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                      SECURITIES AND EXCHANGE COMMISSION

                            Washington, D.C. 20549

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                                  FORM 10-K/A

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                               Amendment No. 2 to
                 Annual Report Pursuant to Section 13 or 15(d)
                     of the Securities Exchange Act of 1934
                  For the Fiscal Year Ended December 31, 1995

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                          Commission File No. 0-18217


                            TRANSCEND SERVICES, INC.


                             A Delaware Corporation
                  (IRS Employer Identification No. 33-0378756)
                           3353 Peachtree Road, N.E.
                                   Suite 1000
                             Atlanta, Georgia 30326
                                 (404) 364-8000

   The undersigned registrant hereby amends the following items, financial
statements, exhibits or other portions of its Annual Report on Form 10-K for the
fiscal year ended December 31, 1995:

(List all such items, financial statements, exhibits or other portions amended)

     Item  1.      Business.
     Item  3.      Legal Proceedings.
     Item  6.      Selected Financial Data.
     Item  7.      Management's Discussion and Analysis of Financial 
                   Condition and Results of Operations.
     Item  8.      Financial Statements and Supplementary Data.
     Item 14.      Exhibits, Financial Statement Schedule, and Reports on 
                   Form 8-K.
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                                     PART I

ITEM 1.   BUSINESS

General

     Transcend Services, Inc. (the "Company" or "Transcend") is a healthcare
services company focused on the emerging field of healthcare information
management ("HIM") services to hospitals and other associated healthcare
providers. The Company provides a range of HIM services, including: (i) contract
management ("outsourcing") of the healthcare information or medical records
function, as well as the admissions function; (ii) transcription of physicians'
dictated medical notes; and (iii) consulting services relating to medical
records and reimbursement coding. As of July 1, 1996, the Company operated, on a
contract management basis, the medical records and certain other HIM functions
of 18 general acute care hospitals located in 11 states and the District of
Columbia. The Company also provides case management and disability management
services to insurance carriers, third party administrators and self-insured
employers.

     The healthcare industry is undergoing significant and rapid change.
Hospitals and other healthcare providers have come under increased scrutiny from
regulators and third party payors. 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 medical records, admissions and other affiliated departments.

     With over 5,000 hospitals in the United States, the market for outsourcing
the management of medical records departments and other affiliated departments
is sizable. Approximately 3,000 hospitals in the United States have more than
100 beds and constitute the Company's first tier of market opportunity. American
Hospital Publishing, Inc. has reported that in 1995 two out of three U.S.
hospitals were outsourcing one or more departments. According to Modern
Healthcare magazine's 17th Annual Contract Management Survey, published in
September 1995, the total number of hospital management contracts increased by
nearly 12% from the end of 1993 to the end of 1994, from approximately 7,800 to
approximately 8,770.

     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.

Industry Overview

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     The healthcare industry is undergoing significant and rapid change.
Hospitals and other healthcare providers have come under increased scrutiny from
regulators and third party payors, which has forced the providers to examine
their cost structures and business practices. The 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. Healthcare information technology vendors have focused on
developing information systems such as "electronic medical records" that promise
to move all patient information on-line, giving all constituents immediate
access to relevant information. However, the development of such systems and
more importantly the widespread adoption of such systems is still several years
away. The Company believes that transitioning the medical record from paper to
electronic format will require a higher level of service in the performance of
certain HIM functions, including coding, record analysis and completion,
transcription, as well as others.

     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 and are now looking to outsource 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 and have more recently started to outsource critical
administrative functions such as patient health information management of
medical records departments and related functions including patient admission,
utilization review, quality assurance and the business office.

     Many hospitals are now turning to third party providers to apply their
expertise in managing not only the medical records, but admissions and other
affiliated departments as well. This development is helping providers control
costs and allowing them to concentrate on the core business of providing high
quality patient care and at the same time creating a significant opportunity for
third party service providers to assist hospitals and other healthcare providers
in processing and managing healthcare information across the pre- admission to
post-discharge continuum.

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"). 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 May
31,

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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. The Company
has one wholly-owned operating subsidiary, Sullivan Health and Rehabilitation
Services, Inc. ("Sullivan").

Business Strategy

     The Company's business strategy focuses on the application of advanced
technological tools and HIM expertise to improve the efficiency and productivity
of HIM services from pre-admission of the patient through post- discharge. Key
elements of the Company's business strategy consist of the following:

     Increase Penetration of Outsourcing Market. The Company is focused on
increasing its penetration of the healthcare information outsourcing market
through the implementation of an enhanced sales, marketing and lead generation
program. The Company's initial target market is comprised of the approximate
3,000 hospitals in the United States with more than 100 beds. The Company has
substantially expanded its marketing efforts, evidenced by the fact that the
Company conducted 49 onsite detailed consultations with potential customers
("operational assessments") through the four month period ended April 30, 1996
as compared to a total of 16 operational assessments during calendar 1995.
Furthermore, the Company intends to continue expanding its marketing efforts to
include large clinics, sub-acute care facilities, HMOs, skilled nursing
facilities and other healthcare providers as part of the integrated healthcare
delivery system.

     Apply Emerging Technology. Although the Company is a service company and
therefore does not intend to develop a proprietary software/hardware system, the
Company is technology oriented and intends to utilize the most effective
technology available to reshape the way information is managed across the
integrated healthcare delivery system to obtain new levels of cost
effectiveness. Through a strategic partnership with a small imaging company, the
Company has introduced an electronic document management ("EDM") product in two
of its contract management sites. However, the Company does not intend to invest
in the research and development of EDM systems, and to the extent that more
effective technological products become available, the Company will use such
technology, or partner with qualified technology companies, to establish the
most effective optical scanning or electronic imaging capabilities at its sites.

     Develop Information Service Centers. The Company has developed the concept
of an Information Service Center as a business model for the provision of future
outsourcing services in a format designed to further reduce hospital costs and
improve efficiencies by reducing and moving staff off-site and taking advantage
of economies of scale. Under the model, once the Company has signed contracts
with a group of healthcare provider customers which are under common ownership
and/or located in a given geographic area, the Company plans to consolidate all
of the functional and technological aspects of HIM services into one centralized
off-site service center. The Company believes that the Information Service
Center model offers several benefits, including the ability to perform similar
functions for multiple clients, to offer outsourcing services to larger
integrated delivery systems and to provide geographically spaced healthcare
providers with a central location for the receipt of patient data.

     Expand Range of Contract Management Services. Once the Company has
established itself in a hospital by successfully managing the medical records
department, the Company believes it is well positioned to manage other aspects
of the hospital's operations related to health information, including patient
admitting

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and the business office. As of July 1, 1996, the Company managed patient
admissions for five hospitals, but managed no business office functions for any
customers. The Company intends to pursue additional outsourcing business from
existing as well as new customers. The Company believes that additional
efficiencies in information management can be achieved through the management of
the record creation process at its point of beginning (pre-registration,
admitting) through post-discharge (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 services portfolio. 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 outsourcing relationships, including the business
office of the hospital, to be implemented over a larger shared client base.

Services

     Contract Management (Outsourcing). Contract management, or outsourcing, of
health information 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. The Company's principal source of revenues is currently from 
long-term contracts for outsourcing, or contract management, of the healthcare
information, or medical records, departments of hospitals. Under the terms of
its outsourcing contracts, the Company provides the contracting medical facility
with complete day-to-day management and operation of the facility's medical
records department, including maintenance of patient records, monitoring and
reduction of backlog in record keeping and chart completion, compliance with
record keeping and record retention requirements of governmental and other 
third-party payors, implementation of record coding functions to optimize
reimbursement, medical record abstracting and maintenance of record storage and
retrieval systems.

     With respect to staffing requirements, the Company's outsourcing contracts
are of two types. The first is a "Management Only" contract by which 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. The second type is
a full contract management services agreement by which the Company provides not
only a records-management director but also 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
employees of a hospital's outsourced department and is rarely required to hire
new employees.

     A significant feature of the Company's contract management services is the
use of a Professional Services Team, made up of highly skilled and experienced
professionals, whose responsibility is to act as an internal consulting team to
its outsourced customers. This team is used during initial implementation to
reengineer the outsourced department's work processes, 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 outsourcing
marketplace.

     The Company believes that the application of better technology in contract
management will reshape the way information is managed across the healthcare
delivery system in the future and provide additional cost savings. Although the
Company does not intend to directly invest in research and development of
electronic document management ("EDM") systems, it will use the most effective
technology available to the extent that

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its customers desire to implement such systems. Such technology is designed to
provide simultaneous access to the medical record by multiple users. The Company
has worked with a small imaging company to develop and beta test an EDM product,
trademarked "TransChart(TM)," and has now installed this optical scanning
product in two of its contract management sites. The Company has a non-exclusive
agreement with the imaging company to use such company's hardware and software
products, and obtain maintenance and support services, pursuant to a set fee
schedule, and such company has agreed to make certain modifications to its
products at the request of the Company. The Company will continue to use this
technology, or partner with qualified providers, to establish the most effective
optical scanning capabilities at its sites. The application of more advanced
technologies is a key factor in the Company's planned implementation of its
Information Service Center concept. See "-- Future Outsourcing Services--
Information Service Centers."

     Management of the Company believes that through its services, it provides
immediate and long-term cost savings to its healthcare provider customers which
helps them compete in a managed care environment. The Company also believes that
healthcare providers have overlooked other services which are attractive
outsourcing candidates such as admissions, utilization review, quality assurance
and the business office. Because such services are essential to the efficient
flow of information along the pre-admission to post-discharge continuum in the
healthcare delivery system, the Company believes that these services are suited
to outsourcing and are a natural extension of the outsourcing of the medical
records department.

     The Company believes that there is a significant outsourcing opportunity in
the healthcare industry to provide multiple information management and
processing functions on an integrated basis beginning before a patient is
admitted, through the creation and management of the medical record and
continuing after a patient is discharged, in the business office. It is the
intention of the Company to seek more outsourcing contracts providing fully-
integrated health information management across multiple departments of the same
institution for a single fee. Under the terms of five of the Company's
outsourcing contracts, the Company has undertaken to provide not only medical
records management services, but also to manage that hospital's patient access
(admissions) function. The Company also manages the social services, utilization
management and quality management functions for two hospitals. Although, as of
July 1, 1996, the Company had no outsourcing contracts for the hospital business
office, the Company is exploring opportunities for contract management of the
business office. 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.

     Future Outsourcing Services--Information Service Centers. The Company has
developed the concept of an Information Service Center ("ISC") as a business
model for the provision of future outsourcing services in a format designed to
reduce hospital costs and improve efficiencies. The Company has hired an outside
consultant to assist the Company in the development of a design for the work
flow processes of the ISC and related equipment requirements. The Company
expects the consultant's assessment to be completed by the end of August 1996.
Under the model, once the Company has signed contracts with a group of
healthcare provider customers which are under common ownership and/or located in
a given geographic area, the Company plans to consolidate all of the functional
and technological aspects of HIM services into one centralized service center.
Specific areas of initial focus would include functions such as chart assembly
and analysis, coding, transcription and information retrieval and storage. In
order to streamline the flow of patient information as much as possible,
additional labor intensive services such as scheduling, preregistration
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, all of the staff performing these functions would be
relocated to the

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service center, with the potential for a significant portion of the personnel to
become home-based "telecommuters." Fewer than ten individuals 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, oversee compliance issues
and other management functions. The Company believes that the ISC model offers
several benefits, including the ability to (i) perform similar functions for
multiple clients that are common throughout the pre-admission to post-discharge
healthcare continuum, thereby increasing efficiency and reducing staffing needs,
(ii) offer outsourcing services to larger integrated delivery systems with
multiple facilities and to provide geographically spaced healthcare providers
with a central location from which they receive patient data, and (iii) increase
the scope 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.

     Medical Transcription Services. The Company entered the medical
transcription services business because it saw an opportunity to improve
accuracy, reduce turnaround time and improve margins for its contract management
customers, primarily through advances in technology. The market for medical
transcription is not formally tracked, but the Executive Director of the Medical
Transcription Industry Alliance has estimated that the total U.S. market for
medical transcription services is in excess of the one billion dollar range, and
that the market is continuing to experience growth as more hospitals outsource
their medical transcription needs. The medical transcription services market is
highly fragmented, with over 500 transcription companies nationally.

     The Company's transcription business provides a computer-based service for
transcription of physician dictation for hospitals. While its service
arrangements vary from institution to institution, some of which require
transcription to be performed on-site or by hospital employees, the
transcription division's services are primarily defined as transcription of
dictation at remote locations, and transmission via modem or similar telephone
link into the computer data base of the contracting hospital. As a result, while
it provides services to over 100 different medical institutions in the eastern
half of the United States, the transcription division is able to provide such
services from a central office and therefore many of its transcription employees
are able to work as "telecommuters" using networked computer terminals in their
homes.

     The Company is typically paid for its transcription services on a
production basis at rates determined on a per-line-transcribed basis. The
Company also provides transcription services in connection with nine of its
contract management contracts. Where transcription services are included as part
of the services provided in the Company's outsourcing contracts, the services
are provided internally by the Company's transcription sites as part of the
overall services provided by the Company for a set contract fee. The Company
seeks wherever possible to cross-market its transcription services with its
outsourcing contract services, using the institutions with which it has
outsourcing contracts as a base for generation of additional transcription
business and using the institutions with which it has transcription contracts as
a basis for generating additional contract management business.

     Consulting and Coding Services. The Company continues to offer independent
consulting services to hospitals on a case by case basis, and believes that its
consulting services comprise an additional services offering to its existing
customer base. The Company provides advice with respect to management and
operations of medical records departments and related healthcare information
functions, particularly reimbursement coding or "optimization" 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 records department management and related
services, are provided on a negotiated fee for service basis. The Company's
consulting and coding department includes specialists

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in various aspects of records coding and management. The Company recently added
a medical doctor to its staff of consultants, which will allow the Company to
offer consultation services to physicians who are interested in improving their
coding and reimbursement practices.

     Healthcare Case Management. Medical case management provides assessment,
care planning, recommendations, and care coordination services for injured and
ill persons covered by insurance carriers or self-insured employers. The Company
employs or contracts with registered nurses who act as a coordinator between the
patient, the healthcare providers and the insurance carriers, 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 provides
vocational evaluations and computerized skills assessments for clients covered
by insurance programs, workers' compensation, long-term disability and Social
Security disability. The Company faces a very competitive market on a national,
regional and local level, with all of the competition offering the full
continuum of cost containment products, including field case management,
telephonic case management, pre-certification utilization review, PPO networks,
bill repricing and managed care.

Customers

     The Company's current customer base consists primarily of hospitals for
which the Company provides contract management or outsourcing of the medical
records department, 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.


     With over 5,000 hospitals in the United States, the market for outsourcing
the management of medical records departments and other affiliated departments
is sizable. Approximately 3,000 of the hospitals in the United States have more
than 100 beds and constitute the Company's first tier opportunity. The Company
further screens potential hospitals through a variety of lead generation
methods, including a recently initiated telemarketing program, which helps
pinpoint those hospitals that may benefit most from outsourcing their medical
records department and focuses the Company's efforts on approximately 2,000
target hospitals.


     As the use of medical records management technology increases in the
future, the Company believes that three levels of healthcare provider customers
will emerge. The Company divides these customers into "No Tech," "Medium Tech,"
and "High Tech" categories. The No Tech customer is one that has not embraced
the use of technology within the facility's medical records functions to enhance
productivity, quality and costs. This customer will either lack the financial
resources and/or vision to progress past the paper record. For this customer,
the Company will continue to reengineer the paper processes and continue to
guarantee the customer reduced costs and improved quality, timeliness and
service. The Medium Tech customer will be ready to begin to leverage technology,
primarily through the use of optical scanning to reduce costs, improve quality
and timeliness and provide multiple users access to the same record
simultaneously. This will also allow for the electronic completion of the
patient record by the physician, providing a significant productivity tool for
the physician as well. The High Tech customer will likely initially be large 
for-profit systems or not-for- profit multi-hospital groups, which will be 
committed to the complete change of the medical record process as it is known
today. The Company believes that the High Tech customer group will be the
initial market for its Information Service Center concept.

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          Principal Customers.  Based on its revenues for the fiscal year ended
     December 31, 1993, fees paid by each of the following hospitals accounted
     for 10% or more of the Company's revenues in such period: Good Samaritan
     Hospital, Downers Grove, Illinois (37%); Greater Southeast Community
     Hospital, Washington, D.C. (including Fort Washington Medical Center, Fort
     Washington, Maryland) (11%); Tulane University Hospital and Clinic, New
     Orleans, Louisiana (10%). Based on its revenues for the fiscal year ended
     December 31, 1994, fees paid by each of the following hospitals accounted
     for 10% or more of the Company's revenues in such period: Good Samaritan
     Hospital, Downers Grove, Illinois (14%); Greater Southeast Community
     Hospital, Washington, D.C. (including Fort Washington Medical Center, Fort
     Washington, Maryland) (15%); Tulane University Hospital and Clinic, New
     Orleans, Louisiana (16%); and Memorial Medical Center of Jacksonville,
     Jacksonville, Florida (15%). Based on revenues for the fiscal year ended
     December 31, 1995, no hospitals had fees paid to the Company which amounted
     to or exceeded 10% of the Company's revenues.

     Sales and Marketing

          As of July 1, 1996, the Company employed ten full-time sales personnel
     in the contract management area of its business. Because the Company's
     outsourcing services are relatively new in the industry, marketing of those
     services has proceeded principally on the basis of personal contacts by the
     Company's sales personnel with senior hospital executives as well as
     referrals from its consulting clients. Beginning in early 1996, the Company
     has added a telemarketing program, targeting hospital chief executive and
     chief financial officers, in an effort to significantly improve qualified
     sales leads and shorten the overall sales cycle. Having established its
     initial base of outsourcing contract clientele, 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, Mid-Atlantic and
     Northeast). The Company's 1996 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. While management believes that this is an appropriate
     marketing strategy, particularly for consulting services, the Company has
     begun to implement a broader marketing campaign for its transcription
     services, particularly in those markets in which its transcription offices
     are located, and has employed two national sales persons targeting this
     business.

     Competition

          Management of the Company believes that the success of its outsourcing
     business is dependant upon the acceptance by hospitals and other healthcare
     providers of the concept of outsourcing medical records, admissions and
     other affiliated departments. Because this is an emerging field in the
     healthcare industry, the Company's greatest competition presently comes
     from existing, internal medical records departments of hospitals, which
     often resist the outsourcing 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, including loss of control of the outsourced
     function, information quality and integrity concerns, and a bias against
     outsourcing due to previous poor experiences. As of July 1, 1996, there was
     one national firm, HealthTask, Inc. (a 50/50 joint venture between Ernst &
     Young and Norrell) and one regional firm, Pyramid, Inc. (Southern
     California based), engaged in the same business. The Company expects that
     as the concept of outsourcing becomes more accepted, it will encounter
     further competition from some or all of the following sources: other
     traditional healthcare information management

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     consultants; coding consultants; multi- specialty healthcare services
     businesses which currently provide contract management to clinical,
     housekeeping, dietary or other non-medical services departments of
     hospitals; management information services providers, particularly
     developers and vendors of management software; and other parties in
     contract management businesses (for example, business or financial
     management services) desiring to enter the healthcare field. The Company
     expects that competitive factors will include reputation for expertise in
     health information management, size and scope of referenceable accounts,
     prior experience in outsourcing, and pricing. Additionally, there are
     companies that operate in other areas of the health information management
     spectrum, including admissions, the business office and transcription. As
     the Company expands its scope into these other areas of health information
     management, the Company expects to confront other, perhaps better
     established, better capitalized and larger competitors.

          The Company experiences competition with respect to both its
     transcription and consulting business from a variety of sources, including,
     in each case, both local and national businesses. The markets both for
     medical transcription services and for medical records coding and
     consultation services are highly fragmented, and no competitor or
     identifiable group of competitors could be said to be dominant. The Company
     believes the principal competitive factors in each case include reputation
     and prior experience, and in the case of transcription services, pricing,
     timeliness (i.e., turnaround times on transcribed documents) and accuracy
     of performance. In both fields, the Company, in some cases, competes with
     larger, better known and better capitalized competitors. With respect to
     its case management business, the Company competes with several large
     national vendors including Comprehensive Rehabilitation Associates, CorVel,
     Intracorp and Genex, Inc., as well as many regional and local competitors
     that have established a niche in the business. Additionally, many insurance
     carriers and third party administrators have developed case management
     programs of their own rather than outsourcing this business.

     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 are registered nurses. These
     individuals are subject to certain licensing standards in the states in
     which they practice, and are responsible for maintaining their licenses.
     The Company's case management division is not subject to any material
     governmental regulation, although certain states in which the Company
     provides 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 July 1, 1996, the Company had approximately 717 full-time
     employees and 165 part-time employees, including 27 administrative and
     executive employees at its headquarters office in Atlanta, Georgia; 26
     employees in sales and marketing or consultative functions; and 536
     employees at outsourcing sites (includes 181 employees from Pinnacle Health
     System, a contract which terminated on August 1, 1996) as well as 293
     employees in its medical transcription operations. As of that date,
     Sullivan had 46 full-time employees, seven part-time employees and
     contracts with over 29 registered nurses who are not employees of the

                                       9
<PAGE>
 
     Company. The Company also supervises an additional 139 employees of
     contracting hospitals at outsourcing sites, pursuant to the terms of its
     outsourcing agreements. Neither the Company nor any of the employees it
     supervises is currently a party to any collective bargaining agreement; the
     hospital employees at one outsourcing 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.

     Discontinued Operations

          At December 31, 1995, the net assets related to the discontinued
     operations of the Company's healthcare subsidiaries,  First Western and
     Veritas both of which ceased operations as of April 30, 1993, were
     $2,414,000 in net accounts receivable.   The collection liabilities of
     First Western and Veritas have been deducted in determining net accounts
     receivable.  In October 1995, the Company sold approximately 38% of the
     gross accounts receivable to a third party with which the Company has also
     contracted with to service and manage the remaining accounts receivable
     balance for a set fee. The net accounts receivable from the discontinued
     operations represent reimbursements that are owed the Company by certain
     insurance companies from applicant/legal evaluation services provided by
     FWHC Medical Group, Inc. and Veritas Medical Group, Inc., two managed
     medical groups associated with the Company's former subsidiaries, First
     Western and Veritas.  The applicant/legal evaluation services were provided
     to injured California workers who, under Section 4620 of the California
     Labor Code (the "California Code"), are entitled to "medical-legal"
     testimony from a physician of his or her choosing in order to provide
     medical evidence that he or she is entitled to benefits under the
     California workers' compensation system.  Under section 4621 of the
     California Code, employers are responsible for paying the employees' costs
     of such medical-legal testimony that are reasonably, actually and
     necessarily incurred.  Although payment for such expenses must be made or
     objected to within 60 days of receipt of the billing from the provider,
     many insurance companies fail to pay promptly.

          In the event of non-payment, a lien is filed with the California
     Workers' Compensation Appeals Board ("WCAB"), an administrative body
     charged with determining an insurance company's liability for the payment
     of medical-legal evaluation services.  In connection with the accounts
     receivable owed the Company, liens have been filed with the WCAB for all
     $6,670,000 of the gross accounts receivable outstanding as of December 31,
     1995.  While lien claimants are supposed to be paid immediately, they are
     not entitled to a determination as to the collectability on the lien by an
     administrative court hearing 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, even if the case in chief has
     been determined, 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.  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 and
     expects to collect the accounts receivable from discontinued operations
     over the next several years under the provisions of the sale and service
     agreement that the Company has entered into with the third party for
     servicing and managing the remaining accounts receivable balance.  During
     fiscal 1995, the Company collected approximately $2,536,000 on the
     receivables and wrote off approximately $3,520,000, exclusive of the gross
     receivables sold to the third party.  As a further delay to the Company
     obtaining an order of payment from the WCAB, four insurers that are
     defendants in the Lawsuit (see "Item 3. Legal Proceedings") have obtained
     stays of the proceedings before the WCAB, pending resolution of the
     Lawsuit. Such stays relate to the collection of $5,500,000 of the total
     gross receivables.  Although over 80% of the accounts receivable are
     subject to the stays of proceedings, the Company believes that it will be
     able to collect

                                       10
<PAGE>
 
     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 accounts receivable, 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 by the California WCAB of the collectibility of the disputed
     receivables.  The Company will continue to re-evaluate the net
     realizability 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.

          In September 1994, the Company sold substantially all of the assets
     and liabilities of its wholly-owned subsidiary, Occu-Care, Inc., which
     operated industrial medical clinics, to AmHealth, Inc. ("AmHealth") for a
     purchase price of $4,000,000. The purchase price included $1,500,000 in
     cash paid at closing and the issuance of two promissory notes bearing
     interest at 8% per annum. AmHealth defaulted on the first interest payments
     on the two notes. In conjunction with the Merger on January 10, 1995, the
     Company recorded these notes as one note due for $2,050,000, which was the
     Company's estimate of their fair value (using a discounted cash flow
     approach). AmHealth defaulted on a December 1, 1995 mandatory redemption of
     a portion of this obligation. However, in December 1995, AmHealth executed
     a Letter of Intent with CORE, Inc., a public company, pursuant to which, in
     exchange for CORE stock, CORE would purchase substantially all the assets
     of AmHealth in a transaction expected to close by May 1996. If the above
     transaction occurs, the Company would likely settle AmHealth's $2.5 million
     obligation to Transcend in exchange for CORE stock. There can be no
     assurance that the CORE/AmHealth transaction will close and there can be no
     assurance that the amount the Company will ultimately realize on the notes
     will not be materially less than the carrying value of the investment as
     reflected in the Company's financial statements. See Note 2 of "Notes to
     Consolidated Financial Statements."

     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 healthcare 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 health care 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, which lawsuit was subsequently amended to
     name 16 defendants (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 healthcare
     subsidiaries and their contracting associated medical groups (the
     "Lawsuit"). The claims arise out of the Company's former business, which
     prior to the merger with Transcend Services, Inc., included the business of
     providing medical/legal evaluations and medical treatment services (in
     association with managed medical groups) in the workers' compensation
     industry in California. Seven 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 case is presently in the early stages of discovery. The
     defendants have filed various motions to dismiss and other motions seeking
     the failure of the plaintiffs' cause of action, none of which have been
     successful. The Company and its counsel do not

                                       11
<PAGE>
 
     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. Based upon facts and circumstances known to
     date, in the opinion of management, final resolution of the Lawsuit will
     not have a material adverse effect on the Company's financial condition,
     results of operations or liquidity. See Note 2 of "Notes to Consolidated
     Financial Statements."

          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 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 plaintiff demands compensatory damages in the
     amount of $1 million and punitive damages in the amount of $2 million, plus
     costs. Management of the Company believes that the Company has meritorious
     defenses to the allegations and intends to vigorously contest liability in
     this matter. At the present time, management of the Company cannot predict
     the outcome of this litigation, but does not believe that the resolution of
     the litigation will have a material adverse effect on the Company's
     financial condition, results of operations or liquidity.



                                      PART II

    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 as of December 31, 1994 and 1995
    and the consolidated financial statements for the three years in the period
    ended December 31, 1995. The report of Arthur Andersen LLP, independent
    public accountants, with respect to such consolidated financial statements
    as of December 31, 1994 and 1995 and for the three years in the period ended
    December 31, 1995 is included on page 18. The consolidated financial
    statements of the Company for each of the years in the two-year period ended
    December 31, 1992 were derived from financial statements audited by another
    firm of independent certified public accountants. This selected consolidated
    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>
                                                      YEARS ENDED DECEMBER 31                
                                         ----------------------------------------------------
                                   1991           1992           1993            1994            1995      
                                   ----           ----           ----            ----            ----                              
<S>                                <C>            <C>            <C>            <C>             <C>                               
STATEMENTS OF CONTINUING                                                                                                           
OPERATIONS                                                                                                                         
                                                                                                                                   
DATA (1)(2):                                                                                                                       
Net revenues....................   $1,854         $1,702         $6,208         $12,393         $25,882                            
Direct Costs....................    1,074            893          5,125          10,787          22,334                            
                                   ------         ------         ------         -------         -------                            
Gross profit....................      780            809          1,083           1,606           3,548                            
Marketing and sales                                                                                     
 expense........................      362            209            378             929           2,186                            
General and                                                                                             
 administrative                                                                                                                    
 expense........................      538            715          1,330           1,673           4,604                            
Amortization expense                                                                                                               
 of intangible assets...........       --             --            310             357             633 
                                   ------         ------         ------         -------         ------- 
</TABLE> 
                                       12
<PAGE>
 
<TABLE> 
<CAPTION> 

                                                      YEARS ENDED DECEMBER 31                
                                         ----------------------------------------------------

                                   1991           1992           1993            1994            1995 
                                   ----           ----           ----            ----            ---- 
<S>                                 <C>            <C>            <C>            <C>             <C>   
                                                                                                                                   
Operating loss                      (120)          (115)          (935)         (1,353)         (3,875)                            
Interest, net                        (40)           (16)          (132)            (65)            (21)                            
Other                                  --            (2)            101              25              --                            
                                   ------         ------         ------         -------         -------                            
Total other income                   (40)           (18)           (31)            (40)            (21)                            
 (expenses)                        ------         ------         ------         -------         -------                            
                                                                                                                                   
Pre-Tax loss                        (160)          (133)          (966)         (1,393)         (3,896)                            
Provision for income                   --             --             --              13              --                            
 tax                               ------         ------         ------         -------         -------                            
Loss from continuing               $(160)        $ (133)         $(966)        $(1,406)        $(3,896)                            
 operations                        ======         ======         ======        ========        ========                            
Net loss from                      $(.04)         $(.02)         $(.11)        $  (.14)        $  (.22)                            
 continuing                                                                                                                        
 operations                                                                                                                        
 per share                                                                                                                     
Weighted average                                                                                        
 shares outstanding                 3,774          7,162          8,866           9,733          17,818                            
                                                                                                                                   
BALANCE SHEET DATA                                                                                                                 
Working capital                    $  384         $  202         $(552)        $(3,001)         $ (461)                            
Total assets                       $  922         $  790         $1,191        $  2,680         $16,354                            
Long-term debt and                                                                                      
 capital lease
 obligations                       $  355         $  300         $   --        $     --         $ 2,392 
Shareholders' equity               $  411         $  277         $  162        $(1,233)         $ 9,442
--------------------

</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 12 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 
            12 of "Notes to Consolidated Financial Statements."

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 is a healthcare services company focused on the emerging field of
healthcare information management ("HIM") services to hospitals and other
associated healthcare providers. The Company provides a range of HIM services,
including: (i) contract management ("outsourcing") of the healthcare information
or medical records function, as well as the admissions function; (ii)
transcription of physicians' dictated medical notes; and (iii) consulting
services relating to medical records and reimbursement coding. As of December
31, 1995, the Company operated on a contract management basis, the medical
records and certain other HIM functions of 14 general acute care hospitals
located in 11 states and the District of Columbia and, as of July 1, 1996, the
Company operated on a contract management basis, the medical records and certain
other HIM functions of 18 general acute care hospitals located in 11 states and
the District of Columbia. The Company also provides case management and
disability management services to insurance carriers, third party administrators
and self-insured employers.

    The Company intends to expand the range of its contract management services
to include management of other functional areas of hospitals, such as management
of patient access (admissions), utilization review, quality assurance and the
business office. As of December 31, 1995 and July 1, 1996, the Company provided

                                       13
<PAGE>
 
full contract management outsourcing services in the admissions departments for
five of the hospitals it manages. The Company is actively seeking to provide
this expanded range of services to its current and future hospital customers.
The Company also provides, through outsourcing as well as other contracts,
medical records transcription services through computer and telephone links from
centralized facilities to approximately 130 hospital customers.

    Approximately 3,000 hospitals in the United States have more than 100 beds
and constitute the Company's first tier of market opportunity. The Company had
contract management contracts covering the medical records departments of 14
hospitals as of December 31, 1995 and 16 hospitals as of July 1, 1996, ranging
in bed size from 56 beds to 541 beds, with the average contract size of
approximately $1.5 million. The initial contract terms of the Company's current
contracts range from two to five years and are generally terminable without
cause upon expiration of the initial term or for cause at any time during the
initial term thereof. The Company's existing contracts currently have remaining
terms ranging from approximately one to five years. Due to its limited operating
history in medical records management, the Company is unable at the present time
to assess or predict its contract renewal rate.

    The Company negotiates its contract management fees on a fixed installment
basis which represents, at contract inception, an immediate savings to the
contracting hospital as compared to its historical costs. In the early term of
such a contract, the Company's expenses in providing the contract services
remain relatively high, as a percentage of contract revenues received, as set-up
and training costs are incurred, new procedures are implemented and departmental
reorganizations are initiated. Completion of such steps should result in lower
operating expenses, which in turn should increase the profit margin of a
constant revenue stream over time. Due to the Company's limited operating
history in the contract management business, however, there can be no assurances
that operating expenses will sufficiently decrease over the life of such
contracts to achieve profitability.

    The Company is considering an alternative volume-based pricing structure,
based upon a hospital's activity levels such as weighted average number of
annual patient discharges, or a "per member per month" ("PMPM") capitated
pricing option similar to current pricing mechanisms used by managed healthcare
groups. As of July 1, 1996, the Company had signed one contract based on a
volume oriented pricing structure tied to weighted annual patient discharges.
There is an opportunity to realize higher margins on an activity-based pricing
structure. The principal advantage of a volume-based pricing mechanism is that
as a hospital's volume of business increases, the Company's revenues will
increase at a faster rate than operating expenses. However, if a customer's
business volume decreases, the Company's revenues will also decrease at a faster
rate than its operating expenses.

    The Company is typically paid for its transcription services on a production
basis at rates determined on a per-line-transcribed basis. Where transcription
services are included as part of the services provided in the Company's
outsourcing contracts, however, the services are provided by the Company as part
of a set contract fee. The Company is paid for its consulting and coding
services on a negotiated fee for services basis. In addition, the Company is
paid for its healthcare case management services primarily on an hourly basis.

    On January 10, 1995, the Company acquired a Georgia corporation then known 
as "Transcend Services, Inc." by the merger of Transcend Services into a
subsidiary of the Company. The merger was treated for financial accounting
purposes as the acquisition of the Company by the former Transcend Services and
the historical financial statements of the former Transcend Services have become
the financial statements of the Company and include the business of both
companies after the effective date of the merger. See "Business--History of the
Company."
                                       14
<PAGE>
 
     Results of Operations

           The Company's losses from operations in 1993, 1994 and 1995 were
     $935,000, $1,353,000 and $3,875,000, respectively. Management believes that
     the Company's operating losses are primarily attributable to the
     significant expenses incurred by the Company to build a larger sales and
     management organization to support an increased number of outsourcing
     contracts and the expansion of the Company's services to healthcare
     institutions. In fiscal 1993, 1994 and 1995, the Company's marketing and
     sales expenses were $378,000, $929,000 and $2,186,000, respectively. In
     addition, the Company's general and administrative expenses for fiscal
     1993, 1994 and 1995 were $1,330,000, $1,673,000 and $4,604,000,
     respectively. The buildup of the Company's management infrastructure has
     been necessary in order for the Company to manage the planned growth in its
     outsourcing business and will allow it to grow revenues significantly from
     current levels without increasing selling, general and administrative costs
     by the same proportion. At the present time, the Company's revenues are not
     sufficient to support these expenses and generate profits. The Company will
     be required to increase its revenues from contract management and other
     services and effectively manage its costs to achieve profitability. In
     addition, the Company's pricing mechanism on most of its outsourcing
     contracts requires the Company to increase operating efficiencies over the
     life of the contract in order to increase profit margins. The Company will
     also be required to procure a critical mass of such contracts and be able
     to renew such contracts on favorable terms. There can be no assurance that
     the Company will be able to attain the required operating efficiencies or
     increase the number of outsourcing contracts to the level needed to become
     profitable.

     Year Ended December 31, 1995 Compared with Year Ended December 31, 1994

           Net revenues increased 109% to $25,882,000 in 1995 from $12,393,000
     in 1994. The increase in net revenues is primarily attributable to
     operations in the Company's contract management outsourcing division,
     contributing $5,058,000 of the overall increase due to the addition of six
     new outsourcing contracts. Contract management revenues grew 54.8% from
     1994 to 1995 and represented 74.6% of the Company's total revenues in 1994
     as compared to 55.3% of total revenues in 1995. Medical transcription
     revenues grew from $2,428,000 in 1994 to $6,662,000 for 1995, where
     $1,676,000 of this increase was due to the acquisition of International
     Dictating Services, Inc. ("IDS") and where $1,584,000 of this increase was
     due to the Medical Transcription of Atlanta, Inc. ("MTA") acquisition.
     Medical transcription revenues represented 19.6% of the Company's total
     revenues in 1994 as compared to 25.7% of total revenues in 1995. Sullivan's
     1994 revenues are not included as they were prior to the Merger; therefore,
     $4,141,000 of the $13,489,000 total revenue increase in the Company's
     revenues between 1994 and 1995 is due to the inclusion of Sullivan in 1995.

           Gross profit increased 121% to $3,548,000 in 1995 from $1,606,000 in
     1994. Gross profit as a percentage of revenues increased to 13.7% in 1995
     from 13.0% in 1994. This increase was primarily attributable to the
     addition of Sullivan's case management revenues reflecting an overall 21%
     gross margin. Gross margins in contract management outsourcing increased to
     14% from 11% in 1994. Average transcription margins decreased from 19% to
     14% as a result of the Script-Ease, Inc. and IDS acquisitions.

           Marketing and sales expenses increased 135% to $2,186,000 in 1995
     from $929,000 in 1994 and increased as a percentage of revenues to 8.4%
     from 7.5% in 1994. The increase is attributable to expenses of
     approximately $80,000 associated with the efforts to heighten market
     awareness of the Company and contract outsourcing, the expansion of the
     Company's sales force by the addition of one person, an increase in
     commission compensation of approximately $156,000 relating to the six new
     contract management contracts 

                                       15
<PAGE>
 
     signed in the third quarter and the additional sales costs of approximately
     $765,000 related to the case management division.

           General and administrative expenses increased 175% to $4,604,000 in
     1995 from $1,673,000 in 1994 and increased as a percentage of revenues to
     17.8% from 13.5%. The increase reflects additional expense of approximately
     $874,000 for expanded management and support staff incurred to position the
     Company for future growth, as well as the additional overhead of
     approximately $761,000 attributable to the Merger.

           Amortization expenses increased to $633,000 in 1995 from $357,000 in
     1994 reflecting the additional amortization expense of $276,000 related to
     the full impact of the intangible assets associated with the Company's
     acquisition of three medical transcription businesses and the additional
     amortization expense of $162,000 related to the Merger.

           The Company's loss from operations increased to $3,875,000 in 1995
     from $1,353,000 in 1994; however, beginning in the second quarter of 1995,
     the Company realized an improving trend with regard to minimizing its loss
     from operations. The Company's loss from operations was $1,393,000 in the
     second quarter ending June 30, 1995. The loss from operations for the third
     quarter ended September 30, 1995 was $867,000, while the fourth quarter
     ended December 31, 1995 loss from operations decreased to $527,000.

           Other expense decreased to $21,000 in 1995 from $40,000 in 1994,
     primarily as the result of the Company's recognition of higher interest
     income as applied against interest expense.

           The Company's loss from discontinued operations of $479,000 in 1995
     represents legal expenses incurred in connection with the Lawsuit. See
     "Item 3. Legal Proceedings."

           Total current assets increased 386.7% to $4,438,000 in 1995 from
     $912,000 in 1994 and trade accounts receivable increased 336.6% to
     $3,056,000 in 1995 from $700,000 in 1994. This increase in current assets
     and accounts receivable is attributable to a number of factors including:
     (i) the Merger, which accounted for $955,000 and $782,000 of the increase
     in total current assets and trade accounts receivable, respectively, (ii)
     the acquisition of Sullivan, which accounted for $842,000 and $702,000 of
     the increase in total current assets and trade accounts receivable,
     respectively, (iii) the addition of new outsourcing contracts, which
     accounted for $810,000 and $630,000 of the increase in total current assets
     and trade accounts receivable, respectively, and (iv) the growth of the
     Company's transcription business following the acquisitions of MTA and IDS,
     which accounted for $944,000 of the increase in total current assets and
     trade accounts receivable. In addition, in connection with the growth of
     the Company's transcription and its consulting and coding businesses,
     accounts receivable increased for fiscal 1995 because it took transcription
     and consulting and coding accounts receivable approximately 30 days to turn
     in 1995 as compared to approximately 20 days in 1994.

     Year Ended December 31, 1994 Compared With Year Ended December 31, 1993

           Net revenues increased 99.6% to $12,393,000 in 1994 from $6,208,000
     in 1993. This increase in net revenues is primarily attributable to
     increased sales in the contract management outsourcing division of
     $5,376,000, reflecting the full year impact of five new outsourcing
     contracts entered into in 1993 and one outsourcing contract entered into on
     June 1994. Contract management revenues represented 62.3% of the Company's
     total revenues in 1993 as compared to 74.6% of total revenues in 1994.
     Other factors contributing to the increase in net revenues include the
     acquisition of the transcription business Script-Ease, Inc. in September
     1994 which accounted for $270,000 of the increase in net revenues and the
     full year impact of the 

                                       16
<PAGE>
 
     acquisition of dataLogix Transcription, Inc. ("dataLogix") in April 1993
     which accounted for an additional $2,409,000 of the increase in net
     revenues. Medical transcription revenues represented 18.3% of the Company's
     total revenues in 1993 as compared to 19.6% of total revenues in 1994.
     Consulting and coding revenues represented 19.4% of the Company's total
     revenues in 1993, which percentage decreased to 5.8% of total revenues in
     1994. Consulting and coding revenue decreased from $1,204,000 in fiscal
     1993 to $719,000 in fiscal 1994 as the Company continued its transition
     from a strictly consulting organization to a company whose core business is
     primarily the contract management of health information functions.

           Gross profit increased 48.3% to $1,606,000 in 1994 from $1,083,000 in
     1993. Gross profit as a percentage of revenues declined to 13.0% in 1994
     from 17.5% in 1993. This decline was primarily attributable to higher costs
     associated with the implementation of the six new outsourcing contracts
     entered into in 1993 and 1994, which the Company anticipates will decrease
     as a percentage of revenues 

                                       17
<PAGE>
 
     over the life of the contract. Transcription profit margins increased from
     12% in 1993 to 20% in 1994 due to reduced costs resulting from efficiencies
     implemented in 1994 at the transcription office in Chicago, Illinois.
     Consulting and coding margins declined in 1994 due to the Company's
     increased focus on contract management outsourcing.

           Marketing and sales expenses increased 145.8% to $929,000 in 1994
     from $378,000 in 1993 and increased as a percentage of revenues to 7.5%
     from 6.1% in 1993. This increase reflects increased expenses of
     approximately $551,000 associated with additional marketing efforts in the
     contract management outsourcing division and expansion of the contract
     management sales force, which resulted in additional salaries and sales
     commissions.

           General and administrative expenses increased 25.8% to $1,673,000 in
     1994 from $1,330,000 in 1993 but decreased as a percentage of revenues, to
     13.5% from 21.4%. The increase reflects additional expense of approximately
     $343,000 for expanded management and support staff incurred to support the
     Company's present and future growth.

           The increase in amortization expenses to $357,000 in 1994 from
     $310,000 in 1993 reflects the additional amortization expense of $328,000
     related to the full impact of the intangible assets associated with the
     dataLogix acquisition and the additional amortization expense of $29,000
     related to the acquisition of Script-Ease, Inc.

           The Company's loss from operations increased to $1,353,000 in 1994
     from $935,000 in 1993.

           Other expense increased to $40,000 in 1994 from $31,000 in 1993,
     primarily as the result of the Company's recognition of a gain of $100,000
     from the sale of the software division in April 1993 as compared to the
     recognition of only a $25,000 gain in 1994.

     Liquidity and Capital Resources

           The Company's cash flows from continuing operations provided net cash
     of $437,000 in 1993 but required the use of cash of $579,000 and $3,445,000
     in 1994 and 1995, respectively. Cash has been used to continue funding the
     Company's operating losses and, in 1995, to finance the growth of certain
     of the Company's acquisitions' working capital needs. See "Consolidated
     Statements of Cash Flows."

           Discontinued operations contributed cash of $202,000 for 1995. The
     majority of cash contributed from discontinued operations was generated by
     the collection of accounts receivable and include net cash contributed of
     $882,000 received upon the sale of approximately 38% of the gross accounts
     receivable to a third party with which the Company has also contracted with
     to service and manage the remaining accounts receivable balance. The
     accounts receivable from the discontinued operations represent
     reimbursements that are owed the Company by certain insurance companies for
     applicant medical-legal evaluation services provided by FWHC Medical Group,
     Inc. and Veritas Medical Group, Inc., two managed medical groups associated
     with the Company's former subsidiaries, First Western and Veritas. The
     gross receivables, however, are subject to liens before the WCAB, an
     administrative body charged with determining an insurance company's
     liability for the payment of medical-legal evaluation services. The Company
     expects to collect the accounts receivable from discontinued operations
     over the next several years under the provisions of the sale and service
     agreement that the Company has entered into with a third party for
     servicing and managing the remaining accounts receivable balance. In
     estimating net accounts receivable, 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 

                                       18
<PAGE>
 
     resolution by the California WCAB of the collectibility of the receivables.
     The Company will continue to re-evaluate the net realizability 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 assets. See "Business-Discontinued
     Operations."


           The Company's working capital position improved during the twelve
     months ended December 31, 1995, from a deficit position of approximately
     ($3,000,000) at December 31, 1994 to $870,000 at December 31, 1995. This
     improvement in the Company's working capital position arises from a
     combination of several factors including the Merger, which increased
     working capital by $6,195,000 and the private placement of Debentures,
     which increased working capital by $2,000,000. Such increases were offset
     by the acquisition of IDS and MTA, the financing from current cash sources
     of capital expenditures for equipment during the twelve months ended
     December 31, 1995, and the continued funding of losses from the Company's
     operations. The latter factor results from increases in the Company's
     administrative and marketing cost structures (relative to actual new sales
     realized), which increased significantly beginning in the fourth quarter of
     1994, in anticipation of targeted increases in the Company's contract
     management business, as well as some temporary costs associated with the
     Script-Ease and IDS transcription acquisitions. Although the Company has a
     negative cash flow, the Company's accounts receivable turn faster than
     related payables, allowing the Company to operate and grow its business.
     Under the terms of its contract management fixed-fee pricing schedules, the
     Company receives the annual fee in monthly payments in advance (due on the
     first day of the month), prior to actually incurring any of the month's
     fixed and/or variable operating expenses. This results in accounts
     receivables for contract management turning in approximately seven days.
     The Company also receives an up-front implementation fee prior to incurring
     any costs associated with the actual start-up of a contract management
     site.

           The Company's cash flows from investing activities used cash of
     $1,043,000 and $1,438,000 in 1993 and 1994, respectively, and provided cash
     of $4,873,000 in 1995. The Company's principal uses of cash for investing
     purposes are for capital expenditures and for acquisitions. The Company
     does not currently have any material commitments for capital expenditures.
     In 1995, in connection with the Company's acquisition of TriCare, it
     acquired approximately $7.5 million of cash.

           In 1995 the Company expended $1,232,000 in cash to acquire the
     medical transcription businesses of IDS and MTA. In connection with these
     acquisitions, on August 15, 1995, the Company raised $2 million in cash
     through the private placement of 8% Subordinated Convertible Debentures.
     The Debentures are unsecured and subordinated to all other debt of the
     Company. The interest rate on the Debentures is 8%, payable semi-annually,
     and the principal amount is due in full on August 15, 2000. The Debentures
     are convertible into Common Stock by the holder at any time prior to August
     15, 2000 at a rate of 286 shares of Common Stock for each $1,000 in
     principal amount and are convertible by the Company at any time when the
     Common Stock trades at $10.50 per share for 30 consecutive trading days.
     The Company may redeem the Debentures at any time upon 30 to 60 days notice
     to the holder of a Debenture.

           Cash flows from financing activities provided $446,000, $2,036,000,
     and $183,000 in 1993, 1994, and 1995, respectively. The Company's primary
     sources of cash over the past several years have been proceeds from a line
     of credit and pursuant to the exercise of stock options. In 1995, the
     Company retired its line of credit and issued $2 million of convertible
     debentures as discussed above.

                                       19
<PAGE>
 
           The Company anticipates that cash on hand, together with internally
     generated funds and cash collected from discontinued operations should be
     sufficient to finance continuing operations for at least the next 24 months
     as well as the civil litigation action against certain insurance carriers.

                                       20
<PAGE>
 
     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.


     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 Sheet as of December 31, 1995 and 1994

        Consolidated Statements of Operations for the years ended December 31,
        1995, 1994 and 1993
   
        Consolidated Statements of Stockholders' Equity for the years ended
        December 31, 1995, 1994 and 1993
 
        Consolidated Statements of Cash Flows for the years ended December 31,
        1995, 1994 and 1993

        Notes to Consolidated Financial Statements

                                       21
<PAGE>
 
                   REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
 
To the Board of Directors and Shareholders 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,
1994 and 1995 and the related consolidated statements of operations,
shareholders' equity, and cash flows for each of the three years in the period
ended December 31, 1995. 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, 1994 and 1995 and the results of their
operations and their cash flows for each of the three years in the period
ended December 31, 1995 in conformity with generally accepted accounting
principles.
 
                                          Arthur Andersen LLP
 
Atlanta, Georgia
February 13, 1996
 
                                      22
<PAGE>
 
                            TRANSCEND SERVICES, INC.
 
                          CONSOLIDATED BALANCE SHEETS
 
<TABLE>     
<CAPTION>
                                               DECEMBER 31,
                                          ------------------------  
                                             1994         1995      
                                          -----------  -----------  
                                                                    
<S>                                       <C>          <C>          
                 ASSETS                                             
CURRENT ASSETS:                                                     
  Cash and cash equivalents.............  $   150,000  $ 1,073,000  
  Trade accounts receivable, net of al-                             
   lowance for doubtful accounts of 
   $15,000 and $42,000, respectively....      700,000    3,056,000  
  Prepaid expenses......................       62,000      309,000  
                                          -----------  -----------  
    Total current assets................      912,000    4,438,000  
NET ASSETS RELATED TO DISCONTINUED OPER-                            
 ATIONS.................................          --     2,414,000
SECURITIES OF AMHEALTH..................          --     2,050,000  
OFFICE FURNITURE AND EQUIPMENT, at cost,                            
 less accumulated depreciation of                                   
 $298,000 and $1,059,000, respectively..      558,000    1,681,000  
DEPOSITS AND OTHER ASSETS...............      130,000      408,000  
GOODWILL AND OTHER INTANGIBLE ASSETS,                               
 less accumulated amortization of                                   
 $381,000 and $1,301,000, respectively..    1,080,000    5,363,000  
                                          -----------  -----------  
                                          $ 2,680,000  $16,354,000  
                                          ===========  ===========  
  LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
  Current portion of long term debt.....    2,025,000      208,000  
  Accounts payable......................      783,000    1,268,000  
  Accrued compensation and employee ben-                            
   efits................................      506,000    1,560,000  
  Other accrued liabilities.............      578,000      808,000  
  Current portion of capital lease obli-                            
   gation...............................       21,000          --   
  Deferred income taxes.................          --       133,000  
                                          -----------  -----------  
    Total current liabilities...........    3,913,000    3,977,000  
                                          -----------  -----------  
LONG TERM DEBT..........................          --       392,000  
CONVERTIBLE DEBENTURES:                                             
  Held by related parties...............          --       450,000  
  Held by others........................          --     1,550,000  
DEFERRED INCOME TAXES...................          --       543,000  
COMMITMENTS AND CONTINGENCIES                                       
SHAREHOLDERS' EQUITY:                                               
  Preferred stock, $.01 par value;                                  
   21,000,000 shares authorized; none                               
   outstanding..........................          --           --   
  Common stock, $.01 par value,                                     
   31,000,000 shares authorized,                                    
   9,733,000 and 18,113,000 shares 
   issued and outstanding as of                              
   December 31, 1994 and 1995, 
   respectively.........................       97,000      181,000  
  Additional paid in capital............    1,677,000   16,643,000  
  Accumulated deficit...................   (3,007,000)  (7,382,000) 
                                          -----------  -----------  
    Total shareholders' equity..........   (1,233,000)   9,442,000  
                                          -----------  -----------  
                                          $ 2,680,000  $16,354,000  
                                          ===========  ===========  
</TABLE>      
 
   The accompanying notes are an integral part of these consolidated balance
                                    sheets.
 

                                      23
<PAGE>
 
                            TRANSCEND SERVICES, INC.
 
                     CONSOLIDATED STATEMENTS OF OPERATIONS
 
<TABLE>     
<CAPTION>
                                                               
                              YEAR ENDED DECEMBER 31,          
                         ------------------------------------  
                            1993        1994         1995      
                         ----------  -----------  -----------  
                                                               
<S>                      <C>         <C>          <C>          
NET REVENUE............. $6,208,000  $12,393,000  $25,882,000  
DIRECT COSTS............  5,125,000   10,787,000   22,334,000  
                         ----------  -----------  -----------  
 Gross profit...........  1,083,000    1,606,000    3,548,000  
MARKETING AND SALES                                            
 EXPENSES...............    378,000      929,000    2,186,000  
GENERAL AND                                                    
 ADMINISTRATIVE                                                
 EXPENSES...............  1,330,000    1,673,000    4,604,000  
AMORTIZATION EXPENSE....    310,000      357,000      633,000  
                         ----------  -----------  -----------  
 Operating loss.........   (935,000)  (1,353,000)  (3,875,000) 
OTHER INCOME                                                   
(EXPENSES):                                                    
 Interest expense.......   (135,000)     (66,000)     (96,000) 
 Interest income........      3,000        1,000       75,000  
 Other..................    101,000       25,000          --   
                         ----------  -----------  -----------  
                            (31,000)     (40,000)     (21,000) 
                         ----------  -----------  -----------  
LOSS BEFORE PROVISION                                          
 FOR INCOME TAXES.......   (966,000)  (1,393,000)  (3,896,000) 
PROVISION FOR INCOME                                           
 TAXES..................        --        13,000          --   
                         ----------  -----------  -----------  
LOSS FROM CONTINUING
 OPERATIONS.............   (966,000)  (1,406,000)  (3,896,000) 
LOSS FROM DISCONTINUED 
 OPERATIONS.............        --           --      (479,000)
                         ----------  -----------  -----------  
NET LOSS................ $ (966,000) $(1,406,000) $(4,375,000)  
                         ==========  ===========  ===========  
Loss per common share:

 CONTINUING OPERATIONS..       (.11)        (.14)        (.22) 
 DISCONTINUED OPERATIONS        --           --          (.03)
                         ----------  -----------  -----------  
 NET LOSS............... $     (.11) $      (.14) $      (.25) 
                         ==========  ===========  ===========  
Weighted average common                                        
 shares outstanding.....  8,866,000    9,733,000   17,818,000  
                         ==========  ===========  ===========  
</TABLE>      
 
 The accompanying notes are an integral part of these consolidated statements.
 
                                      24
<PAGE>
 
                            TRANSCEND SERVICES, INC.
 
                CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
 
<TABLE>     
<CAPTION>
                                  ADDITIONAL                                TOTAL
                          COMMON    PAID-IN     WARRANTS   ACCUMULATED  SHAREHOLDERS'
                          STOCK     CAPITAL    OUTSTANDING   DEFICIT       EQUITY
                         -------- -----------  ----------- -----------  -------------
<S>                      <C>      <C>          <C>         <C>          <C>
BALANCE, December 31,
 1992...................   72,000     840,000        --       (635,000)      277,000
 Issuance of 2,103,847
  shares of Common stock
  in stock offering.....   21,000     714,000        --            --        735,000
 Other issuances of
  common stock..........    1,000      28,000        --            --         29,000
 Purchase of shares of
  common stock..........      --      (17,000)       --            --        (17,000)
 Issuance of warrants...      --          --     104,000           --        104,000
 Net loss...............      --          --         --       (966,000)     (966,000)
                         -------- -----------   --------   -----------   -----------
BALANCE, December 31,
 1993...................   94,000   1,565,000    104,000    (1,601,000)      162,000
                         -------- -----------   --------   -----------   -----------
 Issuance of 341,546
  shares of common stock
  from exercise of
  warrants..............    3,000     101,000   (104,000)          --            --
 Other issuance of
  common stock..........      --       11,000        --            --         11,000
 Net loss...............      --          --         --     (1,406,000)   (1,406,000)
                         -------- -----------   --------   -----------   -----------
BALANCE, December 31,
 1994...................   97,000   1,677,000        --     (3,007,000)   (1,233,000)
                         -------- -----------   --------   -----------   -----------
 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...............      --          --         --     (4,375,000)   (4,375,000)
                         -------- -----------   --------   -----------   -----------
BALANCE, December 31,
 1995................... $181,000 $16,643,000   $    --    $(7,382,000)  $ 9,442,000
                         -------- -----------   --------   -----------   -----------
</TABLE>      
 
 The accompanying notes are an integral part of these consolidated statements.
 
                                      25
<PAGE>
 
                            TRANSCEND SERVICES, INC.
 
                     CONSOLIDATED STATEMENTS OF CASH FLOWS
 
<TABLE>    
<CAPTION>

                                                                               YEAR  ENDED DECEMBER 31,
                                                                          ------------------------------------
                                                                             1993        1994         1995
                                                                          ----------  -----------  -----------

<S>                                                                       <C>         <C>          <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
 Net loss...............................................................  $ (966,000) $(1,406,000) $(4,375,000)
 Adjustments to reconcile net loss to net cash provided by
  (used in) operating activities:
 Loss from discontinued operations......................................         --           --       479,000
 Depreciation and amortization..........................................     396,000      530,000    1,134,000
 Loss on disposal of assets.............................................      12,000          --           --
 Loss on forgiveness of note receivable.................................      60,000          --           --
 Gain on sale of software division......................................    (100,000)         --           --
 Interest expense.......................................................     104,000          --           --
Changes in assets and liabilities, net of acquisitions:
 Receivables............................................................     166,000     (226,000)  (1,412,000)
 Prepaid expenses.......................................................       4,000      (51,000)    (187,000)
 Deposits and other assets..............................................     (20,000)    (101,000)    (351,000)
 Accounts payable.......................................................     109,000      539,000      (37,000)
 Accounts compensation and benefits.....................................         --           --           --
 Accrued expenses and other liabilities.................................     619,000      255,000      291,000
 Other..................................................................      53,000     (119,000)     123,000
                                                                          ----------  -----------  -----------
 Total adjustments......................................................   1,403,000      827,000     (439,000)
                                                                          ----------  -----------  -----------
 Net cash provided by (used in) continuing operations...................     437,000     (579,000)  (4,335,000)
                                                                          ----------  -----------  -----------
 Net cash provided by discontinued operations...........................         --           --       202,000
                                                                          ----------  -----------  -----------
 Net cash provided by (used in) operating activities....................     437,000     (579,000)  (4,133,000)
                                                                          ----------  -----------  -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
 Capital expenditures...................................................    (126,000)    (440,000)  (1,220,000)
 Proceeds from sale of assets...........................................      21,000          --           --
 Proceeds from note receivable..........................................      12,000          --           --
 Proceeds from sale of software division................................     100,000          --           --
 Acquisitions...........................................................  (1,050,000)  (1,000,000)  (1,527,000)
 Cash acquired from acquisitions........................................         --         2,000    7,560,000
 Disposal and transfer of property......................................         --           --        60,000
                                                                          ----------  -----------  -----------
 Net cash used in investing activities..................................  (1,043,000)  (1,438,000)  (4,873,000)
                                                                          ----------  -----------  -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
 Borrowing from short-term debt.........................................     200,000    1,000,000          --
 Borrowing under line of credit agreement...............................     401,000    1,025,000          --
 Principal payments on long-term debt...................................     (26,000)         --       (60,000)
 Principal payments on short-term debt..................................    (200,000)         --           --
 Principal payment on capital lease obligations.........................     (25,000)         --           --
 Repayments of line of credit...........................................    (651,000)         --    (2,025,000)
 Purchase of common stock...............................................     (17,000)         --           --
 Proceeds from Convertible Debenture....................................         --           --     2,000,000
 Proceeds from stock options............................................         --           --           --
 Proceeds from common stock issuance....................................     764,000       11,000      268,000
                                                                          ----------  -----------  -----------
Net cash provided by financing activities...............................     446,000    2,036,000      183,000
                                                                          ----------  -----------  -----------
NET INCREASE (DECREASE) IN CASH AND CASH  EQUIVALENTS...................    (160,000)      19,000     (923,000)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD........................     291,000      131,000      150,000
                                                                          ----------  -----------  -----------
CASH AND CASH EQUIVALENTS AT END OF PERIOD..............................  $  131,000  $   150,000  $ 1,073,000
                                                                          ==========  ===========  ===========
</TABLE>     
 
 The accompanying notes are an integral part of these consolidated statements.
 
                                      26
<PAGE>
 
                           TRANSCEND SERVICES, INC.
 
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                       DECEMBER 31, 1993, 1994 AND 1995
 
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
NATURE OF BUSINESS
 
  Transcend Services, Inc. (the "Company"), established in 1984, is engaged in
the field of contract outsourcing of the health information management/medical
records and patient access functions of hospitals. The Company offers
operations evaluation, consulting, reimbursement coding, transcription, and
other services generally resident in the medical records department of
hospitals. Currently, it emphasizes three- to five-year contractual
relationships for management of the entire hospital medical records and
patient access departments. The Company's three largest hospital contracts
accounted for approximately 58%, 46% and 25% of sales in 1993, 1994, and 1995,
respectively.
 
  On January 10, 1995, TriCare, Inc., acquired Transcend Services, Inc., a
Georgia corporation by the merger of Transcend into First Western Health
Corporation ("Merger"). On May 31, 1995, Transcend Services, Inc., a
California corporation following its January 10, 1995 merger into TriCare, and
Veritas Healthcare Management, a California corporation owned by TriCare,
merged into the TriCare corporation, whose name was then changed to "Transcend
Services, Inc." Transcend Services, Inc. now operates as a Delaware
corporation. Inasmuch as the Merger is being treated for financial accounting
purposes as the acquisition of TriCare by Transcend, following the Merger, the
historical financial statements of Transcend have become the financial
statements of TriCare and include the businesses of both companies after the
effective date of the merger.
 
BASIS OF PRESENTATION
 
  The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
 
  The consolidated financial statements include the accounts of the Company
and its wholly owned subsidiaries. All significant intercompany accounts and
transactions have been eliminated.
 
CASH AND CASH EQUIVALENTS
 
  The Company considers all highly-liquid debt instruments purchased with an
original maturity of three months or less to be cash equivalents.
 
ACCOUNTS RECEIVABLE
 
  An allowance for doubtful accounts has been established to provide for
losses on uncollectible accounts based on management's estimates and
historical collection. Bad debt expense amounted to $30,000, $9,000 and $0 in
1993, 1994 and 1995, respectively.
 
REVENUE AND COST RECOGNITION
 
  Revenue is recognized monthly as the work is performed.
 
<TABLE>
<CAPTION>
                 SERVICE LINE                               REVENUE RECOGNITION
                 ------------                               -------------------
      <C>                                <S>
      Contract Management (Outsourcing): Monthly; 1/12th of annual fixed fee
                                         received on the first day of the month
                                         during which services are to be per-
                                         formed.
      Transcription:                     Monthly; revenue recognized on a per
                                         line/per character basis for actual
                                         dictation.
      Consulting & Coding:               Monthly; revenue recognized for work
                                         incurred on time and material basis.
      Case Management:                   Monthly; revenue recognized as work is
                                         incurred; usually on fixed cost per
                                         hour per case.
</TABLE>
 
                                      27
<PAGE>
 
                           TRANSCEND SERVICES, INC.
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
                       DECEMBER 31, 1993, 1994 AND 1995
 
  One-time nonrefundable contract implementation fees have been amortized over
the first three months of a contract to match when the costs are incurred for
implementation. Direct costs are expensed as incurred. Gross margins vary by
contract. Direct costs include contract labor costs related to medical records
processing, transcription, coding costs and case management costs, as well as
purchased services, such as microfilming, record storage, software licenses,
etc.
 
DEPRECIATION AND AMORTIZATION
 
  Depreciation and amortization are computed using the straight-line method
over the estimated useful lives of the respective assets which range from
three to seven years.
 
INCOME TAXES
 
  The Company follows Statement of Financial Accounting Standards No 109
("SFAS 109"). Under the asset and liability method of SFAS 109, deferred tax
assets and liabilities are recognized for the future tax consequences
attributable to differences between the financial statement carrying amounts
of existing assets and liabilities and their respective tax bases and
operating loss and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. Under SFAS 109, the effect on deferred tax assets and
liabilities of a change in tax rates is recognized in income in the period
that includes the enactment date.
 
DEPOSITS AND OTHER ASSETS
 
  Deposits and other assets includes $360,000 in restricted cash used as
collateral for a letter of credit related to a contract outsourcing agreement
which expires in September, 1996.
 
GOODWILL AND OTHER INTANGIBLE ASSETS
 
  Goodwill and other intangible assets are currently being amortized over
periods ranging from three to thirty years. The Company periodically evaluates
whether events and circumstances since acquisition 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.
 
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 be 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, 1995 was equal to the carrying amount
included in the accompanying balance sheet.
 
NET LOSS PER COMMON SHARE AND COMMON SHARE EQUIVALENT
 
  Net loss per common share has been computed based on the weighted average
number of the Company's common shares outstanding as of December 31, 1993,
1994, and 1995. The common stock equivalents related to stock options were not
included in the computation due to their antidilutive effect.
 
                                      28
<PAGE>
 
                           TRANSCEND SERVICES, INC.
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
                       DECEMBER 31, 1993, 1994 AND 1995
 
RESTATEMENT OF PRIOR YEAR BALANCES
 
  Certain prior year balances have been restated to conform with current year
presentation.
 
2. DISCONTINUED OPERATIONS
 
 Legal Proceedings
 
  On September 17, 1993, TriCare and its healthcare subsidiaries (now part of
Transcend) and the physician-owned medical groups that have contracts with the
healthcare subsidiaries initiated a lawsuit in the Superior Court of the State
of California, County of Los Angeles, against twenty-two insurance carriers
seeking $115 million in compensatory damages claiming abuse of process,
intentional interference with contractual and prospective economic relations
and unfair business practices which led to the discontinuation of the business
of TriCare's healthcare subsidiaries and their contracting associated medical
groups in April 1993 (the "Lawsuit"). Certain of the defendants in the Lawsuit
have filed cross complaints seeking restitution from TriCare, its healthcare
subsidiaries and their associated managed medical groups for funds previously
paid to the medical groups and other damages. The costs associated with the
above claims cannot be ascertained with any certainty but are expected to be
substantial.  There can be no assurance as to the outcome of this litigation,
including potential recovery, if any, of the Company's claims, or damages if
any. Based upon facts and circumstances known to date, in the opinion of
management, final resolution of the cross complaint will not have a material
adverse effect on the Company's financial condition, results of operations or
liquidity.
 
 First Western/Veritas
 
  The net assets of the discontinued operations of Tricare's healthcare
subsidiaries, First Western and Veritas (now part of Transcend), both of which
ceased operations as of April 30, 1993, are shown on the consolidated balance
sheet and the related statement of cash flows as a separate line item. These
net assets were acquired in January 1995. See Note 12.
 
  The net assets related to the discontinued operations at December 31, 1995
were $2,414,000.  Collection liabilities of First Western and Veritas have been
deducted in determining net accounts receivable. Gross receivables totaled 
$6,670,000 offset by contractual allowances and collection liabilities of 
$4,256,000.
 
  On October 14, 1995, the Company sold approximately 38% of its discontinued
operations' gross accounts receivable balance to Medical Receivables Finance,
LLC ("MRF"), a Delaware limited liability company for:
 
  .  Approximately $932,000 in cash ($882,000 in cash at closing; $50,000
     held in escrow)
 
  .  An opportunity to share in future cash receipts based on MRF's
     collection activity.
 
  As a result, the Company closed its California-based collections operation.
The future costs associated with the collection of the accounts receivable
have been netted with the assets related to discontinued operations.

                                      29
<PAGE>
 
                           TRANSCEND SERVICES, INC.
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
                       DECEMBER 31, 1993, 1994 AND 1995
 
  The sale agreement with MRF did not result in any gain or loss for the
Company. The Company will continue to re-evaluate the realizability of the net
assets related to its discontinued operations which were not sold. Any such
re-evaluation could result in an adjustment that may potentially be material
to the carrying value of this asset.
 
  In addition to the above, the Company has contracted with MRF for the
servicing and managing of the remaining 62% of the accounts receivable
balance.
 
 Securities of AmHealth
 
  Prior to its acquisition by Transcend, TriCare sold substantially all of the
assets and liabilities of its wholly-owned subsidiary, Occu-Care to AmHealth,
Inc. ("AmHealth") for a purchase price of $4,000,000. The purchase price
included $1,500,000 in cash paid at closing; AmHealth's Series A Note in the
face amount of $1,500,000 bearing interest of 8% per annum commencing December
1, 1994, payable quarterly thereafter, with the principal payable on or prior
to December 1, 1995; and AmHealth's Series B Note in the face amount of
$1,000,000 bearing interest of 8% per annum commencing December 1, 1994,
payable quarterly thereafter, with the principal payable in equal quarterly
installments starting December 1, 1995 and continuing until September 1, 2000.
TriCare did not receive its first interest payment on its $2,500,000 note
receivable from its sale of the assets of Occu-Care, which constituted an event
of default. TriCare entered into discussions with AmHealth and restructured the
note so that the first payment was due in December 1995. In conjunction with the
Merger on January 10, 1995, Transcend recorded these notes at their fair value
of $2,050,000 (using a discounted cash flow approach). The Company is 
recognizing interest income on this note on the cost recovery method, in
accordance with SFAS 118, and therefore, has not recorded any interest income
for 1995.
 
  In December, 1995, AmHealth signed a Letter of Intent with CORE, Inc.
(NASDAQ; CORE) for CORE to purchase substantially all the assets of AmHealth
primarily in exchange for CORE stock. The transaction is expected to close by
May, 1996. If the above transaction occurs, Transcend would likely settle
AmHealth's $2.5 million obligation (plus accrued interest) to Transcend in
exchange for CORE stock. However, there can be no assurances that these
transactions will take place. The amount the Company will ultimately realize
could differ materially from the carrying value of the investments as reflected
in the financial statements due to changes in the financial condition of the
purchaser and/or the ultimate valuation of its obligation to Transcend in any
purchase of AmHealth by Core, Inc. or any other third party.
 
         

                                      30
<PAGE>
 
                           TRANSCEND SERVICES, INC.
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
                       DECEMBER 31, 1993, 1994 AND 1995
 
3. OFFICE FURNITURE AND EQUIPMENT
 
  The summary of office furniture and equipment at December 31, 1994 and 1995
is as follows:
 
<TABLE>
<CAPTION>
                                                           1994        1995
                                                         ---------  -----------
   <S>                                                   <C>        <C>
   Office furniture and equipment....................... $ 856,000  $ 2,740,000
   Less accumulated depreciation........................  (298,000)  (1,059,000)
                                                         ---------  -----------
                                                         $ 558,000  $ 1,681,000
                                                         =========  ===========
</TABLE>
 
4. INDEBTEDNESS
 
  Long-term debt is summarized as follows at December 31, 1994 and 1995;
 
<TABLE>
<CAPTION>
                                                                1994      1995
                                                             ---------- --------
   <S>                                                       <C>        <C>
   $1,200,000 revolving line of credit, interest computed
    at prime; repaid in 1995...............................  $1,025,000      --
   Promissory note, interest computed at prime; repaid in
    1995...................................................   1,000,000      --
   Note payable, interest computed at 8.5%; Note matures on
    January 1, 1996........................................         --   100,000
   Note payable, interest computed at 8.5% monthly payments
    of principal and interest at $11,284 beginning May 19,
    1995; Note matures on May 19, 2000.....................         --   490,000
   Other Notes payable.....................................         --    10,000
                                                             ---------- --------
                                                                    --   600,000
   Less: Current Portion of Long-Term Debt.................   2,025,000  208,000
                                                             ---------- --------
                                                             $      --  $392,000
                                                             ========== ========
</TABLE>
 
  The revolving line of credit expired in January, 1995 and was not renewed.
The outstanding balance of both credit facilities at the time of the merger of
TriCare and Transcend was $2,200,000 and was paid off with cash received in
the Merger (Note 1).
 
  The Company expended $1,232,000 in cash to acquire the medical transcription
businesses of IDS and MTA in 1995 and, as a result, the Company issued $2.0
million in Subordinated Convertible Debt, which took place on August 15, 1995.
Key terms of the debt are:
 
<TABLE>
<S>                    <C>
      Interest Rate:   8%
      Interest Paid:   Semi-annually
      Term:            Five (5) Years, due in full at
                       maturity if not converted
      Secured Status:  Unsecured and subordinated to all
                       other indebtedness
      Convertible Fea-
       tures:
</TABLE>
 
  .  Convertible for five (5) years at $3.50 per share of Transcend's common
     stock as recorded on August 15, 1995, the "Closing Price".
 
  .  Convertible by the Company if Transcend's common stock trades at three
     (3) times the Closing Price for 30 consecutive trading days.

                                      31
<PAGE>
 
                           TRANSCEND SERVICES, INC.
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
                       DECEMBER 31, 1993, 1994 AND 1995

         
 
5. SUPPLEMENTAL CASH FLOW INFORMATION
 
  Cash paid for interest was $31,000, $36,000 and $56,000 for 1993, 1994 and
1995, respectively.
 
6. LEASE COMMITMENTS AND CONTINGENCIES
 
Lease Commitments
 
  The Company has entered into operating leases for certain office facilities.
At December 31, 1994, the minimum rental payments due under noncancelable
operating lease agreements are as follows:
 
<TABLE>
<CAPTION>
YEAR ENDING
DECEMBER 31
-----------
<S>                                                                   <C>
 1996................................................................ $  517,000
 1997................................................................    471,000
 1998................................................................    325,000
 1999................................................................    271,000
 2000................................................................    178,000
 Thereafter..........................................................        --
                                                                      ----------
                                                                      $1,762,000
                                                                      ==========
</TABLE>
 
  Rental expense for the operating leases amounted to approximately $97,000,
$150,000 and $443,000 for 1993, 1994 and 1995, respectively.
 
 Litigation
 
  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 (now deceased). The Company's subsidiary,
Sullivan, and a former employee of Sullivan are defendants in the case. The
Plaintiff demands compensatory damages in the amount of $1 million and
punitive damages in the amount of $2 million, plus costs. Management of the
Company believes that Sullivan has meritorious defenses to the allegations and
intends to vigorously contest liability in this matter. At the present time,
management of the Company cannot predict the outcome of this litigation, but
does not believe that the resolution of the litigation will have a material
adverse effect on the Company's financial condition or results of operations.
 
  See Note 2 for additional litigation discussion.
 
7. RETIREMENT PLAN
 
  The Company sponsors a 401(k) retirement plan that covers substantially all
employees after satisfying certain requirements as to length of service.
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. In
1993 and 1994, the Company matched employee contributions at a rate of 10% of
employee contributions up to 6% of salary. For 1993, 1994 and 1995, the
expense was approximately $6,000, $17,000 and $0 respectively.

                                      32
<PAGE>
 
                           TRANSCEND SERVICES, INC.
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
                       DECEMBER 31, 1993, 1994 AND 1995
 
8. TRANSACTIONS WITH RELATED PARTIES
 
  Approximately 23% of the subordinated debt (Note 4) is held by parties
related to certain members of the board of directors.
 
  During 1993, the Company paid $91,000 in management fees to a shareholder.
 
  During 1993, the Company issued warrants to purchase 146,000 shares to the
controlling shareholders in consideration of such shareholders' personal
guarantee of the loan to purchase dataLogix (Note 12). The warrants are
exercisable at $.01 per warrant and were exercised during 1994. The difference
between fair value and exercise price of these warrants of $104,000 was
expensed in 1993.
 
9. SHAREHOLDERS' EQUITY
 
  The historical shareholders' equity of Transcend prior to the merger has
been retroactively restated for the equivalent number of shares received in
the Merger (2.34 to 1). Earnings per share for the periods prior to the Merger
are restated to reflect the number of equivalent shares received.
 
  In 1995, the Company increased the authorized common stock to 30,000,000
shares. The Company has authorized 21,000,000 shares of preferred stock, $.01
par value.
 
10. STOCK OPTIONS AND WARRANTS
 
  The Company has established a stock option plan for the employees of the
Company. The plan authorizes the grant of "incentive stock options" and
"nonstatutory 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 transactions:
 
<TABLE>
<CAPTION>
                                                       OPTIONS    PRICE RANGE
                                                      ---------  --------------
   <S>                                                <C>        <C>
   OPTIONS OUTSTANDING, December 31, 1992............ 1,083,000  $ .07 to $ .10
    Options granted during the year..................   294,000  $ .07 to $ .30
    Options canceled during the year.................  (589,000) $          .09
    Options exercised during the year................   (64,000) $          .09
                                                      ---------
   OPTIONS OUTSTANDING, December 31, 1993............   724,000  $ .07 to $ .30
    Options canceled during the year.................   (31,000) $          .07
    Options exercised during the year................   (10,000) $          .07
                                                      ---------
   OPTIONS OUTSTANDING, December 31, 1994............   683,000  $ .07 to $ .30
    Options issued in Merger (Note 1)................ 1,158,000  $1.87 to $3.75
    Options issued, other............................   331,000  $1.87 to $5.62
    Options canceled during the year.................  (161,000) $.068 to $3.13
    Options exercised during the year................  (511,000) $.068 to $3.13
                                                      ---------
    Options Outstanding, December 31, 1995........... 1,500,000
                                                      =========
    Options eligible for exercise at December 31,
     1995............................................   576,000  $ .07 to $3.75
                                                      =========
</TABLE>
 
  The directors who were not employees of the Company were granted non-
qualified stock options to purchase shares of the Company's common stock prior
to May 31, 1991. These options, which expire ten years

                                      33
<PAGE>
 
                           TRANSCEND SERVICES, INC.
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
                       DECEMBER 31, 1993, 1994 AND 1995
from the date of grant, were granted at prices between $2.00 and $5.17 per
share, the fair market value on the date of grant, and are all exercisable.
During the twelve (12) months ended December 31, 1995, no options were
exercised and options to purchase 7,500 shares are still outstanding.
 
  At December 31, 1995 there were a total of 159,000 shares of common stock
reserved for this plan.
 
11. INCOME TAXES
 
  The components of the net deferred tax (liability) asset as of December 31,
1994 and 1995 were as follows:
 
<TABLE>     
<CAPTION>
                                                          1994        1995
                                                        ---------  -----------
   <S>                                                  <C>        <C>
   Deferred tax liabilities:
    Office furniture and equipment..................... $     --   $   (44,000)
    Goodwill and other intangibles.....................       --      (290,000)
    Discontinued Operations............................       --    (1,128,000)
                                                                   -----------
                                                                    (1,462,000)
                                                                   -----------
   Deferred tax assets:
    Tax net operating loss.............................   454,000    3,122,000
    Cash-basis deferral................................   453,000      330,000
    Accrued Liabilities................................       --       331,000
    Other..............................................    27,000      186,000
    Valuation allowance................................  (934,000)  (3,183,000)
                                                        ---------  -----------
                                                        $     --   $  (676,000)
                                                        =========  ===========
</TABLE>      
    
  At December 31, 1995, the Company had net operating loss carryforwards of
approximately $8,001,000 which can be used to reduce future income taxes. If
not utilized these carryforwards will expire in 2007. The tax benefit differed
from the amount computed using the statutory Federal income tax rate due
primarily to the increase in the valuation allowance for the past three years.
The Company has established a valuation allowance of $934,000 and $3,183,000
at December 31, 1994 and 1995, respectively due to the uncertainty regarding
the realizability of certain deferred tax assets, including its net operating
loss carryforward.      
 
12. ACQUISITIONS
 
  On April 29, 1993, the Company acquired dataLogix, a supplier of medical
record transcription services, for $1,100,000. The Company accounted for the
acquisition under the purchase method of accounting. The results of operations
for dataLogix are included in the statement of loss of the Company beginning
on the date of acquisition. The fair value of tangible assets acquired and
liabilities assumed was $315,000 and $37,000, respectively. The majority of
the excess purchase price over net tangible assets relate to non-compete
agreements and customer contracts which are being amortized over three years,
using an accelerated method of amortization.
 
  On September 30, 1994, the Company acquired the assets of Script-Ease, Inc.,
a Pittsburgh-based medical transcription business for $1,000,000. The Company
accounted for the acquisition under the purchase method of accounting. The
results of operations for Script-Ease are included in the statement of loss of
the Company beginning on the date of the acquisition. The fair value of
tangible assets acquired and liabilities assumed was $259,000 and $161,000,
respectively. The majority of the excess purchase price over net tangible
assets related to customer lists, which is being amortized over seven years
and a non-compete agreement that is being amortized over a three year period.
The balance of the additional intangibles is goodwill which is being amortized
over thirty years.

                                      34
<PAGE>
 
                           TRANSCEND SERVICES, INC.
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONCLUDED)
                       DECEMBER 31, 1993, 1994 AND 1995
 
  On January 10, 1995, Transcend acquired TriCare, Inc. in a merger accounted
for as a reverse merger (Note 1). The acquisition was treated as a purchase.
There were approximately 7.7 million shares issued in the transaction
resulting in goodwill of approximately $3.2 million. This goodwill is being
amortized over twenty years. On June 15, 1994, TriCare had completed the
acquisition of Sullivan 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 and Rehabilitation 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
loss 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 is being amortized over a two year
period. The balance of the additional intangible asset is goodwill which is
being amortized over twenty 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 loss 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. The intangible related to customer lists is 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.
 
  The following pro-forma amounts presented below represent the results of
operations (excluding discontinued operations) of the Company adjusted to
include TriCare; Script-Ease, Inc.; MTA and IDS as if these transactions had
been consummated at the beginning of each period presented.
 
<TABLE>
<CAPTION>
                                                      YEAR ENDED DECEMBER 31
                                                      ------------------------
                                                         1994         1995
                                                      -----------  -----------
                                                            (UNAUDITED)
   <S>                                                <C>          <C>
   Sales............................................. $20,705,000  $26,508,000
   Net Income (Loss)................................. $(2,321,000) $(3,918,000)
   Net Loss per common Share......................... $     (0.13) $     (0.22)
   Weighted Average Shares Outstanding...............  17,743,000   17,836,000
</TABLE>

                                      35
<PAGE>
 
         

                                        
                                    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 - Transcend      
                 
             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, 1995 and 1994.      
                 
             Consolidated Statements of Loss for the years ended December
             31, 1995 ,1994 and 1993.      
                 
             Consolidated Statements of Shareholder's Equity for the years
             ended December 31, 1995, 1994 and 1993.     
                 
             Consolidated Statements of Cash Flows for the years ended
             December 31, 1995, 1994 and 1993.     
                 
             Notes to Consolidated Financial statements      
                 
             No financial statement schedules are required      
         
     (b) Reports on Form 8-K.  Since the last quarter of the period covered by
         -------------------                                                  
         this report, the Company has not filed reports on Form 8-K.      
         
     (c) Exhibits.
         --------      
             
         The following exhibits are filed with or incorporated by reference
into this report.  The exhibits which are denominated 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-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"); (v) 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"); (vi) 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"); (vii) 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"); (viii) 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"); (ix) the Company's Annual Report on Form 10-K for the year ended
May 31, 1990 (referred to as "1990 10-K"); (x) the Company's Annual Report on
Form 10-K for the year ended May 31, 1992 (referred to as "1992 10-K"); (xi) the
Company's Annual Report on form 10-K for the year ended May 31, 1993 (referred
to as "1993 10-K"); (xii) the Company's Quarterly Report on Form 10-Q for the
quarter ended November 30, 1995 (referred to as "11/30/95 10-Q"); and (xiii) the
Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1995
(referred to as "6/30/95 10-Q").      

<TABLE>     
<CAPTION> 
EXHIBIT
  NO.                                   DESCRIPTION
-------      -----------------------------------------------------------------
<S>          <C>  
 *2.1   -    Acquisition of Industrial Plus Health Network, Inc. by Occu-Care,
             Inc. (3/31/92 8-K, Exhibit 2(a))

 *2.2   -    Stock Purchase Agreement between TriCare, Inc., and Dorothy C.
             Sullivan and Timothy Sullivan for the purchase and sale of all
             issued and outstanding capital stock of Sullivan Health &
             Rehabilitation Management, Inc. (6/15/94 8-K, Exhibit 2(a))

 *2.3   -    Asset Acquisition Agreement, executed on September 16, 1994 by and
             among Occu-Care, Inc. ("OCI"), a wholly owned subsidiary of
             TriCare, Inc., Industrial PlusHealth Network, a wholly-owned
             subsidiary of OCI, together with AmHealth, Inc. (9/16/94 8-K,
             Exhibit 2(a))

 *2.4   -    Agreement and Plan of Merger dated as of May 13, 1994 by and among
             TriCare, Inc., First Western Health Corporation and Transcend
             Services, Inc., as amended (included as Appendix A to the
             Prospectus contained in Part I of the S-4)

 *2.5   -    Letter Agreement, dated December 30, 1994, between AmHealth, Inc.
             and Occu-Care, Inc. to exchange AmHealth Inc. convertible
             redeemable preferred stock for the existing junior promissory notes
             held by Occu-Care and issued by AmHealth (11/30/95 10-Q, Exhibit
             2(a))

*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)
 
 *3.2   -    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   -    Subordinated Convertible Debenture Purchase Agreement (9/30/95 10-
             Q, Exhibit 4)
 
 *4.4   -    1986 Incentive Stock Option Plan, as amended (1989 S-1, Exhibit
             10(i))
 
*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   -    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))
              
*10.4   -    Form of Covenants Not to Compete between Occu-Care and each of the
             other parties to the Acquisition Agreement (1990 10-K, Exhibit
             10(c))
 
*10.5   -    Management Agreement between Veritas Healthcare Management and
             Veritas Medical Group, Inc. dated as of January 1, 1991 (1991 S-1,
             Exhibit (10(b))
 
*10.6   -    Rental and Management Agreement between Occu-Care, Inc. and Occu-
             Care Medical Group, Inc. dated as of May 31, 1990, as amended (1991
             S-1, Exhibit 10(a))

*10.7   -    Rental and Management Agreement between Occu-Care, Inc. and Del Amo
             Industrial Medical Clinic dated as of March 1, 1992 (1992 10-K,
             Exhibit 10(a)) 
 
*10.8   -    Form of indemnification agreement (1993 10-K, Exhibit 10(a))

 11     -    Statement re: Computation of earnings per share
 
 27     -   Financial Data Schedule (for SEC use only)
</TABLE>      

                                      36
<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 hereunto duly authorized.


                                 TRANSCEND SERVICES, INC.


Dated:  February 20, 1997        By: /s/ David W. Murphy
                                    ----------------------------
                                    David W. Murphy
                                    Chief Financial Officer
                                    (principal financial and accounting officer)



                                      37