATIONS>:

  Net revenues                                      $6,511   $13,207    $28,009   $39,633   $43,413
--------------------------------------------------------------------------------------------------
  Gross profit                                       1,083     1,636      4,136     5,287     6,276
--------------------------------------------------------------------------------------------------

  Marketing and sales expenses                         378       929      2,186     2,480     2,065
  General and administrative expenses                1,330     1,673      4,961     5,771     4,787
  Amortization expense                                 310       357        633       535       445
  Non-recurring charges                                  -         -          -     1,700     2,338
---------------------------------------------------------------------------------------------------
  Loss from operations                                (935)   (1,323)    (3,644)   (5,199)   (3,359)
---------------------------------------------------------------------------------------------------


  Interest and other expense, net                       31        40         21       462       433
  Provision for income tax                               -        13          -         -         -
---------------------------------------------------------------------------------------------------
  Loss before discontinued operations                 (966)   (1,376)    (3,665)   (5,661)   (3,792)
---------------------------------------------------------------------------------------------------
  Loss from discontinued operations                      -         -       (479)   (1,582)     (147)
  Dividends on preferred stock                           -         -          -         -        59
---------------------------------------------------------------------------------------------------
Net loss to common stockholders                      $(966)  $(1,376)   $(4,144)  $(7,243)  $(3,998)
---------------------------------------------------------------------------------------------------


RESULTS PER SHARE OF COMMON STOCK:

 Basic and diluted loss from continuing
    operations                                      $(0.11)   $(0.13)    $(0.20)   $(0.29)   $(0.19)
 Basic and diluted loss from discontinued
    operations                                           -         -      (0.02)    (0.08)    (0.01)
 Dividends on preferred stock                            -         -          -         -     (0.00)
 Net loss per share                                 $(0.11)   $(0.13)    $(0.22)   $(0.37)   $(0.20)


Weighted average shares of common stock              9,096    10,572     18,626    19,517    20,279

FINANCIAL POSITION AT YEAR END:

Total Assets                                        $1,200   $ 2,916    $16,869   $16,557   $20,650
Working Capital                                     $ (569)  $(2,943)   $   654   $(1,576)  $ 6,271
Total Debt                                          $    0   $ 2,176    $ 2,796   $ 4,749   $ 7,091
Stockholders Equity                                 $  168   $(1,170)   $ 9,698   $ 5,961   $ 7,913
</TABLE>
------------
(1) On January 10, 1995, the Company acquired a Georgia corporation then known
    as "Transcend Services, Inc." by the merger of Transcend into a subsidiary
    of the Company. The merger was treated for financial accounting purposes as
    the acquisition of the Company by the former Transcend and the historical
    financial statements of the former Transcend have become the financial
    statements of the Company and include the business of both companies after
    the effective date of the merger. See Note 11 of "Notes to Consolidated
    Financial Statements."
(2) The Company has completed several acquisitions that could affect the
    comparability of the information reflected in the table. See Note 11 of
    "Notes to Consolidated Financial Statements."

                                       11
<PAGE>

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





  The following discussion should be read in conjunction with the consolidated
financial statements of the Company (including the notes thereto) contained
elsewhere in this Report.


OVERVIEW


  Transcend Services, Inc.  ("Transcend" or the "Company") provides healthcare
information management ("HIM") solutions to hospitals and other associated
healthcare providers. The Company's range of HIM services includes (i) contract
management, or "Co-Sourcing", of medical records and other HIM functions; (ii)
transcription of physicians' dictated medical notes; and (iii) consulting
relating to medical records and reimbursement coding. The Company currently
operates, on a contract management basis, the medical records and certain other
HIM functions of 21 general acute care hospitals located in 11 states and the
District of Columbia.  The Company also operates transcription centers both in
conjunction with its Co-Sourcing contracts and for 150 separate healthcare
customers where the Company performs transcription services only.  The Company,
through its wholly owned subsidiary Transcend Case Management, Inc.("TCM"),
formerly Sullivan Health Management Services, Inc., also provided case
management and disability management services to insurance carriers, third party
administrators and self-insured employers; however, this operation was sold on
March 16, 1998.



RESULTS OF OPERATIONS


  The Company produced net losses in each of the three years ended December 31,
1997.  Excluding losses from TCM and non-recurring charges, the Company would
have had an operating profit of $26,000 in 1997 and reduced operating losses of
$2,614,000 in 1996 and $2,826,000 in 1995.  Management believes that the
Company's historical operating losses, excluding TCM and non-recurring charges,
are primarily attributable to low gross profit margins from contract start ups
and the significant expenses incurred by the Company to build a larger sales and
management organization to support growth.  Excluding TCM, in fiscal 1995, 1996
and 1997, respectively, the Company's gross profit margins were 13.6%, 13.1%,
and 14.6%.  For the same periods its marketing, sales, general and
administrative expenses as a percentage of revenue were 23.6%, 19.2%, and 13.9%,
reflecting operating leverage as revenues grow and realizing the effects of cost
reductions in 1996 and 1997.


YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996


  Net revenues for the Company increased from $39,633,000 in 1996 to $43,413,000
in 1997, an increase of 9.5%.  Co-Sourcing revenues were the largest service
class representing 55.5% of  total revenues in 1996 and 53.8% in 1997.  Co-
Sourcing revenues increased from  $21,983,000 in 1996 to $23,370,000 in 1997, an
increase of 6.3%.  Medical transcription revenues were the second largest
revenue class for 1996 and 1997, representing 32.4% in 1996 and 40.9% in 1997.
Medical transcription revenues grew from  $12,826,000 in 1996, to $17,760,000 in
1997, an increase of 38.5%.  Co-Sourcing and medical transcription revenue
growth results from new contracts in late 1996 and 1997 offset by client
attrition.  Consulting and coding revenues represented revenue growth of 1.7% of
the Company's total revenues for 1996 and 1.0 % for 1997.  Consulting and coding
revenues decreased to $422,000 in 1997 from $686,000 in 1996 resulting primarily
from the write-off of $96,000 in 1997 of receivables related to revenue recorded
in 1996.  TCM revenues represented 4.3% of total revenues in 1997 and 8.7% in
1996. TCM revenues decreased to $1,861,000 in 1997 from $3,461,000 in 1996, a
decrease of 46.2%, due to the loss of several key accounts.  One-time revenue of
$678,000 was reported in 1996 related to the sale of a computer system to a
customer which was sold at cost.



  Excluding TCM and the one-time system sale in 1996, net revenues for the
Company increased from $35,495,000 in 1996 to $41,552,000 in 1997, an increase
of 17.1%.



  Gross profit increased 18.7% to $6,276,000 for 1997 from $5,287,000 in the
prior year.  Gross profit margins increased to 14.5% for 1997 from 13.3% in the
prior year, an increase of 1.2 margin points.   This increase was primarily
attributable to margin expansion in Co-Sourcing and medical transcription which
produced blended margins of 15.0% in 1997, an increase of 1.5 percentage points
from 1996.  TCM margins declined year over year by 5.4 percentage points to
10.7% from 16.1% in 1996 due to significant revenue declines and an increase in
the use of contract nurses.  Write-offs of accounts receivable resulted in a
loss in consulting in 1997 compared to a gross profit margin 10.9% in 1996.

                                       12
<PAGE>

  Excluding TCM and the one-time system sale in 1996, gross profits were
$6,077,000 in 1997, an increase of 27.7% over 1996.  Gross margins, excluding
TCM and the one-time system sale, would be 14.6% in 1997 compared with 13.4% in
1996.



  Marketing and sales expenses decreased 16.7% to $2,065,000 in 1997 from
$2,480,000 in the prior year and decreased as a percentage of revenues to 4.8%
for 1997 from 6.3% for 1996.  The decrease in sales and marketing expenditures
as a percentage of revenues is attributable to the Company's improved leverage
of the fixed cost structure as revenues grow.  The year over year decrease in
marketing and sales expenses is the result of the realignment of sales and
marketing resources to operations management in the early part of 1997 and a
reduction in sales promotion expenditures.  In the fourth quarter of 1997, the
Company increased its direct sales force adding two sales representatives.



  General and administrative expenses of $4,787,000 for the 1997 fiscal year
decreased 17.1% over the $5,771,000 expended in the same prior year period. .
The decline in general and administrative expenses year over year is
attributable to charges incurred in 1996 in connection with the Company's
internal reorganization and restructuring efforts.  General and administrative
expenses as a percentage of revenues declined from 13.6% in 1996 to 11.0% in
1997.



  Non-recurring charges of $2,338,000 in 1997 and $1,700,000 in 1996 were
recorded related primarily to asset write-downs associated with the default on a
note receivable and reductions in the carrying value of goodwill related to TCM.


  Amortization expenses decreased to $445,000 in 1997 from $535,000 in 1996
reflecting the impact of acquisition expenses being fully amortized.



  Net interest expense increased to $433,000 for 1997 as compared to $262,000
for 1996, primarily due to the impact of interest expense incurred in connection
the Company's increased borrowings, loan fees, and higher interest rates
associated with the credit facility with Coast (See "Note 4- Notes to
Consolidated Financial Statements".)



  Other expense included $200,000 in 1996 to cover all of its legal, accounting
and printing costs incurred in connection with its filing of a registration
statement in May 1996 to raise additional capital through a public offering of
its Common Stock.  Due to adverse market conditions, the Company withdrew its
offering in July 1996.



  The Company's loss before discontinued operations decreased to $3,792,000 for
1997 from $5,661,000 in the prior year.  Excluding non-recurring charges of
$2,338,000 in 1997 and $1,700,000 in 1996 and TCM losses of $889,000 in 1997 and
$728,000 in 1996, the Company's loss before discontinued operations was $565,000
in 1997, an improvement of $2,668,000 year over year.



  The loss from discontinued operations decreased to $147,000 for 1997 from
$1,582,000 in 1996 as a result of  1996 charges for legal fees incurred in
connection with the Company's civil lawsuit against certain insurance companies
in the state of California ( See Note 5.)



  In November 1997, the Company issued 212,800 shares of series A convertible
preferred stock which carry a dividend of 9%. Net loss to common stockholders
was increased in 1997 by $59,000 of preferred stock dividends.



YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED DECEMBER 31, 1995


  Net revenues for the Company increased from $28,009,000 in 1995 to $
39,633,000 in 1996, an increase of 41.5%.  Co-Sourcing revenues were the largest
service class revenue source for the Company representing 51.0% of total
revenues in 1995 growing to 55.5% in 1996.  Co-Sourcing revenues increased from
$14,300,000 in 1995 to $21,983,000 in 1996, an increase of 53.7% as a result of
new contracts in the second half of 1995 and in 1996.  Medical transcription
revenues were the second largest source of revenues for the Company for 1995 and
1996, representing 31.4% in 1995 growing to 32.4% in 1996.  Medical
transcription revenues grew from  $8,789,000 in 1995, to $12,826,000 in 1996, an
increase of 45.9%.  The increase in transcription revenues results from new
contract signings (representing 76.5% of the growth) and the acquisitions of
International Dictation Services, Inc. ("IDS") and Medical Transcriptions of
Atlanta, Inc. ("MTA") in 1995 (representing 23.5% of the growth.) Consulting
revenues represented 1.7% of the Company's total revenues for 1996, down from
2.7% for 1995.  Consulting and coding revenues decreased to $686,000 in 1996
from $768,000 in 1995 as the Company emphasized its Co-Sourcing and medical
transcription services.  TCM revenues represented 8.7% of the Company's total
revenues in 1996 as compared to 14.8% in 1995. TCM revenues decreased to
$3,461,000 in 1996 from $4,152,000 in 1995, a decrease of 16.6% due to a

                                       13
<PAGE>

consolidation of certain sales territories and the loss of several key accounts.
In 1996 the Company also recorded revenues of $678,000 related to the sale of a
computer system to a hospital client.



  Excluding TCM and the one-time system sale in 1996, net revenues for the
Company increased from $23,857,000 to $35,495,000 in 1996, an increase of 48.8%.



  Gross profit increased 27.8% to $5,287,000 for 1996 from $4,136,000 in the
prior year. Gross profit as a percentage of total Company revenues decreased to
13.3% for 1996 from 14.8 % in the prior year, a decrease of 1.5 margin points.
This decrease was primarily attributable to the decline in TCM margins which
accounted for 1.0 margin points.  The one-time system sale produced no gross
profit and accounted for the majority of the remaining margin decline year over
year.

  Excluding TCM and the one-time system sale, gross profits were $4,761,000 in
1996, an increase of 45.9% over 1995.  Gross margins, excluding TCM and the one-
time system sale, would be 13.4% in 1996 compared with 13.6% in 1995.

  Marketing and sales expenses increased 13.4% to $2,480,000 in 1996 from
$2,186,000 in the prior year and decreased  as a percentage of revenues to 6.3%
for  1996 from 7.8% for 1995.  The decrease in sales and marketing expenditures
as a percentage of revenues is attributable to the Company's investment in a
national sales force and marketing program in 1995 and early 1996 which led to a
significant increase in sales in 1996 without a material increase in marketing
and sales expenditures in the 1996 fiscal year.

  General and administrative expenses of $5,771,000 for the 1996 fiscal year
increased approximately 16.3% over the $4,961,000 expended in the same prior
year period; however, this represents a decrease as measured as a percentage of
revenues in comparing 1995 and 1996.   The decline in general and administrative
expenses as a percentage of revenues from 17.7% in 1995 to 14.6% in 1996 is a
result of the Company's leveraging its relatively fixed administrative cost
structure over a higher revenue base.  In 1996, the Company also incurred
unusual expenses of approximately $1,000,000 comprised of severance costs for
employees whose job positions were eliminated, costs incurred in connection with
1996 acquisitions, moving and lease buy-out costs connected with office
consolidations and consulting fees related to the Company's Information Delivery
Center.


  Amortization expenses decreased to $535,000 in 1996 from $633,000 in 1995
reflecting the impact of the 1993 acquisition of dataLogix, Inc. being fully
amortized.

  Other expenses increased to $462,000 in 1996 as compared to $21,000 for 1995,
primarily due to the impact of interest expense incurred in connection with (i)
the August 15, 1995 private placement of 8% Subordinated Convertible Debentures
and (ii) the Company's borrowings against its working capital line of credit
totaling $2,118,000 as of December 31, 1996.  Also, the Company expensed
$200,000 in 1996 to cover all of its legal, accounting and printing costs
incurred in connection with its filing of a registration statement in May 1996
to raise additional capital through a public offering of its Common Stock.  Due
to adverse market conditions, the Company withdrew its offering in July 1996.

  The Company's loss before discontinued operations increased to $5,661,000 for
1996 from $3,665,000 in the prior year, due to non-recurring charges of $1.7
million from the write down of a note receivable, approximately $200,000
incurred in connection with the Company's attempt to raise additional capital
through a public offering of its Common Stock in May of 1996; and approximately
$1.0 million incurred in connection with the Company's internal reorganization
and restructuring.

  TCM produced losses of $728,000 in 1996 and $660,000 in 1995.  Excluding the
effects of the non-recurring charges and TCM operations, the loss before
discontinued operations increased to $3,233,000 for 1996, down from $3,005,000
in the prior year.

  The loss from discontinued operations increased to $1,582,000 for 1996 from
$479,000 in 1995 as a result of charges for legal fees incurred in connection
with the Company's civil lawsuit against certain insurance companies in the
state of California.



LIQUIDITY AND CAPITAL RESOURCES


  The Company's cash flows from continuing operations required the use of cash
of $2,100,000 in 1997.  Discontinued operations used cash of $215,000 in 1997
which includes cash contributed from discontinued operations (through the
collection of accounts receivable) of $152,000 net of cash expenditures of

                                       14
<PAGE>

$367,000 for collection costs and legal fees and expenses incurred in connection
with the Company"s civil lawsuit filed against certain insurance carriers in the
Superior Court in California  (See Note 5.)



  The Company's working capital position increased to $6,271,000 during the
twelve months ended December 31, 1997, from a negative $1,576,000 at December
31, 1996. This increase in the Company's working capital position is primarily
the result of the Company refinancing its $5.0 million line of credit resulting
in the reclassification from current liabilities to long term debt and the $5.3
million offering of preferred stock.

  The Company's cash flows from investing activities used cash of $2,393,000 in
1997 primarily for capital expenditures.  In 1997, the Company incurred
$2,108,000 in capital expenditures, primarily for electronic document management
systems in connection with new contracts, digital dictation equipment and
continued investment in the development of the Information Delivery Center.  The
Company also used cash of $285,000 in acquisitions primarily for dissenting
shareholders of DocuMedX.



  Cash flows from financing activities provided $8,586,000 in 1997 primarily
from (i) the proceeds received on the exercise of incentive stock options in the
amount of $915,000; (ii) the utilization of credit facilities (as described
below) in the amount of $2,351,000; and (iii) proceeds of $5,320,000 received in
connection with the sale of preferred stock (as described below).


  On April 3, 1997, the Company entered into a $5.0 million credit agreement
with Coast Business Credit ("Coast"), an asset based lender (and a division of
Southern Pacific Thrift and Loan Association).  The agreement provides the
Company with a $4.7 million working capital facility and a $300,000 capital
expenditure facility secured by substantially all of the Company's assets.   The
working capital facility has been used to pay off the previous credit
relationship with Silicon Valley Bank in full.  These new Coast facilities do
not contain any financial covenants but contain restrictions from paying
dividends and entering into financing arrangements without consent.  Coast has
consented to the payment of dividends related to the preferred stock and the
master lease agreement discussed below and in Note 8.


  Funding limits under the agreement are determined by a funding formula.  Under
the original terms of the agreement, the funding formula is based on 1.5 times
monthly contractual contract management revenues, plus 80% of all medical
transcription receivables under 90 days (aging) under the working capital
facility and up to $300,000 on new capital expenditures under the capital
expenditure facility.

  On August 8, 1997, the Company agreed to amend its credit facility with Coast.
Under the terms of the amendment, the term of the agreement was extended to May
31, 2000 and the funding formula modified to provide additional liquidity to the
Company by providing funding of 1.5 times average monthly receipts under long
term transcription contracts.  The amendment also provides for an increase in
the funding formula from 1.5 times to 2.0 times monthly contract revenues if the
Company's tangible net worth exceeds $5.0 million for five consecutive business
days.  As of December 31, 1997 the capacity of the credit line based on the
funding formula was $5.0 million.


  These facilities are priced at prime plus 2.25% declining to prime plus 1.75%
upon two consecutive quarters of achievement and ongoing maintenance of a debt
service coverage ratio of not less than 1.5 measured on an earnings before
interest, taxes, and amortization ("EBITA") basis.  EBITA is used by Coast as an
indicator of a company's ability to incur and service debt.  EBITA should not be
considered an alternative to operating income, net income, cashflows, or any
other measure of performance as determined in accordance with generally accepted
accounting principles, as an indicator of operating performance, or as a measure
of liquidity.  These facilities are secured by a first security interest on all
Company assets.


  On November 14, 1997, the Company raised approximately $5.3 million in cash
through a private placement of 212,800 shares of newly issued Series A
Convertible Preferred Stock (the "Preferred Stock").  The Preferred Stock has a
$.01 par value, $25.00 stated value, and a dividend of 9% payable quarterly.
The shares of Preferred Stock are convertible into shares of common stock at any
time at the option of the holder at a conversion price of $3.375 per share (7.4
shares of common per share of Preferred Stock).  Under certain circumstances the
Company may, at its option, redeem the Preferred Stock on or after November 15,
1998, in whole or in part, at the redemption prices set forth below together
with all accrued and unpaid dividends to the redemption date.

                                       15
<PAGE>

                 Redemption Dates                       Redemption Prices
--------------------------------------------------------------------------------
     November 15, 1998 through November 14, 1999               109%
     November 15, 1999 through November 14, 2000               106%
     November 15, 2000 through November 14, 2001               103%
     November 15, 2001 and after                               100%



The holders of the Preferred Stock may convert the Preferred Stock into shares
of Common Stock within 60 days following the Company's notice of redemption.


  On February 19, 1998, the Company signed a master lease agreement providing up
to $5.0 million in lease financing with Information Leasing Corporation, a
subsidiary of Provident Bank, Cincinnati, Ohio at interest rates equal to
Provident Bank prime rate plus two percent.  Subject to a review of the
underlying customer contract, the master lease agreement calls for equal monthly
payments over the term of the lease, typically the life of the underlying
contract, not to exceed five years.  The facility is intended to provide
financing for new electronic document management systems and transcription
systems required for new contracts.


  The Company anticipates that cash on hand, together with internally generated
funds,  cash collected from discontinued operations and cash available under its
new working capital facility and leasing facilities described should be
sufficient to finance continuing operations, make capital investments in the
normal and ordinary course of its business, and fund the expenses of its civil
litigation action against certain insurance carriers during 1998.


IMPACT OF INFLATION


  Inflation has not had a material effect on the Company to date. However, the
effects of inflation on future operating results will depend in part, on the
Company's ability to increase prices and/or lower expenses in amounts offsetting
inflationary cost increases.

                                       16
<PAGE>

ITEM 8.   FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.



 The following financial statements are filed with this report:



 Report of Arthur Andersen LLP, Independent Public Accountants



 Consolidated Balance Sheets at December 31, 1997 and 1996



 Consolidated Statements of Operations for the years ended December 31, 1997,
1996 and 1995



  Consolidated Statements of Stockholders' Equity for the years ended December
31, 1997, 1996 and 1995



 Consolidated Statements of Cash Flows for the years ended December 31, 1997,
1996 and 1995



 Notes to Consolidated Financial Statements

                                       17
<PAGE>

REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

TO THE BOARD OF DIRECTORS AND STOCKHOLDERS OF
TRANSCEND SERVICES, INC.:


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



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



  In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Transcend Services, Inc. and
subsidiaries as of December 31, 1997 and 1996 and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 1997 in conformity with generally accepted accounting principles.




                                         Arthur Andersen LLP



Atlanta, Georgia
March 16, 1998

                                       18
<PAGE>

                           TRANSCEND SERVICES, INC.

                          CONSOLIDATED BALANCE SHEETS

<TABLE>
<CAPTION>
                                                                                          December 31,
                                                                                   ---------------------------
                                                                                        1997           1996
                                                                                   ------------    -----------
                                             ASSETS
<S>                                                                                <C>             <C>
Current assets:
Cash and cash equivalents                                                          $ 5,541,000    $1,663,000
Accounts receivable, net of allowance for doubtful accounts
  of $163,000 in 1997 and $147,000 in 1996                                           4,965,000     3,804,000
Prepaid expenses and other current assets                                              979,000       548,000
                                                                                  ------------   -----------
Total current assets                                                                11,485,000     6,015,000
                                                                                  ------------   -----------

Property and equipment:
  Property and equipment                                                             6,699,000     4,655,000
  Accumulated depreciation                                                          (3,277,000)   (2,040,000)
                                                                                  ------------   -----------
  Property and equipment, net                                                        3,422,000     2,615,000
Deposits and other assets                                                              510,000       522,000
Goodwill and other intangible assets, net                                            2,587,000     4,828,000
Net assets from discontinued operations                                              2,646,000     2,577,000
                                                                                  ------------   -----------

Total assets                                                                       $20,650,000   $16,557,000
                                                                                  ============   ===========

                               LIABILITIES AND STOCKHOLDERS' EQUITY

Current liabilities:
Current maturities of long term debt                                                $  108,000    $2,285,000
Accounts payable                                                                       843,000     2,053,000
Accrued compensation and benefits                                                    2,399,000     1,797,000
Other accrued liabilities                                                            1,751,000     1,343,000
Deferred income taxes                                                                  113,000       113,000
                                                                                  ------------   -----------
Total current liabilities                                                            5,214,000     7,591,000
                                                                                  ------------   -----------

Long term debt, net of current maturities                                            4,983,000       464,000
Deferred income taxes                                                                  540,000       541,000
Convertible debentures                                                               2,000,000     2,000,000

Commitments and contingencies

Stockholders' equity:
Preferred stock, $.01 par value 21,000,000 shares authorized
 Series A convertible preferred stock, 212,800 and 0 shares issued at
  December 31, 1997 and 1996                                                             2,000            -
 Common stock, $.01 par value, 30,000.000 shares authorized
  20,500,000 and 20,000,000 shares issued at December 31, 1997 and 1996                205,000       200,000
 Additional paid-in capital                                                         26,208,000    19,980,000
 Retained deficit                                                                  (18,502,000)  (14,219,000)
                                                                                  ------------   -----------
  Total stockholders' equity                                                         7,913,000     5,961,000
                                                                                  ------------   -----------
  Total liabilities and stockholders' equity                                      $ 20,650,000   $16,557,000
                                                                                  ============   ===========

---------------------------------------------------------------------------------------------------------------
</TABLE>

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

                                       19
<PAGE>

                           TRANSCEND SERVICES, INC.

                     CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
                                               YEARS ENDED DECEMBER 31,
                                      -----------------------------------------
                                           1997         1996           1995
                                      -----------------------------------------
<S>                                    <C>           <C>           <C>
Net revenues                           $43,413,000   $39,633,000   $28,009,000
Direct costs                            37,137,000    34,346,000    23,873,000
                                       -----------   -----------   -----------
 Gross profit                            6,276,000     5,287,000     4,136,000
                                       -----------   -----------   -----------

Marketing and sales expenses             2,065,000     2,480,000     2,186,000
General and adminstrative expenses       4,787,000     5,771,000     4,961,000
Amortization expenses                      445,000       535,000       633,000
Non-recurring charges                    2,338,000     1,700,000            -
                                       -----------   -----------   -----------
Loss from operations                    (3,359,000)   (5,199,000)   (3,644,000)
                                       -----------   -----------   -----------

Other income (expense):
Interest expense, net                     (433,000)     (262,000)      (21,000)
Other                                            -      (200,000)            -
                                       -----------   -----------   -----------
                                          (433,000)     (462,000)      (21,000)
                                       -----------   -----------   -----------

Loss before taxes and discontinued
  operations                            (3,792,000)   (5,661,000)   (3,665,000)
Income taxes                                     -             -             -
                                       -----------   -----------   -----------
Loss before discontinued operations     (3,792,000)   (5,661,000)   (3,665,000)
Loss from discontinued operations         (147,000)   (1,582,000)     (479,000)
                                       -----------   -----------   -----------
Net loss                                (3,939,000)   (7,243,000)   (4,144,000)
                                       -----------   -----------   -----------
Dividends on preferred stock               (59,000)            -            -
                                       -----------   -----------   -----------
Net loss to common stockholders        $(3,998,000)  $(7,243,000)  $(4,144,000)
                                       ===========   ===========   ===========

Basic and diluted loss per share:
From continuing operations                  ($0.19)       ($0.29)       ($0.20)
From discontinued operations                 (0.01)        (0.08)        (0.02)
                                       -----------   -----------   -----------
Net loss                                    ($0.20)       ($0.37)       ($0.22)
                                       ===========   ===========   ===========

Weighted average common shares
  outstanding                           20,279,000    19,517,000    18,626,000
-------------------------------------------------------------------------------
</TABLE>

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

                                       20
<PAGE>

                           TRANSCEND SERVICES, INC.

               CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>

                                                                       ADDITIONAL                           TOTAL
                                       PREFERRED         COMMON         PAID-IN         RETAINED         STOCKHOLDERS'
                                         STOCK            STOCK         CAPITAL          DEFICIT            EQUITY
                                      -----------      ----------     ------------   --------------     --------------
<S>                                   <C>               <C>            <C>            <C>                <C>
Balance December 31,1994              $         -      $  105,000    $  1,710,000   $  (2,985,000)     $  (1,170,000)
Issuance of 7,792,446
 shares of Common Stock
 with merger                                    -          78,000      14,533,000               -         14,611,000
Issuance of 60,000
 shares of Common Stock
 in acquisition                                 -           1,000         171,000               -            172,000
Issuance of 527,130
 shares from exercise
 of options and other
 issuances                                      -           5,000         262,000               -            267,000
Net loss                                        -               -               -      (4,144,000)        (4,144,000)
Distribution to former
 Stockholder/Owner                              -               -               -         (38,000)           (38,000)
                                      -----------      ----------    ------------   --------------     --------------
Balance, December 31,1995                       -         189,000      16,676,000      (7,167,000)         9,698,000

Issuance of 521,725
 shares of Common Stock
 in private placement                           -           5,000       2,441,000               -          2,446,000
Issuance of 87,805
 shares of Common Stock
 in acquisitions                                -           1,000               -         312,000            313,000
Issuance of 476,054 shares of
 Common Stock from exercise
 of options and other
 issuances                                      -           5,000         863,000               -            868,000
Net loss                                        -               -               -      (7,243,000)        (7,243,000)
Distribution to former
 Stockholder/Owner                              -               -               -        (121,000)          (121,000)
                                      -----------      ----------    ------------   --------------     --------------
Balance, December 31, 1996                      -         200,000      19,980,000     (14,219,000)         5,961,000
Issuance of 212,800
 shares of Preferred Stock
 in private placement                       2,000               -       5,318,000               -          5,320,000
Issuance of 461,848 shares of
 Common Stock from exercise
 of option and other
 issuances                                      -           5,000         910,000               -            915,000
Net loss                                        -               -               -      (3,998,000)        (3,998,000)
Distribution to former
 Stockholder/Owner                              -               -               -        (285,000)          (285,000)
                                      -----------      ----------    ------------   --------------     --------------
Balance, December 31, 1997            $     2,000      $  205,000    $ 26,208,000  $  (18,502,000)     $   7,913,000
                                      ===========      ==========    ============   ==============     ==============
----------------------------------------------------------------------------------------------------------------------
</TABLE>

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

                                       21
<PAGE>


                           TRANSCEND SERVICES, INC.

                     CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
                                                                               YEARS ENDED DECEMBER 31,
                                                                       1997               1996              1995
                                                                   -----------        -----------        ----------
<S>                                                                 <C>                <C>                <C>
CASH FLOWS FROM OPERATING ACTIVITIES:

Net loss                                                           $(3,998,000)       $(7,243,000)      $(4,144,000)
                                                                   -----------        -----------        ----------
  Adjustments to reconcile net loss to net cash used in
    operating activities:
  Depreciation and amortization                                      1,667,000          1,460,000         1,161,000
  Non-recurring charges                                              2,338,000          1,700,000                 -
  Loss related to discontinued operations                              147,000          1,582,000           479,000
Changes in assets and liabilities:
  Accounts receivable, net                                          (1,164,000)          (333,000)       (1,561,000)
  Prepaid expenses                                                    (432,000)          (235,000)         (187,000)
  Deposits and other assets                                           (339,000)           243,000          (351,000)
  Accounts payable                                                  (1,211,000)           734,000           (41,000)
  Accrued liabilities                                                  892,000            704,000           315,000
  Other                                                                      -            (20,000)          123,000
                                                                   -----------        -----------        ----------
Total adjustments                                                    1,898,000          5,835,000           (62,000)
Net cash used in continuing operations                              (2,100,000)        (1,408,000)       (4,206,000)
Net cash provided by (used in) discontinued operations                (215,000)        (1,745,000)          202,000
                                                                   -----------        -----------        ----------
Net cash used in operating activities                               (2,315,000)        (3,153,000)       (4,004,000)
                                                                   -----------        -----------        ----------

CASH FLOWS FROM INVESTING ACTIVITIES:
  Capital expenditures                                              (2,108,000)        (1,428,000)       (1,329,000)
  Disposal and transfer of property                                         -              11,000            60,000
  Cash acquired from acquisitions                                           -              37,000         7,560,000
  Acquisitions                                                              -                   -        (1,527,000)
  Distribution to former shareholder/owner                            (285,000)          (121,000)          (38,000)
                                                                   -----------        -----------        ----------
Net cash (used in) provided by investing activities                 (2,393,000)        (1,501,000)        4,726,000
                                                                   -----------        -----------        ----------

CASH FLOWS FROM FINANCING ACTIVITIES:
  Borrowings from short-term debt                                            -                  -            16,000
  Repayments on short-term debt                                              -           (100,000)                -
  Borrowings under line of credit agreement                          4,701,000          2,118,000            67,000
  Repayments on line of credit agreement                            (2,118,000)           (19,000)       (2,024,000)
  Borrowings from long-term debt                                       104,000             98,000                 -
  Principal payments long-term debt                                   (336,000)          (218,000)          (76,000)
  Proceeds - convertible debentures                                          -                  -         2,000,000
  Proceeds from private placement of preferred stock                 5,320,000                  -                 -
  Proceeds from private placement of common stock                            -          2,446,000                 -
  Proceeds - stock options and other issuances                         915,000            868,000           267,000
                                                                   -----------        -----------       -----------
Net cash provided by financing activities                            8,586,000          5,193,000           250,000
                                                                   -----------        -----------       -----------

Net increase in cash and cash equivalents                            3,878,000            539,000           972,000
Cash and cash equivalents, at beginning of year                      1,663,000          1,124,000           152,000
                                                                   -----------        -----------       -----------
Cash and cash equivalents, at end of year                          $ 5,541,000        $ 1,663,000       $ 1,124,000
                                                                   ===========        ===========       ===========

Supplemental cash flow information:
Cash paid for interest expense                                     $   483,000        $   311,000       $    56,000
--------------------------------------------------------------------------------------------------------------------

The accompanying notes are an integral part of these consolidated statements.
</TABLE>


<PAGE>

                            TRANSCEND SERVICES, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                       DECEMBER 31, 1997, 1996, AND 1995



1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES


  Transcend Services, Inc.  ("Transcend" or the "Company") provides healthcare
information management (''HIM'') solutions to hospitals and other associated
healthcare providers. The Company's range of HIM services includes (i) contract
management, or "Co-Sourcing", of medical records and other HIM functions; (ii)
transcription of physicians' dictated medical notes; and (iii) consulting
relating to medical records and reimbursement coding. The Company currently
operates the medical records and certain other HIM functions of 21 general acute
care hospitals located in 11 states and the District of Columbia. The Company,
through its wholly-owned subsidiary Transcend Case Management, Inc. ("TCM"),
also provided case management and disability management services to insurance
carriers, third party administrators and self-insured employers; however, the
net assets of TCM were sold in March 1998.


BASIS OF PRESENTATION


  The consolidated financial statements include the accounts of the Company and
its wholly-owned subsidiary, Transcend Case Management, Inc. All significant
inter-company accounts and transactions have been eliminated in consolidation.



USE OF ESTIMATES


  The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts and disclosures in the Company's financial
statements and accompanying notes. Actual results could differ from those
estimates.


CASH AND CASH EQUIVALENTS


  The Company considers all highly liquid investments purchased with an original
maturity of three months or less to be cash equivalents.


ACCOUNTS RECEIVABLE


  Accounts receivable are recorded net of an allowance for doubtful accounts
established to provide for losses on uncollectible accounts based on
management's estimates and historical collection.  Charges for bad debts were
$100,000, $101,000, and $-0- in 1997, 1996, and 1995, respectively.


REVENUE AND COST RECOGNITION


  Revenue is recognized monthly as the services are performed.  Implementation
fee revenue is recognized over the first four months of a contract.  Service and
implementation costs are expensed as incurred.


PROPERTY AND EQUIPMENT


  Property and equipment is stated at cost, less accumulated depreciation.
Charges for depreciation of capital assets are computed using the straight-line
method over their estimated useful lives, which range from three to five years.


INCOME TAXES


  The Company accounts for its income taxes in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 109. Deferred tax assets and
liabilities are recognized for the expected tax consequences of temporary
differences between tax basis of assets and liabilities and their reported
amounts and for operating loss and tax credit carry-forwards.

                                       23
<PAGE>

                            TRANSCEND SERVICES, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                       DECEMBER 31, 1997, 1996, AND 1995



GOODWILL AND OTHER INTANGIBLE ASSETS


  Goodwill and other intangible assets are amortized over periods ranging from
three to thirty years. On January 1, 1996 the Company adopted SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of."  Under SFAS No. 121, the Company periodically evaluates whether
events and circumstances have occurred that indicate that the remaining
estimated useful life of goodwill may warrant revision or that the remaining
balance of goodwill may not be recoverable. When factors (such as a change in
law or regulatory environment or forecasts showing changing long-term
profitability) indicate that goodwill should be evaluated for possible
impairment, the Company uses an estimate of the related business unit's
undiscounted net income over the remaining life of the goodwill to measure
whether the goodwill is recoverable. In December 1997, the Company recorded a
charge of $1.8 million for the impairment of its goodwill associated with its
subsidiary (See Note 11.)



FAIR VALUE OF DEBT


  In accordance with SFAS No. 107, "Disclosures About Fair Value of Financial
Investments", the fair value of short-term debt is estimated to approximate its
carrying value. The fair value of long-term debt is estimated based on
approximate market interest rates for similar issues. The estimated fair value
of long-term debt at December 31, 1997 and 1996 was equal to the carrying amount
included in the accompanying balance sheets.


NET LOSS PER COMMON SHARE AND COMMON SHARE EQUIVALENT


  Effective December 31, 1997, the Company has adopted SFAS No. 128, "Earnings
per Share."  SFAS No. 128 establishes standards for computing and presenting
earnings or loss per share ("EPS".)  Basic EPS is computed based on the weighted
average number of shares of the Company's common stock outstanding. When the
impact of common equivalent shares from stock options, warrants and convertible
securities are anti-dilutive, they are not included in the computation of
diluted EPS.


NEW ACCOUNTING PRONOUNCEMENTS

  In June 1997, the Financial Accounting Standards Board issued SFAS No. 130,
"Reporting Comprehensive Income," which establishes standards for reporting and
display of comprehensive income and its components (revenues, expenses, gains,
and losses) in a full set of financial statements.  SFAS No. 130 requires that
all components of comprehensive income be reported in a financial statement that
is displayed in the same prominence as other financial statements.  SFAS No. 130
is effective for fiscal years beginning after December 15, 1997 and has not yet
been adopted by the Company.

  In June 1997, the Financial Accounting Standards Board issued SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related Information" which
establishes accounting standards for reporting information about operating
segments in annual financial statements.   SFAS No. 131 is effective for fiscal
years beginning after December 15, 1997 and has not yet been adopted by the
Company.

2. DISCONTINUED OPERATIONS

  The net loss and net assets from discontinued operations relate to the
operations of the Company's former subsidiaries,  First Western Health
Corporation and Veritas Health Management, which ceased operations as of April
30, 1993.  Net loss from discontinued operations represents costs for legal
proceedings associated with the $115 million civil lawsuit (the "Lawsuit") filed
by the Company (See Note 5.)  The net assets related to discontinued operations
relate to receivables from certain workers compensation insurance carriers from
the Company's former subsidiaries, net of reserves for collection liabilities.
Charges for legal expenses connected with the Lawsuit were $147,000 in 1997,
$1,582,000 in 1996 and $479,000 in 1995. All future out-of-pocket legal expenses
will continue to be expensed on a current basis going forward.




                                       24
<PAGE>

                            TRANSCEND SERVICES, INC.


                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                       DECEMBER 31, 1997, 1996, AND 1995


The net accounts receivable from the discontinued operations represent
reimbursements that are owed the Company by certain insurance companies from
applicant/legal evaluation services.  The Company has filed liens for all of the
gross accounts receivable outstanding as of December 31, 1997 with the
California Workers' Compensation Appeals Board ("WCAB") due to lack of timely
payment by the insurance companies.  While lien claimants are supposed to be
paid immediately, they are not entitled to a determination on the lien by an
administrative court until there has been a hearing on the employee's underlying
case. Accordingly, if an insurer fails to pay a medical-legal provider's bill as
required and continues to dispute payment after the filing of a lien, the
provider may have to wait years until the injured worker's health status reaches
the point that entitlement to benefits may be determined. In addition, after the
WCAB has made a determination as to payment, backlogs in the system often create
delays of several years before an order for payment can be obtained. The
situation is analogous to the several years or longer that it often takes in the
civil court system to obtain judgement after filing an action.


  At December 31, 1997, the net assets related to the discontinued operations
were $2,645,000, consisting of $5,841,000 of gross accounts receivable offset by
reserves for collection liabilities of $3,198,000.  Approximately 95% or
$5,549,000 of the gross accounts receivable are subject to stays, as discussed
below, pending the resolution of the Lawsuit.  Although it may take a number of
years, the Company does not believe that there is any dispute as to the
Company's ability to attempt collection on the liens. The Company has contracted
with a third party for servicing and managing the remaining accounts receivable
balance which are not subject to stays as discussed below.  The Company expects
to collect the receivables not subject to stays over the next several years.
During 1997, the Company collected approximately $152,000 on the receivables not
subject to stays and wrote off approximately $39,000.

  Four insurers that are defendants in the Lawsuit have obtained stays of the
proceedings before the WCAB, pending resolution of the Lawsuit.  The Company
believes that it will be able to collect such accounts as the stays of
proceedings only impact the timing of the Company's collection, not the
insurance companies' legal obligation to pay for the services rendered.

  In estimating net assets related to discontinued operations, the Company
believes that it has made adequate provisions as to the estimated amount of
gross receivables that the Company can expect to collect upon resolution of the
disputed receivables by the WCAB. The Company will continue to re-evaluate the
valuation of the net assets related to discontinued operations on an ongoing
basis. Any such re-evaluation could result in an adjustment that may potentially
be material to the carrying value of the asset.

3.   NON-RECURRING CHARGES


  In December 1997, the Company recorded charges of $2.3 million related to the
carrying value of long-lived assets and assets to be disposed of and for
restructuring of the Company's wholly owned subsidiary, Transcend Case
Management, Inc.  The charges were comprised of i.) $1.8 million related to the
adjustment of goodwill associated with the Company's wholly owned subsidiary,
Transcend Case Management, Inc. ("TCM") (See Note 12); ii.) $116,000 related to
the Company's restructuring of TCM in December 1997; iii.) $350,000 for the
write off of the remaining receivable balance from AmHealth, Inc. , see below,
after learning that there was no possibility of collection on the receivable;
and iv.) $75,000 related to the write off of certain obsolete assets.

  In August 1996, the Company took a $1.7 million charge for the write down of a
receivable related to the sale of a former subsidiary in September 1994 to
AmHealth, Inc.  In November 1996, AmHealth had its four Northern California
operating entities (three clinics and its Employee Services Division) foreclosed
on by the senior creditors.   The operations were turned over to the senior
creditors.

                                       25
<PAGE>

                            TRANSCEND SERVICES, INC.


                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                       DECEMBER 31, 1997, 1996, AND 1995


4. LONG TERM DEBT


 Long-term debt is summarized as follows at December 31, 1997 and 1996:

<TABLE>
<CAPTION>


                                                                                                 1997          1996
-----------------------------------------------------------------------------------------------------------------------
<S>                                                                          <C>              <C>          <C>
Notes payable, interest at 8.5% monthly payments
 of principal and interest of $11,284 through
 May 19, 2000..............................................................                   $  286,000   $   392,000
Notes payable, 10.75% interest, paid in full at DocuMedX acquisition.......                           --       239,000
Notes payable, 10% interest payable quarterly, annual principal
  payments of $35,000, matures April 15, 2000..............................                      104,000            --
$5,000,000 revolving line of credit, interest computed
 at prime plus 0.5 percent (8.75% at December 31, 1996)....................                           --     1,870,000
$750,000 equipment line, interest computed at prime
 plus 1 percent (9.25% at December 31, 1996)...............................                           --       248,000
$5,000,000 revolving line of credit, interest at prime plus 2.25 percent,
 (10.75% at December 31, 1997), matures May 31, 2000.......................                    4,701,000            --
8% convertible debentures, due August 15, 2000.............................                    2,000,000     2,000,000
------------------------------------------------------------------------------------------------------------------------
Total Debt.................................................................                    7,091,000     4,749,000
Less: Current Maturities...................................................                    (108,000)    (2,285,000)
------------------------------------------------------------------------------------------------------------------------
                                                                                             $6,983,000     $2,464,000
                                                                            --------------------------------------------
</TABLE>
  Convertible debentures bear interest at 8%, paid semi-annually, and are
convertible into common stock at $3.50 per share.  The debentures mature on
August 15, 2000 and are convertible by the Company if the market value of
Transcend's common stock equals or exceeds $10.50 per share for 30 consecutive
trading days.

  On April 3, 1997, the Company entered into a $5.0 million credit agreement
with Coast Business Credit ("Coast"), an asset-based lender (and a division of
Southern Pacific Thrift and Loan Association).  The agreement provides the
Company with a $4.7 million working capital facility and a $300,000 capital
expenditure facility secured by substantially all of the Company's assets. The
working capital facility has been used to pay off the previous credit
relationship with Silicon Valley Bank in full.  These new Coast facilities do
not contain any financial covenants but contain restrictions from paying
dividends and entering into financing arrangements without consent.  Coast has
consented to the payment of dividends related to the preferred stock and the
master lease agreement discussed below and in Note 8.



  Funding limits under the agreement are determined by a funding formula.  Under
the original terms of the agreement, the funding formula is based on 1.5 times
monthly contractual Co-Sourcing revenues, plus 80% of all medical transcription
receivables under 90 days (aging) under the working capital facility and up to
$300,000 on new capital expenditures under the capital expenditure facility.

  On August 8, 1997, the Company agreed to amend its credit facility with Coast.
Under the terms of the amendment, the term of the agreement was extended to May
31, 2000 and the funding formula modified to provide additional liquidity to the
Company by providing funding of 1.5 times average monthly receipts under long
term transcription contracts.  The amendment also provides for an increase in
the funding formula from 1.5 times to 2.0 times monthly contract revenues if the
Company's tangible net worth exceeds $5.0 million for five consecutive business
days.  As of December 31, 1997 outstanding borrowings under the line were
$4,701,000 with a total capacity of the credit line based on the funding formula
was $5.0 million.

  These facilities are priced at prime plus 2.25% declining to prime plus 1.75%
upon two consecutive quarters of achievement and ongoing maintenance of a debt
service coverage ratio of not less than 1.5 measured on an earnings before
interest, taxes, and amortization ("EBITA") basis.  EBITA is used by Coast as an
indicator of a company's ability to incur and service debt.  EBITA should not be
considered an alternative to operating income, net income, cash flows, or any
other measure of performance as determined in accordance with generally accepted
accounting principles, as an indicator of operating performance, or as a measure
of liquidity.  These facilities are secured by a first security interest on all
Company assets.

                                       26
<PAGE>

                            TRANSCEND SERVICES, INC.


                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                       DECEMBER 31, 1997, 1996, AND 1995



5. COMMITMENTS AND CONTINGENCIES

LEASE COMMITMENTS


  Future minimum annual rental obligations under operating leases as of December
31, 1997 are as follows:

<TABLE>
<CAPTION>
<S>                                                             <C>
  1998........................................................   $676,000
  1999........................................................    574,000
  2000........................................................    502,000
  2001........................................................    190,000
  2002........................................................     79,000
  Thereafter..................................................        -0-
                                                               ----------
                                                               $2,021,000
                                                               ==========
</TABLE>

  Rent expense was $573,000, $665,000 and $443,000 for the years ended December
31 1997, 1996 and 1995, respectively.

LITIGATION


  On September 17, 1993, the Company and its former subsidiaries, First Western
Health Corporation and Veritas Healthcare Management, and the physician-owned
medical groups, FWHC Medical Group, Inc. and Veritas Medical Group, Inc., which
had contracts with the healthcare subsidiaries, initiated a lawsuit in the
Superior Court of the State of California, County of Los Angeles, against 22 of
the largest California workers' compensation insurance carriers (the "Lawsuit".)
The Lawsuit was subsequently amended to name 13 defendant insurance groups
including State Compensation Insurance Fund, Continental Casualty Company,
California Compensation Insurance Company, Zenith National Insurance Corporation
and Pacific Rim Assurance Company. The action seeks $115 million in compensatory
damages plus punitive damages. The plaintiffs claim abuse of process,
intentional interference with contractual and prospective business relations,
negligent interference and unlawful or unfair business practices which led to
the discontinuation in April 1993 of the former business of the Company's
subsidiaries and their contracting associated medical groups.  Nine defendants
in the Lawsuit have filed cross complaints against the plaintiffs seeking
restitution, accounting from the plaintiffs for monies previously paid by the
defendants, disgorgement of profits, injunctive relief, attorneys' fees and
punitive damages, based upon allegations of illegal corporate practice of
medicine, illegal referral arrangements, specific statutory violations and
related improper conduct.  The Company and its counsel do not believe that it is
likely that the Company will be held liable on any of the cross complaints;
however, there can be no assurance that the Company will be successful in the
defense of the cross complaints. In addition, there can be no assurance as to
the recovery by the Company of the damages sought in its complaint against the
defendants. The costs associated with the conduct of the Lawsuit cannot be
ascertained with certainty but are expected to be substantial.



  On March 21, 1997, the Los Angeles County Superior Court sustained the
defendant insurance companies' demurrer to the Third Amended and Supplemental
Complaint of the Company and certain of its subsidiaries, without leave to
further amend the complaint.  The Court determined in such ruling that exclusive
jurisdiction with respect to the claims contained in the Lawsuit resides with
the California Workers' Compensation Appeals Board and that the Superior Court
of the State of California is an improper forum.  The Company has been advised
by counsel that there is no remedy for the damages claimed in the Lawsuit from
the California Workers' Compensation Appeals Board.  A final order dismissing
the Lawsuit was issued by the Court on June 18, 1997.  The Company appealed the
ruling in the California Court of Appeals on June 25, 1997.  There can be no
assurance that the Company will be successful appealing such dismissal.  By
stipulation, the carriers' cross-complaints against the plaintiffs were stayed
pending resolution of the plaintiffs' appeal.  The Company believes that the
trial court's ruling, if upheld by the appellate court, also would result in
dismissal of the cross-complaints.  There can be no assurance, however, that
such cross complaints would be dismissed.  The cross complaints expose the
Company to risk of liability which, if the Company is unsuccessful in the
defense of such cross complaints, could have a materially adverse impact on the
Company's results of operations for a particular period.    The Company believes
it has adequate defenses to the cross complaints.

                                       27
<PAGE>

                            TRANSCEND SERVICES, INC.


                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                       DECEMBER 31, 1997, 1996, AND 1995


  For the year ended December 31,1997, the Company expensed approximately
$147,000 of legal expenses connected with the lawsuit.   Under the original
agreement with the Company's counsel of record in the Lawsuit, there was a cap
on legal expenses and after December 1996, with respect to expenses incurred at
the trial court level, the Company would only be responsible for out-of-pocket
expenses and the payment to counsel of a percentage of any recovery of damages
by the Company.  However, in May 1997, the Company was notified that the partner
principally responsible for the case was leaving the firm with which the Company
contracted to handle the case.  The Company has moved the representation to new
counsel, which resulted in negotiation of a new fee arrangement requiring the
Company to pay additional legal expenses incurred in connection with the appeal.


  On June 22, 1995, an action was filed by Timothy S. Priest in his capacity as
administrator of the estate of Robert V. Taylor against Carol Brown, Debbie
Ostwald, Sullivan Health & Rehabilitation Management, Inc. ("Sullivan") and
Fireman's Fund Insurance Company, in the circuit Court of Franklin County,
Tennessee, alleging breach of the duty to provide reasonably competent nursing
care to an injured individual.  The  case was settled without cost to the
Company on  February 24, 1998.



6. RETIREMENT PLAN


  The Company maintains a 401(k) retirement plan that covers substantially all
eligible employees. Employees are eligible to contribute amounts to the plan
subject to certain minimum and maximum limitations. The Company matches employee
contributions on a discretionary basis as determined by the Company's board of
directors.  There have been no Company matches for 1997, 1996 and 1995.



7. TRANSACTIONS WITH RELATED PARTIES


  Certain members of the Company's board of directors and parties related to the
Company's board of directors have participated in the following private
offerings:

<TABLE>
<CAPTION>


Offering                          Offering Date    Percent of Offering
------------------------------------------------------------------------
<S>                             <C>                <C>
 Convertible Debentures         August 15, 1995                     23%
 Common Stock                   September 5, 1996                   69%
 Convertible Preferred Stock    November 15, 1997                   64%

</TABLE>
8. STOCKHOLDERS' EQUITY


  The Company has authorized 30,000,000 shares of common stock and 21,000,000
shares of preferred stock, $.01 par value.



  On November 14, 1997, the Company raised approximately $5.3 million in cash
through a private placement of 212,800 shares of newly issued Series A
Convertible Preferred Stock (the "Preferred Stock").  The Preferred Stock has a
$.01 par value, $25.00 stated value, and a dividend of 9% payable quarterly.
The shares of Preferred Stock are convertible into shares of common stock at any
time at the option of the holder at a conversion price of $3.375 per share.
Under certain circumstances the Company may, at its option, redeem the Preferred
Stock on or after November 15, 1998, in whole or in part, at the redemption
prices set forth below together with all accrued and unpaid dividends to the
redemption date.



                 Redemption Dates                      Redemption Prices
    -----------------------------------------------------------------------
    November 15, 1998 through November 14, 1999               109%
    November 15, 1999 through November 14, 2000               106%
    November 15, 2000 through November 14, 2001               103%
    November 15, 2001 and after                               100%

                                       28
<PAGE>

                            TRANSCEND SERVICES, INC.


                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                       DECEMBER 31, 1997, 1996, AND 1995



  The holders of the Preferred Stock may convert the Preferred Stock into shares
of Common Stock within 60 days following the Company's notice of redemption.



  On September 5, 1996, the Company raised $2.4 million in a private placement
of common stock and warrants to purchase common stock. A total of 522,000 shares
of common stock were sold at a price of $4.44 per share and a total of 522,000
warrants were sold at a price of $0.25 per warrant to 20 investors. The $4.44
price represents the ten-day average of the closing price of the Company's
common stock prior to the board meeting approving the private placement. The
securities issued in the private placement were issued in reliance on certain
exemptions from registration under federal and state securities laws. The shares
of common stock underlying the warrants and the common stock issued in the
private placement carry piggy-back registration rights, subject to certain
limitations, in the event the Company proposes to register the sale of any of
its securities for its own account or for the account of its stockholders.



9. STOCK OPTIONS AND WARRANTS


  The Company has established a stock option plan for the employees of the
Company. The plan provides for the issuance of incentive stock options and non-
statutory options.   Under this plan, options are granted for the Company's
common stock at the approximate fair value, as defined in the option agreement.



 The following is a summary of stock option transactions:
<TABLE>
<CAPTION>
                                                                                            WEIGHTED
                                                                                            AVERAGE
                                                                         AVERAGE PRICE       PRICE
                                                              OPTIONS      PER SHARE       PER SHARE
                                                            ----------   ------------    ------------
<S>                                                         <C>          <C>              <C>
Options outstanding, December 31, 1994...................      683,000     $.07 to $.30     $  0.15
Options issued in Merger (Note 11)                           1,158,000    $1.87 to $3.75       2.22
Granted..................................................      336,000    $1.87 to $5.75       3.55
Forfeited................................................     (161,000)    $.07 to $3.13       1.38
Exercised................................................     (511,000)    $.07 to $3.13       0.52
                                                            ----------                       ------
Options outstanding, December 31, 1995...................    1,505,000                         2.43
Granted..................................................      241,000    $4.00 to $11.38      6.79
Forfeited................................................     (222,000)    $.30 to $7.13       5.01
Exercised................................................     (398,000)    $.07 to $3.50       1.75
                                                            ----------                       ------
Options outstanding, December 31, 1996...................    1,126,000                         2.83
Granted..................................................      679,000     $.01 to $4.88       2.91
Forfeited................................................     (134,000)   $1.87 to $5.75       3.80
Exercised................................................     (428,000)    $.01 to $4.25       2.24
                                                            ----------                       ------
Options outstanding, December 31, 1997...................    1,243,000                       $ 3.11
                                                            ==========                       ======
Options eligible for exercise at December 31, 1997.......      536,646
                                                            ==========
</TABLE>

 At December 31, 1997 there were a total of 2,000 shares of common stock
available for grant.



  On April 30, 1996, the Company granted a warrant to purchase shares of its
Common Stock to Silicon Valley Bank, a California-chartered bank in connection
with two credit facilities the Company established with Silicon Valley East, a
Division of Silicon Valley Bank.  The warrant entitles the holder to purchase an
aggregate of 25,000 shares of the Company's Common Stock, subject to certain
adjustments, at an exercise price of $11.25 per share and expires April 30,
2001.


  In connection with the private placement of common stock on September 5, 1996,
the Company sold 522,000 warrants to purchase common stock (See Note 8.)  The
warrants have a five-year term and are exercisable at a price of $4.44 per
share, are redeemable by the Company at any time with thirty days notice (during
which time the holder may exercise the warrants) at an exercise price of $4.44
and are not transferable. The shares of common stock underlying the warrants and
the common stock issued in the private placement carry piggy-back registration
rights, subject to certain limitations, in the event the Company proposes to
register the sale of any of its securities for its own account or for the
account of its shareholders.

                                       29
<PAGE>

                            TRANSCEND SERVICES, INC.


                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                       DECEMBER 31, 1997, 1996, AND 1995




  The Company has elected to account for its stock-based compensation plans
under APB Opinion No. 25, under which no compensation cost has been recognized
by the Company.  However, the Company has computed, for pro forma disclosure
purposes, the value of all options for shares of the Company's common stock
granted during 1997 and 1996 to employees and non-employee directors of the
Company using the Black-Scholes option-pricing model and the following weighted
average assumptions:

<TABLE>
<CAPTION>


                                          1997           1996
---------------------------------------------------------------------
<S>                                  <C>              <C>

     Risk-free interest rate          5.33% - 6.72%    5.08% - 7.89%
     Expected dividend yield          0%               0%
     Expected lives                   Four years       Four years
     Expected volatility              0.70             0.70

</TABLE>


  The total fair value of the options granted during the years ended December
31, 1997 and 1996 was computed as approximately $920,000 and $517,000,
respectively, which would be amortized over the vesting period of the options.
If the Company had accounted for these plans in accordance with SFAS No. 123,
the Company's reported pro forma net loss for the years ended December 31, 1997
and 1996 would have been as follows:

<TABLE>
<CAPTION>


                                                        1997          1996
                                                    ------------  ------------
<S>                                                 <C>           <C>

     Net Loss:
       As reported                                  $(3,998,000)  $(7,243,000)
       Pro forma                                    $(4,348,000)  $(7,372,000)
     Basic and Diluted Net Loss per Common Share:
       As reported                                  $     (0.20)  $     (0.37)
       Pro forma                                    $     (0.21)  $     (0.38)

</TABLE>


  The following table sets forth the exercise price range, number of shares,
weighted average exercise price, and remaining contractual lives by groups of
similar price and grant date:

<TABLE>
<CAPTION>

                     Options Outstanding                                   Options Exercisable
       -------------------------------------------                     ---------------------------
                                   Number      Weighted                    Number
                                Outstanding     Average      Weighted    Exercisable    Weighted
            Actual                  at         Remaining      Average        at         Average
           Range of             December 31,  Contractua1    Exercise    December 31,   Exercise
        Exercise Price              1997          Life        Price         1997         Price
-------------------------------------------------------------------------------------------------
<S>                           <C>           <C>          <C>          <C>              <C>
     $  0.00-$0.05                   8,500          2.8       $ 0.02         4,750       $ 0.04
     $  1.88-$2.94                 778,396          2.2         2.32       381,146         2.21
     $  3.00-$5.63                 427,000          2.7         4.06       123,125         3.94
     $11.25-$11.38                  29,500          2.3        11.26        27,625        11.25
----------------------------     ---------          ---       ------       -------       ------
     $ 0.00-$11.38               1,243,396          2.4       $ 3.11       536,646       $ 2.22
============================     =========          ===       ======       =======       ======

</TABLE>

                                       30
<PAGE>

                            TRANSCEND SERVICES, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                       DECEMBER 31, 1997, 1996, AND 1995



10. INCOME TAXES


  The tax effects of temporary differences between the carrying amounts of
assets and liabilities in the financial statements and their respective tax
bases, which give rise to deferred tax assets and liabilities as of December 31,
1996 and 1997 were as follows:
<TABLE>
<CAPTION>


                                             1997          1996
                                         ------------  ------------
     <S>                                  <C>           <C>

     Deferred tax liabilities:
     Equipment and leasehold............  $  (110,000)  $   (71,000)
     Intangibles assets.................     (136,000)     (234,000)
     Discontinued operations............   (1,032,000)   (1,005,000)
     Equity.............................     (320,000)     (263,000)
                                          -----------   -----------

                                           (1,598,000)   (1,573,000)
                                          -----------   -----------

     Deferred tax assets:
     Net operating loss carry-forwards..    7,222,000     6,525,000
     Cash-basis deferral................      110,000       220,000
     Accrued liabilities................      191,000       226,000
     Valuation allowance................   (6,578,000)   (6,052,000)
                                          -----------   -----------

     Net deferred tax (liabilities).....  $  (653,000)  $  (654,000)
                                          ===========   ===========

</TABLE>

  At December 31, 1997, the Company had net operating loss carry-forwards of
approximately $18,517,000 which may be used to reduce future income taxes. If
not utilized these carry-forwards will begin to expire in 2007.  The Company has
Established a valuation allowance of  $6,578,000 and $6,052,000 at December 31,
1997 and 1996, respectively due to the uncertainty regarding the realizability
of certain deferred tax assets, including its net operating loss carry-forward.



11. ACQUISITIONS


  On January 10, 1995, Transcend acquired TriCare, Inc. in a merger accounted
for as a reverse merger.  The acquisition was treated as a purchase.  There were
approximately 7.8 million shares issued in the transaction resulting in goodwill
of approximately $3.2 million.  This goodwill is being amortized over twenty
years (See Note 3 for charges for impairment of goodwill.)  On June 15, 1994,
TriCare had completed the acquisition of Transcend Case Management, Inc. for an
adjusted purchase price of $3,285,000.  Subsequent to the Merger, the Company
issued a final payment of $285,000 in lieu of the $1,260,000 obligation which
was payable in stock in January 1995 and July 1995, to the former owners of
Sullivan Health Management in full satisfaction of its long-term obligation
related to the acquisition of Sullivan and gave the former owners a release from
any and all further liabilities in connection therewith.

  On January 31, 1995, the Company acquired the assets of International
Dictating Services ("IDS"), a Boston based medical transcription business for
approximately $832,000, which consisted of approximately $682,000 paid in cash
at closing with the balance payable to the sellers over the next two years.  The
Company accounted for the acquisition under the purchase method of accounting.
The results of operations for IDS are included in the statement of operations of
the Company beginning on the date of acquisition.  The fair value of tangible
assets acquired and liabilities assumed was $245,000 and $86,000, respectively.
The intangible related to customer lists is being amortized over seven years and
a non-compete agreement was amortized over two years.  The balance of the
additional intangible asset is goodwill which is being amortized over 20 years.

          On April 19, 1995, the Company acquired the assets of Medical
Transcription of Atlanta, Inc. ("MTA") for $1,372,000, consisting of $550,000
paid in cash at closing, promissory notes of  $650,000, and 60,000 shares of
Transcend common stock valued at $172,000 at the time of the acquisition.  The
Company accounted for the acquisition under the purchase method of accounting.
The results of operations for MTA are included in the statement of operations of
the Company beginning on the date of acquisition.  The fair value of tangible
assets acquired and liabilities assumed was $363,000 and $27,000, respectively.
Intangible assets related to customer lists are being amortized over seven years
and a non-compete agreement is being amortized over a three-year period.  The
balance of the additional intangible is goodwill, which is being amortized over
twenty years.

                                       31
<PAGE>

                            TRANSCEND SERVICES, INC.


                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                       DECEMBER 31, 1997, 1996, AND 1995



  On June 19, 1996 the Company acquired 100% of the capital stock of Greiner's
Medical Transcription, Inc. for 87,805 shares of Transcend common stock.  On
June 28, 1996, the Company acquired 100% of the capital stock of Express Medical
Transcription, Inc. for 230,000 shares of Transcend common stock.  On April 16,
1997, the Company acquired 100% of the capital stock of DocuMedX, Inc., a
Washington corporation for 608,800 shares of the Company's common stock.  The
consolidated financial statements have been restated to reflect the acquisition
of Express Medical Transcription, Inc. and DocuMedX, Inc. under the pooling of
interests method of accounting.



 12. SUBSEQUENT EVENTS


  On February 19, 1998, the Company signed a master lease agreement providing up
to $5.0 million in lease financing with Information Leasing Corporation, a
subsidiary of Provident Bank, Cincinnati, Ohio at interest rates equal to
Provident Bank prime rate plus two percent.  Subject to a review of the
underlying customer contract, the master lease agreement calls for equal monthly
payments over the term of the lease, typically the life of the underlying
contract, not to exceed five years.  The facility is intended to provide
financing for new electronic document management systems and transcription
systems required for new contracts.

  On March 16, 1998, the Company sold the net assets of its wholly owned
subsidiary, Transcend Case Management, Inc. ("TCM"), formerly Sullivan
Management Services, Inc., to CORE, INC., a publicly traded national provider of
managed disability and health care benefits management services.   Under the
terms of the agreement, Transcend will receive CORE stock with the value based
on the future annual revenues from CORE's operation of TCM as of a date, the
"Determination Date", to be determined at Transcend's discretion between April
1, 1999 and February 28, 2001.



  The net assets of TCM were re-evaluated and a charge of approximately $1.8
million related to the impairment of goodwill was recorded based upon the best
estimates of management related to its value (See Note 3.)   Accordingly, as of
December 31, 1997, TCM's net assets were $1.0 million comprised of net tangible
assets of $200,000 and goodwill of $800,000.

  TCM produced losses of approximately $1.0 million in 1997 and $728,000 in
1996.  While CORE has certain warranties related to the conduct of the business
of TCM until the Determination Date, there is a substantial risk that CORE will
not achieve operating profitability during the period.  Should CORE determine to
exit the business because they determine that the investment required to operate
the business of TCM is excessive, the Company may, at its option, re-acquire the
business for one dollar.  The Company believes that TCM is currently profitable
and that CORE will continue to grow revenue and increase profits, however, there
can be no assurances that CORE will not determine to exit the business.

                                       32
<PAGE>

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



 There has been no occurrence requiring a response to this item.



                                   PART III


ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT


The disclosures required herein are incorporated by reference from the Company's
proxy statement, dated March 27, 1998 in connection with the 1998 Annual Meeting
of Stockholders.


ITEM 11. EXECUTIVE COMPENSATION


The disclosures required herein are incorporated by reference from the Company's
proxy statement, dated March 27, 1998 in connection with the 1998 Annual Meeting
of Stockholders.



ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT


The disclosures required herein are incorporated by reference from the Company's
proxy statement, dated March 27, 1998 in connection with the 1998 Annual Meeting
of Stockholders.



ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS


The disclosures required herein are incorporated by reference from the Company's
proxy statement, dated March 27, 1998 in connection with the 1998 Annual Meeting
of Stockholders.



                                    PART IV


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

    (a) The following documents are filed as a part of this Annual Report for
    Transcend Services, Inc.:

    (1) Financial Statements


    The Consolidated Financial Statements, the Notes to Consolidated Financial
    Statements and the Report of Independent Public Accountants listed below
    appear as Item 8.


    Report of Independent Public Accountants.

    Consolidated Balance Sheets as of December 31, 1996 and 1997

    Consolidated Statements of Operations for the years ended December 31,
    1995, 1996 and 1997

    Consolidated Statements of Stockholder's Equity for the years ended December
    31, 1995, 1996 and 1997

    Consolidated Statements of Cash Flows for the years ended December 31, 1995,
    1996 and 1997

    Notes to Consolidated Financial statements

    No financial statement schedules are required

    (b) Reports on Form 8-K.   No reports on Form 8-K were filed by the Company
    during the fourth quarter of fiscal 1997.

                                       33
<PAGE>

 (c) Exhibits.

  --------


  The following exhibits are filed with or incorporated by reference into this
report. The exhibits which are denoted by an asterisk (*) were previously filed
as a part of, and are hereby incorporated by reference from, either (i) a
Registration Statement on Form S-1 under the Securities Act of 1933 for the
Company, Registration No. 33-32587, filed on December 14, 1989 (referred to as
"1989 S-1"); (ii) a Registration Statement on Form S-1 under the Securities Act
of 1933 for the Company, Registration No. 33-41361, filed on June 26, 1991
(referred to as "1991 S-1"); (iii) a Registration Statement on Form S-4 under
the Securities Act of 1933 for the Company, Registration No. 33-83344, filed on
December 2, 1993 (referred to as "S-4"); (iv) a Registration Statement on Form
S-3 under the Securities Act of 1933 for the Company, Registration No. 333-
19177, filed on January 2, 1997 (referred to as "S-3"); (v) a Registration
Statement on Form S-8 under the Securities Act of 1933 for the Company,
Registration No. 33-37685, filed on November 8, 1990 (referred to as "1990 S-
8"); (vi) a Registration Statement on Form S-8 under the Securities Act of 1933
for the Company, Registration No. 33-57072, filed on January 15, 1993 (referred
to as "1993 S-8"); (vii) a Registration Statement on Form S-8 under the
Securities Act of 1933 for the Company, Registration No. 333-16213, filed on
November 15, 1996 (referred to as "1996 S-8"); (viii) the Company's Current
Report on Form 8-K relating to an event which occurred on March 1, 1992
(referred to as "3/1/92 8-K"); (ix) the Company's Current Report on Form 8-K
relating to an event which occurred June 15, 1994 (referred to as "6/15/94 8-
K"); (x) the Company's Current Report on Form 8-K relating to an event which
occurred September 16, 1994 (referred to as "9/16/94 8-K"); (xi) the Company's
Annual Report on Form 10-K for the year ended May 31, 1990 (referred to as "1990
10-K"); (xii) the Company's Annual Report on Form 10-K for the year ended May
31, 1992 (referred to as "1992 10-K"); (xiii) the Company's Annual Report on
form 10-K for the year ended May 31, 1993 (referred to as "1993 10-K"); (xiv)
the Company's Quarterly Report on Form 10-Q for the quarter ended November 30,
1995 (referred to as "11/30/95 10-Q");  (xv) the Company's Quarterly Report on
Form 10-Q for the quarter ended June 30, 1995 (referred to as "6/30/95 10-Q");
(xvi) Amendment No. 1 to the Company's Quarterly Report on Form 10-Q for the
quarter ended September 30, 1996 (referred to as "9/30/96 10-Q/A No. 1"; or
(xvii) the Company's Quarterly Report on Form 10-Q for the quarter ended March
31, 1997 (referred to as "3/31/97" 10-Q").


EXHIBIT
NO.       DESCRIPTION
---       -----------

*2.1  -   Merger Agreement dated April 16, 1997 for acquisition of DocuMedX (3-
          31-97 10-Q, Exhibit 2.6)

 2.2  -   Purchase and Sale agreement dated March 16, 1998 with CORE, INC. for
          the sale of the net assets of Transcend Case Management, Inc.

*3.1.1 -  Certificate of Incorporation, as amended (1989 S-1, Exhibit 3(a))

*3.1.2 -  Certificate of Incorporation (6/30/95 10-Q, Exhibit 3)

 3.1.3 -  Certificate of Designation of Series A Convertible Preferred Stock

*3.2  -   Bylaws (as restated) (1993 10-K, Exhibit 3(a))

*4.1  -   1990 Employee Stock Purchase Plan (1990 S-8, Exhibit 4)

*4.2  -   1992 Stock Option Plan, as amended (1993 S-8, Exhibit 4(a))
*4.3  -   1992 Stock Option Plan, as Amended and Restated (1996 S-8, Exhibit
          4.1)

*4.4  -   Subordinated Convertible Debenture Purchase Agreement (9/30/95 10- Q,
          Exhibit 4)

*4.5  -   1986 Incentive Stock Option Plan, as amended (1989 S-1, Exhibit
          10(i))

*4.6.1-   Loan and Security Agreement, $5,000,000 Working Capital Line,
          provided by Coast Business Credit (3/31/97 10-Q No. 1, Exhibit 4.1)

*4.6.2-   Working Capital Note (3/31/97 10-Q No. 1, Exhibit 4.2)

                                       34
<PAGE>

*4.6.3 -  Amendment to Loan Agreement provided by Coast Business Credit
          (9/30/97 10-Q, No. 1, Exhibit 10.14.1)

 4.8   -  Certificate of Designation of Series A Convertible Preferred Stock

*4.9   -  Warrant to Purchase Common Stock Granted to Silicon Valley
          Bank(9/30/96 10-Q/A No. 1, Exhibit 4.4)

*4.10  -  Silicon Valley Bank Antidilution Agreement (9/30/96 10-Q/A No. 1,
          Exhibit 4.5)

*4.11  -  Silicon Valley Registration Rights Agreement (9/30/96 10-Q/ No. 1,
          Exhibit 4.6)

 4.12  -  Master Lease Agreement dated  February 20, 1998 between Transcend
          Services, Inc. and Information Leasing Corporation

*10.1  -  Form of Non-qualified Stock Option Agreement (1989 S-1, Exhibit
          10(g))

*10.2  -  Form of Incentive Stock Option Agreement (1989 S-1, Exhibit 10(j))

*10.3  -  Form of Incentive Stock Option Agreement under 1992 Stock Option
          Plan, as Amended and Restated (1996 S-8, Exhibit 4.2)

*10.4  -  Restated Rental and Management Agreement between First Western Health
          Corporation and FWHC Medical Group, Inc. dated January 17, 1990 (1989
          S-1, Exhibit 10(l))

*10.6  -  Management Agreement between Veritas Healthcare Management and Veritas
          Medical Group, Inc. dated as of January 1, 1991 (1991 S-1, Exhibit
          (10(b))

*10.9  -  Form of indemnification agreement (1993 10-K, Exhibit 10(a))

*10.10 -  Letter Agreement dated December 5, 1996 by and between the Company
          and VHA, Inc. (S-3, Exhibit 10.1)

*10.11 -  Services Agreement dated December 5, 1996 by and between the Company
          and VHA, Inc. (S-3, Exhibit 10.2)

 11    -  Statement re: Computation of earnings per share

 21.1  -  Subsidiaries of the Registrant

 23    -  Consent of Arthur Andersen LLP

 27    -  Financial Data Schedule (for SEC use only)

                                       35
<PAGE>

                                  SIGNATURES



  Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.



                                              TRANSCEND SERVICES, INC.



Dated: March 27, 1998

                                       By:    /s/ Larry G. Gerdes
                                           --------------------------------
                                                 Larry G. Gerdes
                                                     President
                                             and Chief Executive Officer



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



      Signature                  TITLE                         DATE
      ---------                  -----                         ----


/s/ Donald L. Lucas        Chairman of the Board           March 27, 1998
--------------------------
 Donald L. Lucas


 /s/ Larry G. Gerdes       President, Chief Executive      March 27, 1998
-------------------------  Officer and Director
 Larry G. Gerdes           (Principal Executive Officer)


 /s/ Doug Shamon           Executive Vice President        March 27, 1998
-------------------------  Finance, Chief Financial Officer,
 Doug Shamon               Treasurer and Secretary
                           (Principal Financial Officer)


/s/ B. Frederick Becker    Director                        March 27, 1998
-------------------------
 B. Frederick Becker


/s/ George B. Caldwell     Director                        March 27, 1998
-------------------------
 George B. Caldwell


/s/ Walter S. Huff, Jr.    Director                        March 27, 1998
-------------------------
 Walter S. Huff, Jr.



/s/ Charles E. Thoele      Director                        March 27, 1998
-------------------------
 Charles E. Thoele

                                       36