SIERRA HEALTH SERVICES INC - 10-K Annual Report

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

FORM 10-K
(Mark One)

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

For the fiscal year ended December 31, 2000

OR

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

For the transition period from ------------ to ------------

Commission file number: 1-8865

SIERRA HEALTH SERVICES, INC.
(Exact name of Registrant as specified in its charter)

NEVADA 88-0200415
(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)

2724 NORTH TENAYA WAY
LAS VEGAS, NEVADA 89128
(Address of principal executive offices) (Zip Code)

Registrant's telephone number, including area code: (702) 242-7000
Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange on
Title of each class which registered
Common Stock, par value $.005 New York Stock Exchange

Securities Registered Pursuant to Section 12(g) of the Act: None

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

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

The aggregate market value of the voting stock held by non-affiliates
of the registrant on March 15, 2001 was $111,308,000.

The number of shares of the registrant's common stock outstanding on March 15,
2001 was 27,513,000.

DOCUMENTS INCORPORATED BY REFERENCE
DOCUMENT WHERE INCORPORATED

Registrant's Current Report on Part I
Form 8-K dated March 20, 2001. Part II, Item 7

Portions of the registrant's definitive Part III
proxy statement for its 2001 annual
meeting to be filed with the SEC not later
than 120 days after the end of the fiscal year.

SIERRA HEALTH SERVICES, INC.

2000 FORM 10-K ANNUAL REPORT

TABLE OF CONTENTS

Page
PART I

Item 1. Description of Business .................................................................. 1

Item 2. Description of Properties................................................................. 16

Item 3. Legal Proceedings......................................................................... 17

Item 4. Submission of Matters to a Vote of Security Holders....................................... 17

PART II

Item 5. Market for Registrant's Common Stock and
Related Stockholder Matters............................................................ 18

Item 6. Selected Financial Data................................................................... 19

Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations ............................................................. 20

Item 7a. Quantitative and Qualitative Disclosures about Market Risk ............................... 36

Item 8. Financial Statements and Supplementary Data............................................... 38

Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure.................................................... 72

PART III

Item 10. Directors and Executive Officers of the Registrant........................................ 72

Item 11. Executive Compensation.................................................................... 72

Item 12. Security Ownership of Certain Beneficial Owners and Management............................ 72

Item 13. Certain Relationships and Related Transactions............................................ 72

PART IV

Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K........................... 73

PART I

ITEM 1. DESCRIPTION OF BUSINESS
GENERAL

Unless otherwise indicated, "Sierra," "we," "us," and "our" refer to Sierra
Health Services, Inc. and its subsidiaries.

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

o federally qualified health maintenance organizations or HMOs

o managed indemnity plans

o a third-party administrative services program for employer-funded health
benefit plans

o workers' compensation medical management and fully insured programs

o ancillary products and services that complement our managed health care and
workers' compensation product lines

o a subsidiary that administers a managed care federal contract for the
Department of Defense's TRICARE program in Region 1

Fiscal year 2000 was a difficult year for us. In the first and second quarters
of 2000 we evaluated and then announced and adopted restructuring plans related
primarily to our Texas operations. This restructuring involved a reduction in
staff and the closing of some of our Texas clinic facilities, which resulted in
our recording of significant goodwill and fixed asset impairment and other
charges of approximately $220 million.

As a result of the asset impairment and other non-recurring charges, we were not
in compliance with the financial covenants in our bank credit facility. We
subsequently entered into an amended $185 million credit facility with the banks
on December 15, 2000. As of December 31, 2000, the facility was reduced to $135
million as a result of our payment of $50 million that we received from the sale
and leaseback of the majority of our administrative and clinical properties in
Las Vegas on December 28, 2000. We are required to make semi-annual principal
payments, ranging from $2 million to $10 million, on the credit facility
starting in June 2001. These payments result in permanent reductions in the size
of the credit facility. The amount outstanding under the credit facility
fluctuates with our working capital needs.

In addition, CII Financial, our wholly-owned workers' compensation subsidiary,
has outstanding approximately $47 million of convertible subordinated debentures
due September 15, 2001. These debentures are subordinated obligations of CII
Financial and are not guaranteed by us. CII Financial, as a holding company, has
limited sources for cash and is dependent on dividends from its subsidiary,
California Indemnity Insurance Company, to meet its debt payment obligations.
CII Financial, as sole obligor under the debentures, currently has no available
source of cash with which to pay the debentures when they mature on September
15, 2001. Due to the foregoing, in December 2000, CII Financial commenced an
exchange offer in which it offered to exchange all of the debentures for cash or
new debentures. There can be no assurance that CII Financial will be successful
in its exchange offer.

We filed a Current Report on Form 8-K dated March 20, 2001, which is
incorporated by reference, that sets forth cautionary statements pursuant to the
"safe harbor" provisions of the Private Securities Litigation Reform Act of 1995
and identifies important risk factors that could cause our actual results to
differ materially from those expressed in any projected, estimated or
forward-looking statements relating to Sierra.

Our principal executive offices are located at 2724 North Tenaya Way, Las Vegas,
Nevada 89128, and our telephone number is (702) 242-7000.

Our fiscal year period is the same as the calendar year and unless otherwise
indicated, any year designated will refer to the year ended December 31.

Managed Care Products and Services

Our primary types of health care coverage are HMO plans, HMO Point of Service,
or POS plans, and managed indemnity plans, which include a preferred provider
organization, or PPO option. The POS products allow members to choose one of the
various coverage options when medical services are required instead of one plan
for the entire year. As of December 31, 2000, we provided HMO products to
approximately 196,600 members in Nevada and 81,200 in Texas. We also provide
managed indemnity products to approximately 31,000 members, Medicare supplement
products to approximately 28,100 members, and administrative services to
approximately 273,200 members. Medical premiums account for approximately 62% of
total revenues. Approximately 73% and 27% of our medical premiums were derived
from our Nevada HMO and insurance subsidiaries and our Texas HMO, respectively,
in 2000.

Health Maintenance Organizations. We operate a mixed model HMO in Las Vegas,
Nevada, which means that we use our own specialty medical group as well as a
network of independently contracted providers. We also operate network model
HMOs in Reno, Nevada and Dallas, Texas. Independently contracted primary care
physicians and specialists for the HMOs are compensated on a capitation or
modified fee-for-service basis. Contracts with our primary hospitals are on a
discounted per diem basis. Members receive a wide range of coverage after paying
a nominal co-payment and are eligible for preventive care coverage. The HMOs do
not require deductibles or claim forms when the member receives HMO benefits.

Most of our managed health care services in Nevada are provided through our
independently contracted network of approximately 2,000 providers and 13
hospitals. These Nevada networks include our multi-specialty medical group,
which provides medical services to approximately 74% of our southern Nevada HMO
members and employs over 160 primary care and other providers in various medical
specialties. Through our affiliates the following services are offered:

o three urgent care centers
o home health care
o hospice care
o behavioral health care
o home infusion, oxygen and durable medical equipment
o a free-standing, state-licensed and Medicare-approved ambulatory
surgery center
o radiology
o vision
o occupational medicine

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

Texas Health Choice, L.C., or TXHC, has contracts with 32 hospitals for
inpatient care in Dallas/Ft. Worth. Shortly after we acquired the Dallas/Ft.
Worth membership of Kaiser Foundation Health Plan of Texas, or Kaiser-Texas, we
changed the provider model in Dallas/Ft. Worth from a group model to a network
model by overlaying individual practice association, or IPA, delivery systems on
top of the existing group model to provide members with more choice. During
2000, we terminated the contractual relationship with our affiliated medical
group. Currently, the Dallas/Ft. Worth members are served by approximately 2,250
independently contracted providers.

On October 24, 2000, TXHC entered into an agreement with AmCare Health Plans of
Texas, Inc., or AmCare, for the sale and transfer of TXHC's membership in
Houston. Effective December 1, 2000, AmCare assumed the risk associated with the
commercial HMO and Medicare+Choice, or M+C, member contracts under an assumption
reinsurance agreement with TXHC. The initial term of the agreement was for a
period of three months, which began on December 1, 2000 and ended on February
28, 2001. As of March 1, 2001, the commercial HMO membership has been assumed by
AmCare. The reinsurance agreement is continuing for the M+C members until AmCare
receives approval from the Health Care Financing Administration, or HCFA, and
the Texas Department of Insurance for an assignment or novation of the M+C
members. The sale price is based on the number of members retained at March 1,
2001 and is adjusted based on the medical care ratio of those members. We do not
expect to receive material sales proceeds from this transaction. In addition to
the assumption reinsurance agreements, AmCare entered into an Administrative
Services Agreement with TXHC. In consideration for TXHC's performance of
administrative services related to the aforementioned membership, AmCare has
agreed to pay a monthly fee based on a per member per month rate.

Our commercial plans offer traditional HMO benefits and POS benefits. At
December 31, 2000, we had approximately 213,400 commercial members of which
approximately 140,100 were located in Nevada, 73,200 in Texas and 100 in
Arizona.

We offer a Medicare risk product for Medicare-eligible beneficiaries called
Senior Dimensions in Nevada and Golden Choice in Texas. Senior Dimensions is
marketed directly to Medicare-eligible beneficiaries in our Nevada service area.
In the first quarter of 2000, we went to a passive sales mode for Golden Choice.
We continued to offer the plan to potential customers who contacted us, as well
as provide service to existing members. We have been actively marketing the
Golden Choice product again since December 2000. The monthly payment received
from HCFA for Medicare members is determined by formula established by Federal
law.

As of December 31, 2000, we had approximately 49,900 Medicare members, of which
approximately 41,900 were located in Nevada and 8,000 in Texas. Approximately
36,000 of the Nevada Medicare members were enrolled in the Social HMO, which is
discussed below.

In addition, as of December 31, 2000, we had approximately 14,600 members
enrolled in our Nevada HMO Medicaid risk products. To enroll in these products,
an individual must be eligible for Medicaid benefits in the state of Nevada. We
are paid a monthly fee for each Medicaid member enrolled by the state's managed
care division.

Social Health Maintenance Organization. Effective November 1, 1996, we entered
into a Social HMO II contract with HCFA pursuant to which a large portion of our
Nevada Medicare risk enrollees will receive certain expanded benefits. We are
one of six HMOs nationally to be awarded this contract and are the only company
to have implemented the program as of December 31, 2000. We receive additional
revenues for providing these expanded benefits. The additional revenues are
determined based on health risk assessments that have been, and will continue to
be, performed on our eligible Medicare risk members. The additional benefits
include, among other things, assisting the eligible Medicare risk members with
typical daily living functions such as bathing, dressing and walking. These
members, as identified in the health risk assessments, are those who currently
have difficulty performing daily living functions because of a health or
physical problem. HCFA may consider adjusting the reimbursement factors for the
Social HMO members in the future. At this time, however, the final reimbursement
per member has not been determined and there is no guaranty that the Social HMO
contract will be renewed beyond 2003. If the reimbursement for these members
decreases significantly and related benefit changes are not made timely, there
could be a material adverse effect on our business.

Preferred Provider Organizations. Our managed indemnity plans generally offer
insureds a PPO option of receiving their medical care from either contracted or
non-contracted providers. Insureds pay higher deductibles and co-insurance or
co-payments when they receive care from non-contracted providers. Out-of-pocket
costs are lowered by utilizing contracted providers who are part of our PPO
network. As of December 31, 2000, approximately 31,000 members were enrolled in
our managed indemnity plans.

We currently provide managed indemnity, accidental death and disability, and
Medicare supplement services to individuals in Arizona, California, Colorado,
Iowa, Louisiana, Maryland, Mississippi, Missouri, Nevada, New Mexico and Texas.
We have provided enrollees with notice of the intent to withdraw from the
Colorado and Arizona service areas effective April 1, 2001 and May 1, 2001,
respectively. As of December 31, 2000, our managed indemnity subsidiary was
licensed in a total of 43 states and the District of Columbia.

Ancillary Medical Services. Among the ancillary medical services we offer in
Nevada are the following:

o outpatient surgical care
o diagnostic testing
o medical and surgical procedures
o x-ray
o CAT scans
o mental health and substance abuse services
o home health care services
o hospice program
o vision services
o home infusion
o oxygen
o durable medical equipment services

These services are provided to members of our HMO, managed indemnity and
administrative service plans. Mental health and substance abuse services are
also provided to approximately 145,000 participants from non-affiliated employer
groups and insurance companies.

Administrative Services. Our administrative services products provide, among
other things, utilization review and PPO services to large employer groups that
are usually self-insured. As of December 31, 2000, approximately 273,200 members
were enrolled in our administrative services plans. The results of operations
for these services are included in specialty product revenues and expenses in
the Consolidated Statements of Operations.

Military Contract Services

Sierra Military Health Services, Inc. On September 30, 1997, the Department of
Defense, or DoD, awarded us a triple-option health benefits contract, known as
TRICARE to provide managed health care coverage to eligible beneficiaries in
Region 1. This region has approximately 621,000 eligible individuals in
Connecticut, Delaware, Maine, Maryland, Massachusetts, New Hampshire, New
Jersey, New York, Pennsylvania, Rhode Island, Vermont, Virginia, West Virginia
and Washington, D.C. Sierra Military Health Services, Inc., or SMHS, completed
an eight month implementation phase in May 1998 and began providing health care
benefits on June 1, 1998 under the TRICARE contract.

Under the TRICARE contract, SMHS provides health care services to dependents of
active duty military personnel and military retirees and their dependents
through subcontractor partnerships and individual providers. We also perform
specific administrative services, including health care appointment scheduling,
enrollment, network management and health care management services. We perform
these services using DoD information systems. If all five option periods are
exercised by the DoD and no extensions of the performance period are made,
health care delivery will end on May 31, 2003, followed by an additional eight
month phase out of the Region 1 managed care support contract.

In June 1996, the DoD awarded a TRICARE contract to TriWest Healthcare Alliance,
a consortium consisting of Sierra and 13 other health care companies, to provide
health services to Regions 7 and 8, which include a total of 16 states. During
the first quarter of 2000, we sold our interest in TriWest Healthcare Alliance
in exchange for a $3.7 million note, which approximated the carrying value of
our investment.

Workers' Compensation Operations

Workers' Compensation Subsidiary. On October 31, 1995, we acquired CII
Financial, Inc., or CII, for approximately $76.3 million of common stock in a
transaction accounted for as a pooling of interests. Through CII's insurance
subsidiaries, we write workers' compensation insurance in the states of
California, Colorado, Kansas, Missouri, Nebraska, Nevada, New Mexico, Texas and
Utah. CII's insurance subsidiaries have licenses in 35 states and the District
of Columbia and have applications pending for licenses in other states.
California, Colorado and Nevada represent approximately 77%, 8%, and 8%,
respectively, of CII's fully insured workers' compensation insurance premiums in
2000. Workers' compensation insurance premiums account for approximately 9% of
our total revenue. The workers' compensation subsidiary applies the discipline
of managed care concepts to its operations. These concepts include, but are not
limited to, the use of specialized preferred provider networks, utilization
reviews by an employed board certified occupational medicine physician as well
as nurse case managers, medical bill reviewers and job developers who facilitate
early return to work.

Marketing

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

Media communications convey our emphasis on preventive care, ready access to
health care providers and service. Other communications to customers include
employer and member newsletters, member education brochures, prenatal
information packets, employer/broker seminars, certain Internet information and
direct mail advertising to clients. Members' satisfaction with our benefits and
services is monitored by customer surveys. Results from these surveys and other
primary and secondary research guide the sales and advertising efforts
throughout the year.

Medicare risk products are primarily marketed by the HMOs' sales employees.
Retention of employer groups and membership growth is accomplished through print
advertising directed to employers and through consumer media campaigns.

Our workers' compensation insurance policies are sold through independent
insurance agents and brokers, who may also represent other insurance companies.
We believe that independent insurance agents and brokers choose to market our
insurance policies primarily because of the price we charge, the quality of
service that we provide and the commissions we pay. We employ full-time field
underwriters in selected geographic areas who meet with agents and advise them
of our services and who can provide an immediate quote on a policy. As of
December 31, 2000, we had relationships with approximately 800 agents and paid
our agents commissions based on a percentage of the gross written premium they
produced. We also have various agency incentive programs that enable an agent to
earn additional compensation if certain premium production and/or agency loss
ratio goals are met. We utilize a number of promotional media, including
advertising in publications and at trade fairs to support the efforts of our
independent agents.

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

Membership

Period End Membership:

At December 31,
--------------------------------------------------------------------------

2000 1999 1998 1997 1996
-------- -------- -------- ------- --------
HMO:
Commercial (1).......................... 213,000 263,000 272,000 154,000 147,000
Medicare (2)............................ 50,000 53,000 47,000 36,000 30,000
Medicaid................................ 15,000 11,000 5,000 2,000
Managed Indemnity........................... 31,000 37,000 41,000 64,000 46,000
Medicare Supplement......................... 28,000 28,000 26,000 25,000 23,000
Administrative Services (3) ................ 273,000 298,000 318,000 328,000 338,000
TRICARE Eligibles........................... 621,000 610,000 606,000
---------- ---------- --------------------------------------
Total Membership........................ 1,231,000 1,300,000 1,315,000 609,000 584,000
========= ========= ========= ======= =======

(1) The 2000 Commercial membership does not include 12,000 Houston members sold
and transferred to AmCare on December 1, 2000. (2) The 2000 Medicare membership
does not include 5,000 Houston members that AmCare assumed under a reinsurance
agreement on
December 1, 2000.
(3) For comparability purposes, enrollment information has been restated to
reflect the September 30, 1997 termination of our workers' compensation
administrative services contract with the state of Nevada. Enrollment in
the terminated plan was 163,000 at December 31, 1996.

During 2000, 1999 and 1998, we received approximately 24.2%, 23.5% and 23.0%,
respectively, of our total revenues from our contract with HCFA to provide
health care services to Medicare enrollees. Our contract with HCFA is subject to
annual renewal at the election of HCFA and requires us to comply with federal
HMO and Medicare laws and regulations and may be terminated if we fail to
comply. The termination of our contract with HCFA would have a material adverse
effect on our business. In addition, there have been, and we expect that there
will continue to be, a number of legislative proposals to limit Medicare
reimbursements and to require additional benefits. Future levels of funding of
the Medicare program by the federal government cannot be predicted with
certainty. (See Government Regulation and Recent Regulation).

Our ability to obtain and maintain favorable group benefit agreements with
employer groups affects our profitability. The agreements are generally
renewable on an annual basis but are subject to termination on 60 days prior
notice. For the fiscal year ended December 31, 2000, our ten largest HMO
employer groups were, in the aggregate, responsible for less than 10% of our
total revenues. Although none of our employer groups accounted for more than 2%
of total revenues during that period, the loss of one or more of the larger
employer groups would, if not replaced with similar membership, have a material
adverse effect upon our business. We have generally been successful in retaining
these employer groups in Nevada. However, there can be no assurance that we will
be able to renew our agreements with our employer groups in the future or that
we will not experience a decline in enrollment within our employer groups.
Additionally, revenues received under certain government contracts are subject
to audit and retroactive adjustment.

Provider Arrangements and Cost Management

HMO and Managed Indemnity Products. A significant distinction between our health
care delivery system and that of many other managed care providers is the fact
that approximately 73% of our southern Nevada HMO members receive primary health
care through our owned multi-specialty medical group. We make health care
available through independently contracted providers employed by the
multi-specialty medical group and other independently contracted networks of
physicians, hospitals and other providers.

Under our HMOs, the member selects a primary care physician who provides or
authorizes any non-emergency medical care given to that member. These primary
care physicians and some specialists are compensated to a limited extent on the
basis of how well they coordinate appropriate medical care. We have a system of
limited incentive risk arrangements and utilization management with respect to
our independently contracted primary care physicians. We compensate our
independently contracted primary care physicians and specialists by using both
capitation and modified fee-for-service payment methods. In Nevada, under the
modified fee-for-service method, an incentive risk arrangement is established
for institutional services. Additional amounts may be made available to certain
capitated physicians if hospital costs are less than anticipated for our HMO
members. For those primary care physicians receiving payments on a modified
fee-for-service basis, portions of the payments otherwise due the physicians are
withheld. The amounts withheld are available for payment to the physicians if,
at year-end, the expenditures for both institutional and non-institutional
medical services are within predetermined, contractually agreed upon ranges. It
is believed that this method of limited incentive risk payment is advantageous
to the physician, our company and the members because all share in the benefits
of managing health care costs. We have, however, negotiated capitation and
reduced fee-for-service agreements with certain specialists and primary care
providers who do not participate in the incentive risk arrangements. We monitor
certain health care utilization, including evaluation of elective surgical
procedures, quality of care and financial stability of our capitated providers
to facilitate access to service and to ensure member satisfaction.

We provide or negotiate discounted contracts with hospitals for inpatient and
outpatient hospital care, including room and board, diagnostic tests and medical
and surgical procedures. We believe that we currently have a favorable contract
with our primary southern Nevada contracted hospital, Columbia Sunrise Hospital
or Sunrise Hospital. Subject to certain limitations, the contract provides,
among other things, guaranteed contracted per diem rate increases on an annual
basis. The per diem rate increased 3% in 2000 and is scheduled to increase
approximately 4% in 2001. Since a majority of our southern Nevada hospital days
are at Sunrise Hospital and another Columbia/HCA facility, this contract assists
us in managing a significant portion of our medical costs. We can be and have
been affected by Sunrise Hospital's limited capacity and have had to place our
members in other facilities, with a higher cost to us, due to a shortage of beds
at these two hospitals. In Texas, we have contracts with 18 Columbia/HCA
hospitals and approximately 14 other hospitals for inpatient care in Dallas/Ft.
Worth.

We believe that we have negotiated favorable rates with our contracted
hospitals. For hospitals other than Sunrise Hospital, our contracts with our
hospital providers typically renew automatically with both parties granted the
right to terminate after a notice period ranging from three to twelve months.
Reimbursement arrangements with other health care providers, including
pharmacies, generally renew automatically or are negotiated annually and are
based on several different payment methods, including per diems (where the
reimbursement rate is based on a per day of service charge for specified types
of care), capitation or modified fee-for-service arrangements. To the extent
possible, when negotiating non-physician provider arrangements, we solicit
competitive bids.

We utilize two reimbursement methods for health care providers rendering
services under our indemnity plans. For services to members utilizing a PPO
plan, we reimburse participating physicians on a modified fee-for-service basis
which incorporates a limited fee schedule and reimburses hospitals on a per diem
or discounted fee-for-service basis. For services rendered under a standard
indemnity plan, pursuant to which a member may select a non-plan provider, we
reimburse non-contracted physicians and hospitals at pre-established rates, less
deductibles and co-insurance amounts.

We manage health care costs through our large case management program, urgent
care centers and by educating our members on how and when to use the services of
our plans and how to manage chronic disease conditions. We audit hospital bills
and review hospital and high volume providers claims to ensure appropriate
billing and utilization patterns. We also monitor the referral process from the
primary care physician to the specialty network for appropriateness. Further, in
Nevada, we utilize our home health care agency and our hospice, which help to
minimize hospital admissions and the length of stay.

Military Health Services. Under the TRICARE contract, dependents of active duty
military personnel and military retirees and their dependents choose one of
three option plans available to them for health care services: (1) TRICARE Prime
(an HMO style option with a self-selected primary care manager and no
deductibles), (2) TRICARE Extra (a PPO style option with deductibles and cost
shares) or (3) TRICARE Standard (an indemnity style option with deductibles and
cost shares). Approximately 35% of eligible beneficiaries receive their primary
care through existing military treatment facilities. SMHS negotiated discounted
contracts with approximately 32,000 individual providers, 2,000 institutions and
7,000 pharmacies to provide supplemental network access for TRICARE Prime and
Extra beneficiaries. SMHS' contracts with providers are primarily on a
discounted fee-for-service basis with renewal and termination terms similar to
our commercial practice. SMHS is at-risk for and manages the health care service
cost of all TRICARE Extra and Standard beneficiaries as well as a small
percentage of TRICARE Prime beneficiaries.

Risk Management

We maintain general and professional liability and property and fidelity
insurance coverage in amounts that we believe are adequate for our operations.
Our multi-specialty medical groups maintain excess malpractice insurance for the
providers presently employed by the group. In Nevada and Arizona, we have
assumed the risk for the first $250,000 per malpractice claim, not to exceed
$1.5 million in the aggregate per contract year up to our limits of coverage. In
Texas, we have assumed no self-insured retention per claim. The aggregate
maximum limits for each of these policies is $30 million per year. In addition,
we require all of our independently contracted provider physician groups,
individual practice physicians, specialists, dentists, podiatrists and other
health care providers (with the exception of certain hospitals) to maintain
professional liability coverage. Certain of the hospitals with which we contract
are self-insured. We also maintain stop-loss insurance that reimburses us
between 50% and 90% of hospital charges for each individual member of our HMO or
managed indemnity plans whose hospital expenses exceed, depending on the
contract, $75,000 to $200,000, during the contract year and up to $2.0 million
per member per lifetime.

We also maintain excess catastrophic coverage for one of our wholly-owned HMOs,
Health Plan of Nevada, Inc., or HPN, that reimburses us for amounts by which the
ultimate net loss exceeds $400,000, but does not exceed the annual maximum of
$19.6 million per occurrence and $39.2 million per contract. In the ordinary
course of our business, however, we are subject to claims that are not insured,
principally claims for punitive damages.

Effective July 1, 1998, workers' compensation claims with dates of injury
occurring on or after that date, were reinsured under a quota share and excess
of loss agreement, which we refer to as "low level" reinsurance, with Travelers
Indemnity Company of Illinois, which is rated A+ by the A.M. Best Company. The
low level reinsurance provided quota share protection for 30% of the first
$10,000 of each loss, excess of loss protection of 75% of the next $40,000 of
each loss and 100% of the next $450,000 on a per occurrence basis. The maximum
net loss retained on any one claim, up to $500,000, ceded under this treaty was
$17,000. This agreement continued until June 30, 2000, when we executed an
option for a twelve month extension relating to the run-off of policies in force
as of June 30, 2000, which covers claims arising under our policies during the
term of the extension.

In addition to the low level reinsurance, effective January 1, 2000 we entered
into a reinsurance contract that provides statutory (unlimited) coverage for
workers' compensation claims in excess of $500,000 per occurrence. The contract
is in effect for claims occurring on or after January 1, 2000 through December
31, 2002. The reinsurer, National Union Fire Insurance Company, which is rated
A+ by the A.M. Best Company, has a limited ability to cancel this treaty on each
anniversary of inception during that period. Effective July 1, 2000, we entered
into a reinsurance contract, also with National Union Fire Insurance Company,
that provides $250,000 of coverage for workers' compensation claims in excess of
$250,000 per occurrence. The contract is in effect for claims occurring on
policies with effective dates beginning July 1, 2000 and thereafter. The
reinsurer has the ability to cancel the treaty if written notice is provided 90
days prior to each anniversary of inception.

Information Systems

We use data processing systems, which assist us in, among other things, pricing
our services, monitoring utilization and other cost factors, providing bills on
a timely basis, identifying accounts for collection and handling various
accounting and reporting functions. Our imaging and workflow systems are used to
process and track claims and coordinate customer service. Where it is cost
efficient, our systems are connected to large provider groups, doctors' offices,
payors and brokers to enable efficient transfer of information and
communication. In 2000, we began to provide secure access to basic eligibility
and claims information to selected providers via an Internet pilot web site. In
2001, this Internet-based access will be expanded, with security, so members can
access more information and perform self-service transactions. We view our
information systems capability as critical to the performance of ongoing
administrative functions and integral to quality assurance and the coordination
of patient care. We are continually modifying or improving our information
systems capabilities in an effort to improve operating efficiencies and service
levels.

Quality Assurance and Improvement

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

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

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

Several independent organizations have been formed for the purpose of responding
to external demands for accountability in the health care industry. We have
voluntarily elected to be evaluated by one of these external organizations, the
National Committee for Quality Assurance, or NCQA. NCQA is an independent,
not-for-profit organization that evaluates managed care organizations.

The NCQA accreditation process includes rigorous evaluations conducted by a team
of physicians and managed care experts. According to NCQA officials, the
standards are purposely set high to encourage health plans to continuously
enhance their quality. No comparable evaluation exists for fee-for-service
health care. NCQA evaluates plans on approximately 50 quality standards that
fall into six categories: Quality Management and Improvement; Physician
Credentials; Members' Rights and Responsibilities; Preventive Health Services;
Utilization Management; and Medical Records. In 2000, HPN earned an "Accredited"
status from the NCQA for its HMO and Medicare products. The NCQA accreditation
for TXHC expired in April of 2000. We have voluntarily postponed our
accreditation renewal process for TXHC and intend to seek NCQA accreditation in
early 2002.

There can be no assurance, however, that we will maintain NCQA or other
accreditations in the future and there is no basis to predict what effect, if
any, the lack of NCQA or other accreditations could have on HPN's or TXHC's
competitive positions in southern Nevada and Dallas/Fort Worth respectively.

Underwriting

HMO. We structure premium rates for our various health plans primarily through
community rating and community rating by class methods. Under the community
rating method, all costs of basic benefit plans for our entire membership
population are aggregated. These aggregated costs are calculated on a "per
member per month" basis and converted to premium rates for various coverage
types, such as single or family coverage. The community rating by class method
is based on the same principles as community rating except that actuarial
adjustments to premium rates are made for demographic variations specific to
each employer group including the average age and sex of their employees, group
size and industry. All employees of an employer group are charged the same
premium rate if the same coverage is selected.

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

Managed Indemnity. Premium charges for our managed indemnity products are set in
a manner similar to the community rating by class method described above. This
rate calculation utilizes similar demographic adjustment factors including age,
sex and industry factors to develop group-specific adjustments from a given per
member per month base rate by plan. Actual health claim experience is used in
whole or in part to develop premium rates for larger insurance member groups.
This process includes the use of utilization experience, adjustments for
incurred but not reported claims, inflationary factors, credibility and specific
reinsurance pooling levels for large claims.

Workers' Compensation. Prior to insuring a particular risk, we review, among
other factors, the employer's prior loss experience and other pertinent
underwriting information. Additionally, we determine whether the employer's
employment classifications are among the classifications that we have elected to
insure and if the amounts of the premiums for the classifications are within our
guidelines. We review these classifications periodically to evaluate whether
they are profitable. Of the approximately 550 employment classifications in
California, we are willing to insure approximately two-thirds. The remaining
classifications are either excluded by our reinsurance treaty or are believed by
us to be too hazardous or not profitable. In addition, we increase our
requirements for certain classifications to increase the likelihood of
profitability.

Once an employer has been insured by us, our loss control department may assist
the insured in developing and maintaining safety programs and procedures to
minimize on-the-job injuries and industrial health hazards. The safety programs
and procedures vary from insured to insured. Depending upon the size,
classifications and loss experience of the employer, our loss control department
will periodically inspect the employer's places of business and may recommend
changes that could prevent industrial accidents. In addition, severe or
recurring injuries may also warrant on-site inspections. In certain instances,
members of our loss control department may conduct special educational training
sessions for insured employees to assist in the prevention of on-the-job
injuries. For example, employers engaged in contracting may be offered a
training session on general first aid and prevention of injuries from specific
work exposures.

Competition

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

Workers' Compensation. Our workers' compensation business is concentrated in
California, a state where the workers' compensation insurance industry is
extremely competitive. Since open rating became effective for policyholders in
1995, there have been substantial reductions in premiums. The premium rate
increases on policies renewed in California during 2000 were approximately 26%.
For the second half of the year, rate increases averaged approximately 36%.
Based on public information, other California workers' compensation companies
are issuing year 2000 policies at rates 20% to 40% in excess of the expiring
rates. For the first two months of 2001, the average renewal rate increase for
our California policies was approximately 42%.

Approximately 180 companies wrote workers' compensation insurance in California
in 2000, including the State Compensation Insurance Fund, which is the largest
writer in California. Many of our competitors have been in business longer, have
a larger volume of business, offer a more diversified line of insurance coverage
and have greater financial resources and distribution capability than we do.

Losses and Loss Adjustment Expenses

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

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

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

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

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

Government Regulation and Recent Legislation

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

Government regulation of health care coverage products and services is a
changing area of law that varies from jurisdiction to jurisdiction. Changes in
applicable laws and regulations are continually being considered and
interpretation of existing laws and rules also may change from time to time.
Regulatory agencies generally have broad discretion in interpreting laws and
promulgating regulations to enforce their interpretations.

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

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

We have HMO licenses in Nevada, Texas and Arizona. Our HMO operations are
subject to regulation by the Nevada Division of Insurance, the Nevada State
Board of Health, the Texas Department of Insurance and the Arizona Department of
Insurance. Our health insurance subsidiary is domiciled and incorporated in
California and is licensed in 43 states and the District of Columbia. It is
subject to licensing and other regulations of the California Department of
Insurance as well as the insurance departments of the other states in which it
operates or holds licenses. Our HMO and insurance premium rate increases are
subject to various state insurance department approvals. Our Nevada HMO and
health insurance subsidiaries currently maintain a home office and a regional
home office, respectively, in Las Vegas and, accordingly, are eligible for
certain premium tax credits in Nevada. This property was not sold as part of our
December 2000 sale-leaseback transaction. We intend to take all necessary steps
to continue to comply with eligibility requirements for these credits. The
elimination or reduction of the premium tax credit would have a material adverse
effect on our results of operations.

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

Under the "corporate practice of medicine" doctrine, in most states, business
organizations, other than those authorized to do so, are prohibited from
providing, or holding themselves out as providers of, medical care. Some states,
including Nevada, exempt HMOs from this doctrine. The laws relating to this
doctrine are subject to numerous conflicting interpretations. Although we seek
to structure our operations to comply with corporate practice of medicine laws
in all states in which we operate, there can be no assurance that, given the
varying and uncertain interpretations of those laws, we would be found to be in
compliance with those laws in all states. A determination that we are not in
compliance with applicable corporate practice of medicine laws in any state in
which we operate could have a material adverse effect on us if we were unable to
restructure our operations to comply with the laws of that state.

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

In 1997, Congress passed the Balanced Budget Act, or BBA, which revised the
structure of and reimbursement for private health plan options for Medicare
enrollees. Premiums paid by HCFA to health plans were adjusted to (i) take into
account a blend of national and local health care cost factors, rather than only
local costs, starting with a 10% national factor in 1998 and moving to a 50%
national factor by 2003; (ii) provide for gradual removal of the graduate
medical education factor from health plan payments; (iii) provide for the
gradual phase-in of a risk adjustment payment methodology; and (iv) provide a
minimum increase of 2% annually in health plan reimbursement through 2003. As a
result, since 1998, health plan reimbursement from HCFA has generally not
matched the rate of increase for medical costs. The BBA also established a new
Medicare managed care program, entitled Medicare+Choice, or M+C, which was
effective January 1, 1999. Under M+C, we are required to implement new
requirements including, but not limited to, discharge notices, encounter data,
additional provider contract language and extensive new quality improvement
programs. The restructured payments and additional obligations contained in the
BBA increased the burden of administering our Medicare plans. In 1999, Congress
sought to lessen the adverse impact on health plans of the BBA by changing a
number of M+C provisions in the Balanced Budget Refinement Act, or BBRA. In
December 2000, Congress enacted the Beneficiary Improvement and Protection Act,
or BIPA, which, like the BBRA, was an effort to improve the M+C program and
reduce the number of non-renewals by companies that were experiencing
significant difficulties in operating a viable M+C program. In part, this law
revises actions taken in BBA and BBRA that have impacted our operations. With
respect to us, BIPA primarily impacts our Medicare programs. BIPA freezes the
inpatient data risk adjustment payment methodology at the 10% level through 2003
and increases our capitation by a minimum of 3% per member per month starting
March 1, 2001. Subsequent to 2001, the minimum payment reverts to 2%. This law
also extends our Social HMO demonstration program, which has been in place since
1996, an additional year through 2003. Despite BBRA and BIPA, the M+C program
continues to experience difficulties and participation in it may adversely
impact our operations. Because of the potential impact that changes in the
overall Medicare program could have on our various operations, we monitor all
federal activities associated with the Medicare program. The risk adjustment
factors described above have not been applied to the Social HMO capitation
payments for the Year 2000 and we do not believe that the risk adjustment
mechanism will be applied to Social HMO capitation payments in the near future.

The Health Insurance Portability and Accountability Act of 1996, or HIPAA, was
passed by Congress on August 21, 1996 and was effective beginning July 1, 1997.
While HIPAA contains provisions regarding health insurance or health plans, such
as portability and limitations on pre-existing condition exclusions, guaranteed
availability and renewability, it also contains several anti-fraud measures that
significantly change health care fraud and abuse provisions. Some of the
provisions include (i) creation of an anti-fraud and abuse trust fund and
coordination of fraud and abuse efforts by federal, state and local authorities;
(ii) extension of the criminal anti-kickback statues to all federal health
programs; (iii) expansion of and increase in the amount of civil monetary
penalties and establishment of a knowledge standard for individuals or entities
potentially subject to civil monetary penalties; and (iv) revisions to current
sanctions for fraud and abuse, including mandatory and permissive exclusion from
participation in the Medicare or Medicaid programs. These provisions and other
factors have resulted in significantly increased enforcement actions involving
the healthcare industry.

HIPAA also contained provisions which mandated the establishment of standards
and requirements for electronic transactions involving certain health
information. Accordingly, on August 17, 2000, the Department of Health and Human
Services, or HHS, issued final regulations establishing standards for electronic
transactions. On December 28, 2000, HHS issued final regulations establishing
standards for the privacy of individually identifiable health information and
the compliance dates under these regulations for health plans, providers and
clearinghouses were originally October 16, 2002 and February 28, 2003,
respectively. However, on February 28, 2001, HHS published a notice reopening
these final privacy regulations. Currently, they are due to become effective on
April 14, 2001, and compliance is required two years thereafter, or April 14,
2003, for health plans, heath care providers and health care clearinghouses. In
view of the reopening of the final privacy regulations, the current compliance
date may be changed. Final regulations establishing a unique identifier for
health plans and standards for security of electronic information systems are
expected to be issued by HHS in 2001 and the compliance date for those
regulations will be established when they are published in final form. Failure
to comply with the standards and implementation specifications of these
regulations could result in investigation by the Office of Civil Rights of HHS
and the imposition of criminal penalties and civil sanctions, including fines.
At this time, we cannot quantify the cost of compliance or the impact it will
have on our business. There can be no assurance that the costs to implement and
to comply will not adversely affect our operating results or financial
condition.

In November 2000, the Department of Labor published the final regulation on
ERISA claims procedures. The first major revision of the existing claims
procedure requirements since 1977, the regulation applies to all employee
benefit plans governed by ERISA, whether the benefits are provided through
insurance products or are self-funded. Some of the provisions require (i)
compressed timeframes for decisions on urgent care and pre-service claims; (ii)
safeguards to ensure that decisions are made consistently and in

accordance with plan provisions; and (iii) two levels of internal appeal and the
use of mandatory arbitration, voluntary arbitration and, under certain
conditions, other forms of alternative dispute resolution. This regulation does
not preempt state laws unless the state laws prevent the application of the
regulation's requirements. This regulation impacts our third party administrator
services and potentially other operations and will apply to all claims filed on
or after January 1, 2002.

Workers' Compensation. We are subject to extensive governmental regulation and
supervision in each state in which we conduct workers' compensation business.
The primary purpose of the regulation and supervision is to provide safeguards
for policyholders and injured workers rather than protect the interests of
shareholders. The extent and form of the regulation may vary, but generally it
has its source in statutes that establish regulatory agencies and delegate to
the regulatory agencies broad regulatory, supervisory and administrative
authority. Typically, state regulations extend to matters such as licensing
companies; restricting the types or quality of investments; requiring triennial
financial examinations and market conduct surveys of insurance companies;
licensing agents; regulating aspects of a company's relationship with its
agents; restricting use of some underwriting criteria; regulating premium rates,
forms and advertising; limiting the grounds for cancellation or nonrenewal of
policies; solicitation and replacement practices; and specifying what might
constitute unfair practices.

Typically, states mandate participation in insurance guaranty associations,
which assess solvent insurance companies in order to fund claims of
policyholders of insolvent insurance companies. Under this arrangement, insurers
can be assessed up to 1%, or 2% in certain states, of premiums written for
workers' compensation insurance in that state each year to pay losses and LAE on
covered claims of insolvent insurers. In California and certain other states,
insurance companies are allowed to recoup such assessments from policyholders
while several states allow an offset against premium taxes. The California
Insurance Guaranty Association has issued an assessment as a result of the
insolvency of the insurers owned by Superior National Insurance Group. The
assessment is 1% of 1999 written premium to be paid in installments. The first
installment was paid on December 31, 2000 and the second is due June 30, 2001.
The payments of approximately $1.2 million will be recouped during 2001 and 2002
through assessments to policyholders. It is likely that guaranty fund
assessments related to this insolvency will continue.

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

In the normal course of business, we may disagree with various government
agencies that regulate our activities on interpretations of laws and
regulations, policy wording and disclosures or other related issues. These
disagreements, if left unresolved, could result in administrative hearings
and/or litigation. We attempt to resolve all issues with the regulatory
agencies, but are willing to litigate issues where we believe we have a strong
position. The ultimate outcome of these disagreements could result in sanctions
and/or penalties and fines assessed against us. Currently, there are no
litigation matters pending with any government agencies.

Deposits. Our HMO and insurance subsidiaries are required by state regulatory
agencies to maintain certain deposits and meet certain net worth and reserve
requirements. We have restricted assets on deposit in various states ranging
from $20,000 to $2.6 million and totaling $24.7 million at December 31, 2000.
Our HMO and insurance subsidiaries are required by statute to meet a minimum
Risk-Based Capital requirement on a statutory accounting basis. In addition, in
conjunction with the Kaiser-Texas acquisition, TXHC entered into a letter
agreement with the Texas Department of Insurance whereby TXHC agreed to maintain
a net worth of $20.0 million, on a statutory basis, until it achieves two
consecutive quarters of break-even status.

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

In addition, our workers' compensation insurance subsidiaries may not pay a
dividend without the prior approval of the state insurance commissioner to the
extent the cumulative amount of dividends or distributions paid or proposed to
be paid in any year exceeds the amount shown as unassigned funds (reduced by any
unrealized gains included in such amount) on the insurer's statutory statement
as of the previous December 31. California Indemnity Insurance Company, a direct
subsidiary of CII, can pay a dividend of $174,000 without the prior approval of
the California Department of Insurance. We are not in a position to assess the
likelihood of obtaining future approval for the payment of dividends other than
those specifically allowed by law in each of our subsidiaries' state of
domicile. In connection with CII's proposed exchange offer to exchange all of
CII's debentures that mature on September 15, 2001 with cash or new debentures,
California Indemnity filed an application with the California Department of
Insurance to pay an extraordinary dividend of up to $5 million. On February 22,
2001, the California Department of Insurance approved the request for payment by
California Indemnity of an extraordinary dividend of up to $5 million.

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

Employees

We had approximately 3,800 employees as of March 20, 2001. None of these
employees are covered by a collective bargaining agreement. We believe that our
relations with our employees are good.

ITEM 2. DESCRIPTION OF PROPERTIES

On December 28, 2000, we finalized a sale-leaseback transaction that included
the majority of our administrative and clinical properties in Las Vegas totaling
approximately 478,000 square feet. The lease is for a term of fifteen years and
we have the option of five 5-year renewal periods. We lease additional office
and clinical space in Nevada totaling approximately 134,000 and 124,000 square
feet, respectively. HPN and Sierra Health and Life Insurance Co. Inc., or SHL
have retained ownership of a 134,000 square foot administrative building at
their Las Vegas headquarters, which serves as the home office and a regional
home office for our Nevada HMO and health insurance subsidiaries, respectively.

In conjunction with the Kaiser-Texas acquisition, we purchased eight medical and
office facilities with approximately 323,000 square feet of clinical facilities
and approximately 175,000 square feet of administrative facilities. These
buildings are subject to a deed of trust note with an original balance of $35.2
million and a balance of $34.2 million on December 31, 2000. Approximately
81,000 square feet of the clinical and 67,000 square feet of the administrative
space are subleased by us to outside parties. The Texas assets have been written
down to market value and are classified as held for sale on our balance sheet
while we actively seek a buyer for the properties.

The workers' compensation subsidiary is headquartered in Nevada and subleases
space from us in one of the buildings included in the sale-leaseback transaction
as well as approximately 77,000 square feet of leased office space in
California, Colorado and Texas.

We lease approximately 150,000 square feet of office space in other various
states as needed for the military subsidiary's administrative headquarters,
TRICARE service centers and other regional operations.

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

ITEM 3. LEGAL PROCEEDINGS

We are subject to various claims and other litigation in the ordinary course of
business. Such litigation includes claims of medical malpractice, claims for
coverage or payment for medical services rendered to HMO members and claims by
providers for payment for medical services rendered to HMO members. Also
included in such litigation are claims for workers' compensation and claims by
providers for payment of medical services rendered to injured workers. In the
opinion of our management, the ultimate resolution of pending legal proceedings
should not have a material adverse effect on our financial condition or results
of operations.

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

None

PART II

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

Market Information

Our common stock, par value $.005 per share (the "Common Stock"), has been
listed on the New York Stock Exchange under the symbol SIE since April 26, 1994
and, prior to that, had been listed on the American Stock Exchange since our
initial public offering on April 11, 1985. The following table sets forth the
high and low sales prices for the Common Stock for each quarter of 2000 and
1999.

Period High Low
------ ---- ---

2000

First Quarter........................................ $8.25 $4.31
Second Quarter....................................... 5.13 2.75
Third Quarter........................................ 4.75 2.44
Fourth Quarter....................................... 6.00 2.75

1999
First Quarter........................................ $22.13 $11.56
Second Quarter....................................... 16.25 10.44
Third Quarter........................................ 14.56 10.06
Fourth Quarter....................................... 10.00 4.63

On March 15, 2001, the closing sale price of Common Stock was $4.52 per share.

Holders

The number of record holders of Common Stock at March 15, 2001 was 224. Based
upon information available to us, we believe there are approximately 5,300
beneficial holders of the Common Stock.

Dividends

No cash dividends have been paid on the Common Stock since our inception. We
currently intend to retain our earnings for use in our business and do not
anticipate paying any cash dividends in the foreseeable future. As a holding
company, our ability to declare and to pay dividends is dependent upon cash
distributions from our operating subsidiaries. The ability of our HMOs and our
insurance subsidiaries to declare and pay dividends is limited by state
regulations applicable to the maintenance of minimum deposits, reserves and net
worth. (See Management's Discussion and Analysis of Financial Condition and
Results of Operations - Liquidity and Capital Resources). The declaration of any
future dividends will be at the discretion of our Board of Directors and will
depend on, among other things, future earnings, debt covenants, operations,
capital requirements, our financial condition and general business conditions.

ITEM 6. SELECTED FINANCIAL DATA

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

Years Ended December 31,
----------------------------------------------------------------
2000 1999 1998 1997 1996
---------- ---------- ---------- ---------- -----------
(In thousands, except per share data)
Statements of Operation Data:
OPERATING REVENUES:

Medical Premiums.................................... $ 869,875 $ 827,779 $ 609,404 $ 513,857 $ 386,968
Military Contract Revenues ......................... 330,352 287,398 204,838 4,346
Specialty Product Revenues ......................... 135,844 94,221 148,368 146,211 133,324
Professional Fees................................... 35,607 51,842 45,363 31,238 28,836
Investment and Other Revenues....................... 21,300 22,571 29,230 26,072 26,283
------------ ------------ ------------- ---------- ----------
Total............................................. 1,392,978 1,283,811 1,037,203 721,724 575,411
---------- ---------- ----------- --------- ---------

OPERATING EXPENSES:
Medical Expenses.................................... 810,390 749,797 513,209 419,272 315,915
Military Contract Expenses ........................ 323,265 276,493 196,625 4,193
Specialty Product Expenses.......................... 152,733 96,487 142,258 143,082 130,758
General, Administrative and Marketing Expenses...... 136,660 137,812 110,687 93,919 72,237
Asset Impairment, Restructuring,
Reorganization and Other Costs (1) .............. 220,440 18,808 13,851 29,350 12,064
----------- ------------ ---------- ----------- ----------
Total............................................. 1,643,488 1,279,397 976,630 689,816 530,974
---------- ---------- --------- ---------- ---------

OPERATING (LOSS) INCOME ............................... (250,510) 4,414 60,573 31,908 44,437

INTEREST EXPENSE AND OTHER, NET........................ (23,630) (14,980) (7,181) (4,433) (2,823)
----------- ------------- ---------- ----------- ----------

(LOSS) INCOME FROM OPERATIONS
BEFORE INCOME TAXES .............................. (274,140) (10,566) 53,392 27,475 41,614
BENEFIT (PROVISION) FOR INCOME TAXES................... 74,225 5,935 (13,796) (3,234) (10,471)
----------- ------------ ----------- ----------- ----------

NET (LOSS) INCOME ..................................... $(199,915) $ (4,631) $ 39,596 $ 24,241 $ 31,143
========= =========== ========== ========= =========

EARNINGS PER COMMON SHARE (2):
Net (Loss) Income Per Share ........................... $(7.37) $(.17) $1.45 $.90 $1.17
====== ===== ===== ==== =====

Weighted Average Number of Common
Shares Outstanding ............................... 27,142 26,927 27,391 27,013 26,589
====== ====== ====== ====== ======

EARNINGS PER COMMON SHARE ASSUMING
DILUTION (2):
Net (Loss) Income Per Share ........................... $(7.37) $(.17) $1.43 $.88 $1.15
====== ===== ===== ==== =====

Weighted Average Number of Common
Shares Outstanding Assuming Dilution ............. 27,142 26,927 27,747 27,426 27,191
====== ====== ====== ====== ======

December 31,
- ------------------------------------------------------------------------------------------------------------------------------------
2000 1999 1998 1997 1996
---------- ---------- ---------- ---------- ---------
(In thousands)

Balance Sheet Data:

Working Capital ............................................. $ 76,414 $ 112,105 $ 198,092 $211,911 $189,943
Total Assets................................................. 1,165,100 1,130,112 1,045,120 723,936 629,462
Long-term Debt (Net of Current Maturities)................... 225,355 258,854 242,398 90,841 66,189
Cash Dividends Per Common Share.............................. none none none none none
Stockholders' Equity......................................... 90,473 278,412 303,714 265,682 234,482

(1) We recorded certain identifiable asset impairment, restructuring,
reorganization and other costs. See Note 16 of Notes to the Consolidated
Financial Statements.

(2) Adjusted to account for three-for-two stock split of our common stock to
stockholders of record as of May 18, 1998.

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

The following discussion and analysis provides information which management
believes is relevant for an assessment and understanding of our consolidated
financial condition and results of operations. The discussion should be read in
conjunction with the Consolidated Financial Statements and related Notes
thereto. Any forward-looking information contained in this Management's
Discussion and Analysis of Financial Condition and Results of Operations and any
other sections of this 2000 Annual Report on Form 10-K should be considered in
connection with certain cautionary statements contained in our Current Report on
Form 8-K filed March 20, 2001, which is incorporated by reference. Such
cautionary statements are made pursuant to the "safe harbor" provisions of the
Private Securities Litigation Reform Act of 1995 and identify important risk
factors that could cause our actual results to differ materially from those
expressed in any projected, estimated or forward-looking statements relating to
us.

Overview

We derive revenues from our health maintenance organizations, managed indemnity,
military health care services and workers' compensation insurance subsidiaries.
To a lesser extent, we also derive additional specialty product revenues from
non-HMO and insurance products (consisting of fees for workers' compensation
administration, utilization management services and ancillary products),
professional fees (consisting primarily of fees for providing health care
services to non-members and co-payment fees received from members), and
investment and other revenue.

Our principal expenses consist of medical expenses, military contract expenses,
specialty product expenses, and general, administrative and marketing expenses.
Medical expenses represent capitation fees and other fee-for-service payments
paid to independently contracted physicians, hospitals and other health care
providers to cover members, as well as the aggregate expenses to operate and
manage our multi-specialty medical groups and other provider subsidiaries. As a
provider of health care management services, we seek to positively affect
quality of care and expenses by employing or contracting with physicians,
hospitals and other health care providers at negotiated price levels, by
adopting quality assurance programs, monitoring and managing utilization of
physicians and hospital services and providing incentives to use cost-effective
providers. Military contract expenses represent the expenses of delivering
health care, as agreed to in the TRICARE contract with the federal government,
as well as administrative costs to operate the military health care subsidiary.
Specialty product expenses primarily consist of losses and loss adjustment
expenses, policy acquisition expenses and other general and administrative
expenses associated with our workers' compensation insurance subsidiaries.
General, administrative and marketing expenses generally represent operational
costs other than those associated with the delivery of health care services,
military contract services and specialty product services.

Calendar year 2000 was one of significant challenges and successes for Sierra.
In the first quarter, we engaged a consulting firm to assist us in evaluating
our Texas operations. One of the results of this evaluation was the development
of action plans to improve our Texas operations. This started with a major
restructuring of the Dallas/Ft. Worth HMO operations of TXHC, which included
replacement of the senior management, reduction in staffing along with
consolidation of certain services to Las Vegas and a revision of product
strategy. In the second quarter, we implemented another part of the plan by
closing certain of our Texas clinic facilities and reducing the physician and
support staff. We initiated plans to terminate our contracting relationship with
our affiliated medical provider operations in Dallas/Ft. Worth. We stopped
actively marketing our Medicare HMO product in Texas while we assessed its cost
structure. We then re-evaluated our goodwill asset related to our Texas
operations and determined that future cash flows would be insufficient to
recover this asset and we completely wrote-off the asset. We also decided to
sell our Texas real estate. The market valuations we received resulted in fixed
asset impairment charges of approximately $37 million. Concurrently, our real
estate holdings in Arizona and one of our underperforming Las Vegas, Nevada
clinics were also determined to be impaired based on market valuations, which
resulted in fixed asset impairment charges and a re-evaluation of goodwill
related to our Prime Holdings, Inc. acquisition of 1997 and a subsequent
goodwill impairment charge.

As a result of the asset impairment and other changes in estimate charges we
took in the second quarter, we were not in compliance with our bank line of
credit facility financial covenants. We were able to obtain temporary waivers
from the banks by paying additional fees, pledging certain assets and having
some of our subsidiaries guarantee the credit facility debt, which at June 30,
2000, was $185 million. While continuing to negotiate with the banks on a new
credit agreement, we undertook steps to conserve our cash by delaying
non-essential capital expenditures and reducing our corporate general and
administrative expenses. We also commenced initiatives to sell our non-core
assets including the majority of our Las Vegas real estate in a sale-leaseback
transaction, our corporate airplane, our corporate residence in Utah used to
entertain clients and our Houston HMO membership.

In the third quarter, we completed the sale of our affiliated medical provider
group in Dallas/Ft. Worth and our corporate residence in Utah. In the fourth
quarter, we completed the sale of our corporate airplane, the Houston HMO
membership and the sale-leaseback of the majority of our Las Vegas real estate.
In addition, we were able to renegotiate the credit facility agreement with the
banks in December and we are now in compliance with all financial covenants. We
used $50 million of the sale-leaseback proceeds to permanently pay down the
credit facility debt and at December 31, 2000, our credit facility debt balance
was $135 million.

Results of Operations

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

Years Ended December 31,
------------------------
2000 1999 1998
---------- ---------- ----------

OPERATING REVENUES:

Medical Premiums........................................ 62.4% 64.5% 58.8%
Military Contract Revenues.............................. 23.7 22.4 19.7
Specialty Product Revenues ............................. 9.8 7.3 14.3
Professional Fees....................................... 2.6 4.0 4.4
Investment and Other Revenues .......................... 1.5 1.8 2.8
-------- ------- -------
Total................................................ 100.0 100.0 100.0
----- ----- -----

OPERATING EXPENSES:
Medical Expenses........................................ 58.2 58.4 49.5
Military Contract Expenses ............................. 23.2 21.6 19.0
Specialty Product Expenses.............................. 11.0 7.5 13.7
General, Administrative and Marketing Expenses.......... 9.8 10.7 10.7
Asset Impairment, Restructuring,
Reorganization and Other Costs....................... 15.8 1.5 1.3
------ ----- ------

Total................................................ 118.0 99.7 94.2
----- ---- -----

OPERATING (LOSS) INCOME ..................................... (18.0) .3 5.8

INTEREST EXPENSE AND OTHER, NET.............................. (1.7) (1.1) (.7)
------ ----- ------

(LOSS) INCOME FROM OPERATIONS
BEFORE INCOME TAXES .................................... (19.7) (.8) 5.1

BENEFIT (PROVISION) FOR INCOME TAXES......................... 5.3 .4 ( 1.3)
------ ----- -----

NET (LOSS) INCOME ........................................... (14.4)% (.4)% 3.8%
===== ===== =====

Year Ended December 31, 2000 Compared to 1999

Total Operating Revenues for 2000 increased approximately 8.5% to $1.39 billion
from $1.28 billion for 1999. Medical premium revenues accounted for
approximately 62.4% and 64.5% of our total revenues for the years ended December
31, 2000 and 1999, respectively. The decrease in medical premiums as a
percentage of total revenues in 2000 is primarily due to the increase in
specialty product and military contract revenues and a decrease in HMO
membership in Texas. Continued medical premium revenue growth is principally
dependent upon continued enrollment in our products and upon competitive and
regulatory factors.

The change in operating revenues was comprised of the following:

o An increase in medical premiums of $42.1 million
o An increase in military contract revenues of $43.0 million
o An increase in specialty product revenues of $41.6 million
o A decrease in professional fees of $16.2 million
o A decrease in investment and other revenues of $1.3 million

Medical premiums from our HMO and managed indemnity insurance subsidiaries
increased $42.1 million or 5.1%. The $42.1 million increase in premium revenue
reflects a 5.3% increase in Medicare member months (the number of months of each
year that an individual is enrolled in a plan) offset by a 6.2% decrease in
commercial member months. The growth in Medicare member months contributes
significantly to the increase in premium revenues as the Medicare per member
premium rates are over three times higher than the average commercial premium
rate. HMO premium rates for commercial groups increased approximately 4% in
Nevada, 17% in Dallas/Ft. Worth and 4% in Houston. Our managed indemnity rates
increased approximately 12% and Medicare rates increased approximately 2%. Over
95% of our Las Vegas, Nevada Medicare members are enrolled in the Social HMO
Medicare program. The Health Care Financing Administration, or HCFA, may
consider adjusting the reimbursement factor or changing the program for the
Social HMO members in the future. If the reimbursement for these members
decreases significantly and related benefit changes are not made timely, there
could be a material adverse effect on our business.

Military contract revenues increased $43.0 million or 14.9%. The increase was
primarily attributable to additional accrued bid price adjustment revenues
related to a true-up of prior periods' information received from the government
in the third quarter of 2000. Partially offsetting this was a decrease recorded
in the first quarter for a reduction in the at-risk health care population of
beneficiaries as additional beneficiaries enrolled with military treatment
facility primary care managers. We are not at-risk for those TRICARE eligibles
and receive less revenue related to them from the government. Military contract
revenue is recorded based on the contract price as agreed to by the federal
government, adjusted for certain provisions based on actual experience. In
addition, we record revenue based on estimates of the earned portion of any
contract change orders not originally specified in the contract.

Specialty product revenues increased $41.6 million or 44.2%. Revenue increased
in the workers' compensation insurance segment by $42.7 million, which was
offset by a slight decrease in administrative services revenue of $1.1 million.
The increase in the workers' compensation insurance segment was primarily due to
a larger amount of direct written premiums with an 18% composite increase in
premium rates for all states and a 24% increase in production growth.

Net earned premiums are the end result of direct written premiums, plus the
change in unearned premiums, less premiums ceded to reinsurers. Direct written
premiums increased by 37% due primarily to growth in California and Nevada.
Partially offsetting the growth in direct written premiums was an increase in
premiums ceded to reinsurers, which increased by 22%. The growth in ceded
reinsurance premiums was lower than the growth in direct written premiums
primarily due to the expiration of our low level reinsurance agreement on June
30, 2000 and new lower cost reinsurance agreements, all of which reduced the
percentage of premiums being ceded.

As compared to the low level reinsurance agreement that expired on June 30,
2000, the new lower cost reinsurance agreements result in higher net earned
premium revenues, as we retain more of the premium dollars, but also leads to
our keeping more of the incurred losses. This may result in a higher loss and
loss adjustment expense, or LAE, ratio if the percentage increase in the
additional incurred losses should be greater than the percentage increase in the
additional premiums we retained. The effect on the balance sheet will result in
a lower amount of reinsurance recoverables. However, due to the length of time
that it typically takes to fully pay a claim, we should see an increase in
operating cash flow and amounts available to be invested.

Professional fees decreased $16.2 million or 31.3%. The revenue for 1999
included the pharmacy operations in Texas until they were sold during the fourth
quarter of 1999 and the inpatient operations at the Mohave Valley Hospital until
they were closed during the first quarter of 1999. The fees in 2000 also reflect
staffing reductions and subsequent closure or sale of our affiliated medical
groups in Texas and Arizona.

Investment and other revenues decreased $1.3 million or 5.6%, due primarily to a
decrease in the average invested balance during the year.

Medical Expenses increased $60.6 million or 8.1%. Excluding the effects of
changes in estimate charges, medical expenses increased approximately $16.9
million or 2.2%. Medical expenses as a percentage of medical premiums and
professional fees decreased from 86.1% to 85.5%, excluding changes in estimate
charges and premium deficiency as described below. The improvement is primarily
due to the closing and sale of operations with higher medical care ratios,
primarily in Texas and rural Nevada, offset by an increase in Medicare members
as a percentage of fully-insured members. The cost of providing medical care to
Medicare members generally requires a greater percentage of the premiums
received.

Medical expenses reported in the first quarter of 2000 included $1.0 million of
prior period reserve strengthening. In the second quarter of 2000, we recorded
changes in estimate charges of $29.5 million for reserve strengthening primarily
due to adverse development on prior years' medical claims, $15.5 million in
premium deficiency medical expenses for the Texas operations and $10.2 million
for other changes in estimate charges.

In the first quarter of 1999, we recorded a premium deficiency medical charge
accrual of $8.1 million related to losses in underperforming markets, primarily
in Arizona and rural Nevada, all of which was used during 1999. In the fourth
quarter of 1999, we recorded a premium deficiency charge accrual of $21.0
million for estimated deficient premiums associated with 2000 contracts in the
Texas market of which, $10.0 million was included in premium deficiency medical
expenses and $11.0 million was recorded in asset impairment, restructuring,
reorganization and other costs. During the fourth quarter of 1999, we recorded
changes in estimate charges of $11.2 million primarily related to an adjustment
to the estimate for medical expenses recorded in previous years and $6.8 million
primarily related to contractual settlements with providers of medical services

The medical expenses for 2000 include the utilization of $20.3 million of
premium deficiency reserve to offset losses on contracts in Texas compared to
the utilization of $43.9 million in 1999. (See Note 15 of Notes to the
Consolidated Financial Statements).

We believe that the remaining premium deficiency medical reserve of $5.2
million, as of December 31, 2000, is adequate and that no revision to the
estimate is necessary at this time.

Military Contract Expenses increased $46.8 million or 16.9%. The increase is
consistent with the increase in revenues discussed previously. Health care
delivery expense consists primarily of costs to provide managed health care
services to eligible beneficiaries in accordance with Sierra's TRICARE contract.
Under the contract, SMHS provides health care services to approximately 621,000
dependents of active duty military personnel and military retirees and their
dependents through subcontractor partnerships and individual providers. Health
care costs are recorded in the period when services are provided to eligible
beneficiaries, including estimates for provider costs, which have been incurred
but not reported to us. Also, included in military contract expenses are costs
incurred to perform specific administrative services, such as health care
appointment scheduling, enrollment, network management and health care advice
line services, and other administrative functions of the military health care
subsidiary.

Specialty Product Expenses increased $56.2 million or 58.3%. Of the increase,
approximately $32.1 million is a direct result of the costs associated with the
increase in workers' compensation premiums and associated loss and loss
adjustment expenses.

We recorded net adverse loss development for prior accident years of $23.3
million in 2000 compared to $9.9 million in 1999. The net adverse development
recorded in 1999 and 2000 for prior accident years was largely attributable to
higher costs per claim, or claim severity, in California. Higher claim severity
has had a negative impact on the entire California workers' compensation
industry. The majority of the adverse loss development occurred on accident
years that were not covered by our low level reinsurance agreement. While the
low level reinsurance agreement is in run-off effective July 1, 2000, California
premium rates have been increasing, which we believe will largely mitigate the
loss of this very favorable reinsurance protection. The premium rate increases
on policies renewed in California during the year ended December 31, 2000 were
approximately 26% and for the second half of the year alone, averaged
approximately 36%. In the first two months of 2001, the average renewal rate
increase for our California policies was approximately 42%.

We recorded a higher loss and LAE ratio for the 2000 accident year, which
resulted in an increase of approximately $8.6 million in specialty product
expense. The majority of the increase is due to the termination of the low level
reinsurance agreement on June 30, 2000, which results in a higher risk exposure
on policies effective after that date and a higher amount of net incurred loss
and LAE. In addition, in light of the lower premium rates on policies written in
1999, inflationary trends in health care costs, the fact that we have seen our
reserves develop adversely for the past two years and that projecting ultimate
reserves cannot be done with 100% accuracy, we believed it prudent to establish
reserves at a higher loss ratio to mitigate any future adverse loss development
that may occur.

The loss and LAE reserves booked as of December 31, 2000 reflect our best
estimate of the ultimate loss costs for reported and unreported claims occurring
in accident year 2000 as well as those occurring in accident years prior to 2000
and is slightly in excess of our independent actuary's estimate. Loss and LAE
reserves have a significant degree of uncertainty when related to their
subsequent payments. Although reserves are established on the basis of a
reasonable estimate, it is not only possible but probable that current reserves
will differ from their related subsequent developments. Any subsequent change in
loss and LAE reserves established in a prior year would be reflected in the year
when the change is identified. Workers' compensation claim payments are made
over several years from the date of the claim. Until the final payments for
reported claims are made, reserves are invested to generate investment income.

Under our low level reinsurance agreement, we reinsure 30% of the first $10,000
of each claim, 75% of the next $40,000 and 100% of the next $450,000. The
maximum net loss retained on any one claim ceded under this agreement is
$17,000. This agreement covered all policies in force at July 1, 1998 and
continued until June 30, 2000 when we executed an option to extend coverage to
all policies in force as of June 30, 2000. For policies effective from July 1,
2000, we obtained excess of loss reinsurance for 100% of the losses above
$250,000 and less than $500,000. We already had an existing excess of loss
reinsurance agreement that covered 100% of the losses above $500,000. (See Note
6 of Notes to the Consolidated Financial Statements).

The combined ratio is a measurement of underwriting profit or loss and is the
sum of the loss and LAE ratio, underwriting expense ratio and policyholders'
dividend ratio. A combined ratio of less than 100% indicates an underwriting
profit. Our combined ratio was 115.8% compared to 105.5% for 1999. The increase
was primarily due to a higher loss and LAE ratio of 13.4 percentage points and
policyholders' dividend ratio of 1.6 percentage points, offset slightly by a
decrease in the underwriting expense ratio of 4.7 percentage points. The
increase in the loss and LAE ratio was due to an increase in net adverse loss
development which represents 6.6 percentage points of the change in the loss and
LAE ratio; and a higher loss and LAE ratio on the 2000 accident year of $8.6
million, which represents 6.8 percentage points of the change in the loss and
LAE ratio.

General, Administrative and Marketing Expenses, or G&A, decreased $1.2 million
or .8%. As a percentage of revenues, G&A costs for 2000 were 9.8% compared to
10.7% in 1999 due primarily to higher revenues in 2000. As a percentage of
medical premium revenue, G&A costs improved from 16.6% for 1999 down to 15.7%
for 2000. Excluding the utilization of premium deficiency reserves for
maintenance costs of $12.1 million for 2000 and $20.9 million for 1999, G&A
costs decreased $10.1 million or 8.7% for the year. The $10.1 million decrease
was primarily attributable to the consolidation of much of the Texas G&A
services with our existing operations in Las Vegas as well as overall reductions
in the Texas operations. This was offset by an increase in depreciation and
amortization expense of $1.8 million.

Asset Impairment, Restructuring, Reorganization and Other Costs consist of the
following:

Asset Impairments. During the first quarter of 1999, we closed all inpatient
operations at Mohave Valley Hospital, a 12-bed acute care facility in Bullhead
City, Arizona, and terminated over 40 employees. We recorded a charge of $3.5
million for the write-off of goodwill associated with these operations.

In the first quarter of 2000, we engaged a consultant to help us assess our
Texas operations. In late February, the consultant issued its report and we
implemented strategic action plans to turn around the Texas operations. These
actions included the replacement of the Texas senior management, a reduction in
staffing along with a consolidation of certain services to Las Vegas and a
revision of product strategy. The new management was charged with further
assessing the Dallas/Ft. Worth health care delivery system. In May, we decided
that the delivery system, which emphasized our affiliated medical group as the
primary provider network, would be replaced by an expanded network of contracted
physician groups and individuals. In addition, the contracted hospital network
would be significantly expanded. As a result, during the second quarter of 2000,
we adopted and announced a further restructuring of the Dallas/Ft. Worth
operations, which entailed a significant reduction of physicians and staff and
the closing of several clinic sites. In addition, management decided that the
real estate assets would be sold.

Management also adopted a plan in the second quarter of 2000 to discontinue
medical delivery operations in Mohave County, Arizona and to sell the real
estate assets located there, as well as an underperforming medical clinic in Las
Vegas.

In connection with the restructuring plans we adopted and announced in the
second quarter of 2000, we re-evaluated the recoverability of certain long-lived
assets, primarily associated with the Texas operations, in accordance with
Statement of Financial Accounting Standards No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of", or
SFAS No. 121, and Accounting Principles Board Opinion No. 17, "Intangible
Assets", or APB No. 17, and determined that the carrying values of certain
goodwill and other long-lived assets were impaired.

In assessing the asset impairment of the long-lived assets, we first allocated a
portion of related goodwill to the fixed assets to be disposed of, in accordance
with SFAS No. 121. The fixed assets were then written down to their estimated
fair value less costs to sell, which was determined from independent valuations.
The remainder of the related goodwill was then assessed for recoverability in
accordance with APB No. 17 based on projected discounted cash flows.

The charges recorded for the write-off of goodwill totaled $126.4 million for
the Texas operations and $15.1 million related primarily to the Prime Holdings,
Inc. acquisition.

The charges recorded for fixed asset impairment totaled $36.5 million for the
Texas operations and $9.5 million for the Arizona and Nevada operations.

During the second quarter of 2000, we wrote-off capitalized costs of $3.0
million related to the application development of an information system software
project for the workers' compensation operations, that was canceled because the
vendor was unable to fulfill its contractual obligations. The amounts written
off included software and consulting costs of $1.6 million and capitalized
internal personnel costs of $1.4 million.

Restructuring and Reorganization. In the first quarter of 1999, we incurred
$450,000 for certain legal and contractual settlements and $400,000 to provide
for our portion of the write-off of start-up costs at our equity investee,
TriWest Healthcare Alliance.

In the first quarter of 2000, we announced a restructuring of our managed health
care operations in Texas. As a result of this restructuring, we incurred
approximately $1.4 million of severance pay for employees who were terminated.
The restructuring involved changes in senior management at our Texas facilities
and the centralization of key services to Las Vegas. Also in the first quarter
of 2000, we incurred $1.5 million of costs, consisting primarily of consulting
fees, in conjunction with a review and reorganization of our managed care
operations in Texas.

In the second quarter of 2000, we adopted a plan and announced additional
restructuring of our managed health care operations, primarily in Texas and
Arizona. As a result of this restructuring, we recorded charges in accordance
with Emerging Issues Task Force Issue No. 94-3, "Liability Recognition for
Certain Employee Termination Benefits and Other Costs to Exit an Activity
(Including Certain Costs Incurred in a Restructuring)" of approximately $10.6
million. Of the costs recorded, $5.9 million was for severance, $2.9 million was
related to clinic closures and lease terminations and $1.8 million was for other
costs. The severance charge resulted from the termination of 315 employees at
our subsidiaries and affiliated medical groups.

As compared to the quarter ended June 30, 2000, the restructuring and
reorganization activities resulted in cash flow savings of approximately $2.0 to
$3.0 million per quarter beginning in the fourth quarter of 2000.

Premium Deficiency Maintenance. Based on financial projections for 2000, we
recorded a $21.0 million premium deficiency at the end of 1999, relative to our
Texas operations. Of this amount, $10.0 million was recorded in medical expenses
and $11.0 million was recorded in asset impairment, restructuring,
reorganization and other costs. The $11.0 million was an estimate of G&A costs,
in excess of those covered by premiums, expected to be incurred to service the
Dallas/Ft. Worth contracts.

The premium deficiency maintenance costs of $10.4 million, recorded in the
second quarter of 2000, were an estimate of general and administrative costs, in
excess of those covered by premiums, we would incur to service the Texas
contracts. The amount reflects anticipated cost reductions from the
restructuring and reorganization actions noted above.

Other. During the fourth quarter of 1998, we incurred settlement expenses
totaling $8.0 million related to the settlement of a competitor's protest for
the Region 1 TRICARE contract. Also during the fourth quarter of 1998, we
incurred integration, transition and other charges totaling $3.1 million related
primarily to our acquisition of the Texas operations of Kaiser Foundation Health
Plan of Texas. In addition, we incurred certain legal expenses totaling $2.7
million, resulting primarily from the TRICARE settlement, acquisition and
integration activity.

The $3.4 million of charges in the fourth quarter of 1999 consisted primarily of
legal and contractual settlements.

The remaining $6.1 million of costs recorded in the second quarter of 2000
relate primarily to the write-down of certain receivables and an accrual for
legal settlements.

The table below presents a summary of asset impairment, restructuring,
reorganization and other costs for the years indicated.

Restructuring Premium
Asset and Deficiency
(In thousands) Impairment Reorganization Maintenance Other Total
- -------------- ---------- -------------- ----------- ----- -----

Balance, January 1, 1998

Charges recorded................... $ 0 $ 0 $ 0 $ 13,851 $ 13,851
Cash used.......................... (11,032) (11,032)
Noncash activity................... -
Changes in estimate................ _____ -
Balance, December 31, 1998......... 2,819 2,819

Charges recorded................... 3,509 850 11,000 3,449 18,808
Cash used.......................... (850) (2,819) (3,669)
Noncash activity................... (3,509) (3,509)
Changes in estimate................ _______ _____ _______ ______ -

Balance, December 31, 1999......... 11,000 3,449 14,449

Charges recorded................... 190,490 13,492 10,358 6,100 220,440
Cash used.......................... (9,143) (12,080) (502) (21,725)
Noncash activity................... (190,490) (3,800) (194,290)
Changes in estimate................ ________ ______ ______ ______ -
Balance, December 31, 2000......... $ - $ 4,349 $ 9,278 $ 5,247 $ 18,874
======== ======== ======== ======== ==========

The remaining restructuring and reorganization costs of $4.3 million are
primarily related to the cost to provide malpractice insurance on our
discontinued affiliated medical groups, clinic closures and lease terminations
in Houston and Arizona. The remaining other costs of $5.2 million are primarily
related to legal claims. We believe that the remaining reserves as of December
31, 2000 are adequate and that no revisions to the estimates are necessary at
this time.

Interest Expense and Other, Net increased $8.7 million or 57.7%, due primarily
to an increase in the average balance of outstanding debt and an increase in the
average cost of borrowing. Our average credit facility debt balance was $183
million in 2000 compared to $164 million in 1999 and our average interest rate
on the credit facility was 9.9% in 2000 compared to 7.8% in 1999.

Benefit for Income Taxes was recorded at $74.2 million for 2000 compared to a
tax benefit of $5.9 million recorded for 1999. During 1999, due to a change in
tax law, we were able to utilize a $1.6 million net operating loss carryover
that had previously not been recognized in the financial statements due to
uncertainty about its realization. The effective tax rate for 2000 was 27.1%
compared to 41.3% for 1999 which is exclusive of the effect of the change in tax
law described above. The decrease in tax rate is due primarily to the impact of
the charge for goodwill impairment combined with the magnitude of the loss for
2000 compared to 1999. The difference between the effective tax rate, excluding
the change in the deferred tax valuation allowance, and the statutory rate is
due primarily to non-deductible goodwill amortization. The effective tax rate
for 2001 is projected to range from 33% to 35%. The difference between the
anticipated tax rate and the statutory tax rate is due primarily to tax
preferred investments offset by state income taxes.

Year Ended December 31, 1999 Compared to 1998

Total Operating Revenues for 1999 increased approximately 23.8% to $1.28 billion
from $1.04 billion for 1998. The increase was primarily due to increases in
premium revenue of $218.4 million and military contract revenues of $82.6
million, offset by a decrease in specialty product revenue of $54.1 million.
Medical premium revenues accounted for approximately 64.5% and 58.8% of our
total revenues for the years ended December 31, 1999 and 1998, respectively. The
increase in the percentage of medical premiums as a percentage of total revenues
in 1999 was primarily due to acquisitions.

Medical premiums from the HMO and managed indemnity insurance subsidiaries
increased $218.4 million or 35.8%. Excluding the effect of the Kaiser-Texas
acquisition, premium revenue increased $84.9 million or 14.6%. The $84.9 million
increase in premium revenue reflects a 7.9% increase in member months.
Additionally, Medicare member months increased 16.2%. Growth in Medicare member
months contributes significantly to the increase in premium revenues as the
Medicare per member premium rates are over three times higher than the average
commercial premium rate. The HMO premium rates increased approximately 4% for
the Nevada HMO commercial groups and 11% for the Houston, Texas commercial
groups. Compared to the fourth quarter of 1998, the commercial rates for the
Dallas/Ft. Worth operations have increased approximately 8%. Our managed
indemnity rates increased approximately 8% and Medicare rates increased
approximately 2%. Over 90% of the Nevada Medicare members are enrolled in the
Social HMO Medicare program.

Military contract revenues increased $82.6 million or 40.3%. The revenue
recorded in 1999 is a result of the provision of health care services for twelve
months. Revenue recorded in 1998 was comprised of revenue earned for five months
of contract implementation and seven months of health care delivery.

Specialty product revenues decreased $54.1 million or 36.5%. Of the decrease,
$51.1 million was due to a decrease in revenue in the workers' compensation
insurance segment and $3.0 million was due to a decrease in administrative
services revenue. The decrease in the workers' compensation insurance segment
was primarily due to a full year of additional ceded reinsurance premiums on the
low level reinsurance agreement effective July 1, 1998, totaling $60.7 million.
This agreement was entered into in the fourth quarter of 1998. In addition,
ongoing price competition, especially in California, was contributing to the
reduction in revenue. The decrease in administrative services revenue was
primarily attributable to a decrease in membership.

Professional fees increased $6.5 million or 14.3%, primarily due to our medical
group operations in Dallas/Ft. Worth related to the Kaiser-Texas acquisition.

Investment and other revenues decreased $6.7 million or 22.8%. Of this decrease,
$2.7 million was due primarily to capital gains realized on the sale of
investments in the prior year period. The remaining decrease was primarily due
to a decrease in invested balances.

Medical Expenses increased $236.6 million or 46.1%. The following costs were
included in 1999 medical expenses:

Premium Deficiency. In the first quarter of 1999, we recorded a premium
deficiency charge of $8.1 million related to losses in underperforming markets
primarily in Arizona and rural Nevada. This deficiency reserve was fully
utilized during 1999 to offset losses as they occurred. In the fourth quarter of
1999, we recorded $21.0 million for estimated deficient premiums associated with
2000 contracts in the Texas market. Of this amount $10.0 million was included in
medical expenses and $11.0 million of maintenance costs was recorded in asset
impairment, restructuring, reorganization and other costs.

Adverse Development and Contractual Adjustments. In the fourth quarter of 1999,
we recorded $18.0 million in medical expenses, of which $11.2 million primarily
related to an adjustment to the estimate for medical expenses recorded in
previous periods. The remaining amount primarily relates to contractual
settlements with providers of medical services. (See Note 15 of Notes to the
Consolidated Financial Statements).

Excluding the effect of the Dallas/Ft. Worth operations, as well as the changes
in estimate charges, medical expenses increased $83.4 million or 17.0% compared
to the prior year. Medical expenses as a percentage of medical premiums and
professional fees increased from 78.4% to 85.2%, or 81.1% excluding the changes
in estimate charges. The increase in the medical care ratio reflects the
Kaiser-Texas membership, which has a higher medical care ratio, and the charges
discussed previously, as well as an increase in Medicare members as a percentage
of fully-insured members, and higher pharmacy costs. Pharmacy costs increased as
the management of the pharmacy benefit was transitioned from a capitated
pharmacy benefits contract to in-house management in the third quarter of 1998.
The costs under capitation contracts were substantially below actual claims
experience. Included in medical expenses is the utilization of $43.9 million of
premium deficiency reserve to offset losses on contracts from the Kaiser-Texas
acquisition. Although not reflected in earnings, $20 million of these losses
were funded by Kaiser-Texas as agreed to in the purchase agreement.

Military Contract Expenses increased $79.9 million or 40.6%. The military
contract expenses in 1999 are a result of twelve months of health care delivery.
Expense in 1998 was for five months of contract implementation and seven months
of health care delivery. Under the contract, SMHS provided health care services
to approximately 610,000 dependents of active duty military personnel and
military retirees and their dependents through subcontractor partnerships and
individual providers in 1999.

Specialty Product Expenses decreased $45.8 million or 32.2%, due primarily to
the implementation of the low level reinsurance agreement, as discussed
previously, offset by adverse development of $9.9 million on prior accident
years in our workers' compensation business. During 1999, workers' compensation
claims were 100% reinsured between $500,000 and $100 million per occurrence. For
claims occurring in 1999 that are below $500,000, we obtained low level quota
share and excess of loss reinsurance. Under this agreement, which was not
reflected in the financial statements until the fourth quarter of 1998, we
reinsure 30% of the first $10,000 of each claim, 75% of the next $40,000 and
100% of the next $450,000. Claims occurring in the third quarter of 1998 were
accounted for as retroactive reinsurance. (See Note 6 of Notes to the
Consolidated Financial Statements).

The combined ratio for the workers' compensation insurance business was 105.5%
in 1999 compared to 98.7% for the prior year. The increase was due to a 380
basis point increase in the net loss and LAE ratio, a 290 basis point increase
in the underwriting expense ratio and 10 basis points of policyholders' dividend
expense incurred in 1999. The increase in the loss and LAE ratio was primarily
due to 1999 net adverse loss development of $9.9 million on prior accident years
compared to 1998 net favorable loss development of $9.6 million. The increase in
the underwriting expense ratio was primarily due to the lower net earned premium
base that resulted from higher ceded reinsurance premiums in 1999.

The adverse development recorded in 1999 for the prior accident years was
primarily attributable to increased California claim severity. Higher claim
severity has had a negative impact on the entire California workers'
compensation industry. The historical claim frequency development patterns have
not significantly changed in 1999. In addition, continuing price competition in
California has negatively affected operating ratios.

General, Administrative and Marketing Expenses, or G&A, increased $27.1 million
or 24.5%. As a percentage of revenues, G&A costs for 1999 were 10.7%, which was
consistent with 1998. Of the $27.1 million increase in G&A, $14.3 million was
due to additional G&A related to the acquired HMO business in the Dallas/Ft.
Worth area, net of premium deficiency utilization of $20.9 million. The
remaining increase of $12.8 million included a $6.9 million increase in
compensation expense, resulting primarily from additional employees supporting
expanded services. Broker and premium tax expense increased approximately $2.2
million due to increased membership. In addition, depreciation expense increased
$2.4 million.

Asset Impairment, Restructuring, Reorganization and Other Costs for 1998 and
1999 were previously discussed.

Interest Expense and Other, Net increased $7.8 million or 108.6%, due to an
increase in debt primarily as a result of the Kaiser-Texas acquisition, offset
by a net gain of $1.8 million on the sale of certain pharmacy assets purchased
in conjunction with the Kaiser-Texas acquisition.

Benefit for Income Taxes was recorded at $5.9 million compared to a tax expense
of $13.8 million in the prior year. Due to a change in tax law, which took
effect in 1999, we were able to utilize a $1.6 million net operating loss
carryover that had previously not been recognized in the financial statements
due to uncertainty about its realization. Excluding the effect of this change,
the effective tax rate was 41.3% compared to 25.8% in 1998. Including the effect
of this change, the effective tax rate for 1999 was 56.2%. The difference
between the effective tax rate, excluding the change in the deferred tax
valuation allowance, and the statutory rate is due to income earned on tax
preferred investments.

LIQUIDITY AND CAPITAL RESOURCES

We had cash in-flows from operating activities of $41.1 million for the year
ended December 31, 2000 compared to cash out-flows of $7.7 million in 1999. The
improvement over 1999 is primarily attributable to cash from earnings and the
change in assets and liabilities.

The increase in cash flow resulting from the change in assets and liabilities of
$5.3 million was primarily due to the following:

o a source of cash due to the increase in reserve for loss and LAE of $130.2
million in our workers' compensation business

o a source of cash due to the increase in medical claims payable, including
military claims, of $54.7 million as a result of the overall increase in
medical premiums and military contract revenues

o a source of cash due to the decrease in other current assets of $15.4
million

o a use of cash due to the increase in the deferred tax asset of $54.5
million

o a use of cash due to the increase in reinsurance recoverable of $116.2
million primarily in our workers' compensation business

o a use of cash due to the decrease in other liabilities of $15.6 million
primarily related to the decrease in the deferred tax liability

o a use of cash due to an increase in military accounts receivable of $11.5
million

o various other changes in assets and liabilities accounting for the
remaining source of cash of $2.8 million

SMHS receives monthly cash payments equivalent to one-twelfth of its annual
contractual price with the Department of Defense, or DoD. SMHS accrues health
care revenue on a monthly basis for any monies owed above its monthly cash
receipt based on the number of at-risk eligible beneficiaries and the level of
military direct care system utilization. The contractual bid price adjustment,
or BPA, process serves to adjust the DoD's monthly payments to SMHS, because the
payments are based in part on 1996 DoD estimates for beneficiary population and
beneficiary population baseline health care cost, inflation and military direct
care system utilization. As actual information becomes available for the above
items, quarterly adjustments are made to SMHS' monthly health care payment in
addition to lump sum adjustments for past months. In addition, SMHS accrues
change order revenue for DoD-directed contract changes. During the second and
fourth quarters of 2000, SMHS received $13 million and $37 million,
respectively, as partial payments from the BPA process covering the period June
1, 1998 through December 31, 2000. As a result of preliminary data accumulated
from the BPA process, SMHS received a partial upward adjustment of approximately
$2.2 million to its monthly DoD payments for January 2001 through December 2001.
Our business and cash flows could be adversely affected if the timing or amount
of the BPA and change order reimbursements vary significantly from our
expectations. SMHS is in the process of finalizing a financing arrangement for
its accounts receivable balance in order to improve the availability of cash.
The military accounts receivable balance was $71.4 million as of December 31,
2000. (See Note 2 of Notes to the Consolidated Financial Statements).

During January 2001, SMHS reached an agreement with DoD on a settlement of $58.2
million related to contract modifications issued prior to July 1, 2000. SMHS
received an immediate payment of $21.3 million for outstanding receivables and
the remainder of the settlement is to be paid evenly on a monthly basis until
the end of the contract. Of the total settlement, SMHS estimates that
approximately $18 million is owed to subcontractors.

Net cash used for investing activities during 2000 included $17.5 million in
capital expenditures associated with continued implementation of new computer
systems, as well as construction, furniture, equipment and other capital needs
to support our growth, offset by net proceeds of $10.5 million for property and
equipment dispositions. The net cash change in investments for the year was a
decrease of $21.6 million as investments were sold to fund working capital
needs.

Cash flows from financing activities included net proceeds from long-term
borrowings (proceeds less payments) of $48.1 million and proceeds of $1.6
million related to the sale of stock through our employee stock purchase plan.

On December 28, 2000, we sold the majority of our Las Vegas real estate holdings
in a sale-leaseback transaction. The transaction was recorded as a financing
obligation of $113.7 million offset by mortgage notes receivable of $22.2
million, a payoff of related real estate mortgages of $9.9 million and a
permanent reduction on our revolving credit facility of $50 million for a net
increase in liabilities of $31.6 million.

Revolving Credit Facility

Our revolving credit facility balance decreased from $160 million to $135
million during the year. As a result of the asset impairment and other changes
in estimate charges we took in the second quarter, we were not in compliance
with our financial covenants at June 30, 2000. On December 15, 2000, we entered
into an Amended and Restated Credit Agreement and have been in compliance with
all covenants since that date. At December 31, 2000, the credit facility was
reduced to $135 million as a result of our payment of $50 million that we
received from the sale-leaseback transaction. We are required to make
semi-annual principal payments, ranging from $2 million to $10 million, on the
credit facility starting in June 2001. These payments result in permanent
reductions in the size of the credit facility. Interest under the credit
facility is variable and is based on the Bank of America "prime rate" plus a
margin. The rate was 10.125% at December 31, 2000 which is a combination of the
prime rate of 9.5% plus a margin of .625%. We can reduce the margin in the
future by completing certain transactions and meeting certain financial ratios.
Of the outstanding balance, $25 million is covered by an interest-rate swap
agreement. To mitigate the risk of interest rate fluctuation on the credit
facility, we entered into a five-year $50 million interest-rate swap agreement
during the fourth quarter of 1998. The intent of the agreement was to keep our
interest-rate on $50 million of the borrowing relatively fixed. In the fourth
quarter of 2000, $25 million of the interest-rate swap agreement was terminated.
The average cost of borrowing on this credit facility for 2000, including the
impact of the interest-rate swap agreements, was approximately 9.9%.

Going forward, under certain circumstances, we will be required to make
prepayments on the credit facility and the amount available to us under the
credit facility will be reduced. For example, 80% of any excess cash flow that
we have in each year must be applied to a repayment of the credit facility. In
addition, if we or one of our subsidiaries (other than a regulated subsidiary
and other specified subsidiaries) engage in an asset sale or a sale-leaseback
transaction (with the exception of assets specified in the new credit
agreement), 80% of the net cash proceeds must be applied to a repayment of the
credit facility and a reduction of the amount available under the credit
facility. In addition, 100% of the net cash proceeds of a debt issuance
(excluding issuances by CII Financial, a wholly-owned subsidiary) must be
applied to a repayment of the credit facility and a reduction in the amount
available under the credit facility. We are also limited in the amount of funds
we can transfer to our Texas and Military operations with a maximum of $12
million and $5 million, respectively. Subject to normal qualifications and
exceptions, Sierra and CII Financial have covenants that, among other things,
will restrict our ability to dispose of assets, incur indebtedness, pay
dividends, make investments, loans or advances, make acquisitions, engage in
mergers or consolidations, or make capital expenditures and which otherwise
restrict certain corporate activities. At February 26, 2001, our credit facility
had outstanding borrowings of $102 million. Unused credit facility balances are
primarily reserved for our working capital purposes. Any availability under the
credit facility generated from our excess cash flow must be converted annually
to permanent reductions in accordance with the terms of the credit facility.

Convertible Subordinated Debentures

In September 1991, CII Financial, Inc., or CII, the workers' compensation
holding company, issued convertible subordinated debentures. As of December 31,
2000, $47 million in Debentures were outstanding. The Debentures pay interest at
7 1/2% per annum, which is due semi-annually on March 15 and September 15, and
mature September 15, 2001. Each $1,000 in principal is convertible into 25.382
shares of common stock of Sierra at a conversion price of $39.398 per share. The
Debentures have no financial ratio covenants. The primary covenants include the
timely payment of principal, premium, interest and taxes. Other covenants
include CII's agreement to maintain their existence, business properties and an
office where the Debentures can be surrendered for payment, transfer or
conversion. There are also covenants regarding CII's offering to purchase the
Debentures upon specified non-approved mergers and changes in control. Since our
acquisition of CII was approved by CII's board of directors and shareholders, we
were not required to offer to purchase the Debentures. The Debentures are
obligations of CII only and are not guaranteed by us.

CII is a holding company and its only significant asset is its investment in
California Indemnity Insurance Company. Of the $28.7 million in cash and cash
equivalents it held at December 31, 2000, approximately $27.4 million were
designated for use only by the regulated insurance companies. CII has limited
sources of cash and is dependent upon dividends paid by California Indemnity.
The payment of stockholders' dividends by California Indemnity is regulated by
the California Insurance Code and, at a minimum, requires a 10 workday prior
notice to the California Department of Insurance. If a payment of a dividend or
distribution whose fair market value, together with that of other dividends or
distributions made within the preceding 12 months, exceeds the greater of ten
percent of the insurer's surplus or its net income for the preceding year end,
then the insurance commissioner has up to 30 days to disapprove it. The
California Insurance Department will not allow a payment of a dividend or
distribution if it will cause an insurer's policyholders' surplus to be
unreasonable in relation to the insurer's liabilities and the adequacy of the
insurer's financial needs. In making this determination, the Department of
Insurance considers a variety of factors including, but not limited to, the size
of the insurer, the amount, type and geographic concentration of insurance it
writes, the quality of its assets and reinsurance programs, and operating
trends.

In addition, California law provides that an insurer may not pay a dividend
without the prior approval of the state insurance commissioner to the extent the
cumulative amount of dividends or distributions paid or proposed to be paid in
any year exceeds the amount shown as unassigned funds (reduced by any unrealized
gains included in such amount) on the insurer's statutory statement as of the
previous December 31. As of December 31, 2000, California Indemnity had
unassigned funds of $174,000 from which it could pay a dividend without prior
approval. California Indemnity declared and paid no dividends to CII Financial
in 1998 but paid $6.0 million of dividends to it in 1999 and $6.8 million in
2000.

We advanced CII $365,000 in order to enable them to make the September 15, 2000
interest payment on the Debentures. Our amended and restated bank credit
facility will limit our ability to make any future advances to CII . Since we do
not believe that CII will have sufficient readily available sources of cash to
pay the maturing Debentures, CII has filed a registration statement on Form S-4
with the Securities and Exchange Commission, or SEC, and is proposing to
exchange the Debentures for a combination of cash and/or new senior subordinated
debentures. The sources for the cash portion of the proposed exchange offer
include a dividend by California Indemnity to CII of up to $5 million. On
February 22, 2001, the California Department of Insurance approved the payment
by California Indemnity of an extraordinary dividend of up to $5 million. CII
will depend on loans from us and/or other affiliates for the balance of the cash
portion of the exchange consideration. However, these types of loans are limited
by our credit facility. In addition, in order to issue the new senior
subordinated debentures in the proposed exchange offer, we will need the consent
of a two-thirds majority in principal amount of the lenders under our credit
facility.

On March 16, 2001, CII announced that the interest payment due March 15, 2001 on
the Debentures was not made as scheduled. The Debentures have a 30-day grace
period that applies to the scheduled March 15 interest payment and are not in
default unless payment is not made during the grace period. CII is working to
complete the proposed exchange offer.

If the proposed exchange offer is unsuccessful and CII were to default on the
payment of interest or the Debentures when they mature, then there will be a
cross default on our credit facility debt and the banks may demand that CII
perform on its payment guaranty. If CII then had to sell its insurance
subsidiaries, the net cash proceeds would probably be substantially less than if
the sale were to occur when they were not in a default situation. Under certain
circumstances, the California Department of Insurance could, among other things,
exercise its oversight powers to preserve the assets of the insurance companies
for the benefit of the policyholders and claimants and could prevent or
significantly delay a possible sale of the insurance subsidiaries.

CII's only significant short-term non-insurance liquidity need is the repayment
of the $47 million in Debentures, which are due on September 15, 2001 as
discussed above. If the proposed exchange offer for the Debentures is successful
and CII Financial issues new senior subordinated debentures with an extended
maturity date, then their long-term non-insurance liquidity needs will be to
service this new debt. CII Financial expects to service this new debt from
future cash flows, primarily from dividends that will be paid by their insurance
subsidiaries from their future earnings.

Statutory Capital and Deposit Requirements

Our HMO and insurance subsidiaries are required by state regulatory agencies to
maintain certain deposits and must also meet certain net worth and reserve
requirements. The HMO and insurance subsidiaries had restricted assets on
deposit in various states totaling $24.7 million at December 31, 2000. The HMO
and insurance subsidiaries must also meet requirements to maintain minimum
stockholders' equity, on a statutory basis, as well as minimum risk-based
capital requirements, which are determined annually. Additionally, in
conjunction with the Kaiser-Texas acquisition, TXHC entered into a letter
agreement with the Texas Department of Insurance whereby TXHC agreed to maintain
a net worth of $20.0 million, on a statutory basis.

Of the $161.3 million in cash and cash equivalents held at December 31, 2000,
$104.1 million was designated for use only by the regulated subsidiaries.
Amounts are available for transfer to the holding company from the HMO and
insurance subsidiaries only to the extent that they can be remitted in
accordance with the terms of existing management agreements and by dividends.
The holding company will not receive dividends from its regulated subsidiaries
if such dividend payment would cause violation of statutory net worth and
reserve requirements.

Other

We have a 2001 capital budget of $18 million as limited by our revolving credit
facility. The planned expenditures are primarily for the expansion of clinics
and other leased facilities, the purchase of computer hardware and software,
furniture and equipment and other normal capital requirements. Our liquidity
needs over the next 12 months will primarily be for the capital items noted
above, debt service and expansion of our operations. We believe that our
existing working capital, operating cash flow and, if necessary, equipment
leasing, divestitures of certain non-core assets, restructuring of the
convertible subordinated debentures and amounts available under our credit
facility should be sufficient to fund our capital expenditures and debt service.
Additionally, subject to unanticipated cash requirements, we believe that our
existing working capital and operating cash flow should enable us to meet our
liquidity needs on a long-term basis.

In the second quarter of 1997, our Board of Directors authorized a $3.0 million
line of credit from us to our Chief Executive Officer, or CEO. In April 2000,
our Board of Directors authorized an additional $2.5 million loan from us to the
CEO. The entire principal balance along with accrued interest is due on June 30,
2002. At the end of 2000, the aggregate principal balance outstanding and
accrued interest for both instruments was $5.4 million. All amounts borrowed
bear interest at a rate equal to the rate at which we could have borrowed funds
under our revolving credit facility at the time of the borrowing plus 10 basis
points. The amounts outstanding are collateralized by certain of the CEO's
assets and rights to compensation from us.

Inflation

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

Government Regulation

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

Government regulation of health care coverage products and services is a
changing area of law that varies from jurisdiction to jurisdiction. Changes in
applicable laws and regulations are continually being considered, including
legislative proposals to eliminate or reduce ERISA pre-emption of state laws,
that would increase potential litigation exposure and interpretation of existing
laws and rules also may change from time to time. Regulatory agencies generally
have broad discretion in promulgating regulations and in interpreting and
enforcing laws and regulations.

While we are unable to predict what regulatory changes may occur or the impact
on us of any particular change, our operations and financial results could be
negatively affected by regulatory revisions. For example, any proposals
affecting underwriting practices, limiting rate increases, increasing litigation
exposure, requiring new or additional benefits or affecting contracting
arrangements (including proposals to require HMOs and PPOs to accept any health
care providers willing to abide by an HMO's or PPO's contract terms) may have a
material adverse effect on our business. The continued consideration and
enactment of "anti-managed care" laws and regulations by federal and state
bodies may make it more difficult for us to manage medical costs and may
adversely affect financial results.

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

Recently Issued Accounting Standards

In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities", or SFAS 133, which, as amended, is effective for fiscal
years beginning after June 15, 2000. SFAS 133 establishes additional accounting
and reporting standards for derivative instruments and hedging activities. SFAS
133 requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position. This statement also defines
and allows companies to apply hedge accounting to its designated derivatives
under certain instances. It also requires that all derivatives be marked to
market on an ongoing basis. This applies whether the derivatives are stand-alone
instruments, such as warrants or interest-rate swaps, or embedded derivatives,
such as call options contained in convertible debt investments. Along with the
derivatives, in the case of qualifying hedges, the underlying hedged items are
also to be marked to market. These market value adjustments are to be included
either in the income statement or other comprehensive income, depending on the
nature of the hedged transaction. The fair value of financial instruments is
generally determined by reference to market values resulting from trading on a
national securities exchange or in an over-the-counter market. In cases where
derivatives relate to financial instruments of non-public companies, or where
quoted market prices are otherwise not available, such as for derivative
financial instruments, fair value is based on estimates using present value or
other valuation techniques. We do not believe that we have any significant
derivative instruments or any significant hedging activities. The majority of
our investments are held by insurance companies, which are regulated as to the
types of investments they may hold.

In December 1999, the SEC issued Staff Accounting Bulletin No. 101, "Revenue
Recognition in Financial Statements", or SAB 101. SAB 101 clarifies existing
accounting principles related to revenue recognition in financial statements. We
were required to comply with the provisions of SAB 101 in our quarter ended
December 31, 2000 and it did not have any impact on our results of operations.

ITEM 7a. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

As of December 31, 2000, we have approximately $411.3 million in cash and cash
equivalents and current, long-term and restricted investments. Of the
investments, approximately $228.7 million is classified as available-for-sale
investments and $21.2 million is classified as held-to-maturity investments.
These investments are primarily in fixed income, investment grade securities.
Our investment policy emphasizes return of principal and liquidity and is
focused on fixed returns that limit volatility and risk of principal. Because of
our investment policies, the primary market risk associated with our portfolio
is interest rate risk.

Assuming interest rates were to increase by a factor of 1.1, the net
hypothetical loss in fair value of stockholders' equity related to financial
instruments is estimated to be approximately $5.1 million after tax (5.6% of
total stockholders' equity). We believe that such an increase in interest rates
would not have a material impact on future earnings or cash flows, as it is
unlikely that we would need or choose to substantially liquidate our investment
portfolio.

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

As of December 31, 2000, we had $135 million in borrowings outstanding under a
revolving credit facility. The average cost of borrowing on this credit facility
for 2000, including the impact of the interest-rate swap agreements, was
approximately 9.9%. If the average cost of borrowing on the amount outstanding
as of December 31, 2000 were to increase by a factor of 1.1, annual income
before tax would decrease by approximately $1.3 million.

As of December 31, 2000, CII had convertible subordinated Debentures outstanding
of $47,059,000, of which $18,000 were held by Sierra Health Services, Inc. and
is eliminated on consolidation. Purchase activity for the Debentures, to parties
other than CII or Sierra, is believed to be minimal and there is no known market
quotation system for the Debentures. The fair value of the Debentures at
December 31, 2000 and 1999 was estimated to be $23,530,000 and $35,601,000,
respectively. The December 31, 2000 value is our best estimate and was based
on $18,000 stated value Debentures that we purchased for $9,000 in
September 2000 and may not be indicative of the actual market
value since we are not aware of any other recent Debenture purchases or market
quotes. The December 31, 1999 price is based on the estimated market price on
December 31, 1999. If interest rates were to fluctuate by a factor of 1.1, we do
not anticipate a material change in the fair value of the Debentures based on
the current market for them.

Our outstanding financing obligations related to the sale-leaseback transaction
are not publicly traded and are not subject to fluctuations in interest rates.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INDEX TO FINANCIAL STATEMENTS

Page

Management Report on Consolidated Financial Statements.................................................... 39
Report of Independent Auditors............................................................................ 40
Consolidated Balance Sheets at December 31, 2000 and 1999................................................. 41
Consolidated Statements of Operations for the Years Ended
December 31, 2000, 1999 and 1998....................................................................... 42
Consolidated Statements of Stockholders' Equity
for the Years Ended December 31, 2000, 1999 and 1998................................................... 43
Consolidated Statements of Cash Flows for the Years Ended
December 31, 2000, 1999 and 1998....................................................................... 44
Notes to Consolidated Financial Statements................................................................ 45

MANAGEMENT REPORT ON CONSOLIDATED FINANCIAL STATEMENTS

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

The accounting systems and controls of the Company are designed to provide
reasonable assurance that transactions are executed in accordance with
management's authorization, that the financial records are reliable for
preparing financial statements and maintaining accountability for assets, and
that assets are safeguarded against losses from unauthorized use or disposition.
Management believes that for the year ended December 31, 2000, such systems and
controls were adequate to meet the objectives discussed herein.

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

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

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

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

REPORT OF INDEPENDENT AUDITORS

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

We have audited the accompanying consolidated balance sheets of Sierra Health
Services, Inc. and its subsidiaries as of December 31, 2000 and 1999, and the
related consolidated statements of operations, stockholders' equity and cash
flows for each of the three years in the period ended December 31, 2000. Our
audits also included the financial statement schedules listed in the index at
Item 14 (a)(2). These financial statements and financial statement schedules are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements and financial statement schedules based
on our audits.

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

In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of Sierra Health Services, Inc. and
its subsidiaries at December 31, 2000 and 1999, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2000 in conformity with accounting principles generally accepted in
the United States of America. Also, in our opinion, such financial statement
schedules when considered in relation to the basic consolidated financial
statements taken as a whole, present fairly in all material respects the
information set forth therein.

DELOITTE & TOUCHE LLP
Las Vegas, Nevada
February 13, 2001
(except for Note 8, as to which the date is March 16, 2001)

SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 2000 and 1999
(In thousands, except per share data)

ASSETS

2000 1999
---- ----
CURRENT ASSETS:

Cash and Cash Equivalents............................................... $ 161,306 $ 55,936
Investments............................................................. 207,143 218,951
Accounts Receivable (Less: Allowance for Doubtful
Accounts 2000 - $17,996; 1999 - $15,551)........................... 33,094 43,036
Military Accounts Receivable (Less: Allowance for Doubtful
Accounts 2000 - $1,212; 1999 - $800)............................... 71,390 60,340
Current Portion of Deferred Tax Asset .................................. 46,702 40,199
Reinsurance Recoverable................................................. 92,867 54,563
Other Current Receivables............................................... 17,941 36,641
Prepaid Expenses and Other Current Assets............................... 15,618 12,292
Assets Held for Sale.................................................... 22,942 _________
-------------
Total Current Assets............................................... 669,003 521,958

PROPERTY AND EQUIPMENT, NET................................................... 173,031 264,549
LONG-TERM INVESTMENTS......................................................... 18,093 14,862
RESTRICTED CASH AND INVESTMENTS............................................... 24,724 21,705
REINSURANCE RECOVERABLE, Net of Current Portion............................... 160,227 82,300
GOODWILL (Less: Accumulated Amortization
2000 - $6,167; 1999 - $8,828).......................................... 15,587 159,514
DEFERRED TAX ASSET (Less Current Portion)..................................... 68,253 25,834
OTHER ASSETS.................................................................. 36,182 39,390
------------- -------------
TOTAL ASSETS.................................................................. $1,165,100 $1,130,112
========== ==========

LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accrued Liabilities....................................................... $ 62,127 $ 59,556
Trade Accounts Payable.................................................... 28,431 21,052
Premium Deficiency Reserve................................................ 14,466 21,000
Accrued Payroll and Taxes................................................. 19,138 21,965
Medical Claims Payable.................................................... 112,296 91,607
Current Portion of Reserve for
Losses and Loss Adjustment Expenses ................................. 134,676 93,768
Unearned Premium Revenue.................................................. 48,373 45,333
Military Health Care Payable.............................................. 84,859 50,831
Current Portion of Long-term Debt......................................... 88,223 4,741
------------ --------------
Total Current Liabilities............................................ 592,589 409,853

RESERVE FOR LOSSES AND
LOSS ADJUSTMENT EXPENSE (Less Current Portion) ........................... 239,878 150,626
LONG-TERM DEBT (Less Current Portion) ........................................ 225,355 258,854
OTHER LIABILITIES ............................................................ 16,805 32,367
------------- -------------
TOTAL LIABILITIES............................................................. 1,074,627 851,700
------------ ------------

COMMITMENTS AND CONTINGENCIES

STOCKHOLDERS' EQUITY:
Preferred Stock, $.01 Par Value, 1,000
Shares Authorized; None Issued or Outstanding
Common Stock, $.005 Par Value, 60,000 Shares Authorized;
Shares Issued: 2000 - 28,815; 1999 - 28,400.................. 144 142
Additional Paid-in Capital................................................ 177,493 175,915
Treasury Stock: 2000 and 1999 - 1,523 Common Stock Shares............. (22,789) (22,789)
Accumulated Other Comprehensive Loss...................................... (5,667) (16,063)
(Accumulated Deficit) Retained Earnings................................... (58,708) 141,207
------------ ------------
TOTAL STOCKHOLDERS' EQUITY.................................................... 90,473 278,412
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY.................................... $1,165,100 $1,130,112
========== ==========

See the accompanying notes to consolidated financial statements.

SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Years Ended December 31, 2000, 1999 and 1998
(In thousands, except per share data)

2000 1999 1998
---- ---- ----
OPERATING REVENUES:

Medical Premiums..................................................... $ 869,875 $ 827,779 $ 609,404
Military Contract Revenues .......................................... 330,352 287,398 204,838
Specialty Product Revenues .......................................... 135,844 94,221 148,368
Professional Fees.................................................... 35,607 51,842 45,363
Investment and Other Revenues ....................................... 21,300 22,571 29,230
----------- ------------ ------------
Total............................................................. 1,392,978 1,283,811 1,037,203
--------- ---------- ----------

OPERATING EXPENSES:
Medical Expenses..................................................... 810,390 749,797 513,209
Military Contract Expenses .......................................... 323,265 276,493 196,625
Specialty Product Expenses........................................... 152,733 96,487 142,258
General, Administrative and Marketing Expenses....................... 136,660 137,812 110,687
Asset Impairment, Restructuring,
Reorganization and Other Costs.................................. 220,440 18,808 13,851
---------- ------------ -----------
Total............................................................. 1,643,488 1,279,397 976,630
--------- ---------- ----------

OPERATING (LOSS) INCOME.............................................. (250,510) 4,414 60,573

INTEREST EXPENSE AND OTHER, NET...................................... (23,630) (14,980) (7,181)
----------- ----------- -----------

(LOSS) INCOME FROM OPERATIONS
BEFORE INCOME TAXES ................................................. (274,140) (10,566) 53,392

BENEFIT (PROVISION) FOR INCOME TAXES................................. 74,225 5,935 (13,796)
----------- ------------ ----------

NET (LOSS) INCOME ................................................... $(199,915) $ (4,631) $ 39,596
========= =========== ==========

EARNINGS PER COMMON SHARE:
Net (Loss) Income Per Share ..................................... $(7.37) $(.17) $1.45
====== ===== =====

EARNINGS PER COMMON SHARE ASSUMING DILUTION:
Net (Loss) Income Per Share ..................................... $(7.37) $(.17) $1.43
====== ===== =====

See the accompanying notes to consolidated financial statements.

SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
For the Years Ended December 31, 2000, 1999 and 1998
(In thousands)

Accumu-
lated
Other
Addi- Compre- Compre- Retained Total
tional hensive hensive Earnings Stock-
Common Stock Paid-In Treasury Income Income (Accumulated holders'
Shares Amount Capital Stock (Loss) (Loss) Deficit) Equity
-------- -------- --------- ----------- ----------- ------ -----------------------------

BALANCE,

JANUARY 1, 1998 ..... 27,709 $139 $164,247 $(5,601) $655 $106,242 $265,682

Comprehensive Income:
Net Income.......... $ 39,596 39,596 39,596
Other Comprehensive
Income, Net of Tax:
Unrealized Holding
Loss on Available-
for-sale Investments (201) (201) (201)
Reclassification Adjustment for
Gains Included in Net Income (1,481) (1,481) (1,481)
----------

Comprehensive Income..... $ 37,914
========
Common Stock Issued
in Connection with
Stock Plans.... 527 2 8,052 8,054
Purchase of Treasury Stock (9,220) (9,220)
Income Tax Benefit Realized
Upon Exercise of
Stock Options 1,284 1,284
---------- -------- ------ -------- ------ -------- --------
BALANCE, DECEMBER 31, 1998 28,236 141 173,583 (14,821) (1,027) 145,838 303,714

Comprehensive Income:
Net Loss............ $ (4,631) (4,631) (4,631)
Other Comprehensive
Loss, Net of Tax:
Unrealized Holding
Loss on Available-
for-sale Investments (15,295) (15,295) (15,295)
Reclassification Adjustment for
Losses Included in Net Loss 259 259 259
---------
Comprehensive Loss....... $(19,667)
========
Common Stock Issued
in Connection with
Stock Plans.... 164 1 2,331 2,332
Purchase of Treasury Stock (7,968) (7,968)
Income Tax Benefit Realized
Upon Exercise of
Stock Options 1 1
---------- ------ -------- -------- --------- ------------- -------

BALANCE, DECEMBER 31, 1999 28,400 142 175,915 (22,789) (16,063) 141,207 278,412

Comprehensive Income:
Net Loss............ $(199,915) (199,915) (199,915)
Other Comprehensive Loss, Net of Tax:
Unrealized Holding Gain on Available-
for-sale Investments 11,092 11,092 11,092
Reclassification Adjustment for
Gains Included in Net Loss (696) (696) (696)
---------

Comprehensive Loss....... $(189,519)
=========
Common Stock Issued in Connection
with Stock Plans.... 415 2 1,578 1,580
-------- ------- -------- -------- -------- --------- ---------
BALANCE, DECEMBER 31,
2000 28,815 $144 $177,493 $(22,789) $(5,667) $(58,708) $90,473
====== ==== ======== ======== ======= ======== ========

See the accompanying notes to consolidated financial statements.

SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31, 2000, 1999 and 1998
(In thousands)

2000 1999 1998
---- ---- ----

CASH FLOWS FROM OPERATING ACTIVITIES:

Net (Loss) Income ........................................ $(199,915) $ (4,631) $ 39,596
Adjustments to Reconcile Net (Loss) Income to Net Cash
Provided by (used for) Operating Activities:
Depreciation and Amortization......................... 29,915 28,079 19,263
Provision for Doubtful Accounts....................... 2,857 7,201 6,379
Provision for Asset Impairment........................ 202,951 3,509
Change in Assets and Liabilities, Net of
Effects from Acquisitions:
Other Assets.......................................... 2,634 9,578 (1,798)
Deferred Tax Asset.................................... (54,519) (19,373) (2,380)
Reinsurance Recoverable .............................. (116,231) (69,841) (41,618)
Reserve for Losses and Loss Adjustment Expenses....... 130,160 32,131 9,564
Other Liabilities .................................... 5,129 11,921 4,603
Accounts Receivable................................... (4,964) (11,810) (2,870)
Other Current Assets.................................. 15,375 (5,166) (11,858)
Military Accounts Receivable.......................... (11,462) 8,857 (69,552)
Military Health Care Payable.......................... 34,028 (2,989) 53,820
Medical Claims Payable................................ 20,689 13,585 12,333
Other Current Liabilities.............................. (15,562) (8,755) 34,606
---------- ---------- -----------
Net Cash Provided by (Used for)
Operating Activities ............................... 41,085 (7,704) 50,088
---------- ---------- -----------

CASH FLOWS FROM INVESTING ACTIVITIES:
Capital Expenditures...................................... (17,528) (58,512) (40,743)
Property and Equipment Dispositions....................... 10,535 1,018
Purchase of Available-for-Sale Investments................ (209,234) (357,810) (901,542)
Proceeds from Sales/Maturities of
Available-for-Sale Investments........................ 226,980 358,792 884,288
Purchase of Held-to-Maturity Investments.................. (1,662) (7,133) (51,887)
Proceeds from Maturities of Held-to-Maturity Investments.. 5,466 36,077 44,964
Corporate Acquisitions, Net of Cash Acquired.............. (3,000) (111,408)
Corporate Disposition, Net of Cash Disposed............... 1,373
-------------- -------------- ------------
Net Cash Provided by (Used for) Investing Activities.. 14,557 (30,568) (174,955)
---------- --------- ----------

CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from Long-term Borrowing......................... 91,459 79,000 172,200
Payments on Debt and Capital Leases....................... (43,311) (63,066) (59,098)
Purchase of Treasury Stock ............................... (7,968) (9,220)
Exercise of Stock in Connection with Stock Plans.......... 1,580 2,332 8,054
----------- ----------- ------------
Net Cash Provided by Financing Activities............. 49,728 10,298 111,936
---------- ---------- ----------

NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS.............................................. 105,370 (27,974) (12,931)

CASH AND CASH EQUIVALENTS AT BEGINNING
OF YEAR.................................................. 55,936 83,910 96,841
-------- --------- ----------
CASH AND CASH EQUIVALENTS AT END OF YEAR........................ $161,306 $ 55,936 $ 83,910
======== ========= ==========

See the accompanying notes to consolidated financial
statements.

SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the Years Ended December 31, 2000, 1999 and 1998

1. BUSINESS

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

In June 1996, the Department of Defense awarded a TRICARE contract to TriWest
Healthcare Alliance, a consortium consisting of the Company and 13 other health
care companies, to provide health services to Regions 7 and 8, which includes a
total of 16 states. During the first quarter of 2000, the Company sold its
interest in TriWest Healthcare Alliance in exchange for a $3.7 million note,
which approximated the carrying value of the Company's investment.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

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

Medical Premiums. Membership contracts are generally established on an annual
basis subject to cancellation by the employer group or Sierra generally upon 60
days written notice. Premiums, including premiums from both commercial and
governmental programs, are due monthly and are recognized as revenue during the
period in which Sierra is obligated to provide services to members and are net
of estimated retroactive terminations of members and groups. Non-Medicare member
enrollment is represented principally by employer groups. HPN and TXHC also
offer a prepaid health care program to Medicare recipients. Revenues associated
with Medicare recipients were approximately $337,545,000, $301,141,000 and
$238,913,000 in 2000, 1999 and 1998, respectively. Unearned premium revenue
includes payments under prepaid Medicare contracts with the Health Care
Financing Administration ("HCFA") and prepaid HPN and TXHC commercial and SHL
indemnity premiums.

Military Contract Revenues. Revenue under the Department of Defense TRICARE
contract is recorded based on the contract price as agreed to by the federal
government. The contract also contains provisions which adjust the contract
price based on actual experience and for government-directed change orders. The
estimated effects of these adjustments are recognized on a monthly basis. In
addition, the Company records revenue based on estimates of the earned portion
of any contract change orders not originally specified in the contract.

Specialty Product Revenues. These revenues consist primarily of workers'
compensation premiums. Premiums are calculated by formula such that the premium
written is earned pro rata over the term of the policy. Also included in
specialty product revenues are administrative services fees and certain
ancillary product revenues. Such revenues are recognized in the period in which
the service is performed or the period that coverage for services is provided.
Premiums written in excess of premiums earned are recorded as an unearned
premium revenue liability. Premiums earned include an estimate for earned but
unbilled premiums.

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

Medical Expenses. The Company contracts with hospitals, physicians and other
independently contracted providers of health care under capitated or discounted
fee-for-service arrangements including hospital per diems to provide medical
care services to enrollees. Capitated providers are at risk for the cost of
medical care services provided to the Company's enrollees in the relevant
geographic areas; however, the Company is ultimately responsible for the
provision of services to its enrollees should the capitated provider be unable
to provide the contracted services. Health care costs are recorded in the period
when services are provided to enrolled members, including estimates for provider
costs which have been incurred as of the balance sheet date but not reported to
the Company. Any subsequent changes in estimate for a prior year would be
reflected in the current year's operating results.

Military Contract Expenses. This expense consists primarily of costs to provide
managed health care services to eligible beneficiaries in accordance with the
Company's TRICARE contract. Under the contract, SMHS provides health care
services to approximately 621,000 dependents of active duty military personnel
and military retirees and their dependents through subcontractor partnerships
and individual providers. Health care costs are recorded in the period when
services are provided to eligible beneficiaries including estimates for provider
costs which have been incurred as of the balance sheet date but not reported to
the Company. Also included in military contract expenses are costs incurred to
perform specific administrative services, such as health care appointment
scheduling, enrollment, network management and health care advice line services
and other administrative functions of the military health care subsidiary.

Specialty Product Expenses. This expense consists primarily of losses and loss
adjustment expense ("LAE"), policy acquisition costs and other general and
administrative expenses associated with issued workers' compensation policies.
Losses and LAE are based upon the accumulation of cost estimates for reported
claims occurring during the period as well as an estimate for losses that have
occurred but have not yet been reported. Policy acquisition costs consist of
commissions, premium taxes and other underwriting costs, which are directly
related to the production and retention of new and renewal business and are
deferred and amortized as the related premiums are earned. Should it be
determined that future policy revenues and earnings on invested funds relating
to existing insurance contracts will not be adequate to cover related costs and
expenses, deferred costs are expensed. Also included in specialty product
expenses are costs associated with administrative services and certain ancillary
products. These costs are recorded when incurred. Loss and LAE reserves have a
significant degree of uncertainty when related to their subsequent payments.
Although reserves are established on the basis of a reasonable estimate, it is
not only possible but probable that reserves will differ from their related
subsequent developments. Underlying causes for this uncertainty include, but are
not limited to, uncertainty in development patterns and unanticipated
inflationary trends affecting the services covered by the insurance contract.
This uncertainty can result in both adverse as well as favorable development of
actual subsequent activity when compared to the reserve established. Any
subsequent change in loss and LAE reserves established in a prior year would be
reflected in the current year's operating results.

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

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

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

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

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

Property and Equipment. Property and equipment are stated at cost less
accumulated depreciation. Maintenance and repairs that do not improve or extend
the life of the respective assets are charged to operations. Depreciation and
amortization is computed using the straight-line method over the estimated
service lives of the assets or terms of leases if shorter. Estimated useful
lives are as follows:

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

Goodwill. Goodwill has been recorded primarily as a result of various business
acquisitions by the Company. Amortization is provided on a straight line basis
over periods not exceeding 40 years. The Company periodically evaluates the
carrying value of its intangible assets. The Company utilizes the discounted
cash flow method for evaluating the recoverability of goodwill. Future cash
flows are estimated based on Company projections and are discounted based on the
interest rates approximating long-term bond yields.

In connection with the restructuring plans adopted and announced by the Company
in the second quarter of 2000, the Company re-evaluated the recoverability of
certain long-lived assets, primarily those associated with the Texas operations,
in accordance with Statement of Financial Accounting Standards No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
be Disposed Of" ("SFAS No. 121") and Accounting Principles Board Opinion No. 17,
"Intangible Assets" ("APB No. 17") and determined that the carrying value of
certain goodwill was impaired. In assessing the asset impairment of the
long-lived assets, the Company first allocated a portion of related goodwill to
the fixed assets to be disposed of, in accordance with SFAS No. 121. The
remainder of the related goodwill was then assessed for recoverability in
accordance with APB No. 17 based on projected discounted cash flows and an
impairment of $141,506,000 was recorded. See Note 16 for a description of the
primary facts and circumstances related to the impairment.

Amortization expense associated with goodwill was $2,824,000, $4,345,000 and
$2,321,000 for the years ended December 31, 2000, 1999 and 1998, respectively.

Medical Claims Payable and Military Health Care Payable. Medical claims payable
and military health care payable include the estimated cost for unpaid claims
for which health care services have been provided to enrollees and to TRICARE
eligibles. Such provisions included an estimate for the costs of claims that
have been incurred but have not been reported.

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

Reserve for Losses and Loss Adjustment Expense. The reserve for workers'
compensation losses and LAE consists of estimated costs of each unpaid claim
reported to the Company prior to the close of the accounting period, as well as
those incurred but not yet reported. The methods for establishing and reviewing
such liabilities are continually reviewed and adjustments are reflected in
current operations. The Company does not discount its losses and LAE reserves.

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

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

Credit risk with respect to accounts receivable is generally diversified due to
the large number of entities comprising the Company's customer base and their
dispersion across many different industries. These customers are primarily
located in the states in which the Company operates and are principally in
California, Nevada and Texas. However, the Company is licensed and does business
in several other states. As of December 31, 2000, the Company has receivables
outstanding from the federal government related to its TRICARE contract in the
amount of $71.4 million. The Company also has receivables from its reinsurers.
Reinsurance contracts do not relieve the Company from its obligations to
enrollees or policyholders. Failure of reinsurers to honor their obligations
could result in losses to the Company. The Company evaluates the financial
condition of its reinsurers to minimize its exposure to significant losses from
reinsurer insolvencies. All reinsurers with whom the Company has reinsurance
contracts are rated A- or better by the A.M. Best Company.

Recently Issued Accounting Standards. The Financial Accounting Standards Board
has issued Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" ("SFAS 133"), as amended, which
is effective for fiscal years beginning after June 15, 2000. SFAS 133
establishes additional accounting and reporting standards for derivative
instruments and hedging activities. SFAS 133 requires that an entity recognize
all derivatives as either assets or liabilities in the statement of financial
position. This statement also defines and allows companies to apply hedge
accounting to its designated derivatives under certain instances. It also
requires that all derivatives be marked to market on an ongoing basis. This
applies whether the derivatives are stand-alone instruments, such as warrants or
interest-rate swaps, or embedded derivatives, such as call options contained in
convertible debt investments. Along with the derivatives, in the case of
qualifying hedges, the underlying hedged items are also to be marked to market.
These market value adjustments are to be included either in the income statement
or other comprehensive income, depending on the nature of the hedged
transaction. The fair value of financial instruments is generally determined by
reference to market values resulting from trading on a national securities
exchange or in an over-the-counter market. In cases where derivatives relate to
financial instruments of non-public companies, or where quoted market prices are
otherwise not available, such as for derivative financial instruments, fair
value is based on estimates using present value or other valuation techniques.
The Company does not believe that it has any significant derivative instruments
nor any significant hedging activities. The majority of the Company's
investments are held by insurance companies, which are regulated as to the types
of investments they may hold.

In December 1999, the Securities and Exchange Commission issued Staff Accounting
Bulletin No. 101, "Revenue Recognition in Financial Statements" ("SAB 101"). SAB
101 clarifies existing accounting principles related to revenue recognition in
financial statements. The Company has adopted SAB 101 and it did not have a
material impact on its financial statements.

Use of Estimates and Assumptions in the Preparation of Financial Statements. The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Estimates and assumptions include, but are not
limited to, medical and specialty product expenses, military revenue and
expenses and goodwill recoverability. Actual results may materially differ from
estimates.

Reclassifications. Certain amounts in the Consolidated Financial Statements for
the years ended December 31, 1999 and 1998 have been reclassified to conform
with the current year presentation.

3. EARNINGS PER SHARE

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

Dilutive
Basic Stock Options Diluted
----- ------------- -------
(In thousands, except per share data) For the Year Ended December 31, 2000:

Net Loss....................................... $(199,915) $(199,915)
Weighted Average Number of Shares
Outstanding................................. 27,142 27,142
Per Share Amount............................... $ (7.37) $ (7.37)

For the Year Ended December 31, 1999:
Net Loss....................................... $ (4,631) $ (4,631)
Weighted Average Number of Shares
Outstanding................................. 26,927 26,927
Per Share Amount............................... $ (.17) $ (.17)

For the Year Ended December 31, 1998:
Net Income..................................... $ 39,596 $ 39,596
Weighted Average Number of Shares
Outstanding................................. 27,391 356 27,747
Per Share Amount............................... $ 1.45 $ 1.43

Options to purchase 4,250,000 and 3,904,000 shares of common stock were
outstanding at December 31, 2000 and 1999 respectively, but were not included in
the computation of diluted earnings per share because the Company had a net loss
for both years and their inclusion would have been anti-dilutive.

Stock Split. On May 5, 1998, the Company announced a three-for-two stock split.
Each stockholder of record of the Company owning one share of common stock, par
value of $.005, as of the close of business on the record date of May 18, 1998,
received an additional one-half share on June 18, 1998. In lieu of any
fractional share resulting from the stock split, a stockholder received a cash
payment based on the closing price of the Company's common stock on the record
date. The par value remains $.005 per share. Common stock and earnings per share
amounts have been retroactively adjusted to account for the split.

CII issued convertible subordinated debentures (the "Debentures") due September
15, 2001. Each $1,000 in principal is convertible into 25.382 shares of the
Company's common stock at a conversion price of $39.398 per share. The
Debentures were not included in the computation of EPS because their effect
would be anti-dilutive. At December 31, 2000, common stock shares reserved for
potential issuance in connection with the subordinated debentures were
1,442,000.

4. PROPERTY AND EQUIPMENT

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

(In thousands) 2000 1999
---- ----

Land................................................... $ 28,455 $ 28,643
Buildings and Improvements............................. 126,222 152,284
Furniture, Fixtures and Equipment...................... 42,917 61,793
Data Processing Equipment and Software................. 94,037 97,204
Software in Development and Construction
in Progress.......................................... 6,036 14,157
Less: Assets Held for Sale............................. (22,942)
Accumulated Depreciation ........................ (101,694) (89,532)
-------- ----------
Net Property and Equipment........................... $173,031 $264,549
======== ========

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

(In thousands): 2000 1999
---- ----

Data Processing Equipment and Software ................ $6,571 $4,736
Furniture, Fixtures and Equipment...................... 4,426 4,426
Building............................................... 245 245
Less: Accumulated Depreciation......................... (6,195) (4,376)
------ -------
Net Property and Equipment.......................... $5,047 $5,031
====== ======

The Company capitalizes interest expense as part of the cost of construction of
facilities and the implementation of computer systems. Interest expense
capitalized in 2000, 1999 and 1998 was $67,000, $2,140,000 and $1,037,000,
respectively. Depreciation expense in 2000, 1999 and 1998 was $26,921,000,
$23,577,000, and $16,767,000, respectively.

Assets held for sale on the balance sheet at December 31, 2000 consist of real
estate in Texas and Arizona for which the Company is actively seeking a buyer
and expects to sell within twelve months. All assets are owned by subsidiaries
in the managed care and corporate operations segment. A related mortgage in the
amount of $34.2 million is included in the current portion of long-term debt on
the balance sheet. Because these assets have been written down to fair market
value, in accordance with SFAS No. 121, the Company has ceased depreciating
them. See Note 16 for a description of the primary facts and circumstances
leading to the decision to sell this real estate. See Note 8 for a description
of the related long-term debt.

On December 28, 2000, the Company sold the majority of its Las Vegas, Nevada
administrative and medical clinic real estate holdings in a sale-leaseback
transaction. As part of the transaction, the Company financed a portion of the
sales price with mortgage notes receivable of $22.2 million and provided
deposits of $4.3 million. The mortgages and deposits constitute continuing
involvement as defined in Statement of Financial Accounting Standards No. 98,
"Accounting for Leases" ("SFAS 98") and as such the transaction does not qualify
as a sale. In accordance with SFAS 98, the Company recorded the transaction as a
financing obligation of $113,659,000, offset by the mortgage notes receivable of
$22,200,000. The net book value of the assets included in the transaction was
$86,890,000 at December 31, 2000.

The Company expects that the mortgages and deposits will be repaid to Sierra by
the end of 2001. Once that occurs the transaction will qualify as a sale since
the Company no longer will have continuing involvement. After qualifying as a
sale, the assets, associated accumulated depreciation and financing obligation
will be retired and a gain on the sale will be recorded and recognized over the
remaining term of the lease. Until the transaction qualifies as a sale,
depreciation expense will continue to be recorded on the assets and interest
expense will be recognized on the net financing obligation.

5. CASH AND INVESTMENTS

Investments that the Company has the intention and ability to hold to maturity
are stated at amortized cost and categorized as held-to-maturity. The remaining
investments have been categorized as available-for-sale and are stated at their
fair value. Fair value is estimated primarily from published market values as of
the balance sheet date. Gross realized gains on investments for 2000, 1999 and
1998 were $497,000, $334,000 and $4,789,000, respectively. Gross realized losses
on investments for 2000, 1999 and 1998 were $1,566,000, $733,000 and $2,511,000,
respectively.

The following table summarizes the Company's current, long-term and restricted
investments as of December 31, 2000:

Gross Gross
Amortized Unrealized Unrealized Fair
(In thousands) Cost Gains Losses Value
-------------- ------------- ------------- -----------
Available-for-Sale Investments:
Classified as Current:
U.S. Government

and its Agencies........................... $145,638 $284 $6,774 $139,148
Municipal Obligations......................... 20,504 41 557 19,988
Corporate Bonds............................... 41,040 62 1,659 39,443
--------- ----- ------- ----------
Total Debt Securities............................. 207,182 387 8,990 198,579
Preferred Stock............................... 7,957 50 231 7,776
---------- ----- ------- ----------
Total Current .................................... 215,139 437 9,221 206,355
-------- ---- ------ --------

Classified as Restricted:
U.S. Government
and its Agencies........................... 16,125 69 207 15,987
Municipal Obligations......................... 2,637 49 27 2,659
Corporate Bonds............................... 1,192 16 16 1,192
Other......................................... 2,509 2,509
----------- -------- ----------- ----------
Total Restricted .......................... 22,463 134 250 22,347
---------- ----- -------- ---------
Total Available-for-Sale ............... $237,602 $571 $9,471 $228,702
======== ==== ====== ========

Held-to-Maturity Investments:
Classified as Current:
U.S. Government
and its Agencies........................... $ 283 $ 3 $ 286
Municipal Obligations......................... 505 12 517
---------- ----- ----------
Total Current..................................... 788 15 803
---------- ----- ----------

Classified as Long-term:
U.S. Government
and its Agencies........................... 11,230 262 $ 689 10,803
Municipal Obligations......................... 2,381 53 2,434
Corporate Bonds............................... 4,482 117 160 4,439
--------- ---- ------ ---------
Total Long-term ................................. 18,093 432 849 17,676
-------- ---- ------ --------

Classified as Restricted:
U.S. Government
and its Agencies........................... 1,263 14 1,277
Corporate Bonds .................................499 23 522
Other.......................................... 615 615
----------- ------- ---------
Total Restricted........................... 2,377 37 2,414
---------- ----- --------
Total Held-to-Maturity.................. $ 21,258 $484 $ 849 $20,893
======== ==== ===== =======

The following table summarizes the Company's current, long-term and restricted
investments as of December 31, 1999:

Gross Gross
Amortized Unrealized Unrealized Fair
(In thousands) Cost Gains Losses Value
-------------- ------------- ------------- -----------
Available-for-Sale Investments:
Classified as Current:
U.S. Government

and its Agencies........................... $112,211 $ 37 $16,294 $ 95,954
Municipal Obligations......................... 60,245 97 2,316 58,026
Corporate Bonds............................... 33,756 34 1,715 32,075
Other......................................... 20,119 ____ 3,105 17,014
---------- --------- ----------
Total Debt Securities...................... 226,331 168 23,430 203,069
Preferred Stock............................... 8,564 21 691 7,894
----------- ------ ---------- -----------
Total Current.............................. 234,895 189 24,121 210,963
--------- ----- -------- ---------

Classified as Restricted:
U.S. Government
and its Agencies........................... 12,021 104 670 11,455
Municipal Obligations......................... 2,485 29 101 2,413
Corporate Bonds............................... 989 11 33 967
Other......................................... 4,815 ____ 118 4,697
----------- ---------- -----------
Total Restricted........................... 20,310 144 922 19,532
---------- ----- ---------- ----------
Total Available-for-Sale................ $255,205 $333 $25,043 $230,495
======== ==== ======= ========

Held-to-Maturity Investments:
Classified as Current:
U.S. Government
and its Agencies........................... $ 5,129 $341 $ 317 $ 5,153
Municipal Obligations......................... 2,759 32 55 2,736
Other .................................... 100 ____ ______ 100
------------ ------------
Total Current.............................. 7,988 373 372 7,989
----------- ----- --------- -----------

Classified as Long-term:
U.S. Government
and its Agencies........................... 7,339 1,141 6,198
Municipal Obligations......................... 2,284 33 2,317
Corporate Bonds............................... 5,239 115 ______ 5,354
----------- ----- -----------
Total Long-term ................................. 14,862 148 1,141 13,869
---------- ----- -------- ----------

Classified as Restricted:
U.S. Government
and its Agencies........................... 619 619
Municipal Obligations.......................... 515 515
Corporate Bonds............................... 499 499
Other .................................... 540 540
------------ ------------
Total Restricted........................... 2,173 2,173
----------- -----------
Total Held-to-Maturity ................. $ 25,023 $521 $ 1,513 $ 24,031
========= ==== ======== =========

The contractual maturities of available-for-sale investments at December 31,
2000 are shown below. Expected maturities may differ from contractual maturities
because borrowers may have the right to call or prepay obligations.

Amortized
Cost Fair Value
(In thousands)

Due in one year or less...................................... $ 41,614 $ 41,667
Due after one year through five years........................ 43,726 43,765
Due after five years through ten years....................... 8,756 8,697
Due after ten years through fifteen years.................... 15,506 15,266
Due after fifteen years...................................... 120,043 111,531
--------- ---------
Total................................................... $ 229,645 $ 220,926
======== ========

The contractual maturities of held-to-maturity investments at December 31, 2000
are shown below. Expected maturities may differ from contractual maturities
because borrowers may have the right to call or prepay obligations.

Amortized
Cost Fair Value
(In thousands)

Due in one year or less...................................... $ 1,729 $ 1,741
Due after one year through five years........................ 7,191 7,240
Due after five years through ten years.......................
Due after ten years through fifteen years.................... 4,915 5,163
Due after fifteen years...................................... 7,423 6,749
-------- --------
Total................................................... $ 21,258 $ 20,893
======= =======

Of the cash and cash equivalents and current investments that total $368.4
million in the accompanying Consolidated Balance Sheet at December 31, 2000,
$308.3 million is limited for use only by the Company's regulated subsidiaries.
Such amounts are available for transfer to Sierra from the regulated
subsidiaries only to the extent that they can be remitted in accordance with
terms of existing management agreements and by dividends, which customarily must
be approved by regulating state insurance departments. The remainder is
available to Sierra on an unrestricted basis.

6. REINSURANCE

The Company is covered under medical reinsurance agreements that provide
coverage for 50% - 90% of hospital and other costs in excess of, depending on
the contract, $75,000 to $200,000 per case, up to a maximum of $2,000,000 per
member per lifetime for both the managed indemnity and HMO subsidiaries. In
addition, certain of the Company's HMO members are covered by an excess
catastrophe reinsurance contract and SHL maintains reinsurance on certain other
insurance products. Reinsurance premiums of $3,464,000, $3,269,000 and
$2,860,000, net of reinsurance recoveries of $3,956,000, $2,904,000 and
$1,185,000, are included in medical expenses for 2000, 1999 and 1998,
respectively.

CII also has reinsurance agreements or treaties in effect with unrelated
entities. In 1999 and 1998, workers' compensation claims between $500,000 and
$100,000,000 per occurrence were 100% reinsured. In addition, effective July 1,
1998, workers' compensation claims below $500,000 per occurrence were reinsured
under quota share and excess of loss reinsurance agreements (referred to as "low
level reinsurance") with an A+ rated carrier. Under this agreement, the Company
reinsures 30% of the first $10,000 of each loss, 75% of the next $40,000 and
100% of the next $450,000. The Company

received a 9.25% ceding commission from the reinsurer as a partial reimbursement
of its operating expenses. The low level reinsurance agreement expired on June
30, 2000; however the Company opted to continue ceding premiums and losses under
the low level agreement on a run-off basis for all policies in force on June 30,
2000. Effective January 1, 2000 we entered into a reinsurance contract that
provides statutory (unlimited) coverage for workers' compensation claims in
excess of $500,000 per occurrence. The contract is in effect for claims
occurring on or after January 1, 2000 through December 31, 2002. On July 1,
2000, the Company entered into a reinsurance agreement that covers losses on
claims in excess of $250,000 up to $500,000 for policies issued after June 30,
2000.

The low level reinsurance agreement was consummated early in the fourth quarter
of 1998 but coverage was made retroactive to July 1, 1998. Therefore, this
agreement contained both retroactive (covering claims occurring in the third
calendar quarter of 1998) and prospective reinsurance coverage (covering claims
occurring after September 30, 1998) and, in accordance with Statement of
Financial Accounting Standards No. 113, "Accounting and Reporting for
Reinsurance of Short-Duration and Long-Duration Contracts" ("SFAS 113"), the
Company has bifurcated the low level reinsurance agreement to account for the
different accounting treatments. The amount by which the estimated ceded
liabilities exceed the amount paid for the retroactive coverage is reported as a
deferred gain and amortized to income as a reduction of incurred losses over the
estimated remaining settlement period using the interest method. Any subsequent
changes in estimated or actual cash flows related to the retroactive coverage
are accounted for by adjusting the previously recorded deferred gain to the
balance that would have existed had the revised estimate been available at the
inception of the reinsurance transactions, with a corresponding charge or credit
to income. During 2000, the Company recorded an adjustment to increase its
deferred gain related to retroactive reinsurance coverage by $3,662,000 compared
to an increase of $4,615,000 in 1999. For the years ended December 31, 2000,
1999 and 1998, the Company amortized deferred gains of $5,199,000, $3,850,000
and $1,038,000, respectively. Such amortization is included in specialty product
expense on the accompanying consolidated statements of operations.

In accordance with SFAS 113, losses ceded under prospective reinsurance reduce
direct incurred losses and amounts recoverable are reported as an asset. At
December 31, 2000 and 1999, the amount of reinsurance recoverable under
prospective reinsurance contracts for unpaid loss and LAE was $218,757,000 and
$110,089,000, respectively. At December 31, 2000 and 1999, the amount of
reinsurance recoverable under the retroactive reinsurance contract was
$10,863,000 and $14,842,000, respectively. The amount of reinsurance receivable
for paid loss and LAE was $17,585,000 and $6,931,000 at December 31, 2000 and
1999, respectively.

Reinsurance contracts do not relieve the Company from its obligations to
enrollees or policyholders. Failure of reinsurers to honor their obligations
could result in losses to the Company. The Company evaluates the financial
condition of its reinsurers to minimize its exposure to significant losses from
reinsurer insolvencies.

Substantially all of the reinsurance recoverables are due from reinsurers rated
A+ by the A.M. Best Company and all amounts are considered to be collectible.

The following table provides workers' compensation prospective reinsurance
information for the three years ended December 31, 2000:

Change in
Recoveries Recoverable
on Paid on Unpaid Premiums
Losses/LAE Losses/LAE Ceded
---------- ---------- -----
(In thousands)
Year Ended December 31, 2000:

Low level reinsurance carrier................... $53,408 $100,240 $74,071
Excess of loss reinsurance carriers............. 2,324 8,428 3,449
--------- ----------- ---------
Total .......................................... $55,732 $108,668 $77,520
======= ======== =======

Year Ended December 31, 1999:
Low level reinsurance carrier................. $21,941 $ 69,104 $60,702
Excess of loss reinsurance carriers........... 1,730 3,188 3,025
---------- ----------- ---------
Total ........................................ $23,671 $ 72,292 $63,727
======= ========= =======

Year Ended December 31, 1998:
Low level reinsurance carrier................. $ 1,379 $ 19,664 $16,095
Excess of loss reinsurance carriers........... 3,292 (2,923) 3,672
-------- ---------- ---------
Total ........................................ $ 4,671 $ 16,741 $19,767
======= ========= =======

7. LOSSES AND LOSS ADJUSTMENT EXPENSES

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

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

Year ended December 31,
---------------------------------------------
2000 1999 1998
---------------- -------------- ---------------
(In thousands)

Net Beginning Losses and LAE Reserve ..................... $134,305 $174,467 $181,643
-------- -------- --------

Net Provision for Insured Events Incurred in:
Current Year .......................................... 86,587 51,541 103,990
Prior Years............................................ 23,293 9,920 (9,643)
--------- ---------- ----------
Total Net Provision.................................. 109,880 61,461 94,347
-------- --------- ---------

Net Payments for Losses and LAE
Attributable to Insured Events Incurred in:
Current Year .......................................... 26,867 21,207 29,591
Prior Years............................................ 61,521 80,416 71,932
--------- ---------- ----------
Total Net Payments .................................. 88,388 101,623 101,523
--------- --------- ---------

Net Ending Losses and LAE Reserve ........................ 155,797 134,305 174,467
Reinsurance Recoverable .................................. 218,757 110,089 37,797
-------- --------- ----------

Gross Ending Losses and LAE Reserve ...................... $374,554 $244,394 $212,264
======== ======== ========

During the year ended December 31, 2000, the Company experienced net adverse
loss development of $23.3 million related to accident years 1999 and prior.
Estimated losses and LAE incurred in accident years 1996 to 1999 have developed
significantly due to the continuation of increasing claim severity patterns on
the Company's California book of business. Many workers' compensation insurance
carriers in California are also experiencing high claim severity. Factors
influencing the higher claim severity include rising average temporary
disability costs, the increase in the number of major permanent disability
claims, medical inflation and adverse court decisions related to medical control
of a claimant's treatment. For claims occurring on and after July 1, 1998, the
Company has reinsured a percentage of the higher claim severity under the
Company's low level reinsurance agreement. The low level reinsurance agreement
expired on June 30, 2000; however, the Company opted to continue ceding premiums
and losses under the low level agreement on a run-off basis for all policies in
force on June 30, 2000. Effective January 1, 2000, we entered into a reinsurance
contract that provides statutory (unlimited) coverage for workers' compensation
claims in excess of $500,000 per occurrence. The contract is in effect for
claims occurring on or after January 1, 2000 through December 31, 2002. On July
1, 2000, the Company entered into a reinsurance agreement that covers losses on
claims in excess of $250,000 up to $500,000 for policies issued after June 30,
2000.

For the year ended December 31, 1999, the Company recorded net adverse loss
development on prior accident years of $9.9 million, primarily for accident
years 1996 to 1998. This adverse development was largely due to the higher
average California claim severity patterns that the Company experienced in the
last half of 1999. In the year ended December 31, 1998, the Company recorded net
favorable loss development of $9.6 million, which was mainly attributable to
lower actual paid claims than were previously reserved on accident years prior
to 1996.

8. LONG-TERM DEBT

Long-term debt at December 31, consists of the following:

2000 1999
---------------- ----------------
(In thousands)

Revolving Credit Facility............................................ $135,000 $160,000
Net Financing Obligations............................................ 91,253
7 1/2% Convertible Subordinated Debentures .......................... 47,041 50,498
6% Mortgage Note..................................................... 34,230 34,693
7 1/5% Mortgage Note................................................. 11,614
7 3/8% Mortgage Note ............................................... 393
Other................................................................ 6,054 6,397
---------- -----------
Total.............................................................. 313,578 263,595
Less Current Portion................................................. (88,223) (4,741)
--------- ----------
Long-term Debt....................................................... $225,355 $258,854
======== ========

Revolving Credit Facility. On October 31, 1998, the Company replaced its prior
line of credit with a $200 million credit facility. As a result of the asset
impairment and other changes in estimate charges, the Company was not in
compliance with its financial covenants at June 30, 2000. On December 15, 2000,
the Company entered into an amended and restated credit agreement and is now in
compliance with all covenants. The Company has $135 million available under the
new agreement but that will be reduced by amounts ranging from $2.0 million to
$10.0 million every six months starting in June 2001. The amount available under
the credit facility can also be reduced by 80% of net proceeds from certain
asset sales and excess cash flow, as defined in the amended and restated credit
agreement, and, as well as 100% of net proceeds of any new debt or equity
issuance, excluding any issuance by CII. The amended and restated credit
agreement restricts the amount of funds that can be transferred to the Texas and
SMHS operations to a maximum of $12 million and $5 million, respectively. The
credit agreement also requires that the Company's purchase of the CII 7 1/2%
convertible subordinated debentures with funds other than those from CII and its
subsidiaries will require an equal permanent reduction in the credit facility
limit. Interest under the amended and restated credit agreement is variable and
based on the Bank of America "prime rate" plus a margin. The rate was 10.125% at
December 31, 2000, which is a combination of the prime rate of 9.5% plus a
margin of .625%. The Company can reduce the margin in the future by completing
certain transactions and meeting certain financial ratios. Of the outstanding
balance, $25 million is covered by an interest-rate swap agreement. To mitigate
the risk of interest rate fluctuation on the credit facility, the Company
entered into a five-year $50 million interest-rate swap agreement during the
fourth quarter of 1998. The intent of the agreement was to keep the Company's
interest rate on $50 million of the borrowing relatively fixed. In the fourth
quarter of 2000, $25 million of the swap agreement was terminated. The average
cost of borrowing on the credit facility for 2000, including the impact of the
swap agreements, was approximately 9.9%. The terms of the amended and restated
credit agreement contain certain covenants including a minimum fixed charge
coverage ratio, a minimum interest coverage ratio, a maximum leverage ratio,
maximum loss ratios and maximum capital expenditure amounts.

Net Financing Obligations represent amounts recorded as a financing obligation
of $113,453,000 offset by notes receivable of $22,200,000 as part of the
sale-leaseback transaction described in Note 4. Amounts were recorded as a
financing obligation as required by SFAS 98 using the interest method with
effective interest rates of 8.16% to 8.53%.

7 1/2% Convertible Subordinated Debentures. In September 1991, CII issued
convertible subordinated debentures (the "Debentures") due September 15, 2001.
The balance outstanding at December 31, 2000 was $47,041,000, which is net of
$18,000 held by Sierra and is eliminated in consolidation. The Debentures are
included in the current portion of long-term debt and pay interest at 7 1/2%,
which is due semi-annually on March 15 and September 15. Each $1,000 in
principal is convertible into 25.382 shares of the Company's common stock at a
conversion price of $39.398 per share. Unamortized issuance costs of $91,000 are
included in other assets on the balance sheet and are amortized over the life of
the Debentures. Accrued interest on the Debentures as of December 31, 2000 and
1999 was $993,000 and $1,099,000, respectively. The Debentures are redeemable by
CII, in whole or in part, at a redemption price of 100.75%, plus accrued
interest. The Debentures are general unsecured obligations of CII only and were
not assumed or guaranteed by Sierra or any of its subsidiaries. During 2000,
1999 and 1998, the Company purchased $3,457,000, $753,000 and $3,216,000, of the
debentures on the open market resulting in realized gains, net of taxes, of
$654,000, $111,000 and $48,000, respectively.

CII has limited sources of cash and does not expect to have readily available
funds to pay the Debentures when they mature. CII is exploring strategies
regarding the Debentures including refinancing, extending the maturity date or
exchanging the Debentures. In December 2000, CII filed a registration statement
on Form S-4 with the Securities and Exchange Commission in which it proposed an
exchange offer to the holders of the Debentures to restructure the debt, extend
the maturity date and reduce the overall debt of the Company. The offering
proposes to exchange cash plus new subordinated Debentures, with a later
maturity date, for the Debentures. The sources for the cash portion of the
proposed exchange offer include a cash dividend from California Indemnity
Insurance Company ("California Indemnity") to CII of up to $5 million. In
connection with the proposed exchange offer, California Indemnity filed an
application with the California Department of Insurance to pay an extraordinary
dividend of $5 million to CII. On February 22, 2001, the California Department
of Insurance approved this application. The balance of the cash portion of the
proposed exchange offer is expected to be loans from Sierra Health Services,
Inc. and/or other affiliates. However, these types of loans are limited by the
Sierra amended and restated credit agreement. In addition, in order to issue the
new senior subordinated debentures in the proposed exchange offer, the consent
of two-thirds majority in principal amount of the lenders under the Sierra
credit facility must be obtained. On March 16, 2001, CII announced that the
interest payment due March 15, 2001 on the Debentures was not made as scheduled.
The Debentures have a 30-day grace period that applies to the scheduled March 15
interest payment and are not in default unless payment is not made during the
grace period. CII is working to complete the proposed exchange offer. There can
be no assurances that CII or the Company will have the cash resources required
to meet the obligations under the Debentures or that the CII will be able to
successfully implement a strategy for refinancing of the Debentures.

Sale and purchase activity for the Debentures, to parties other than the Company
and its subsidiaries, is believed to be minimal and there is no known market
quotation system for the Debentures. The fair value of the Debentures at
December 31, 2000 was $23,530,000, which is the Company's best estimate and was
based on $18,000 stated
value Debentures purchased for $9,000 by the Company during September 2000 and
may not be indicative of the actual market value.

6% Mortgage Note. In conjunction with the acquisition of Kaiser Foundation
Health Plan of Texas, the Company executed a deed of trust note for $35,200,000,
which is secured by the underlying real estate and fixtures. The terms of the
note include fixed monthly payments of $211,000 for five years at which time the
remaining principal is due. As described in Note 4, the entire amount of this
note is included in the current portion of long-term debt as it is related to
the assets designated as held for sale.

7 1/5% Mortgage Note. In January 1998, the Company obtained a $15,000,000 loan
from Bank of America, Nevada at an interest rate of 7 1/5%. The note balance of
$9,891,000 was paid off in conjunction with the sale-leaseback transaction
described above.

7 3/8% Mortgage Note. In December 1993, the Company obtained a loan from
Bank of America, Nevada. The note was paid off during 2000.

Other. The Company has obligations under capital leases with interest rates from
6.7% to 13.4%. In addition, the Company has term loans with the City of
Baltimore and the State of Maryland. Scheduled maturities of the Company's notes
payable, net financing obligations and future minimum payments under capital
leases, together with the present value of the net minimum lease payments at
December 31, 2000, are as follows:

Obligations
(In thousands) Notes Under Capital
Year ending December 31, Payable Leases
----------------------------------------------------- ----------- -------------------

2001................................................. $ 86,377 $2,196
2002................................................. 12,111 2,281
2003................................................. 118,093 1,081
2004 ................................................ 31 31
2005................................................. 32 31
Thereafter........................................... 91,834 216
---------- --------
Total............................................. $308,478 5,836
========
Less: Amounts Representing Interest................. (736)
--------

Present Value of Minimum Lease Payments.............. $5,100
=======

Excluding the Debentures, the fair value of long-term debt, including the
current portion, is estimated to be approximately $249,932,000 based on the
borrowing rates currently available to the Company.

9. INCOME TAXES

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

(In thousands) 2000 1999 1998
------------ ------------ ------------
(Benefit) Provision for Income Taxes:

Current..................................... $ (795) $(12,919) $12,595
Deferred.................................... (73,430) 6,984 1,201
--------- ---------- --------
Total....................................... $(74,225) $ (5,935) $13,796
======== ========= =======

The following reconciles the difference between the reported and statutory
(benefit) provision for income taxes for the years ended December 31:

2000 1999 1998
------------ ------------ ------------

Statutory Rate ............................. (35)% (35)% 35%
State Income Taxes ......................... 0 12 1
Tax Preferred Investments .............. 0 (12) (2)
Change in Valuation Allowance .............. 0 (15) (9)
Intangible Amortization..................... 9 3 0
Other ...................................... (1) (9) 1
--- --- --
(Benefit) provision for Income Taxes ....... (27)% (56)% 26%
=== === ==

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

2000 1999
---------------- ----------------
(In thousands)
Deferred Tax Assets:

Medical and Losses and LAE Reserves ...................... $ 18,880 $ 11,699
Accruals Not Currently Deductible......................... 14,628 12,635
Compensation Accruals .................................... 9,732 6,218
Bad Debt Allowances....................................... 6,916 4,373
Loss Carryforwards and Credits............................ 26,741 18,886
Depreciation and Amortization............................. 30,444
Unearned Premiums......................................... 1,954 1,029
Deferred Reinsurance Gains................................ 1,917 2,455
Unrealized Investment Losses.............................. 3,051 8,648
Other .................................................... 692 90
----------- -----------
Total................................................... 114,955 66,033
-------- --------

Deferred Tax Liabilities:
Deferred Policy Acquisition Costs ........................ 655 777
Depreciation and Amortization ............................ 17,729
Other .................................................... 290 684
------------ ----------
Total................................................... 945 19,190
------------ --------

Net Deferred Tax Asset ................................... $114,010 $46,843
======== =======

At December 31, 2000, the Company had approximately $56,877,000 of regular tax
net operating loss carryforwards. The net operating loss carryforwards can be
used to reduce future taxable income until they expire through the year 2020. In
addition to the net operating loss carryforwards, the Company has alternative
minimum tax credits of approximately $5,198,000, which can be used to reduce
regular tax liabilities in future years. There is no expiration date for the
alternative minimum tax credits.

A valuation allowance was established in prior years to reflect the Company's
inability to use tax benefits from certain acquisitions currently or in the near
future. Due to a change in tax laws and the Company's ability to realize tax
benefits for which a valuation allowance had been previously established, the
Company reduced its valuation allowance by $1,575,000 and $4,691,000 for the
years ended December 31, 1999 and 1998, respectively. The Company does not have
a valuation allowance at December 31, 2000. Included in other current
receivables in the December 31, 2000 and 1999 balance sheets are tax receivables
of $1,326,000 and $10,518,000, respectively.

10. COMMITMENTS AND CONTINGENCIES

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

(In thousands)
Year Ending December 31,
2001.......................................... $ 6,724
2002.......................................... 6,227
2003.......................................... 4,763
2004.......................................... 3,687
2005.......................................... 3,332
Thereafter.................................... 6,085
---------
Total.................................... $30,818
=======

Rent expense totaled $10,133,000, $9,098,000, and $8,763,000 for the years ended
December 31, 2000, 1999 and 1998, respectively.

Litigation and Legal Matters. The Company is subject to various claims and other
litigation in the ordinary course of business. Such litigation includes claims
of medical malpractice, claims for coverage or payment for medical services
rendered to HMO members and claims by providers for payment for medical services
rendered to HMO members. Also included in such litigation are claims for
workers' compensation and claims by providers for payment for medical services
rendered to injured workers. In the opinion of the Company's management, the
ultimate resolution of pending legal proceedings should not have a material
adverse effect on the Company's financial condition.

11. RELATED PARTY TRANSACTIONS

During 1997, the Company's Board of Directors authorized a $3.0 million line of
credit from the Company to its Chief Executive Officer ("CEO"). In April 2000,
the Company's Board of Directors authorized an additional $2.5 million loan from
the Company to the CEO which, along with accrued interest, is due on June 30,
2002. At the end of 2000, the aggregate principal balance outstanding and
accrued interest for both instruments was $5,416,000. All amounts borrowed bear
interest at a rate equal to the rate at which the Company could have borrowed
funds under the revolving credit facility at the time of the borrowing plus 10
basis points. The amounts outstanding are collateralized by certain of the CEO's
assets and rights to compensation from the Company.

The Company expensed $4,000, $289,000 and $78,000 in the years ended December
31, 2000, 1999 and 1998, respectively, for legal fees to a Nevada law firm of
which a non-employee Board of Director member is a shareholder.

12. EMPLOYEE BENEFIT PLANS

Defined Contribution Plan. The Company has a defined contribution pension and
401(k) plan (the "Plan") for its employees. The Plan covers all employees who
meet certain age and length of service requirements. For the year ended December
31, 1998 and for the six months ended June 30, 1999, the Company contributed a
maximum of 2% of eligible employees' compensation and matched 50% of a
participant's elective deferral up to a maximum of either 10% of an employee's
compensation or the maximum allowable under current IRS regulations. Effective
July 1, 1999, the Plan was modified such that the Company matches 50%-100% of an
employee's elective deferral and the maximum Company match is 6% of a
participant's annual compensation, subject to IRS limits. The Plan does not
require additional Company contributions. Expense under the plan totaled
$4,707,000, $6,736,000 and $4,522,000 for the years ended December 31, 2000,
1999 and 1998, respectively.

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

Executive Life Insurance Plan. The Company has split dollar life insurance
agreements with certain officers and key executives (selected and approved by
the Sierra Board of Directors). The premiums paid by the Company will be
reimbursed upon the occurrence of certain events as specified in the contract.

Supplemental Executive Retirement Plan ("SERP"). The Company has a defined
benefit retirement plan covering certain key employees. The Company is funding
the benefits through the purchase of life insurance policies. Benefits are based
on, among other things, the employee's average earnings over the five-year
period prior to retirement or termination, and length of service. Benefits
attributable to service prior to the adoption of the plan are amortized over the
estimated remaining service period for those employees participating in the
plan. In 1998, the Company expanded the SERP to include more participants. The
effect of adding these participants is included in plan amendments in the
reconciliation below.

A reconciliation of ending year balances is as follows:

Years Ended December 31,
------------------------
2000 1999 1998
-------- -------- ---------
(In thousands)
Change in Benefit Obligation:

Projected Benefit Obligation at Beginning of Period.... $12,808 $14,198 $ 9,515
Service Cost .......................................... 365 365 408
Interest Cost ......................................... 887 829 875
Plan Amendments........................................ 166 1,572
Actuarial (Gains) Losses............................... (340) (2,391) 1,925
Benefits Paid ......................................... (193) (193) (97)
--------- --------- ----------
Benefit Obligation at End of Period.................... 13,693 12,808 14,198
------- ------- -------

Change in Plan Assets:
Fair Value of Plan Assets at Beginning of Period....... 7,295 4,493 1,872
Actual Return on Plan Assets .......................... (445) 123 (58)
Company Contributions ................................. 1,589 2,679 2,679
-------- ------- --------
Fair Value of Plan Assets at End of Period............. 8,439 7,295 4,493
-------- ------- --------

Funded Status of the Plan ............................. (5,254) (5,513) (9,705)
Unrecognized Actuarial Change.......................... (851) (532) 1,858
Unrecognized Prior Service Credit ..................... 7,652 8,412 9,334
Unrecognized Net Loss ................................. 2,326 1,150 748
-------- -------- ---------
Total Recognized ...................................... $ 3,873 $ 3,517 $ 2,235
======== ======= =======

Total Recognized Amounts in the Financial
Statements Consist of:
Accrued Benefit Liability ............................. $ (1,912) $(2,439) $(3,325)
Intangible Asset ...................................... 5,785 5,956 5,560
-------- -------- --------
Total ................................................. $ 3,873 $ 3,517 $ 2,235
======= ======= =======

Assumptions:
Discount Rate ......................................... 7.0% 7.0% 7.0%
Expected Return on Plan Assets ........................ 8.0% 8.0% 8.0%
Rate of Compensation Increase ......................... 3.0% 3.0% 5.0%

Components of Net Periodic Benefit Cost:
Service Cost........................................... $ 365 $ 365 $ 408
Interest Cost ......................................... 887 829 875
Expected Return on Plan Assets......................... (733) (525) (295)
Amortization of Prior Service Credits.................. 925 922 885
Recognized Actuarial (Gain) Loss....................... (20) (1) 68
---------- ---------- ----------
Net Periodic Benefit Cost.............................. $ 1,424 $ 1,590 $ 1,941
======== ======= =======

13. CAPITAL STOCK PLANS

Stockholders' Rights Plan. Each share of Sierra common stock, par value $.005
per share, contains one right (a "Right"). Each Right entitles the registered
holder to purchase from Sierra a unit consisting of one one-hundredth (.001) of
a share of the Sierra Series A Junior Participating Preferred Shares (a "Unit"),
par value $.01 per share, or a combination of securities and assets of
equivalent value, at a purchase price of $100.00 per Unit, subject to
adjustment. The Rights have certain anti-takeover effects. The Rights will cause
substantial dilution to a person or group that attempts to acquire Sierra on
terms not approved by Sierra's Board of Directors, except pursuant to an offer
conditioned on a substantial number of Rights being acquired. The Rights should
not interfere with any merger or other business combination approved by the
Board of Directors since Sierra may redeem the Rights at the price of $.02 per
Right prior to the time that a person or group has acquired beneficial ownership
of 20% or more of Sierra common stock.

Stock Option Plans. The Company has several plans that provide common
stock-based awards to employees and to non-employee directors. The plans provide
for the granting of Options, Stock, and other stock-based awards. Awards are
granted by a committee appointed by the Board of Directors. Options become
exercisable at such times and in such installments as set by the committee. The
exercise price of each option equals the market price of the Company's stock on
the date of grant. Stock options generally vest at a rate of 20% - 25% per year.
Options expire from one to five years after the end of the vesting period.

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

Number of Option Weighted
Shares Price Average Price
(Number of shares in thousands)

Outstanding January 1, 1998 2,655 $ 6.31 - $24.50 $17.53

Granted..................................... 468 16.94 - 24.83 22.49
Exercised................................... (386) 6.31 - 23.33 14.25
Canceled.................................... (7) 7.13 - 24.50 17.01
---------
Outstanding December 31, 1998.................. 2,730 6.31 - 24.83 18.89

Granted..................................... 1,436 6.69 - 21.00 9.44
Exercised................................... (2) 6.31 - 12.08 9.41
Canceled.................................... (260) 11.71 - 24.83 19.65
-------
Outstanding December 31, 1999.................. 3,904 6.31 - 24.69 15.37

Granted..................................... 2,458 3.13 - 7.19 3.87
Exercised...................................
Canceled.................................... (2,112) 3.75 - 24.69 18.17
-------
Outstanding December 31, 2000 ................. 4,250 3.13 - 24.69 7.31
=======

Exercisable at December 31, 2000 .............. 674 $ 6.31 - $24.69 $14.15
========

Available for Grant at
December 31, 2000 .......................... 2,863
=======

The following table summarizes information about stock options outstanding at
December 31, 2000:

(Number of options in thousands)
Weighted Average Weighted Average
Range of Exercise Contractual Life Options Exercise Price
-------------------------------- --------------------------------
Prices Remaining in Days Outstanding Exercisable Outstanding Exercisable

$ 3.13 - $ 7.19 3,353 2,580 47 $ 4.04 $ 6.57
8.00 - 17.58 1,718 1,273 426 9.28 11.20
19.08 - 21.17 1,367 173 89 20.74 20.55
22.17 - 24.69 1,373 224 112 23.27 23.50

Employee Stock Purchase Plans. The Company has employee stock purchase plans
(the "Purchase Plans") whereby employees may purchase newly issued shares of
common stock through payroll deductions at 85% of the fair market value of such
shares on specified dates as defined in the Purchase Plans. During 2000, a total
of 415,000 shares were purchased at prices of $5.68 and $2.71 per share. During
January 2001, 219,000 shares were purchased by employees at $2.92 per share in
connection with the Purchase Plans. In May 2000, the shareholders of the Company
approved an additional 1,250,000 shares and at December 31, 2000 the Company had
1,129,000 shares reserved for purchase under the Purchase Plans.

Accounting for Stock-Based Compensation. The Company uses the intrinsic value
method in accounting for its stock-based compensation plans. Accordingly, no
compensation cost has been recognized for its employee stock option plans nor
the Purchase Plans. Had compensation cost for the Company's stock-based
compensation plans been determined based on the fair value at the grant dates
for awards under those plans, the Company's net income and earnings per share
for the years ended December 31, would have been reduced to the pro forma
amounts indicated below:

2000 1999 1998
---- ---- ----
(In thousands, except per share data)

Net (Loss) Income As reported $(199,915) $(4,631) $39,596
Pro forma (203,293) (9,204) 37,106

Net (Loss) Income Per Share As reported $ (7.37) $ (.17) $ 1.45
Pro forma (7.49) (.34) 1.35

Net (Loss) Income Per Share
Assuming Dilution As reported $ (7.37) $ (.17) $ 1.43
Pro forma (7.49) (.34) 1.34

The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option pricing model with the following weighted average
assumptions used for grants in 2000, 1999 and 1998, respectively: dividend yield
of 0% for all years; expected volatility of 52%, 43% and 37%; risk-free interest
rates of 6.60%, 5.87% and 4.46%; and expected lives of four to five years. The
weighted average fair value of options granted in 2000, 1999 and 1998 was $2.72,
$3.77 and $9.92, respectively.

The fair value of the look-back option implicit in each offering of the Purchase
Plans is estimated on the date of grant using the Black-Scholes option pricing
model with the following weighted average assumptions used for grants in 2000,
1999 and 1998, respectively: dividend yield of 0% for all years; expected
volatility of 46%, 45% and 32%; risk-free interest rates of 5.79%, 4.66% and
5.30%; and expected lives of six months for all years.

During 1999, the Company extended by three years the expiration date for
1,035,000 options covering shares that would have expired in 1999 and 2000. The
exercise price per share for these options ranges from $10.92 to $20.50. No
expense was recognized in the consolidated statement of operations related to
these options. Expense of $1,445,000 is included in the Pro forma information
presented.

Due to the fact that the Company's stock option programs vest over many years
and additional awards are made each year, the above pro forma numbers are not
indicative of the financial impact had the disclosure provisions of Statement of
Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" been applicable to all years of previous option grants. The above
numbers do not include the effect of options granted prior to 1995.

14. CONSOLIDATED STATEMENTS OF CASH FLOWS SUPPLEMENTAL INFORMATION

Supplemental statements of cash flows information for the years ended December
31, 2000, 1999 and 1998 is presented below:

2000 1999 1998
------------ ------------ ------------
(In thousands)
Cash Paid During the Year for Interest

(Net of Amount Capitalized)......................... $28,811 $17,721 $8,737
Cash (Received) Paid During the Year
for Income Taxes.................................... (10,923) (4,590) 15,003

Noncash Investing and Financing Activities:
Liabilities Assumed in Connection with
Corporate Acquisitions............................ 53,461
Stock Issued for Exercise of Options
and Related Tax Benefits.......................... 1 1,284
Additions to Capital Leases......................... 1,835 3,070

Acquisitions. On October 31, 1998, TXHC completed the acquisition of certain
assets of Kaiser Foundation Health Plan of Texas, a health plan operating in
Dallas/Ft. Worth and Permanente Medical Association of Texas, a 150 physician
medical group operating in that area. The purchase price was $124 million, which
was net of $20 million in operating cost support paid to Sierra by Kaiser
Foundation Hospitals in four quarterly installments following the closing of the
transaction. The purchase price allocation included a premium deficiency reserve
of approximately $25 million for estimated losses on the contracts acquired from
Kaiser-Texas.

On December 31, 1998, Sierra completed the acquisition of the Nevada health care
business of Exclusive Healthcare, Inc. ("EHI"), United of Omaha Life Insurance
Company and United World Life Insurance Company ("United"), all of which were
subsidiaries of Mutual of Omaha Insurance Company. Effective June 1, 1999, the
company completed the purchase of the Texas operations of EHI (approximately
1,000 HMO members) and United's related preferred provider organization ("PPO")
that is part of the dual option HMO/PPO plan.

In the first quarter of 1998, the Company purchased three medical clinics in
southern Nevada for approximately $7.3 million.

15. CERTAIN MEDICAL EXPENSES

During 1999, the Company reported a premium deficiency medical charge of $8.1
million related to losses in under-performing markets primarily in Arizona and
rural Nevada, all of which was used during 1999. In the fourth quarter of 1999,
the Company recorded a premium deficiency charge of $10.0 million related to HMO
contracts in the Texas market for the year 2000. Also recorded in medical
expenses during the fourth quarter was $11.2 million primarily related to an
adjustment to the estimate for medical expenses recorded in previous years, and
$6.8 million primarily related to contractual settlements with providers of
medical services.

In the first quarter of 2000, the Company recorded $1.0 million of adverse
development related to prior years' medical claims. Included in reported medical
expenses for the second quarter of 2000 are changes in estimate charges of $29.5
million of reserve strengthening primarily due to adverse development on prior
periods' medical claims, as well as $15.5 million in premium deficiency medical
expense related to under-performing markets in the Dallas/Ft. Worth and Houston
areas. The recorded premium deficiency reflects anticipated cost savings from
restructuring and reorganization actions discussed below. In addition, the
Company recorded $10.2 million of other non-recurring medical costs primarily
relating to the write-down of medical subsidiary assets.

The total premium deficiency medical reserve utilized during the year ended
December 31, 2000 was $20.3 million. Management believes that the remaining
premium deficiency medical reserve of $5.2 million, as of December 31, 2000, is
adequate and that no revision to the estimate is necessary at this time.

16. ASSET IMPAIRMENT, RESTRUCTURING, REORGANIZATION AND OTHER COSTS

Asset Impairments:

In the first quarter of 1999, the Company recorded a charge of $3.5 million
related to the write-off of goodwill associated with the Mohave Valley
operations. During the first quarter of 1999, the Company closed all inpatient
operations at Mohave Valley Hospital, a 12-bed acute care facility in Bullhead
City, Arizona, and terminated approximately 45 employees.

In the first quarter of 2000, the Company engaged a consultant to help it
assess the Texas operations. In late February, the consultant issued its report
and the Company implemented strategic action plans to turn around the Texas
operations. These actions included the replacement of the Texas senior
management, a reduction in staffing along with a consolidation of certain
services to Las Vegas and a revision of product strategy. The new management was
charged with further assessing the Dallas/Ft. Worth health care delivery system.
In May, the Company decided that the delivery system, which emphasized the
Company's affiliated medical group as the primary provider network, would be
replaced by an expanded network of contracted physician groups and individuals.
In addition, the contracted hospital network would be significantly expanded. As
a result, during the second quarter of 2000, the Company adopted and announced a
further restructuring of the Dallas/Ft. Worth operations, which entailed a
significant reduction of physicians and staff and the closing of several clinic
sites. In addition, management decided that the real estate assets would be
sold.

Management also adopted a plan in the second quarter of 2000 to discontinue
medical delivery operations in Mohave County, Arizona and to sell the real
estate assets located there, as well as an underperforming medical clinic in Las
Vegas.

In connection with the restructuring plans adopted and announced by the Company
in the second quarter of 2000, the Company re-evaluated the recoverability of
certain long-lived assets, primarily associated with the Texas operations, in
accordance with SFAS No. 121 and APB No. 17 and determined that the carrying
values of certain goodwill and other long-lived assets were impaired.

In assessing the asset impairment of the long-lived assets, the Company first
allocated a portion of related goodwill to the fixed assets to be disposed of,
in accordance with SFAS No. 121. The fixed assets were then written down to
estimated fair value less costs to sell, which was determined from independent
valuations. The remainder of the related goodwill was then assessed for
recoverability in accordance with APB No. 17 based on projected discounted cash
flows.

The charges recorded for the write-off of goodwill totaled $126.4 million for
the Texas operations and $15.1 million related primarily to the Prime Holdings,
Inc. acquisition.

The charges recorded for fixed asset impairment totaled $36.6 million for the
Texas operations and $9.5 million for the Arizona and Nevada operations.

During the second quarter of 2000, the Company wrote-off capitalized costs of
$3.0 million related to the application development of an information system
software project for the workers' compensation operations, that was canceled
because the vendor was unable to fulfill its contractual obligations. The
amounts written off included software and consulting costs of $1.6 million and
capitalized internal personnel costs of $1.4 million.

Restructuring and Reorganization:

In the first quarter of 1999, the Company incurred $450,000 for certain legal
and contractual settlements and $400,000 to provide for the Company's portion of
the write-off of start-up costs at the Company's equity investee, TriWest
Healthcare Alliance.

In the first quarter of 2000, the Company announced a restructuring of the
managed health care operations in Texas. As a result of this restructuring, the
Company incurred approximately $1.4 million of severance pay for employees who
were terminated. The restructuring involved changes in senior management at the
Texas facilities and the centralization of key services to Las Vegas. Also in
the first quarter of 2000, the Company incurred $1.5 million of costs,
consisting primarily of consulting fees, in conjunction with a review and
reorganization of the managed care operations in Texas.

In the second quarter of 2000, the Company adopted a plan and announced
additional restructuring of the managed health care operations, primarily in
Texas and Arizona. As a result of this restructuring, the Company recorded
charges in accordance with Emerging Issues Task Force Issue No. 94-3, "Liability
Recognition for Certain Employee Termination Benefits and Other Costs to Exit an
Activity (Including Certain Costs Incurred in a Restructuring)" of approximately
$10.6 million. Of the costs recorded, $5.9 million was for severance, $2.9
million was related to clinic closures and lease termination and $1.8 million
was for other costs. The severance charge resulted from the termination of 315
employees at the Company's subsidiaries and affiliated medical groups.

As compared to the quarter ended June 30, 2000, the restructuring and
reorganization activities resulted in cash flow savings of approximately $2.0 to
$3.0 million per quarter beginning in the fourth quarter of 2000.

Premium Deficiency Maintenance:

Based on the Company's Texas operations financial projections for 2000, the
Company recorded a $21.0 million premium deficiency at the end of 1999. Of this
amount, $10.0 million was recorded in medical expenses and $11.0 million was
recorded in asset impairment, restructuring, reorganization and other costs. The
$11.0 million was an estimate of general and administrative costs, in excess of
those covered by premiums, the Company expected to be incurred to service the
Dallas/Ft. Worth contracts.

The premium deficiency medical costs of $10.4 million, recorded in the second
quarter of 2000, was an estimate of general and administrative costs, in excess
of those covered by premiums, the Company would incur to service the Texas
contracts. The amount reflects anticipated cost reductions from the
restructuring and reorganization actions noted above.

Other:

During the fourth quarter of 1998, the Company incurred settlement expenses
totaling $8 million related to the settlement of a competitor's protest for the
Region 1 TRICARE contract. Also during the fourth quarter of 1998, the Company
incurred integration, transition and other charges totaling $3.1 million related
primarily to the acquisition of the Texas operations of Kaiser Foundation Health
Plan of Texas. In addition, the Company incurred certain legal expenses totaling
$2.7 million, resulting primarily from the TRICARE settlement and acquisition
and integration activity.

The $3.4 million of charges in the fourth quarter of 1999 consisted primarily of
legal and contractual settlements.

The remaining $6.1 million of costs recorded in the second quarter of 2000
relate primarily to the write-down of certain receivables as well as an accrual
for legal settlements.

The table below presents a summary of asset impairment, restructuring,
reorganization and other costs for the years indicated.

Restructuring Premium
Asset and Deficiency
(In thousands) Impairment Reorganization Maintenance Other Total
---------- -------------- ----------- ----- -----

Balance, January 1, 1998

Charges recorded................... $ 0 $ 0 $ 0 $ 13,851 $ 13,851
Cash used.......................... (11,032) (11,032)
Noncash activity................... -
Changes in estimate................ _____ -
Balance, December 31, 1998......... 2,819 2,819

Charges recorded................... 3,509 850 11,000 3,449 18,808
Cash used.......................... (850) (2,819) (3,669)
Noncash activity................... (3,509) (3,509)
Changes in estimate................ _______ _____ _______ ______ -
Balance, December 31, 1999......... 11,000 3,449 14,449

Charges recorded................... 190,490 13,492 10,358 6,100 220,440
Cash used.......................... (9,143) (12,080) (502) (21,725)
Noncash activity................... (190,490) (3,800) (194,290)
Changes in estimate................ ________ ______ ______ ______ -
Balance, December 31, 2000.........$ - $ 4,349 $ 9,278 $ 5,247 $ 18,874
================ ======== ======== ======== ==========

The remaining restructuring and reorganization costs of $4.3 million are
primarily related to the cost to provide malpractice insurance on our
discontinued affiliated medical groups, clinic closures and lease terminations
in Houston and Arizona. The remaining other costs of $5.2 million are primarily
related to legal claims. Management believes that the remaining reserves as of
December 31, 2000 are adequate and that no revisions to the estimates are
necessary at this time.

17. UNAUDITED QUARTERLY INFORMATION
(In thousands, except per share data)

March June September December
31 30 30 31
--------------- --------------- --------------- ---------------
Year Ended December 31, 2000:

Operating Revenues.................................... $327,176 $337,054 $377,482 $351,266
Operating Income (Loss)............................... 7,928 (279,145) 10,029 10,678
Income (Loss) Before Income Taxes .................... 2,340 (284,294) 3,938 3,876
Net Income (Loss)..................................... 1,556 (206,717) 2,669 2,577
Earnings (Loss) Per Share............................. .06 (7.64) .10 .09
Earnings (Loss) Per Share Assuming Dilution........... .06 (7.64) .10 .09

Year Ended December 31, 1999:
Operating Revenues.................................... $318,074 $315,818 $322,570 $327,349
Operating Income (Loss)............................... 2,989 16,972 17,436 (32,983)
(Loss) Income Before Income Taxes .................... (1,060) 12,846 13,267 (35,619)
Net (Loss) Income..................................... (706) 8,556 8,863 (21,344)
(Loss) Earnings Per Share............................. (.03) .32 .33 (.79)
(Loss) Earnings Per Share Assuming Dilution........... (.03) .32 .33 (.79)

18. SEGMENT REPORTING

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

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

Information concerning the operations of the reportable segments is as follows:
(In thousands)

Managed Care Military Workers'
and Corporate Health Services Compensation
Operations Operations Operations Total
---------- ---------- ---------- -----
Year Ended December 31, 2000

Medical Premiums.............................. $869,875 $ $ $ 869,875
Military Contract Revenues.................... $330,352 330,352
Specialty Product Revenues.................... 8,822 $127,022 135,844
Professional Fees............................. 35,607 35,607
Investment and Other Revenues................. 5,878 905 14,517 21,300
----------- ------------ ---------- -------------
Total Revenue.............................. $920,182 $331,257 $141,539 $1,392,978
======== ======== ======== ==========

Segment Operating Profit (1).................. $ 23,200 $ 7,992 $ 18,328 $ 49,520
Interest Expense and Other.................... (20,445) (611) (2,574) (23,630)
Changes in Estimate Charges (2)............... (56,297) (23,293) (79,590)
Asset Impairment, Restructuring,
Reorganization and Other Costs........... (217,440) (3,000) (220,440)
---------- --------------- ----------- ------------
Net (Loss) Income Before Income Taxes......... $(270,982) $ 7,381 $ (10,539) $ (274,140)
========= ========== ========= ===========

Segment Assets................................ $515,978 $115,520 $533,602 $1,165,100
Capital Expenditures.......................... 17,807 717 839 19,363
Depreciation and Amortization................. 25,451 2,926 1,538 29,915

Year Ended December 31, 1999
Medical Premiums.............................. $827,779 $ 827,779
Military Contract Revenues.................... $287,398 287,398
Specialty Product Revenues.................... 9,869 $ 84,352 94,221
Professional Fees............................. 51,842 51,842
Investment and Other Revenues................. 6,445 706 15,420 22,571
----------- ------------ ---------- --------------
Total Revenue.............................. $895,935 $288,104 $ 99,772 $1,283,811
======== ======== ========= ==========

Segment Operating Profit (1).................. $ 36,538 $ 11,612 $ 21,091 $ 69,241
Interest Expense and Other.................... (10,814) (910) (3,256) (14,980)
Changes in Estimate Charges (2)............... (36,099) (9,920) (46,019)
Asset Impairment, Restructuring,
Reorganization and Other Costs........... (18,808) (18,808)
--------- -------------- -------------- -------------
Net (Loss) Income Before Income Taxes......... $ (29,183) $ 10,702 $ 7,915 $ (10,566)
========= ========= ========== ============

Segment Operating Assets...................... $650,505 $ 76,187 $403,420 $1,130,112
Capital Expenditures.......................... 53,741 570 4,201 58,512
Depreciation and Amortization................. 23,891 2,758 1,430 28,079

Year Ended December 31, 1998
Medical Premiums.............................. $609,404 $ 609,404
Military Contract Revenues.................... $204,838 204,838
Specialty Product Revenues.................... 12,843 $135,525 148,368
Professional Fees............................. 45,363 45,363
Investment and Other Revenues................. 8,581 407 20,242 29,230
----------- ------------ ---------- -------------
Total Revenue.............................. $676,191 $205,245 $155,767 $1,037,203
======== ======== ======== ==========

Segment Operating Profit (1).................. $ 43,314 $ 8,620 $ 12,847 $ 64,781
Interest Expense and Other.................... (2,610) (573) (3,998) (7,181)
Changes in Estimate Charges (2)............... 9,643 9,643
Asset Impairment, Restructuring, Reorganization
and Other Costs............................ (4,869) (8,982)
----------- ----------- ---------------
(13,851)
Net Income (Loss) Before Income Taxes......... $ 35,835 $ ( 935) $ 18,492 $ 53,392
========= =========== ========== ============

Segment Assets................................ $593,332 $ 73,877 $377,911 $1,045,120
Capital Expenditures.......................... 32,520 5,015 3,208 40,743
Depreciation and Amortization................. 15,545 2,167 1,551 19,263

(1) The segment operating profit excludes the effects of changes in estimate
charges.
(2) Represents changes in estimate charges in the current year for services or
liabilities of a prior year that are reclassified to either Medical
Expenses or Specialty Product Expenses for presentation in accordance with
accounting principles generally accepted in the United States of America.

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

None.

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The information set forth under the caption "Election of Directors" in Sierra's
Proxy Statement for its 2001 Annual Meeting of Stockholders, is incorporated
herein by reference.

ITEM 11. EXECUTIVE COMPENSATION

The information set forth under the caption "Compensation of Executive Officers"
in Sierra's Proxy Statement for its 2001 Annual Meeting of Stockholders, is
incorporated herein by reference.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

The information set forth under the caption "Security Ownership of Certain
Beneficial Owners and Management" in Sierra's Proxy Statement for its 2001
Annual Meeting of Stockholders, is incorporated herein by reference.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The information set forth under the caption "Certain Relationships and Related
Transactions" in Sierra's Proxy Statement for its 2001 Annual Meeting of
Stockholders, is incorporated herein by reference.

PART IV

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

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

Page
----

Report of Independent Auditors...........................................................40
Consolidated Balance Sheets at December 31, 2000 and 1999................................ 41
Consolidated Statements of Operations for the Years Ended
December 31, 2000, 1999 and 1998...................................................... 42
Consolidated Statements of Stockholders' Equity
for the Years Ended December 31, 2000, 1999 and 1998.................................. 43
Consolidated Statements of Cash Flows for the Years Ended
December 31, 2000, 1999 and 1998...................................................... 44
Notes to Consolidated Financial Statements............................................... 45

(a)(2) Financial Statement Schedules:

Schedule I - Condensed Financial Information of Registrant................... S-1

Schedule V - Supplemental Information Concerning
Property-Casualty Insurance .................................. S-4
Other Information:

Section 403.04 b - Exhibit of Redundancies (Deficiencies) ......................... S-5

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

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

(3.1) Articles of Incorporation, together with amendments thereto to
date, incorporated by reference to the Registrant's Annual
Report on Form 10-K for the fiscal year ended December 31,
1990.

(3.2) Certificate of Division of Shares into Smaller Denominations
of the Registrant, incorporated by reference to Exhibit 3.3 to
the Registrant's Annual Report on Form 10-K for the fiscal
year ended December 31, 1992.

(3.3) Amended and Restated Bylaws of the Registrant, as amended
through March 1, 2000.

(4.1) Rights Agreement, dated as of June 14, 1994, between the
Registrant and Continental Stock Transfer & Trust Company,
incorporated by reference to Exhibit 3.4 to the
Registrant's Registration Statement on Form S-3
effective October 11, 1994 (Reg. No. 33-83664).

(4.2) Specimen Common Stock Certificate, incorporated by
reference to Exhibit 4(e) to the Registrant's
Registration Statement on Form S-8 as filed and effective on
August 5, 1994 (Reg. No. 33-82474).

(4.3) Form of Indenture of 7 1/2% convertible subordinated
debentures due 2001 from CII Financial, Inc. to
Manufacturers Hanover Trust Company as Trustee dated
September 15, 1991, incorporated by reference to Exhibit
4.2 of Post-Effective Amendment No. 1 on Form S-3 to
Registration Statement on Form S-4 dated October 6, 1995
(Reg. No. 33-60591).

(4.4) First Supplemental Indenture between CII Financial, Inc.,
Sierra Health Services, Inc. and Chemical Bank as Trustee,
dated as of October 31, 1995, to Indenture dated September
15, 1991, incorporated by reference to Exhibit 4.3 of
Post-Effective Amendment No. 2 on Form S-3 to Registration
Statement on form S-4 dated October 31, 1995 (Reg. No.
33-60591).

(10.1) Administrative Services agreement between Health Plan of
Nevada, Inc. and the Registrant dated December 1, 1987,
incorporated by reference to Exhibit 10.17 to Registrant's
Annual Report on Form 10-K for the fiscal year ended December
31, 1991.

(10.2) Administrative Services agreement between Sierra Health and
Life Insurance Company, Inc. and the Registrant dated April 1,
1989, incorporated by reference to Exhibit 10.18 to
Registrant's Annual Report on Form 10-K for the fiscal year
ended December 31, 1991.

(10.3) Agreement between Health Plan of Nevada, Inc. and the United
States Health Care Financing Administration dated July 24,
1992, incorporated by reference to Exhibit 10.18 to the
Registrant's Annual Report on Form 10-K filed for the fiscal
year ended December 31, 1992.

(10.4) Amended and Restated Credit Agreement dated as of December 15,
2000, among Sierra Health Services, Inc. as Borrower, Bank of
America National Trust and Savings Association as
Administrative Agent and Issuing Bank, First Union National
Bank as Syndication Agent, and the Other Financial
Institutions Party Thereto, incorporated by reference to
Exhibit 1 to the Registrant's Current Report on Form 8-K filed
December 22, 2000.

(10.5) Compensatory Plans, Contracts and Arrangements.

(1) Employment Agreement with Jonathon W. Bunker dated
November 16, 2000.

(2) Employment Agreement with Frank E. Collins dated
November 16, 2000.

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

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

(5) Employment Agreement with Anthony M. Marlon, M.D. dated
November 16, 2000.

(6) Employment Agreement with Erin E. MacDonald dated
November 16, 2000.

(7) Employment Agreement with Michael A. Montalvo dated
November 16, 2000.

(8) Employment Agreement with Marie H. Soldo dated
November 16, 2000.

(9) Employment Agreement with Paul H. Palmer dated
November 16, 2000.

(10) Form of Split Dollar Life Insurance Agreement
effective as of August 25, 1998, by and between
Sierra Health Services, Inc., and Jonathon W. Bunker,
Ria Marie Carlson, Frank E. Collins, William R.
Godfrey, Laurence S. Howard, Erin E. MacDonald,
Anthony M. Marlon, M.D., Kathleen M. Marlon, Michael
A. Montalvo, John A. Nanson, M.D., Paul H. Palmer and
Marie H. Soldo.

(11) Sierra Health Services, Inc. Deferred Compensation Plan effective
May 1, 1996 as Amended and Restated Effective January
1, 2001.

(12) Sierra Health Services, Inc. Supplemental Executive
Retirement Plan effective July 1, 1997, as Amended and
Restated January 1, 2001.

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

(14) The Registrant's Second Amended and Restated 1986 Stock
Option Plan as amended to date, incorporated by
reference to Exhibit 10.24 to the Registrant's Annual
Report on Form 10-K for the fiscal year ended December
31, 1992.

(15) The Registrant's Second Restated Capital Accumulation
Plan, as amended to date, incorporated by reference to
Exhibit 10.24 to the Registrant's Annual Report on Form
10-K for the fiscal year ended December 31, 1992.

(16) Sierra Health Services, Inc. Management Incentive
Compensation Plan incorporated by reference to Exhibit
10.8 to the Registrant's Annual Report on Form 10-K for
the fiscal year ended December 31, 1999.

(17) Sierra Health Services, Inc. 1995 Long-Term Incentive
Plan, as amended and restated through June 13, 2000,
incorporated by reference to Exhibit 10.6 to the
Registrant's Quarterly Report on Form 10-Q for the
fiscal quarter ended September 30, 2000.

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

(10.6) Agreement and Plan of Merger dated as of June 12, 1995 among
the Registrant, Health Acquisition Corp., and CII
Financial, Inc., incorporated by reference to the Report on
Form 8-K dated June 13, 1995, as amended.

(10.7) Loan Agreement dated August 11, 1997 between the Company and
Anthony M. Marlon for a revolving credit facility in the
maximum aggregate amount of $3,000,000, incorporated by
reference to the Registrant's Quarterly Report on Form 10-Q
for the fiscal quarter ended September 30, 1997.

(10.8) Amendment No. 1 to Loan Agreement dated August 11, 1997 between the
Company and Anthony M. Marlon for a revolving credit facility in the
maximum aggregate amount of $3,000,000.

(10.9) Amendment No. 2 to Loan Agreement dated August 11, 1997 between the
Company and Anthony M. Marlon for a revolving credit facility in the
maximum aggregate amount of $3,000,000.

(10.10) Loan Agreement dated April 10, 2000 between the Company and
Anthony M. Marlon for a term loan of $2,500,000, incorporated
by reference to Exhibit 10.1 to the Registrant's Quarterly
Report on Form 10-Q for the fiscal quarter ended June 30,
2000.

(10.11) Collateral Assignment of Rights dated April 10, 2000 between
the Company and Anthony M. Marlon, incorporated by reference
to Exhibit 10.2 to the Registrant's Quarterly Report on Form
10-Q for the fiscal quarter ended June 30, 2000.

(10.12) Master Purchase and Sale Agreement between Kaiser Foundation
Health Plan of Texas (as Seller) and HMO Texas, L.C. (as
Buyer), dated June 5, 1998, incorporated by reference to
Exhibit 10.1 to the Registrant's Quarterly Report on Form 10-Q
for the fiscal quarter ended June 30, 1998.*

(10.13) Asset Sale and Purchase Agreement between Permanente Medical
Association of Texas, a Texas Professional Association and HMO
Texas, L.C., a Texas Limited Liability Company, dated June 5,
1998, incorporated by reference to Exhibit 10.3 to the
Registrant's Quarterly Report on Form 10-Q for the fiscal
quarter ended June 30, 1998.*

(10.14) Asset Sale and Purchase Agreement between Permanente Medical
Association of Texas, Amendment No. 2 to Asset Sale and
Purchase Agreement between Kaiser Foundation Health Plan
of Texas and Texas Health Choice, L.C. (formerly HMO
Texas, L.C.), incorporated by reference to Exhibit 10.13
to the Registrant's Annual Report on Form 10-K for the fiscal
year ended December 31, 1998.

(10.15) Amendment No. 2 to Asset Sale and Purchase Agreement between
Kaiser Foundation Health Plan of Texas and Texas Health
Choice, L.C. (formerly HMO Texas, L.C.), incorporated by
reference to Exhibit 10.13 to the Registrant's Annual Report
on Form 10-K for the fiscal year ended December 31, 1998.

(10.16) Purchase and Sale Agreement dated December 1, 2000 between
Sierra Health Services, Inc., Health Plan of Nevada, Inc.,
Sierra Health and Life Insurance Company, Inc., 2716 North
Tenaya Way Limited Partnership and CB Richard Ellis Corporate
Partners, LLC and amendments one through seven thereof.

(10.17) Purchase and Sale Agreement dated December 1, 2000 between
Sierra Health Services, Inc., Southwest Medical Associates,
Inc., Health Plan of Nevada, Inc., 2314 West Charleston
Partnership and CB Richard Ellis Corporate Partners, LLC and
amendments one through seven thereof.

(21) Subsidiaries of the Registrant (listed herein):

There is no parent of the Registrant. The following is a
listing of the active subsidiaries of the Registrant:

Jurisdiction of
Incorporation
-------------
Sierra Health and Life Insurance
Company, Inc. California
Health Plan of Nevada, Inc. Nevada
Sierra Health-Care Options, Inc. Nevada
Behavioral Healthcare Options, Inc. Nevada
Family Health Care Services Nevada
Family Home Hospice, Inc. Nevada
Southwest Medical Associates, Inc. Nevada
Sierra Medical Management, Inc.
and Subsidiaries Nevada
Southwest Realty, Inc. Nevada
Sierra Health Holdings, Inc.
(Texas Health Choice, L.C.) Nevada (Texas)
Sierra Texas Systems, Inc. Texas
CII Financial, Inc.,
and Subsidiaries California
Northern Nevada Health Network, Inc. Nevada
Intermed, Inc. Arizona
Prime Holdings, Inc.
and Subsidiaries Nevada
Sierra Military Health Services, Inc. Delaware
Sierra Home Medical Products, Inc. Nevada
Nevada Administrators, Inc. Nevada
Med One Health Plan, Inc. Nevada

(23.1) Consent of Deloitte & Touche LLP

(99) Registrant's current report on Form 8-K filed March 20, 2001,
incorporated herein.

All other Exhibits are omitted because they are not applicable.

(b) Reports on Form 8-K

Current Report on Form 8-K, filed December 22, 2000, with the
Securities and Exchange Commission in connection with the Company's
Amended and Restated Credit Agreement.

Current Report on Form 8-K, filed January 5, 2001, with the
Securities and Exchange Commission in connection with the Company's
sale and leaseback transaction.

(d) Financial Statement Schedules

The Exhibits set forth in Item 14 (a)(2) are filed herewith.

*The agreements contain certain schedules and exhibits which were not included
in this filing. The Company will furnish supplementally a copy of any omitted
schedule or exhibit to the Commission upon request.

SIGNATURES

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

SIERRA HEALTH SERVICES, INC.

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

Date: March 27, 2001

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

Signature Title Date

/s/ Anthony M. Marlon, M.D. Chief Executive Officer March 27, 2001
- -----------------------------
Anthony M. Marlon, M.D. and Chairman of the Board
(Chief Executive Officer)

/s/ Paul H. Palmer Vice President of Finance, March 27, 2001
- --------------------------------
Paul H. Palmer Chief Financial Officer,
and Treasurer
(Chief Accounting Officer)

/s/ Charles L. Ruthe Director March 27, 2001
- -------------------------------
Charles L. Ruthe

/s/ William J. Raggio Director March 27, 2001
- -------------------------------
William J. Raggio

/s/ Thomas Y. Hartley Director March 27, 2001
- -----------------------------
Thomas Y. Hartley

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

December 31,
2000 1999
---------------- ---------------
CURRENT ASSETS:

Cash and Cash Equivalents .......................................... $ 15,230 $ 194
Short-term Investments.............................................. 358 1,149
Current Portion of Deferred Tax Asset............................... 25,803 22,684
Prepaid Expenses and Other Current Assets........................... 8,672 9,922
---------- ----------
Total Current Assets.......................................... 50,063 33,949

PROPERTY AND EQUIPMENT - NET ............................................ 134,394 71,121
EQUITY IN NET ASSETS OF SUBSIDIARIES .................................... 117,964 341,994
NOTES RECEIVABLE FROM SUBSIDIARIES ...................................... 9,435 9,517
GOODWILL ..............................................................2,259 2,188
DEFERRED TAX ASSET....................................................... 63,829 19,696
OTHER ................................................................... 29,126 30,575
--------- ----------

TOTAL ASSETS ............................................................ $407,070 $509,040
======== ========

CURRENT LIABILITIES:
Accounts Payable and Other Accrued Liabilities ..................... $ 30,864 $ 41,212
Current Portion of Long-term Debt .................................. 43,113 393
--------- -----------
Total Current Liabilities .................................... 73,977 41,605

LONG-TERM DEBT (Less Current Portion).................................... 229,804 160,000
OTHER LIABILITIES ....................................................... 12,816 29,023
--------- ----------
TOTAL LIABILITIES ....................................................... 316,597 230,628
-------- ---------

STOCKHOLDERS' EQUITY:
Capital Stock ...................................................... 144 142
Additional Paid-in Capital ......................................... 177,493 175,915
Treasury Stock ..................................................... (22,789) (22,789)
Accumulated Other Comprehensive Income ............................. (5,667) (16,063)
(Accumulated Deficit) Retained Earnings ............................ (58,708) 141,207
--------- ---------
Total Stockholders' Equity ................................... 90,473 278,412
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY............................... $407,070 $509,040
======== ========

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

Year Ending December 31,

2001........................................................... $ 43,113
2002............................................................. 12,546
2003............................................................. 118,606
2004.............................................................
2005.............................................................
Thereafter....................................................... 98,652
----------
Total...................................................... $272,917
========

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

Year Ended December 31,
----------------------------------------------
2000 1999 1998
---------------- -----------------------------
OPERATING REVENUES:

Management Fees........................................ $ 61,101 $52,109 $52,773
Subsidiary Dividends....................................... 5,137 9,700 4,085
Investment and Other Income................................ 7,320 4,600 5,564
--------- --------- --------
Total Operating Revenues................................... 73,558 66,409 62,422
-------- -------- -------

GENERAL AND ADMINISTRATIVE EXPENSES:
Depreciation.......................................... 10,650 6,311 5,329
Other................................................. 39,746 43,789 34,715
Asset Impairment, Restructuring,
Reorganization and Other Costs................... 8,455 14,552 4,569
------- -------- -------
Total General and Administrative........................... 58,851 64,652 44,613

INTEREST EXPENSE AND OTHER, NET............................ (16,117) (12,741) (2,566)

EQUITY IN UNDISTRIBUTED
(LOSS) EARNINGS OF SUBSIDIARIES....................... (260,382) (10,461) 28,364
--------- --------- -------

(LOSS) INCOME BEFORE INCOME TAXES.......................... (261,792) (21,445) 43,607

BENEFIT (PROVISION) FOR
INCOME TAXES......................................... 61,877 16,814 (4,011)
--------- -------- ---------

NET (LOSS) INCOME.......................................... $(199,915) $ (4,631) $39,596
========= ======== =======

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

Year Ended December 31,
-------------------------------------------------
2000 1999 1998
-------------- -------------- -------------
CASH FLOWS FROM OPERATING ACTIVITIES:

Net (Loss) Income.................................................... $(199,915) $(4,631) $39,596
Adjustments to Reconcile Net (Loss) Income to Net Cash
Provided by (Used for) Operating Activities:
Depreciation and Amortization.................................... 10,755 6,398 5,416
Provision for Property Impairment ............................... 3,604
Equity in Undistributed Earnings (Loss) of Subsidiaries.......... 260,382 10,461 (28,364)
Change in Assets and Liabilities..................................... (71,138) (14,505) 8,021
---------- -------- ---------
Net Cash Provided by (Used for) Operating Activities...... 3,688 (2,277) 24,669
----------- --------- --------

CASH FLOWS FROM INVESTING ACTIVITIES:
Capital Expenditures ................................................ (5,527) (31,804) (22,294)
Property and Equipment Dispositions.................................. 9,920
Decrease (Increase) in Investments................................... 836 2,655 (1,492)
Dividends from Subsidiaries................................................ 5,137 9,700 4,085
Acquisitions, Net of Cash Acquired ........................................ (3,000) (7,500)
Dispositions, Net of Cash Disposed .................................. 1,373
Increase in Net Assets in Subsidiaries............................... (69,800) (7,080) (125,488)
--------- -------- --------
Net Cash Used for Investing Activities .......................... (59,434) (29,529) (151,316)
--------- ------- --------

CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from Long-term Borrowing ................................... 91,520 79,000 166,000
Reductions in Long-term Obligations and
Payments on Capital Leases....................................... (22,400) (49,469) (45,424)
Proceeds from Note Receivable to Subsidiaries.............................. 82 160 67
Purchase of Treasury Stock .......................................... (7,968) (9,220)
Exercise of Stock in Connection with Stock Plans..................... 1,580 2,332 8,054
---------- ------- ----------
Net Cash Provided by Financing Activities.................................. 70,782 24,055 119,477
--------- ------ --------

Net Increase (Decrease) in Cash and Cash Equivalents....................... 15,036 (7,751) (7,170)
Cash and Cash Equivalents at Beginning of Year............................. 194 7,945 15,115
----------- -------- --------
Cash and Cash Equivalents at End of Year................................... $ 15,230 $ 194 $7,945
======== ======== ======

Supplemental condensed statements of cash flows information:

Cash Paid During the Year for Interest
(Net of Amount Capitalized).......................................... $21,734 $ 11,210 $ 2,030
Cash (Received) Paid During the Year for Income Taxes...................... (11,286) (4,702) 14,788

Noncash Investing and Financing Activities:
Stock Issued for Exercise of Options
and Related Tax Benefits......................................... 1 1,284
Liabilities Assumed in Connection
with Corporate Acquisition....................................... 1,233

Addition to capital leases........................................... 1,835

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

Gross
Reserves
Deferred for Unpaid
Policy Claims and Discount if any Gross Net
Acquisition Adjustment Deducted in Unearned Earned Investment
Affiliation With Registrant Costs Expenses Column C Premiums Premiums Income
Column A Column B Column C Column D Column E Column F Column G
- -------- -------- -------- -------- -------- -------- --------

Consolidated Property and
Casualty Entities of CII
Financial, Inc. for
Years Ended:

December 31, 2000 ... $ 2,015 $374,554 $ 0 $ 13,493 $203,075 $ 15,074
December 31, 1999 ... 2,378 244,394 0 13,300 146,682 15,776
December 31, 1998 ... 1,804 212,263 0 11,158 154,104 18,241

Claims & Claim
Adjustment
Expenses Incurred Amortization
Related to of Deferred Paid Claims
--------------------- Policy and Claims Direct
(1) (2) Acquisition Adjustment Premiums
Current Prior Year Costs Expenses Written
Column A Year Column H Column I Column J Column K
- -------- ---- -------- -------- -------- --------

Consolidated Property and
Casualty Entities of CII
Financial, Inc. for
Years Ended:

December 31, 2000 ... $ 86,587 $ 23,293 $ 21,386 $ 88,388 $203,268
December 31, 1999 ... 51,541 9,920 11,260 101,623 148,824
December 31, 1998 ... 103,990 (9,643) 24,783 101,523 153,914

S-5

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

Year ended December 31
- --------------------------------------------------------------------------------

2000 1999 1998 1997 1996 1995
-------- -------- -------- -------- -------- --------
Losses and LAE
Reserve......... $374,554 $244,394 $212,264 $202,699 $187,776 $182,318
Less Reinsurance
Recoverables (1) 218,757 110,089 37,797 21,056 15,676 25,871
------- -------- -------- -------- -------- --------

Net Loss and LAE
Reserves ....... 155,797 134,305 174,467 181,643 172,100 156,447

Net Reserve
Re-estimated as of:
1 Year Later ... 157,598 184,386 172,000 163,130 141,163
2 Years Later .. 204,029 173,596 146,987 132,193
3 Years Later .. 186,794 140,563 113,766
4 Years Later .. 146,266 102,652
5 Years Later .. 104,249
6 Years Later ..
7 Years Later ..
8 Years Later ..
9 Years Later ..
10 Years Later..

Cumulative Redundancy
(Deficiency) ... (23,293) (29,563) (5,151) 25,834 52,198

Cumulative Net Paid
as of:
1 Year Later ... 61,522 80,416 71,933 56,977 45,731
2 Years Later .. 124,191 117,794 91,765 70,854
3 Years Later .. 143,369 113,054 83,674
4 Years Later .. 125,024 91,115
5 Years Later .. 95,609
6 Years Later ..
7 Years Later ..
8 Years Later ..
9 Years Later ..
10 Years Later..

Net Reserve......... 155,797 134,305 174,467 181,643 172,100 156,447
Reins. Recoverables. 218,757 110,089 37,797 21,056 15,676 25,871
------- -------- ---------- -------- -------- --------
Gross Reserve ...... $374,554 244,394 212,264 202,699 187,776 182,318
======== ------- ------- ------- ------- -------

Net Re-estimated
Reserve .......... 157,598 204,029 186,794 146,266 104,249
Re-estimated Reins.
Recoverables ... 146,890 49,260 22,910 16,847 26,989
---------- -------- ------- ------- -------
Gross Re-estimated
Reserve ........ 304,488 253,289 209,704 163,113 131,238
--------- -------- ------- ------- -------
Gross Cumulative
Redundancy
(Deficiency).. $(60,094) $ (41,025) $ (7,005) $24,663 $ 51,080
======== ========== ========= ======= ========

1994 1993 1992 1991 1990
-------- -------- -------- --------- ---------
Losses and LAE
Reserve......... $190,962 $200,356 $178,460 $112,749 $67,593
Less Reinsurance 29,342 25,841 20,207
Recoverables (1) -------- -------- --------

Net Loss and LAE
Reserves ....... 161,620 174,515 158,253

Net Reserve
Re-estimated as of: 139,741 160,562 154,388 140,815 83,841
1 Year Later ... 125,279 141,100 147,167 142,447 96,011
2 Years Later .. 117,792 126,483 134,747 143,433 97,142
3 Years Later .. 102,955 122,517 132,193 137,143 97,942
4 Years Later .. 95,997 114,443 131,112 135,249 94,852
5 Years Later .. 95,954 112,284 127,258 135,299 93,561
6 Years Later .. 111,883 125,936 133,729 93,672
7 Years Later .. 125,907 132,696 92,851
8 Years Later .. 132,836 92,104
9 Years Later .. 92,120
10 Years Later..

Cumulative Redundancy 65,666 62,632 32,346 (20,087) (24,527)
(Deficiency) ...

Cumulative Net Paid
as of: 44,519 50,210 50,360 57,611 39,118
1 Year Later ... 68,619 79,788 84,465 89,177 65,165
2 Years Later .. 80,645 94,865 104,569 108,849 76,988
3 Years Later .. 86,381 102,395 114,293 120,539 83,822
4 Years Later .. 89,601 106,012 119,462 126,100 87,618
5 Years Later .. 91,676 107,850 122,000 129,060 89,607
6 Years Later .. 109,201 123,291 130,649 90,721
7 Years Later .. 124,220 131,346 91,354
8 Years Later .. 131,898 91,598
9 Years Later .. 91,786
10 Years Later..

Net Reserve......... 161,620 174,515
Reins. Recoverables. 29,342 25,841
-------- --------
Gross Reserve ...... 190,962 200,356
------- -------

Net Re-estimated
Reserve .......... 95,954 111,883
Re-estimated Reins.
Recoverables ... 30,037 26,092
------- -------
Gross Re-estimated
Reserve ........ 125,991 137,975
-------- -------
Gross Cumulative
Redundancy
(Deficiency).. $ 64,971 $ 62,381
======== ========

(1) Amounts reflect reinsurance recoverable under prospective
reinsurance contracts only. The Company adopted Financial
Accounting Standards Board Statement No. 113 ("FAS 113"),
"Accounting and Reporting for Short-Duration and Long-Duration
Reinsurance Contracts" for the year ended December 31, 1992. As
permitted, prior financial statements have not been restated.
Reinsurance recoverables on unpaid losses and LAE are shown as
an asset on the balance sheets at December 31, 2000 and 1999.
However, for purposes of the reconciliation and development
tables, loss and LAE information are shown net of reinsurance.