MED DIVERSIFIED INC - 10-K Annual Report

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U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

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FORM 10-K

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

FOR THE FISCAL YEAR ENDED: MARCH 31, 2002

COMMISSION FILE NUMBER: 1-15587

MED DIVERSIFIED, INC.

NEVADA 84-1037630
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)

200 BRICKSTONE SQUARE, SUITE 403, ANDOVER, MA 01810
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, INCLUDING ZIP CODE)

(978) 323-2500
(ISSUER'S TELEPHONE NUMBER)

SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE.

COMMON STOCK, $.001 PAR VALUE

SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: NONE

Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 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 / /

Check if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained in this form, and no disclosure will 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. / /

As of September 30, 2002, 148,661,526 shares of the Registrant's common
stock were outstanding, and the aggregate market value of the shares held by
non-affiliates was approximately $16,043,844.

DOCUMENTS INCORPORATED BY REFERENCE: NONE.

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IN ADDITION TO THE HISTORICAL INFORMATION CONTAINED HEREIN, CERTAIN MATTERS
DISCUSSED IN THIS ANNUAL REPORT MAY CONSTITUTE FORWARD LOOKING STATEMENTS UNDER
SECTION 27A OF THE SECURITIES ACT OF 1933, AS AMENDED, AND SECTION 21E OF THE
SECURITIES EXCHANGE ACT OF 1934, AS AMENDED. THESE STATEMENTS MAY INVOLVE RISKS
AND UNCERTAINTIES. THESE FORWARD LOOKING STATEMENTS RELATE TO AMONG OTHER
THINGS, OUR DEVELOPMENT EFFORTS AND BUSINESS PROSPECTS, PERCEIVED OPPORTUNITIES
IN THE MARKETPLACE, DELIVERY OF OUR PRODUCTS AND SERVICES, OUR BUSINESS
STRATEGY, AND OUR BUSINESS PLAN GENERALLY. THE ACTUAL OUTCOMES OF THESE MATTERS
MAY DIFFER SIGNIFICANTLY FROM THE OUTCOMES EXPRESSED OR IMPLIED IN THESE
FORWARD-LOOKING STATEMENTS. FOR A DISCUSSION OF THE FACTORS THAT MIGHT CAUSE
SUCH A DIFFERENCE, SEE "RISK FACTORS" ON PAGE 11.

PART I

ITEM 1. DESCRIPTION OF BUSINESS

DEVELOPMENT OF OUR COMPANY

We currently provide home healthcare and alternate site healthcare, skilled
nursing, and pharmacy management and distribution services to more than 175,000
patients in 37 states.

We originally incorporated in Nevada on August 25, 1986 as a business
development company and began operations under the name e-MedSoft.com with the
acquisition of an Internet-based healthcare management system in January 1999.
During the fiscal years ended March 31, 2002, 2001 and 2000, we continued the
development, upgrading, testing and implementation of our healthcare management
system. We acquired e-Net (a UK based hardware and software reseller) in 1999
and entered into a long-term management services agreement with a pharmacy
management company in 2001. In addition, we acquired technologies to service
physician networks and three multimedia companies to provide various
telemedicine technologies. We also entered into several contracts over this
period to implement and roll out various Internet-based healthcare management
systems and to provide other products including "e-financing" distribution
networks.

During fiscal 2001, the underlying business assumptions used to determine
the marketability of our technology products were revised as available capital
for developing Internet technology constricted and the expected results from
various development projects did not occur. As a result, we wrote off
approximately $19.1 million and $201 million in fiscal years ended March 31,
2002 and 2001, respectively. Effective March 31, 2001 we discontinued the
business segment of sales of software and hardware in the UK.

On August 6, 2001, we acquired Chartwell Diversified Services, Inc.
("Chartwell"), a provider of Alternate Site Healthcare Services including
infusion therapy, respiratory therapy, home medical equipment, specialty
pharmaceutical services and home attendant care services. We exchanged
500 thousand shares of our convertible preferred stock and warrants for
20 million shares of our common stock with an exercise price of $4.00 per share
vesting over a five year period from the grant date, for all the outstanding
shares of Chartwell. Following the approval by a majority of stockholders of our
common stock at our annual meeting in December 2001 the convertible preferred
stock was converted to 50 million shares of our common stock. The acquisition
was accounted for under the purchase method of accounting. SEE "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations--Recent Developments".

On November 28, 2001, we acquired Tender Loving Care Health Care
Services, Inc. ("TLCS"), a publicly traded company that provides Alternate Site
and Home Health Care Services including skilled nursing, home medical equipment
and temporary staffing. We made a cash tender offer for all the outstanding
shares of TLCS. As of September 30, 2002, approximately 14.5 million shares of
TLCS common stock or 99.3% have been tendered. The acquisition was accounted for
under the purchase method of accounting. SEE "Item 7. Management's Discussion
and Analysis of Financial Condition and Results of Operations--Recent
Developments".

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Subsequent to the acquisition of TLCS, it was determined that TLCS'
financial condition was significantly worse than originally indicated. Based
upon management's analysis it was determined that goodwill resulting from the
TLCS acquisition was impaired and an impairment charge of $156 million was
recorded as of March 31, 2002. SEE "Item 7. Managements Discussion and Analysis
of Financial Condition and Results of Operations--Recent Developments".

These acquisitions have expanded our revenue base to include services
provided by an integrated delivery network for home health services. We now
offer a full spectrum of home healthcare services and products within the home
and alternate site settings.

For the three years ended March 31, 2002, our revenue composition and
contribution came from the following business lines (dollars in thousands):

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* Reflected as Discontinued Operations effective March 31, 2001.

** Effective March 31, 2002 we are analyzing alternatives for selling all or a
portion of this Business Segment.

Our objective is to be a leading provider of home healthcare services in the
United States. Our strategy for achieving this objective is:

- to maintain focus on our existing services offerings and increase our
emphasis on providing seamless service offerings to the patient population
we serve; and

- to supplement our internal growth with selective acquisitions.

Our services are offered through two distinct Business Units:

HOME HEALTHCARE/ALTERNATIVE SITE SERVICES provides an option to hospitalization
or admittance to a long-term care facility for persons in need of medical care.
As part of our Home Healthcare/ Alternative Site Services, we provide the
following:

- Skilled Nursing Services

- Home Medical Equipment

- Home Attendant Care Services

- Infusion Therapy

- Respiratory Therapy

PHARMACY MANAGEMENT AND DISTRIBUTION SERVICES provides institutional pharmacy
services to skilled nursing and assisted living facilities, as well as retail
distribution facilities. As part of our Pharmacy Management and Distribution
Services, we provide:

- Specialty Pharmaceutical Services

- Mail Order Pharmacy

- Retail Compounding

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THROUGH FISCAL 2002, WE OPERATED A THIRD BUSINESS UNIT, DISTANCE MEDICINE
SOLUTIONS, which provides desktop or laptop, based solutions, capable of
providing Internet delivered multimedia diagnostic information and patient data
to physicians and other caregivers. At the end of fiscal 2002, our board of
directors and management began to investigate business transactions or
alternatives that would result in us selling all or a portion of this business
unit.

AMERICAN STOCK EXCHANGE DELISTING

On June 4, 2002, our board of directors announced that on May 22, 2002, they
received notice from the American Stock Exchange ("AMEX") that we no longer meet
the continued listing requirements of AMEX. We disputed the factual premises
upon which AMEX's action was taken and requested a formal hearing to continue
listing our common stock on AMEX. Although we were confident in our decision to
challenge the merits of the AMEX notification, we continued to further review
the benefits of appealing the notification and continuing the listing of our
common shares on the AMEX. On June 28, 2002, we announced that we have withdrawn
our appeal of the AMEX delisting determination and that AMEX has consented to
our request to voluntarily delist our common stock on the AMEX effective at the
close of trading on July 15, 2002. We took this action in connection with the
AMEX delisting based upon our management's analysis that we are unable to meet
the AMEX's continued listing requirements given our accumulated deficit at
March 31, 2002.

Beginning on July 16, 2002, our common stock is quoted on the "pink sheets".

INDUSTRY OVERVIEW

HOME HEALTHCARE/ALTERNATE SITE SERVICES

The Center for Medicare and Medicaid Services, Office of the Actuary,
National Health Statistics Group, estimates that expenditures for nursing and
home healthcare were approximately $124.7 billion in 2000 and will reach
approximately $270.4 billion in 2010, representing a compound annual growth rate
of approximately 8%. Of this amount, expenditures for nursing home care were
approximately $92.3 billion in 2000 and will reach $183.4 billion in 2010,
representing a compound annual growth rate of approximately 7.1%. Expenditures
for home healthcare were approximately $32.4 billion in 2000 and will reach
approximately $66.6 billion in 2010.

We believe that the growth in expenditures for nursing and home healthcare
will continue to be driven by increases in demand for services due to (i) the
continued trend towards treatment of patients in the home as a lower cost
alternative to acute care settings (ii) the introduction of new technologies
that enable patients to receive medically appropriate care in the home without
sacrificing quality and (iii) the continued growth of both the number and
percentage of the American population age 65 or older, which is expected to
increase from approximately 33 million people, or 12% of the population in 2000,
to approximately 40 million people or 13% of the population in 2010, according
to the U. S. Census Bureau.

The National Home Infusion Association estimates that approximately $4 to
$5 billion is spent annually in the home infusion therapy sector. We estimate
that annual expenditures in the home respiratory therapy market approximate $3.5
to $4.5 billion and that the home equipment industry has an annual demand of
approximately $1.9 billion.

PHARMACY MANAGEMENT AND DISTRIBUTION SERVICES

Pharmacy Management and Distribution Services originated in an effort to
control the high cost of drugs through the use of formulary, group purchasing
power, lower cost distribution methods and compliance control at the pharmacist
level. Many home infusion companies operate some type of this business as a
logical outgrowth of their expertise in intravenous ("IV") and other non-oral
medications.

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Additionally, organizations such as Caremark, and disease-specific
organizations, such as Baxter's Hemophilia division, have built multi-million
dollar operations through prescription benefit, mail order provision and patient
health management programs.

We believe the pharmaceutical management area, particularly the specialty
pharmacy services business, holds substantial revenue opportunities.

The specialty pharmaceutical services industry has been and is fueled by
significant developments of new drugs and therapies by biotechnology and
pharmaceutical manufacturers. Many of these drugs and therapies require
specialized storage, distribution and handling by specialty pharmaceutical
services companies. In addition, the complexity of these therapies often
requires properly trained nurses and pharmacists to administer and monitor the
therapies for the patients.

Currently, there are more than 350 biotech drug products and vaccines
currently in clinical trials targeting more than 200 diseases, including various
cancers, Alzheimer's disease, heart disease, diabetes, multiple sclerosis, AIDS
and arthritis. The biotechnology industry has almost tripled in size since 1993,
with revenues increasing from $8 billion in 1993 to $22.3 billion in 2000.

The Internet, particularly in the dispensing of so-called "lifestyle"
products, has significantly impacted pharmacy distribution. An informal analysis
of websites offering mail order pharmacy services shows close to 350 vendors
running the spectrum from national retail chains to foreign based distributors
of psychotropic, hair loss and weight control products.

OUR BUSINESS STRATEGY

We have developed strategies for each of our Business Units in line with our
overall strategies of:

- maintaining focus on our existing services offerings and increasing our
emphasis on providing seamless service offerings to the patient population
we serve; and

- supplementing our internal growth with effective acquisitions.

HOME HEALTHCARE/ALTERNATE SITE SERVICES

In our Home Healthcare/Alternative Site Services Business Unit, we are
pursuing a strategy to increase market share and improve our profitability. The
following describes the key elements of our strategy:

MAINTAIN FOCUS ON EXISTING SERVICE OFFERINGS.

We intend to focus on our core businesses of providing comprehensive
healthcare services and expanding our service portfolio through the integration
of new value added services. By offering a comprehensive range of services, we
believe we can gain a competitive advantage with our core managed care customers
while maintaining a diversified revenue base.

In the area of skilled nursing services, our primary strategy for growing
this market is to leverage the brand power of TLCS. The brand provides us with
considerable competitive advantages, including:

- being one of the few national home health providers to have been granted
unconditional providership by the American Nurses Credential Center
("ANCC") qualifying us to provide continuing education ("CE") programs for
nurses through Tender Loving Care-Registered Trademark- Staff Builders'
national training department.

- having a reputation for quality based on TLCS' historical operations.

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As with all of our product lines, skilled nursing services will adhere to
our strategy of integrating with our other service offerings to, in this case,
provide healthcare organizations with a seamless "one stop shop" of services.

SUPPLEMENT INTERNAL GROWTH WITH SELECTIVE ACQUISITIONS.

We intend to continue to expand through internal growth in our key service
lines and through acquisitions in our target markets. We operate in a highly
fragmented market, which provides an attractive opportunity to drive growth
through select acquisitions.

INTEGRATE HOME HEALTH/ALTERNATE SITE SERVICES WITH OUR OTHER BUSINESS OFFERINGS.

While home healthcare/alternate site care accounts for the majority of our
revenue on a proforma basis as of March 31, 2002, we believe that offering our
contractual and hospital customers an integrated portfolio of alternate
site/home care services, pharmacy management, and skilled nursing options will
strengthen the total portfolio of services and provide additional leverage when
negotiating with managed care providers.

PHARMACY MANAGEMENT AND DISTRIBUTION SERVICES

With the exception of specific patient advocacy groups in areas such as
AIDS-HIV, Hemophilia or IVF, we do not compete in a consumer market. Our
strategy in our Pharmacy Management and Distribution Services Business Unit is
to integrate the product lines into our wider portfolio of home healthcare
product offerings by utilizing our network of hospital and managed care referral
sources, aligning with biopharmaceutical manufacturers in the area of clinical
trials and distribution agreements and making selective acquisitions that
broaden the service portfolio and deepen the product offering. To that end, in
June 2000, we acquired Resource Healthcare ("Resource"), an institutional
pharmacy provider for skilled nursing and assisted living facilities within the
state of Nevada.

OUR PRODUCTS AND SERVICES

We provide a range of products and services specifically for the healthcare
marketplace. In line with our business strategy, we are attempting to build upon
and develop the products and services, which make up our solutions in order to
provide the most comprehensive and relevant services possible for our clients.
The product lines for each of our Business Units are described below.

HOME HEALTHCARE/ALTERNATE SITE SERVICES

We derive approximately 77% and 69% of our revenue on a proforma basis as of
March 31, 2002 and 2001, respectively from our Home Healthcare/Alternative Site
Care Services Business Unit. This Business Unit includes the following products
and services:

- Skilled Nursing, the administration of in-home services from in-home
sitters to highly technical skilled nursing care.

- Infusion therapy, the administration of medications intravenously (into
veins), subcutaneously (under the skin), intramuscularly (into muscle),
intraecally or epidorrally (via spinal routes) or through feeding tubes
into the digestive tract. Infusion therapy often begins during
hospitalization of a patient and continues in the home environment.

- Home respiratory therapy (including home-delivered respiratory
medications), the provision of oxygen systems, home ventilators, sleep
apnea equipment, respiratory equipment, and related services.

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- Home medical equipment, the provision of patient room equipment,
principally hospital beds, wheelchairs, ambulatory and safety aids.

- Home attendant services, paraprofessional services include health aides
and other unlicensed personnel who assist with activities of daily living,
such as bathing, dressing and grooming.

Within these areas, we provide patients with a variety of clinical services,
related to products, and supplies, most of which are prescribed by a physician
as part of a care plan. They include the following:

- Specialized patient care.

- Provision of pharmacy services, high-tech infusion nursing, respiratory
care, and attendant care.

- Education of patients and the caregivers about illness and instructing
them on self-care and the proper use of products in the home.

- Monitoring of patient compliance with individualized treatment plan.

- Provision of progress reports to the physician and/or managed care
organization.

- Maintenance of home medical equipment.

- Assisting patients with activities of daily living and medication
compliance.

- Processing claims to third-party payors.

The decision to proceed with alternate site therapies is generally made
jointly by the patient, the attending physician and a representative of our
office. Our skilled nursing services provide a full line of healthcare services
to patients that require assistance at home. Our infusion and respiratory
services provides respiratory and infusion and other healthcare services to
patients in non-hospital settings and manages a network of locations providing
infusion services. Home infusion services are generally administered to treat
infections, dehydration, cancer, pain and nutritional deficiencies.

Since its formation in 1961, TLCS has become a leading national provider of
home healthcare services with approximately ninety branch locations and over
5,000 fulltime and part-time caregivers. Through our TLCS division we provide a
full range of licensed professional and paraprofessional healthcare personnel
services, which include services rendered by registered nurses, licensed
practical nurses, home health aides, nurses aides and personal care aides. Its
licensed personnel provide skilled nursing services, including:

- cardiac care

- pulmonary management

- wound care

- maternal care

- behavioral healthcare

- infusion therapy

- hospice support

- extensive patient counseling

- family healthcare counseling

- care of the terminally ill

- blood sample collection

- injections and infusion therapy

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- pain management

- physical therapy

- ventilator and tracheotomy care

- chemotherapy

- medication management and reminders

- surgical recovery

Our paraprofessional services include home health aide services and other
unlicensed personnel services to assist with activities of daily living such as:

- bathing

- dressing

- grooming

- live-in companion service

- assistance with daily living activities

For an alternate site patient, our locations also compound, dispense and
administer pharmaceuticals, sell medical supplies, provide nursing services,
train patients and their caregivers, consult with attending physicians, and
process reimbursement claims. Some of our locations also sell and rent durable
medical equipment and provide a full menu of home health nursing and therapy
services as well as complete network management. We manage this Business Unit
through regional centers in Texas and Pennsylvania and through branch offices in
100 national locations and a pool of approximately 11,000 home
healthcare/alternate site caregivers. Day-to-day operations are decentralized
within regional centers, employing nurses and pharmacists for deployment of
care, district managers for sales and marketing initiatives and regional
managers for business management, quality oversight and profit and loss
responsibility. Compliance, reimbursement, finance and executive management
services are provided through our corporate headquarters in Andover,
Massachusetts.

We provide home respiratory therapy services to patients with a variety of
conditions, including:

- Chronic obstructive pulmonary diseases, such as emphysema, chronic
bronchitis and asthma;

- Nervous system related respiratory conditions;

- Congestive heart failure; and

- Lung cancer.

Respiratory therapy involves the provision of:

- oxygen systems, home ventilators and nebulizers (devices to aerosolize
medication.)

- Apnea monitors used to monitor the vital signs of newborns.

- Continuous positive airway pressure devices used to control adult sleep
apnea.

- Noninvasive positive pressure ventilation.

- Other respiratory therapy products including medication.

Home-infusion therapy involves the administration of, and 24 hour access to:

- Nutrients, either intravenously or through a feeding tube;

- Anti-infectives;

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- Chemotherapy; and

- Other intravenous and injectable medications.

Depending on the therapy, a broad range of intravenous access devices and
pump technology may be used to facilitate homecare and patient independence. We
employ licensed pharmacists and registered high-tech infusion nurses who have
specialized skills in the delivery of home infusion therapy.

PHARMACY MANAGEMENT AND DISTRIBUTION SERVICES

We have established our Pharmacy Management and Distribution Business Unit
to address the growing needs for specialized pharmacy expertise and services for
adults and children who have healthcare needs that can be managed at home,
primarily those with chronic conditions, high acuity illnesses and those in need
of particular requirements of long term care, hospice and other skilled nursing
facilities.

We have segmented this Business Unit into three product service lines:

- SPECIALTY PHARMACEUTICAL SERVICES. This segment addresses high revenue
opportunities in the biopharmaceutical, orphan drug and high acuity
disease categories. It is responsible for dispensing pharmaceutical
products, medicines, hydration therapies and specialized parenteral
therapies in areas such as cystic fibrosis, human growth factor, and other
medicines requiring small batching, fragile shelf life or other elements
that render them impractical for large-scale manufacturing. The services
we offer through this segment include pharmaceutical disease management,
pain management, compliance and patient education programs.

- RETAIL PHARMACY COMPOUNDING. This segment provides outsourced medicines to
long-term care, skilled nursing facilities, assisted living and other
alternate site care locations.

- MAIL ORDER PHARMACY SERVICES. This segment provides services primarily to
patients at home and at assisted living facilities for treatment of
chronic diseases.

We manage this Business Unit through regional centers in Nevada, Texas and
Pennsylvania and through our local branch offices.

Day-to-day operations are decentralized within regional centers, employing
pharmaceuticals for deployment of care, district managers for sales and
marketing initiatives and regional managers for business management, quality
oversight and profit and loss responsibility. Compliance, reimbursement, finance
and executive management services are provided through our corporate
headquarters.

Our clinical excellence, cost effective care and technological innovation
are the key themes used in all of our marketing efforts. Through a network of
nationally recognized medical centers the "Chartwell Partnerships", we are able
to leverage some of the premier medical centers in the country. This is a unique
entry point and gives us brand equity across product lines.

TARGET MARKETS

HOSPITALS. As a regional business, the market for many of our products
begins in the hospital. Through the hospital, we can work closely with the
clinicians who provide our referrals, the opinion leader physicians, who are at
the cutting edge of medical technology and therapy developments, and the
administrators who may be interested in forming a limited partnership with us.

PHYSICIAN ORGANIZATIONS. Our target provider customers include aggregators
of individual physicians such as large medical groups, independent practice
associations, physician practice management companies and other large, organized
physician entities associated with integrated delivery networks.

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These providers are sources of referrals for our home healthcare/alternate
site healthcare services. In particular, we seek out provider organizations with
a high degree of involvement in managed care, especially providers that are
involved in activities such as capitation, which requires them to bear some
level of insurance risk for each enrolled patient.

PAYORS. Our target payor customers include managed care organizations,
indemnity insurers, third-party administrators and federal and state
governmental agencies. As managed care penetration increases and risk-based
medicine becomes more prevalent, payors are finding less incremental value in
the historical levels of managed care. In order to stem the unabated growth in
healthcare costs, payors must do more than automate the administrative and
financial processes that govern the provision of services and the payment of
claims.

SUPPLIERS. Our target supplier customers include large national drug
wholesalers and medical equipment supply companies and benefit managers. These
customers have become more efficient in managing their business as managed care
organizations have negotiated significant reductions in price and demanded
measurable improvements in quality.

SALES AND MARKETING

We have a direct sales staff across our Business Units that are
geographically positioned and a general corporate business development group
targeting potential customers in each target market. We obtain clients through
sales presentations, telephone referrals from other clients and direct
solicitation and advertising. We also market our services through the sales and
marketing organizations of our strategic partners, participation in industry
tradeshows, articles in industry publications and by leveraging our existing
client base and strong network of relationships.

Requests for home healthcare services are typically received at a local
office and skilled home healthcare services are provided pursuant to the orders
of the patient's physician. Generally, after a referral is received, local
office intake personnel will schedule an assessment visit in order to identify
the patient's care needs.

During the intake process, we contact third-party payors to confirm the
extent of Medicare or Medicaid eligibility or insurance coverage. The primary
payment sources for home healthcare are Medicare, Medicaid, insurance,
individuals, and other state and local government health programs.

Our nursing care services are performed directly from our locations and
through a form of franchising whereby we license independent companies or
contractors to represent us within a designated territory using our trade names
and service marks. This program allows us to operate certain locations by
employees who are hired and supervised by licensees who are most familiar with
the needs and characteristics of their respective geographic areas. We employ
all direct service employees. Our licensees recruit direct service personnel,
solicit orders, and assign personnel, including registered nurses, therapists
and home health aides, to provide services to our clients. Of our 121 field
offices, 31 are operated by 23 licensees pursuant to the terms of a franchise
agreement.

In addition, our senior management has an active role in the sales process
by cultivating industry contacts. We concentrate our specialty healthcare
services marketing efforts on hospitals, hospital systems, integrated delivery
networks, physicians, managed care and other payors and management companies.

We employ over 25 persons engaged in specialty healthcare marketing and
sales efforts. We obtain clients through personal and complete sales
presentations, telephone referrals from other clients and direct solicitation
and advertising.

To support our sales forces and our distribution channels, we have an
experienced marketing staff that is focused on designing, creating, and
executing sophisticated marketing plans to attain our objectives. We continue to
focus on building awareness and acceptance of our products through our own
resources and distribution channels, and the Internet.

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KEY RELATIONSHIPS

We have a number of joint venture and strategic relationships with large
academic medical centers through our Chartwell Partnerships, also known as our
National Centers of Excellence ("NCOE") programs in which Chartwell serves as
the General Partner. Chartwell provides equity-partnering models, home care
("MSO") network integration management and administrative services for its
clients. Services include high-tech infusion therapy, nursing, clinical
respiratory services, and durable medical equipment to home care patients. The
NCOE's are recognized for their clinical expertise, especially with complex
patient needs and is accredited by the Joint Commission on Accreditation of
Healthcare Organizations. Currently, Chartwell's NCOE's serve 30 states,
managing over 150,000 patients annually with state of the art patient care
management and service delivery systems to ensure a competitive edge. These
relationships give us regional anchors for the alternate site business.

PATENTS, TRADEMARKS AND INTELLECTUAL PROPERTY

We rely upon a combination of trade secrets, copyright and trademark laws,
license agreements, confidentiality procedures, employee nondisclosure
agreements, and technical measures to maintain the secrecy of our intellectual
property. We believe that patent, trade secret, and copyright protection are
less significant to our success than our ability to further develop
applications. We have several trademarks in the United States and
internationally.

COMPETITION

The alternate site healthcare industry is highly competitive and includes
national, regional and local providers. We compete with a number of companies in
all areas in which our operations are located. Our competitors include major
national and regional infusion companies, hospital pharmacies, independent
regional and local pharmacies, hospital-based programs, numerous local providers
and nursing agencies. Some of our current and potential competitors have or may
obtain significantly greater financial and marketing resources than we have.
Accordingly, other companies, including pharmacies, managed care organizations,
hospitals, long-term care providers and healthcare providers that currently are
not serving the specialty healthcare market may become competitors of ours.

In each of our service lines where we conduct our specialty healthcare
services, there are a limited number of national providers and numerous regional
and local providers. On the regional and local level, the facts that are most
important in being able to compete are:

- reputation with referral sources, including local physicians and hospital
based professionals;

- access and responsiveness from patients;

- price of services;

- quality of care provided; and

- breadth of services offered.

On the larger, national markets, the competitive factors, which are also
important, include:

- ability to raise capital;

- scope of services offered on a geographic basis; and

- success in developing and maintaining relationship with managed care
organizations.

We also compete for qualified healthcare personnel to deliver our nursing,
home care and related healthcare services. Competition for such personnel is
intense, and we have, from time to time, experienced difficulties in obtaining
healthcare personnel to meet demands for our services.

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HOME HEALTHCARE/ALTERNATE SITE SERVICES

The home healthcare/alternate site care industry is highly fragmented and
competitors are often localized in particular geographical markets. In general,
there has been consolidation in the healthcare industry that is expected to
continue especially in light of the federal Medicare program's reductions in
costs limits and establishment of per beneficiary limits. Many of our
competitors have ceased doing business, which we believe is one result of
certain healthcare reform measures taken in recent years by federal, state and
other payor sources. We expect that we will continue to compete with national
organizations as well as local providers including home healthcare providers
owned or otherwise controlled by hospitals. In addition, our operations depend,
to a significant degree, on our ability to recruit qualified healthcare
personnel. Some of the entities with which we compete have substantially greater
resources than us and have penetrated markets more effectively than we have.

Among our national competitors in the home care arena are:

- Accredo Health, Inc

- Almost Family

- Amedisys, Inc

- American Home Patient

- Apria Healthcare

- Coram Healthcare

- Gentiva Health Services

- Home Health Corporation of America

- Lincare Holdings, Inc

- Option Care

- Transworld Healthcare

In addition, in the skilled nursing services area, we compete with:

- American Nursing Services

- Aureus Medical

- Core Medical Group

- Fastaff Nursing

- Procare USA

- Pro-Touch Nurses, Inc

PHARMACY MANAGEMENT AND DISTRIBUTION SERVICES

We also compete with a number of local pharmacies; many affiliated with
hospitals that can provide some of these services in their immediate catchment
area. Competition is based on quality of care and service offerings, as well as
upon patient and referral source relationships, price and reputation.

FEDERAL HEALTHCARE PROGRAM COMPLIANCE

TLCS has entered into a Corporate Integrity Agreement ("CIA") with the
Office of Inspector General of the U.S. Department of Health and Human Services
("OIG") to promote our compliance

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with the requirements of Medicare, Medicaid and all other federal healthcare
programs. Under the CIA, TLCS has implemented an internal quality improvement
program designed to improve its system of internal financial controls. TLCS's
failure to comply with the material terms of the agreement could lead to
suspension or exclusion from further participation in federal healthcare
program. The CIA became effective on August 24, 2000 and applies to all TLCS
locations.

The CIA includes compliance requirements, which obligate TLCS to:

1. Appoint a compliance officer and corporate compliance committee to
oversee the implementation and maintenance of the CIA requirements.

2. Adopt and implement written standards on federal healthcare program
requirements with respect to financial and quality of care issues.

3. Conduct initial and annual training for all employees to promote
compliance with federal healthcare requirements.

4. Implement and maintain a compliance hotline to report suspected
violations of law and regulation.

5. Enhance our current system of internal financial controls to promote
compliance with federal healthcare program requirements on billing and
related financial issues, including a variety of internal audit and
compliance reviews. We have retained an independent review organization to
evaluate the integrity and effectiveness of our internal systems. The
independent review organization will report annually its findings to the
OIG.

6. Screen, semi-annually, all employees and contractors for exclusion
from participating in federal health care programs.

7. Notify the OIG within 30 days of our discovery of any ongoing
investigation or legal proceeding conducted or brought by a governmental
entity or its agents involving any allegation that we have committed a crime
or engaged in a fraudulent activity.

8. Identify and return any overpayments within 30 days of discovery and
take remedial steps to avoid recurrence within 60 days of determination.

9. Notify the OIG of any newly acquired business units.

10. Submit annual reports to the OIG demonstrating compliance with the
terms of the CIA, including the findings of our internal audit and review
program. The initial annual report is due in November of 2002.

The CIA contains standard penalty provisions for breach, which include
stipulated cash penalties ranging from $1,000 per day to $2,500 per day for each
day TLCS is in breach of the agreement. If TLCS fails to remedy any breach in
the time specified in the agreement, it can be excluded from participation in
federal healthcare programs.

EMPLOYEES

As of March 31, 2002, we employed approximately 12,920 employees providing
alternate site care services, delivery and support, sales and marketing and
corporate finance and administration. None of our employees are represented by a
labor union, and we have never experienced a work stoppage. We believe we have a
good relationship with our employees. Our ability to achieve our financial and
operational objectives depends, in large part, upon our continuing ability to
attract, integrate, retain, and motivate highly qualified sales, technical, and
managerial personnel, and upon the continued service of our senior management
and key sales and technical personnel, most of whom are not bound by employment
agreements.

13

RISK FACTORS

Stockholders and investors in shares of the our common stock should consider
the following Risk Factors, in addition to other information in this Annual
Report.

OVERALL RISKS

THERE ARE SIGNIFICANT UNCERTAINTIES ABOUT OUR ABILITY TO CONTINUE AS A GOING
CONCERN.

We have suffered recurring losses from operations since inception. In
addition, we have consistently had negative working capital from continuing
operations and lower than needed levels of cash. At March 31, 2002, we had
negative working capital of $162.4 million (excluding $10.3 million of negative
working capital from discontinued operations), and accumulated deficit of
$612.6million and $8.1 million in available cash. As of March 31, 2002, the
current portion of our long term and related party debt is $121.6 million. We do
not anticipate generating cash from operations in an amount sufficient to repay
and service this amount of debt within this time frame. In order to avoid a
liquidity crisis, we will have to either negotiate an extension of this debt,
refinance this debt, sell additional equity, sell assets, or accomplish one or
more of these actions. We cannot predict at this time whether any of these can
be accomplished, and if so, the terms or timing of such actions.

We have relied heavily upon funding through loans from private investors,
sales of equity securities, and various credit facilities to finance our
operations and growth. As a result of our reduced stock price, deteriorated
financial condition and negative operating results, among other factors, we no
longer meet the requirements for continued listing of our common stock on the
AMEX. After careful consideration, we decided to voluntarily de-list from the
AMEX. As of July 16, 2002 our common stock is quoted on the "Pink Sheets". In
any event, removal from the AMEX is likely to adversely affect our ability to
raise additional capital in the capital markets.

WE HAVE AN INSUFFICIENT NUMBER OF INDEPENDENT DIRECTORS.

During much of our history, we have not had or have had an insufficient
number of directors who meet the standards for independence as specified by the
SEC and the national stock exchanges. As a result, during much of our history,
we did not have an audit committee comprised of the requisite number of
independent directors as required by the national stock exchanges. While three
individuals meeting the standards of independence were elected to our board of
directors in February 2002, these individuals resigned from our board of
directors as of July 2002 due to the time commitment required of our directors,
agreeing to act as consultants to us as their time permits. In September 2002 we
appointed two new directors, one of whom meets the independency standards.
Neither director has the necessary financial expertise to serve as chairman of
our audit committee. We will endeavor to secure the services of additional
qualified individuals who meets the criteria for independence specified by the
national stock exchanges. We believe this will be a challenge and we may not be
able to do so in the near future. As a result, we will not have an audit
committee comprised of independent directors and will otherwise face challenges
from a corporate governance perspective.

OUR EXTENSIVE RELATIONSHIP WITH NATIONAL CENTURY FINANCIAL ENTERPRISES, INC. IS
OF CRITICAL IMPORTANCE TO OUR BUSINESS.

Our relationship with NCFE has been a long and extensive one touching upon
virtually every aspect of our business.

We finance our operations through an accounts receivable financing program
with NCFE and its subsidiaries, which is the principal source of financing for
our operations. We have contracted with NCFE to provide us financing for current
operations through various Sales and Subservicing Agreements (collectively, the
"Agreements"). These agreements provide for funding from National

14

Premier Financial Services, Inc., and other subsidiaries of NCFE. Under the
terms of the Agreements, we continue to bill customers, collect receipts and
process the related accounts receivable.

Under the Agreements, we are charged financing costs ranging from prime plus
three percent (3%) to 12.9% on outstanding funding balances. The Agreements
provide for funding to specified aggregate limits. Our accounts receivable must
meet certain qualitative and quantitative criteria and we must remain in
compliance with the terms of the Agreements. At March 31, 2002, the unpaid
balance was approximately $106.1 million and is included in related party debt
in the consolidated balance sheet.

At March 31, 2002, we have three unsecured notes payable to entities
affiliated with NCFE totaling $28.7 million. The notes are payable in sixty
monthly installments ranging from $116 thousand to $314 thousand starting on
October 1, 2001. Interest accrues from the note date. Interest ranges from 9% to
12.98% per annum and is included in the monthly payments. The notes mature on
September 2006. We have a right to offset against the payment of principal and
interest all amounts either advanced or paid on behalf of the NCFE affiliates.

In addition, at March 31, 2002, we had $8.5 million in various term notes,
due to affiliates of NCFE. On December 5, 2001, we entered into a Promissory
Note and Stock Pledge Agreement with NCFE in the amount of $4.0 million. The
Promissory Note, as amended, carries an interest rate of fourteen percent (14%)
per annum, with interest payments beginning in August 2002 until maturity.
Principal is due and payable on June 30, 2003. We also had a $2.3 million
promissory note payable to NCFE, which bears interest at the rate of ten percent
(10%) per annum. The entire principal amount of the note together with all
accrued unpaid interest, as amended, is due on December 31, 2002. There is no
prepayment penalty on the note. Additionally, the Company has various term notes
with NCFE totaling $2.2 million at March 31, 2002. These notes have interest
rates of 8% to 14%. SEE Notes 4 and 8 to the Consolidated Financial Statements
for details regarding the NCFE financing arrangements.

Our ability to obtain additional financing from NCFE in the future will
depend upon:

- Our ability to increase revenues and generate additional receivables that
can be sold into securitization vehicles organized and administered by
NCFE.

- NCFE's ability to continue to access the capital markets to permit it to
continue to purchase accounts receivable from us.

NCFE and its affiliates beneficially own approximately thirty-three percent
(33%) of our common stock, and as such, represents the largest related group of
stockholders we have. Accordingly, they could have an ability to influence the
election of directors and other important corporate transactions requiring
stockholder approval. In addition, Donald Ayers, a principal and director of
NCFE is one of our directors.

NCFE and its principals held ownership interests in or had business
relations with companies we recently acquired. Certain principals of NCFE
indirectly owned a majority interest in Chartwell, which we acquired in
August 2001. In addition, NCFE provided financing to Chartwell prior to its
acquisition by us.

In addition, at the time we acquired TLCS in November 2001, TLCS'
outstanding balance due NCFE was approximately $84.7 million. The TLCS financing
agreement was in technical breach during fiscal year ended March 31, 2002. NCFE
provided waivers of these breaches through December 31, 2002. If we were unable
to extend the term of the NCFE accounts receivable financing and if NCFE does
not continue to provide financing to TLCS, it would not have sufficient cash to
support its current level of operations.

All of the accounts receivable purchased by our special purpose entity,
American Reimbursement, LLC, were acquired from healthcare companies with which
NCFE has business and/or financing

15

relationships. NCFE or its affiliates have arranged for or are providing certain
administrative services to American Reimbursement with respect to its accounts
receivable. In addition, while NCFE is not obligated with respect to our
$70 million Debentures purchased by PIBL and subsequently amended, it has agreed
to provide certain facilitation financing and has agreed to make certain
concessions to enable us to partially pay, extend and amend these Debentures.

On February 2, 2000, we entered into a seven year Preferred Provider
Agreement, (extended to cover a total of 21 years in September 2000), with NCFE
to provide it with services and software solutions, and to have exclusive
marketing access to all of its clients for the provision of our products. The
Preferred Provider Agreement provides for a proprietary Master Portal wherein
all of NCFE's and our products and services were to be marketed and sold to
NCFE's and our customers. We were to have received fees for our services based
on an agreed upon fee schedule and negotiated project fees. In connection with
the Preferred Provider Agreement, we issued NCFE 9.5 million shares of our
common stock to NCFE in consideration for:

- entering into the Preferred Provider Agreement;

- canceling approximately $4.8 million of our debt;

- providing $1 million of equity financing, and

- providing an additional $4 million in financing that is to convert into
equity upon the ability of NCFE to sell $4 million of our common stock at
a price per share in excess of $9.50 per share.

The value of the shares issued to NCFE at the time was approximately
$113 million based upon the market price of our common stock on February 2,
2000.

On July 28, 2000, we completed phase one of the Master Portal. We have not
generated any revenues from this Preferred Provider Agreement. Due to the fact
that we no longer believe the anticipated connectivity between NCFE and its
clients can be achieved or has market viability, we recorded an impairment loss
to write off the deferred contract asset and reduce the distribution channel
asset that were created in connection with the Preferred Provider Agreement. In
fiscal 2001, we wrote off $31.1 million and $67.5 million associated with the
distribution channel and deferred contract, respectively. In fiscal 2002, we
reserved the remaining unamortized distribution channel balance of
$2.3 million.

We are continuing to investigate alternatives with NCFE regarding an
amendment and restructuring of the Preferred Provider Agreement, as defined in
the agreement, in order to create an arrangement potentially more lucrative for
us and one better aligned with our current business strategies and core
competencies. As of the date of this report, however, we have not reached final
agreement in this regard, and no assurance can be given that we will be able to
reach such an agreement.

In view of these multiple and extensive relationships, our ability to
continue to finance our operations, effect changes to our business strategy and
management, and implement acquisitions and other material corporate initiatives
are for the immediately foreseeable future dependent upon continuing our
relationships with NCFE and its principals. Notwithstanding this relationship we
have found NCFE to provide funding that is unpredictable in timing and amount,
cumbersome contract administration and inconsistent and at times no
communication on funding and administrative matters.

16

OPERATIONS--RELATED RISKS

THE ACQUISITIONS WE HAVE COMPLETED AND MAY COMPLETE IN THE FUTURE MAY BE
DIFFICULT TO MANAGE.

In fiscal 2002, we acquired Chartwell and TLCS. If we cannot successfully
integrate these and future businesses we may acquire, we will not achieve our
business strategy or generate profits and positive cash flow.

Additional risks associated with our acquisitions are:

- Our profitability could be adversely affected by depletion of cash,
servicing additional debt and recording impairment charges related to
goodwill and intangible assets.

- The issuance of additional equity securities dilutes the interests of our
current stockholders.

- It could be difficult to assimilate the acquired companies' employees,
equipment and operations.

- The acquisitions can divert management's attention from other business
concerns, including implementation of our business strategy.

- The acquired companies may or could operate in markets with which we have
little or no familiarity.

- There could be undisclosed or unforeseen liabilities associated with the
acquired companies.

- We could lose key employees or customers of the acquired companies.

- We have been named defendant in several lawsuits, which, if we are not
successful in defending could negatively impact our financial position.

WE MAY NOT BE ABLE TO ACHIEVE AND MAINTAIN PROFITABILITY FOR ANY LENGTH OF TIME.

We expect to incur significant expenses and to utilize substantial amounts
of cash for:

- funding operating losses;

- developing additional infrastructure;

- bringing products and services to market;

- additional acquisitions; and

- settlement of past due payables, repayment of debt and servicing of debt
and litigation.

We cannot be certain that we can achieve sufficient revenues and cash flow
in relation to our use of cash for expenses and capital to meet our obligations
as they become due, become profitable or generate positive cash flow on an
extended basis. Our ability to sustain profitability is dependent upon the
generation of profits and cash flow from our Business Units.

THE LOSS OF KEY PERSONNEL COULD ADVERSELY AFFECT OUR BUSINESS.

Our operations depend on the continued efforts of the executive officers and
management, and in particular, Frank P. Magliochetti, Jr., our President, Chief
Executive Officer and Chairman. The loss of key personnel or the inability to
hire or retain qualified personnel could seriously harm our business by reducing
our revenue, earnings and expected growth and sources of liquidity.

17

WE ARE DEPENDENT ON OUR ABILITY TO RECRUIT AND RETAIN QUALIFIED HEALTHCARE
PERSONNEL, WHO OFTEN ARE IN SHORT SUPPLY.

Our ability to deliver quality healthcare and services depends on our
ability to recruit qualified healthcare personnel. Currently, there is a
shortage of skilled healthcare workers. Consequently, competition for such
personnel is intense. We may experience a shortage of trained and competent
employees or independent contractors that could result in overtime costs or the
need to hire less efficient temporary staff. In some markets, we are concerned
about our ability to attract qualified healthcare personnel at a reasonable
cost. If we cannot successfully attract or retain a sufficient number of
qualified healthcare personnel in the future, we may not be able to perform
efficiently under our contracts, which could have a negative impact on our
reputation, lead to the loss of existing contracts and impair our ability to
secure additional contracts in the future.

THE LOSS OF OUR RELATIONSHIP WITH CERTAIN LARGE THIRD-PARTY PAYORS MAY ADVERSELY
AFFECT OUR RESULTS OF OPERATIONS.

The profitability and growth of our business depends on our ability to
establish and maintain close working relationships with government agencies,
managed care organizations, private and governmental third-party payors,
hospitals, physicians, physician groups, home health agencies, long-term care
facilities and other institutional healthcare providers.

One governmental agency, Medicaid, with which we have numerous contracts,
accounted for more than 56% and 19% of home care revenues for the fiscal year
ended March 31, 2002 of Chartwell and TLCS, respectively. The loss of existing
relationships with third-party payors or the failure to continue to develop such
relationships in the future could seriously harm our business by reducing our
revenues, earnings and potential for future growth.

OUR ACCOUNTS RECEIVABLE TAKE AN EXTENDED TIME TO COLLECT, WHICH STRAINS OUR
AVAILABLE CASH FOR OPERATIONS.

The alternate site/home infusion industry generally is characterized by long
collection cycles for accounts receivable. This is because of the complex and
time-consuming requirements for obtaining reimbursement from private and
non-governmental third party payors. A continuation of the lengthening of the
amount of time required to collect accounts receivables from managed care
organizations, the government or other payors would restrict our ability to pay
our liabilities as they become due.

Our home healthcare and pharmacy operations are financed through an accounts
receivable purchase program with NCFE, a related party, which provides
healthcare accounts receivable financing. However, the financing entity is not
obligated to continue to purchase such receivables. The current agreements
expire on varying dates ranging from December 31, 2002 through September 2003.
Our ability to maintain adequate financing for our current level of operations
and to fund growth is dependent upon our ability to renew or replace existing
credit facilities and to generate sufficient cash flow to meet our payment
obligations. Further, because we are required to finance our accounts
receivable, we incur significant interest charges which adversely affects our
profitability.

WE RELY ON REIMBURSEMENTS FROM THIRD-PARTY PAYORS TO PAY FOR OUR SERVICES;
PAYMENT FAILURES OR SIGNIFICANT DELAYS COULD ADVERSELY IMPACT OUR OPERATING
RESULTS.

We receive payment for services rendered to patients from state and local
agencies, private insurers and patients themselves, from the Federal government
under Medicare, and from the states in which we operate under Medicaid. The
Medicare and Medicaid programs are subject to statutory and regulatory changes,
retroactive and prospective rate adjustments, administrative rulings and funding
restrictions, any of which could have the effect of limiting or reducing
reimbursement levels. Any

18

change that limits or reduces the timing on levels of Medicare or Medicaid
reimbursement could have a material adverse effect on our cash flow, earnings
and cost of doing business. Historically, the amounts appropriated by state
legislatures for payment of Medicaid claims have not been always sufficient to
reimburse providers for services rendered to Medicaid patients. Failure of a
state to pay Medicaid claims on a timely basis may impact our ability to pay our
obligations when they come due and payable would seriously harm our business.

We typically receive payment between thirty (30) and one hundred twenty
(120) days after rendering an invoice, although this period can be longer.
Accordingly, our cash flow may at times be insufficient to meet our accounts
payable requirements. Historically, we have been required to borrow funds to
meet our ongoing obligations and may be required to do so in the future. We
would be seriously limited in the use of our operating cash flow if we were
unable either to borrow funds or to borrow funds on terms deemed favorable by
management to meet our payable requirements.

THE EFFECT OF ALTERNATIVE PAYMENT METHODOLOGIES OR OTHER HEALTHCARE REFORM COULD
ADVERSELY IMPACT OUR REVENUES AND PROFIT MARGINS.

In October 2000 a prospective payment system ("PPS") was established for all
home healthcare providers that provide Medicare services. There is an
opportunity to generate profits under PPS if costs are contained under the
per-episode reimbursement amounts. However, unforeseen changes in Federal
healthcare regulations, including changes to PPS, could adversely affect our
ability to generate a profit under PPS. In addition, because PPS may require
periodic changes in billing methodology, our systems may not be able to adapt
immediately or sufficiently to all such changes. Further, changes in Medicare
fiscal intermediaries' new systems may result in slower payments than otherwise
anticipated.

Because we are reimbursed for our services by the Medicare and Medicaid
programs, insurance companies, managed care companies and other third-party
payors, the implementation of alternative healthcare delivery systems and
payment methodologies could have an adverse effect on our revenues and profit
margins. Additionally, uncertainties relating to the nature and outcomes of
healthcare reforms have also generated numerous realignments, combinations and
consolidations in the healthcare industry, which may also seriously harm our
business by adversely affecting our operating results and business strategy.

PPS regulations included provision for a 15% reduction in Medicare payments
to home health care providers effective October 1, 2002. In June 2002, the House
of Representatives passed a bill, H.R. 4954, to eliminate the 15% reduction in
payments. This bill became effective for all PPS patient episodes ending after
October 1, 2002. Recently, a proposed Senate package also would eliminate the
15% reduction. While there are pending provisions to eliminate the 15% reduction
in PPS rates, there can be no assurance that such elimination will occur.

WE HAVE NEGOTIATED DEFERRED PAYMENT TERMS FOR SIGNIFICANT LIABILITIES FOR WHICH
ALTERNATIVE FINANCING MAY NOT BE AVAILABLE.

TLCS has negotiated deferred payment terms for its Medicare and Medicaid
liabilities. TLCS' aggregate Medicare and Medicaid liabilities at March 31, 2002
of approximately $54.5 million. Additionally, TLCS has made arrangements with
many of its other creditors to either reduce its liability to them, defer and/or
extend payment of the liability, or a combination of several of these steps. Our
vendors may not continue to extend credit in this manner. Pursuant to TLCS'
agreement with the Federal Centers for Medicare and Medicaid Services ("CMS") to
repay accumulated Medicare liabilities, TLCS will be required to pay excess
periodic interim payments received in prior years and Medicare audit liabilities
on a monthly basis through May 2005. United Government Services ("UGS"), a
fiscal intermediary for CMS, collects amounts due under the repayment plan by
offsetting against

19

current remittances due to us. We must generate sufficient cash to meet its
payment obligations under the deferred payment arrangements.

WE ARE DEPENDENT ON OUR RELATIONSHIPS WITH REFERRAL SOURCES, AND IF WE ARE
UNABLE TO MAINTAIN THESE RELATIONSHIPS, OUR OPERATING RESULTS WILL BE ADVERSELY
AFFECTED AND OUR BUSINESS WILL BE SERIOUSLY HARMED.

Our growth and profitability depends on our ability to establish and
maintain close working relationships with referral sources, including hospitals,
payors, physicians and other healthcare professionals. Managed care
organizations, which have been exerting an increasing amount of influence over
the healthcare industry, have been consolidating to enhance their ability to
impact the delivery of healthcare services. As managed care organizations
continue to increase their market share in regions in which we operate, these
organizations have become and will likely continue to become increasingly
important as our referral sources. If we are not able to successfully maintain
our existing referral sources or develop and maintain new referral sources, we
could experience a substantial decline in our revenues and earnings.

WE MAY NOT BE ABLE TO EFFECTIVELY COMPETE WITH OTHER HOME HEALTHCARE/ALTERNATE
SITE HEALTHCARE PROVIDERS, RESULTING IN A REDUCTION OF OUR REVENUES AND
EARNINGS.

The home healthcare/alternate site healthcare industry is highly competitive
and includes national, regional and local providers. We compete with a number of
companies in all areas in which our operations are located. Our competitors
include major national and regional infusion companies, hospital pharmacies,
independent regional and local pharmacies, hospital-based programs, numerous
local providers and nursing agencies. Some of our current and potential
competitors have or may obtain significantly greater financial and marketing
resources than we have. Accordingly, other companies, including pharmacies,
managed care organizations, hospitals, long-term care providers and healthcare
providers that currently are not serving the alternate healthcare market may
become competitors of ours and may be able to compete more effectively than us.
Increased competition in markets in which we focus our services may have a
negative effect on our revenues.

WE DEPEND ON A SMALL NUMBER OF VENDORS FOR OUR PHARMACEUTICALS AND OTHER
SUPPLIES, AND THE LOSS OF A SIGNIFICANT VENDOR OR AN INCREASE IN SUPPLY RELATED
COSTS COULD RESULT IN A SUBSTANTIAL INCREASE IN OUR COSTS AND DECLINE IN
EARNINGS.

We purchase pharmaceuticals and supplies from a preferred list of vendors
and a substantial amount of our purchasing is at volume discounts. If we were
unable to maintain our existing relationships with current suppliers or find
alternative suppliers who will offer the same discounted prices, the cost of
purchasing products would increase, which could result in a decline in our
operating income.

ALTHOUGH WE MAINTAIN INSURANCE ON THE PHARMACEUTICAL PRODUCTS WE SELL AND THE
PROFESSIONALS WE EMPLOY, ANY JUDGMENTS, SETTLEMENTS OR COSTS RELATING TO PENDING
OR FUTURE PROCEEDINGS AGAINST US THAT ARE NOT COVERED BY INSURANCE COULD
DIRECTLY INCREASE OUR EXPENSES AND ADVERSELY AFFECT OUR EARNINGS.

We periodically become involved in litigation alleging that our professional
caregivers committed medical malpractice by failing to provide timely or
adequate healthcare services. In addition, we periodically become involved in
product liability litigation. We may be liable, as an employer, for the
negligence of our employees. We also may have liability for the negligence of
persons that we engage as independent contractors. Our contracts generally
require us to indemnify the governmental agency for losses incurred related to
healthcare services provided by our agents and us.

20

Healthcare professionals with whom we contract must provide evidence that
they carry a minimum of $1 million of insurance coverage, although we cannot be
sure that such providers will continue to carry such coverage or that such
insurance is, or will continue to be, adequate or available to protect us, or
that we will not have liability independent of the providers and their coverage.
We maintain medical professional and general liability, including product
liability, insurance providing for coverage in an amount up to $1 million per
claim, subject to a limitation of $5 million for all claims in a single year.

If we were to suffer a loss or claim in excess of our insurance coverage, or
in an amount that was not covered by our insurance with respect to our
employees, contract workers or products, our financial position could be
significantly harmed.

INVESTMENT RISKS

OUR STOCK HAS BEEN DE-LISTED FROM THE AMERICAN STOCK EXCHANGE, WHICH MAY
RESTRICT YOUR ABILITY TO SELL YOUR SHARES IN THE AMOUNTS AND THE TIMES YOU WOULD
OTHERWISE LIKE TO.

As stated previously, we received notification on May 22, 2002 from the AMEX
that they had elected to proceed with filing an application with the SEC to
de-list our common shares from trading on the AMEX. While we initially elected
to appeal this decision as we disagreed with the factual allegations and
conclusions reached by the AMEX, we have since elected to voluntarily de-list
our shares from the AMEX based upon our analysis that we are unable to meet the
AMEX's continued listing requirements in view of several factors, including our
accumulated deficit at March 31, 2002.

Beginning July 16, 2002, our common stock is quoted on the "pink sheets".

From July 31, 2001 through August 1, 2001, our common stock was suspended
from trading on the AMEX because we did not file our annual report on Form 10-K
with the SEC in a timely fashion. Further, on June 4, 2002 and on June 27, 2002,
trading of our common stock on the AMEX was halted for part of each of those
days in order to ensure our compliance with AMEX disclosure policies.

FUTURE ISSUANCES OF A LARGE NUMBER OF SHARES OF OUR COMMON STOCK, INCLUDING
THOSE UNDER EXISTING AGREEMENTS, COULD CAUSE SIGNIFICANT DILUTION TO OUR
STOCKHOLDERS AND DEPRESS OUR STOCK PRICE.

Subject to market conditions, availability, and terms, we plan to sell
additional equity or debt securities with equity features in order to provide us
with additional funds to finance our continued operations, develop our
infrastructure, refinance current debt, introduce new products and services and
acquire additional companies or businesses. We cannot assure that we will be
able to sell such securities or that the price and other terms will meet those
required by potential investors in such securities.

The market price of our common stock could decline as a result of sales of a
large number of shares of common stock in the market, or the perception that
such sales could occur.

We have a large number of shares of common stock outstanding and available
for resale at various points in time in the future. These sales also might make
it more difficult for us to sell equity securities in the future at a time and
at a price that we deem appropriate. As of September 30, 2002, we have
outstanding 148,661,526 shares of common stock. Of these shares, approximately
72 million shares are restricted securities and will become eligible for sale
without registration pursuant to Rule 144 under the Securities Act of 1933, as
amended ("Rule 144"), subject to certain conditions of Rule 144. If holders sell
a large number of shares in the public market, our stock price could fall
materially.

The risk of dilution may cause the selling stockholders as well as other
stockholders of ours to sell their shares, which would contribute to a downward
movement in the stock price of our common stock. Moreover, the risk of dilution
and the resulting downward pressure on our stock price could encourage investors
to engage in short sales of our common stock. By increasing the number of shares
offered for

21

sale, material amounts of short selling could further contribute to progressive
price declines in our common stock.

THE SALE OF SHARES OF NEWLY AUTHORIZED COMMON STOCK, AS WELL AS THOSE COVERED
UNDER EXISTING AGREEMENTS COULD INFLUENCE THE CONTROL OF OUR COMPANY.

The acquisition by third party investors of a significant percentage of our
common stock could enable such investors to influence or direct the policies,
decisions and composition of our board of directors and management. A potential
change of control could involve a number of risks, including the diversion of
management attention and resources, the loss of key employees, and changes in
our business plan and operations. Any such event could directly increase our
expenses, decrease revenues, earnings and expected growth.

HOLDERS OF OPTIONS AND WARRANTS AND OTHER PARTIES HAVE THE RIGHT TO ACQUIRE A
LARGE NUMBER OF SHARES OF OUR COMMON STOCK, WHICH COULD DILUTE THE OWNERSHIP OF
OUR EXISTING STOCKHOLDERS.

We have reserved a total of 31.0 million shares of our common stock for
issuance upon exercise of options granted or which may be granted under our
existing stock option plans. As of March 31, 2002, stock options to acquire
5.3 million shares at a weighted average exercise price of $3.24 per share were
outstanding. In addition, as of March 31, 2002, warrants to acquire
50.3 million shares of our common stock at a weighted average exercise price of
$2.74 per share were outstanding. It is likely that we will be required to issue
warrants and options to lenders and other providers as an additional inducement
to continue to do business with us. The holders of these options and warrants
will have the opportunity to profit from an increase in the market price of our
common stock. These options and warrants may make it more difficult for us to
obtain additional equity financing in the future. The holders of these options
and warrants can be expected to exercise the options and warrants at a time when
we, in all likelihood, would be able to sell equity securities on terms more
favorable to us than those provided in the options and warrants.

THE PRICE OF OUR COMMON STOCK MAY CONTINUE TO BE VOLATILE.

The market price of our common stock has been, and in the future could be,
significantly affected by factors such as:

- actual or anticipated fluctuations in operating results;

- new products or new contracts;

- competitors or their customers;

- governmental regulatory action;

- developments with respect to patents or proprietary rights;

- changes in financial estimates by securities analysts; and

- general market conditions.

The stock markets in general have experienced substantial volatility that
has often been unrelated to the operating performance of particular companies.
These broad market fluctuations may adversely affect the trading price of our
common stock.

22

INDUSTRY RISKS

GOVERNMENT REGULATION OF THE HEALTHCARE INDUSTRY COULD ADVERSELY AFFECT OUR
REVENUES.

Generally, the healthcare industry, including our business, is subject to
extensive federal, state and local regulation requiring compliance with
extensive and complex billing, substantiation and record-keeping requirements,
governing licensure and conduct of operations at existing facilities,
construction of new facilities, acquisition of existing facilities, additions of
new services, certain capital expenditures, the quality of services provided and
the manner in which such services are provided and reimbursement for services
rendered. Changes in applicable laws and regulations or new interpretations of
existing laws and regulations could have a material adverse effect on licensure,
eligibility for participation, permissible activities, operating costs and our
levels of reimbursement from governmental and other sources. There can be no
assurance that regulatory authorities will not adopt changes or new
interpretations of existing regulations that could harm our business. In
addition, our operations are subject to review by federal and state regulatory
agencies to assure continued compliance with various standards, their continued
licensing under state law and their certification under the Medicare and
Medicaid programs. Failure to comply with applicable laws and regulations could
result in significant costs and criminal penalties. In addition, violation of
applicable laws and regulations could result in prohibition of our payment for
services we have provided and loss of the licenses we need to conduct our
business, this adversely affecting our revenues.

CHANGES IN THE HEALTHCARE INDUSTRY COULD ADVERSELY AFFECT OUR FINANCIAL POSITION
AND RESULTS OF OPERATIONS.

The healthcare industry is subject to changing political, economic and
regulatory influences. These factors affect the purchasing practices and
operations of healthcare organizations. Changes in current healthcare financing
and reimbursement systems could cause us to make unplanned enhancements of
applications or services, or result in delays or cancellations of orders, or in
the revocation of endorsement of our applications and services by healthcare
participants. Federal and state legislatures have periodically considered
programs to reform or amend the U.S. healthcare system at both the federal and
state level. Such programs may increase governmental involvement in healthcare,
lower reimbursement rates, or otherwise change the environment in which
healthcare industry participants operate. Healthcare industry participants may
respond by reducing their investments or postponing investment decisions,
including investments in our applications and services.

Many healthcare industry participants are consolidating to create integrated
healthcare delivery systems with greater market power. As the healthcare
industry consolidates, competition to provide products and services to industry
participants will become even more intense, as will the importance of
establishing a relationship with each industry participant. These industry
participants may try to use their market power to negotiate price reductions for
our products and services. If we are forced to reduce our prices, our operating
results could suffer if we cannot achieve corresponding reductions in expenses.

COST CONTAINMENT MEASURES BY GOVERNMENT AND OTHER THIRD-PARTY PAYORS COULD
REDUCE OUR REVENUES AND EARNINGS.

The healthcare industry is experiencing a trend toward cost containment, as
government and other third-party payors seek to impose lower reimbursement and
utilization rates and negotiate reduced payment schedules with service
providers. These cost containment measures, combined with the increasing
influence of managed care payors and competition for patients, has resulted in
reduced rates of reimbursement for services provided by us, which has adversely
affected, and may continue to adversely affect, our margins. Aspects of certain
healthcare reform proposals, such as cutbacks in the Medicare and Medicaid
programs, reductions in Medicare reimbursement rates and/or limitations on

23

reimbursement rate increases, containment of healthcare costs on an interim
basis by means that could include a short-term freeze on reimbursements paid by
healthcare providers, and permitting greater state flexibility in the
administration of Medicaid, could seriously harm us. Additional changes to the
Medicare or Medicaid programs involving significant limits on the scope of
services reimbursed and on reimbursement rates and fees could reduce our
revenues, earnings and expected growth.

OUR INABILITY TO RENEW OUR LICENSE TO PROVIDE HOME HEALTHCARE SERVICES IN A
JURISDICTION MAY ADVERSELY AFFECT OUR RESULTS OF OPERATIONS.

The profitability and growth of our business depends on our ability to
establish and maintain operating licenses throughout the country. While we
maintain close working relationships with government agencies, that oversee the
licensing process, actions such as those by New York's Department of Health and
Rhode Island's Department of Health, which may initiate revocation proceedings
against certain of our locations for failure to obtain certain approvals related
to the proposed sale of the New York state licensed businesses to us may
adversely impact revenues and results of operations.

CONSOLIDATION IN THE HEALTHCARE INDUSTRY COULD GIVE INCREASED PRICING POWER TO
PURCHASERS OF OUR SERVICES AND REDUCE OUR REVENUES.

Managed care organizations have grown substantially in terms of the
percentage of the population that is covered by such organizations and in terms
of their control over an increasing portion of the healthcare economy. Managed
care plans have continued to consolidate to enhance their ability to influence
the delivery of healthcare services and to exert pressure to control healthcare
costs. This increased pressure may require us to reduce our prices or forfeit
existing or new business, which would adversely impact our revenues.

COMPETITION IN THE HEALTHCARE INDUSTRY IS INTENSE AND COULD ADVERSELY AFFECT OUR
FINANCIAL POSITION AND RESULTS OF OPERATIONS.

The healthcare industry is highly competitive and is subject to continuing
changes in the provision of services and the selection and compensation of
providers. We compete on a local and regional basis with other providers on the
basis of the breadth and quality of our services, the quality of our products
and, to a more limited extent, price. Our current and potential competitors
include national, regional and local operators of geriatric care facilities,
acute care hospitals and rehabilitation hospitals, extended care centers,
retirement centers and other home respiratory care, infusion and durable medical
equipment companies and similar institutions, many of which have significantly
greater financial and other resources than we do. In addition, we compete with a
number of tax-exempt nonprofit organizations that can finance acquisitions and
capital expenditures on a tax-exempt basis or receive charitable contributions,
which are unavailable to us. New service introductions and enhancements,
acquisitions, continued industry consolidation and the development of strategic
relationships by our competitors could cause a significant decline in sales or
loss of market acceptance of our services or intense price competition or make
our services noncompetitive. Further, technological advances in drug delivery
systems and the development of new medical treatments that cure certain complex
diseases or reduce the need for healthcare services could adversely impact our
business. In addition, relatively few barriers to entry exist in local home
healthcare markets. There can be no assurance that we will be able to compete
successfully against current or future competitors or that competitive pressures
will not increase our expenses or reduce our revenues, which adversely effect
earnings.

ITEM 2. DESCRIPTION OF PROPERTY.

Our principal offices are in Andover, Massachusetts. We also have additional
administrative offices in Lake Success, New York, Pittsburgh, Pennsylvania and
Addison, Texas. These offices are leased. We

24

believe that our headquarters office space is sufficient for our immediate needs
and that we will be able to obtain additional space as needed in the future.

We lease all our branch office locations from unaffiliated landlords. Most
of these are for a specified term although several of them are month-to-month
leases. Currently we have 125 locations including 104 operated by us and 31
operated by 23 different licensees. These licensee offices are owned by
licensees or are leased by the licensee from third-party landlords. We believe
that we will be able to renew or find adequate replacement offices for leases
that are scheduled to expire in the next twelve months at comparable costs.

In addition, we own or lease computer and communication equipment necessary
to operate our business.

ITEM 3. LEGAL PROCEEDINGS.

We are party to routine litigation involving various aspects of our
business. In addition, we have been and continue to be involved in litigation
regarding several of our acquisitions and strategic relationships. Except as
described below, none of such pending litigation, in our opinion, could have a
material adverse impact on our consolidated financial condition, results of
operations, or businesses.

PRIMERX.COM/NETWORK PHARMACEUTICALS, INC.

Our relationship with PrimeRx.com ("PrimeRx"), Network
Pharmaceuticals, Inc. ("Network") and the principal stockholders of PrimeRx has
been a troubled one characterized by numerous disputes and litigation. On
March 26, 2001, we entered into a Settlement Agreement and Mutual Releases (the
"March 2001 Settlement Agreement") with PrimeRx, Network, PrimeMed Pharmacy
Services, Inc. ("PrimeMed"), another subsidiary of PrimeRx and the shareholders
of PrimeRx. On or about July 16, 2001, Network filed a complaint against us and
our strategic partner, NCFE (NETWORK PHARMACEUTICALS, INC., A NEVADA
CORPORATION; NCFE; AND DOES 1 THROUGH 25, INCLUSIVE, SUPERIOR COURT OF THE STATE
OF CALIFORNIA FOR THE COUNTY OF LOS ANGELES (CENTRAL DISTRICT) (CASE NO. BC
254258)). This suit alleged breach of the March 2001 Settlement Agreement. On or
about September 26, 2001, this matter was ordered to arbitration through the
American Arbitration Association (the "AAA").

On or about September 28, 2001, Network formally filed its claim with the
AAA claiming damages of over $10 million. In addition, on or about October 19,
2001, Network filed documents seeking a court order allowing Network to attach
up to $14 million of our assets pending resolution of this action. Network's
request for attachment was denied.

On or about November 6, 2001, we filed documents with the AAA denying the
allegations raised by Network and counterclaiming against Network and its
alleged co-conspirators, Prem Reddy, Richard Hayes, Prime A Investments, LLC,
PrimeMed, PrimeRx and Doe Defendants for over $120 million.

As of July 1, 2002, we entered into a settlement agreement with Network,
PrimeRx and its principal shareholders (the "Network Settlement"). Under the
terms of the Network Settlement, provided we meet the obligations set forth
therein, each of us, NCFE, and one of NCFE's subsidiaries on the one hand, and
the cross-defendants (which include Network and certain alleged co-conspirators)
release one another from all claims related to the subject matter of this
litigation. This release does not cover certain employment compensation disputes
that one of the principal shareholders of PrimeRx has against us and does not
release any parties other than NCFE, the NCFE subsidiary and us.

Our obligations under the Network Settlement include (i) a payment of
$2.5 million we made on July 1, 2002; (ii) a payment of $2.5 million by wire
transfer by August 1, 2003; (iii) a transfer of shares of PrimeRx that we had
held, which transfer was made prior to July 1, 2002; (iv) returning all of
PrimeRx's, Network's and their affiliates' equipment by July 15, 2002 along with
an inventory of such equipment that indicates whether any equipment has been
previously sold by us; (v) monthly payments

25

commencing July 15 in connection with certain guaranties of leased equipment
made by a principal shareholder of PrimeRx; and, (vi) a dismissal of our
cross-complaint with prejudice in the arbitration proceedings. Amounts
pertaining to this settlement were expensed and recorded as of March 31, 2002.

VIDIMEDIX CORPORATION

On or about September 15, 2000, certain former securities holders of
VidiMedix Corporation ("VidiMedix") filed a petition against us arising from our
acquisition of VidiMedix (MONCRIEF, ET AL. V. e-MEDSOFT.COM AND VIDIMEDIX
ACQUISITION CORPORATION, HARRIS COUNTY (TEXAS) COURT, NO. 200047334 (the "Texas
Action")). The petition was amended on or about May 24, 2001 and amended again,
on or about August 15, 2001. Plaintiffs Jana Davis Wells and Tom Davis, III
("Remaining Plaintiffs") filed a Third Amended Original Petition on or about
December 26, 2001.

Plaintiffs claimed that we owe them either 6.0 million shares of common
stock or liquidated damages of $8.9 million and exemplary damages of at least
$24 million. We settled those disputes with all but two former VidiMedix
shareholders, the Remaining Plaintiffs.

On May 3, 2001, we filed a lawsuit against the plaintiffs and others in
California Superior Court for the County of Los Angeles (e-MEDSOFT.COM V.
MONCRIEF, ET AL., CASE NO. BC249782 (the "California Action")). On or about
October 19, 2001, defendants caused the case to be transferred to the United
States District Court for the Central District of California based on diversity
of citizenship between the defendants and us, the case is now known as CASE NO.
EDCV 01-00803-VAP (SGLX). We settled those disputes with all but two former
VidiMedix shareholders. The terms of the settlement required us to pay
approximately $4.1 million in a combination of cash and common stock. The
Remaining Plaintiffs are the only remaining plaintiffs in the Texas Action and
the only remaining defendants in the California Action.

As of July 31, 2002, we reached a settlement with the Remaining Plaintiffs.
Settlement terms included a mutual release from the Texas Action and for us to
dismiss the California action with prejudice and monetary payments to the
remaining plaintiffs over a seven month period.

SUTRO NASD ARBITRATION NO. 1

As disclosed in the our Annual Report on Form 10-K at and for the year
period ended March 31, 2001, a dispute between Sutro & Co., and us has been
arbitrated before the National Association of Securities Dealers. On
October 22, 2001, we agreed to settle the matter and Sutro NASD Arbitration
No. 2 described below for 1.6 million shares of our common stock. We delivered a
stock certificate for 1.3 million shares of our common stock representing shares
due Sutro from an exercise of our warrants in June and August 2000. These shares
met all requirements of Rule 144 (k) and were delivered to Sutro without
restriction. We also delivered a stock certificate for 300 thousand shares of
our common stock with a value of $720 thousand at the time of issuance. We
agreed to register these shares in our next registration statement filing with
the SEC. If based on the closing price of our common stock two days prior to the
effective date of the registration statement, the market value of the
300 thousand shares is less then $720 thousand, then we are obligated to issue
an additional number of shares such that the market value of the sum of the
shares is as nearly as possible equal to $720 thousand. Based on the closing
price of our common stock at June 30, 2002, we would be obligated to issue an
additional 3.3 million shares. As a result of this settlement we expensed
$3.7 million as of March 31, 2002.

SUTRO NASD ARBITRATION NO. 2

An investor in the Company sued Sutro for failing to honor commitments and
failures to act in accordance with its fiduciary duties. This matter was being
arbitrated before the National Association

26

of Securities Dealers. As part of the Sutro No. 1 NASD arbitration settlement
described above, on October 22, 2001, we agreed to settle the matter.

CAPPELLO CAPITAL CORP.

On November 16, 2001, we filed a complaint against Cappello Capital Corp.
("Cappello") (MED DIVERSIFIED V. CAPPELLO CAPITAL CORP., LOS ANGELES SUPERIOR
COURT CASE NO. SC 069391 (the "Cappello Action")), alleging that Cappello is
liable for fraud for inducing us to enter into an exclusive financial advisor
"Engagement Agreement" by misrepresenting to us that Cappello had significant
sources of capital ready and willing to invest in us when such was not true. In
the complaint, we sought compensatory and punitive damages, as well as
rescission of the Engagement Agreement. We dismissed the case without prejudice
on March 1, 2002, and settled the case and all claims relating thereto as of
March 25, 2002. We have fulfilled all of our obligations under this settlement.

HOSKIN INTERNATIONAL, LTD. AND CAPPELLO CAPITAL CORP.

On October 30, 2001, we filed a demand for arbitration with the American
Arbitration Association ("AAA") against Hoskin International, Ltd. ("Hoskin")
and Cappello (collectively, "Respondents") (AAA CASE NO. 50T 168 00515 1),
alleging that Respondents fraudulently induced us to enter into a "Common Stock
Purchase Agreement" and to issue warrants through various misstatements of
material facts and failed to disclose facts that the Respondents had a duty to
disclose. This matter is before an administrator assigned to the case through
the San Francisco branch of the AAA.

On December 28, 2001, Hoskin filed a response to our demand in which it
denied our allegations and asserted a counterclaim alleging that we are liable
for breach of the Common Stock Purchase Agreement and warrants based on our
alleged failure to use best efforts to cause the registration statement for the
warrants to become effective at a time when the warrants could have been
exercised at a profit.

On January 2, 2002, Cappello filed a motion to stay arbitration before the
AAA as to Cappello on the grounds that Cappello was not a party to the
arbitration clause contained in the Common Stock Purchase Agreement, and that
our claims against Cappello should be resolved in the Cappello Action in Los
Angeles (as described above under "Legal Proceedings: Cappello Capital Corp.").
The Court granted Cappello's motion on January 28, 2002. We dismissed, without
prejudice, the claims asserted against Cappello in the AAA arbitration.
Arbitration of the Hoskin matter is scheduled for late October, 2002. Settlement
discussions are ongoing.

ILLUMEA (ASIA)

On December 13, 2000, Illumea (Asia), Ltd. ("IAL"), Nathalie j.v.d.
Doornmalen, David Chung Shing Wu, George K.K. Tong, Edna Liu, Yee Mau Chen,
Norman Yuen Tsing Tao, Jeffrey Sun, Boris Luchterhand, Carol Andretta, Kin Yu,
Kathryn Ma, Alan Munro, Yonanda j.v.d. Doornmalen, Hunter Vest, Ltd., Eltrinic
Enterprises, Ltd. and True Will Investments filed a First Amended Complaint
against Illumea Corporation ("Illumea") and Andrew Borsanyi (collectively
"Defendants") arising out of our acquisition of Illumea (ILLUMEA (ASIA), LTD.,
ET AL. V. ILLUMEA CORPORATION AND ANDREW BORSANYI). All of the plaintiffs IAL
and Nathalie Doornmalen thereafter dismissed their claims without prejudice. As
a result, only IAL and Doornmalen remained as plaintiffs.

Doornmalen, a former Illumea shareholder, alleges that she consented to our
acquisition of Illumea based on the allegedly false representation that we would
hire her. She also alleges that Defendants made defamatory statements about her.
Doornmalen asserts claims for securities fraud under 15 U.S.C. Section 78j(b)
and Rule 10b-5, "conspiracy," breach of contract, fraud, false promise,
defamation, and violation of California Business & Professions Code
Section 17200 ("Section 17200"). IAL alleges that Illumea breached an agency
agreement between IAL and Illumea and engaged in

27

fraud in connection with the agency relationship. IAL asserts claims for breach
of contract and fraud. Collectively, plaintiffs seek compensatory damages,
disgorgement under Section 17200 and attorneys' fees.

We filed a counterclaim against IAL and Doornmalen on March 26, 2001,
alleging breach of contract, breach of fiduciary duty and fraud. We allege that
IAL and Doornmalen refused to repay Illumea for providing funding and equipment
to IAL and that Doornmalen failed to disclose certain material issues in
connection with the merger between Illumea and us.

As of April 2, 2002, we settled these matters. Under the terms of the
settlement, we were required to (i) pay $300 thousand, (ii) issue 700 thousand
shares of our common stock and (iii) file a registration statement, on
Form S-1, registering the 700 thousand shares. As of October 31, 2002, we have
not filed the registration statement as set forth in the Settlement Agreement.
We have been notified that Nathalie Doornmalen has filed a motion to enforce the
Settlement Agreement in the Illumea (Asia), Ltd. matter. The opposition to this
motion is due on Monday, November 4, and the hearing is on November 18.

TREBOR O. CORPORATION

On June 29, 2001, Trebor O. Corporation, a California corporation, doing
business as Western Pharmacy Services ("Trebor O."), and its principal Robert
Okum, filed an action in Los Angeles County Superior Court against us, PrimeRx,
Chartwell Diversified Services and various individuals (TREBOR O. CORPORATION
D.B.A. WESTERN PHARMACY SERVICES AND ROBERT OKUM V. e-MEDSOFT.COM, PRIMERX,
CHARTWELL DIVERSIFIED SERVICES AND VARIOUS INDIVIDUALS, LOS ANGELES SUPERIOR
COURT CASE NO. BC 253387). The plaintiffs assert claims for breach of contract,
promissory estoppel, misrepresentation, breach of confidentiality, and tortious
interference, and seek more than $5 million in compensatory damages, on the
theory that we entered into a letter of intent to purchase Trebor O, but then
refused to complete the transaction. We have settled this lawsuit as of
July 2002. Settlement terms include dismissal of Trebor O's suit against us and
a payment by us to Trebor O.

SAN DIEGO ASSET MANAGEMENT, INC.

On October 24, 2001, we filed a complaint against San Diego Asset
Management, Inc. ("SDAM") (MED DIVERSIFIED V. SAN DIEGO ASSET MANAGEMENT, INC.,
LOS ANGELES SUPERIOR COURT CASE NO. BC 260285 (the "2001 SDAM Action")) arising
out of an agreement whereby we were to sell shares of our common stock that
could be purchased for $83 million for 90% of the market price of our common
stock to SDAM. We agreed to prepare a certificate for 15 million restricted
shares of our common stock as a commission (the "Certificate"), as well as pay
$3 million in cash as commission to SDAM. We delivered the Certificate but SDAM
did not deliver the $83 million. In the lawsuit, we sought a temporary
restraining order, preliminary injunction and permanent injunction ordering SDAM
to return the Certificate to us. Pursuant to the Court's order dated
November 6, 2001, the Certificate was returned to us and cancelled. We dismissed
the 2001 SDAM Action without prejudice on November 13, 2001.

On February 1, 2002, we filed for Arbitration with the National Association
of Securities Dealers (the "NASD Arbitration") against SDAM and its principals,
Wendy Feldman Purner and Daniel Feldman (collectively, "Respondents) (NASD CASE
NO. 02-00650), alleging that Respondents fraudulently induced us to enter into a
"Securities Purchase Agreement" through various misstatements of material fact
and, alternatively, that Respondents breached the Security Purchase Agreement.
On March 13, 2002, following objections to jurisdiction, we dismissed without
prejudice the claims asserted against Daniel Feldman in the arbitration. The
remaining Respondents have not yet responded to our claims and no arbitrator has
yet been selected.

28

On February 5, 2002, we filed a complaint against SDAM and its principals,
Wendy Feldman Purner and Daniel Feldman, (MED DIVERSIFIED, INC. V. SAN DIEGO
ASSET MANAGEMENT, INC., WENDY FELDMAN PURNER AND DANIEL FELDMAN, LOS ANGELES,
SUPERIOR COURT CASE NO. BC 267635 (the "2002 SDAM Action")), alleging that they,
in the second half of 2001, fraudulently induced us to enter into a "Debenture
Agreement" through various misstatements of material fact and, alternatively,
that they breached the Debenture Agreement.

On February 28, 2002, we amended our complaint in the 2002 SDAM Action to
add as defendants E*Trade Securities, Inc. and E*Trade Group, Inc. and to add,
as against SDAM, Wendy Feldman Purner and Daniel Feldman, the claims asserted in
the NASD Arbitration. No discovery has been propounded as of October 24, 2002.
On May 3, 2002, we dismissed E*Trade from the 2002 SDAM Action without
prejudice. On May 6, 2002, we dismissed Daniel Feldman from the 2002 SDAM Action
without prejudice.

On May 9, 2002, SDAM filed a cross-complaint against us. They allege that on
or about August of 2001, we entered into an agreement with SDAM to sell them
5 million shares of our common stock and that they paid us $2 million, but have
not received any stock. After we demurred to SDAM's cross-complaint, SDAM filed
an amended cross-complaint July 3, 2002. These matters are currently in
discovery.

CRAVEY

Warren Willard Cravey ("Cravey"), now deceased, was a client of Chartwell
Community Services, Inc. ("Chartwell").

Chartwell provided care to Cravey via its community-based alternatives
program. On October 1, 2001, Lorene Emma Barros, Individually and as Executive
to the Estate of Warren Willard Cravey, Deceased, Cheryl Lynn Sloniger, Londa
Sylvia Cravey, Lorna Christine Tillman, and Warren Willard Cravey, II
("Plaintiffs') filed a lawsuit against Concepts of Care Ii, Inc., Chartwell
Community Services, Inc. f/k/a Concepts of Care, Infusion Management
Systems, Inc. d/b/a Concepts of Care, HomeCare Concepts of America, Inc. d/b/a
Concepts of Care, Mollie Primrose, and Mollie Gay Jordy ("Defendants"). (Cause
No. 23096, pending in the District Court of Jasper County, Texas.) Plaintiffs in
the above-referenced cause are the children of Cravey.

Plaintiffs claim that Defendants were negligent in their care of Cravey.
Plaintiffs allege against Chartwell claims for negligence, negligence per se,
gross negligence, and breach of fiduciary duty. Pursuant to the theory of
respondeat superior, Plaintiffs also assert that Chartwell is liable for the
alleged negligence of its former employee, Defendant Mollie Primrose, in her
care of Cravey. Plaintiffs also assert against Chartwell a claim for punitive
damages, alleging Chartwell's conduct was grossly negligent and/or malicious.
Chartwell denies and is vigorously defending all claims.

All parties to the suit are currently actively engaged in discovery. To
date, there have been no motions for summary judgment or any other dispositive
motions filed by any party. Though a jury trial has been demanded, this case is
not presently set for trial.

H.L.N. CORPORATION

H.L.N. Corporation, Frontlines Homecare, Inc., E.T.H.L., Inc., Phoenix
Homelife Nursing, Inc., and Pacific Rim Health Care Services, Inc., former
licensees (franchisees) of TLCS for the territory comprising certain counties in
and around Los Angeles, California, and their holding company, instituted an
action against TLCS subsidiaries, Staff Builders, Inc., Staff Builders
International, Inc. and Staff Builders Services, Inc., and certain executive
officers of TLCS. Plaintiffs filed a First and Second Amended Complaint in the
Central District on January 8, 1999 and September 1, 1999, respectively, to
challenge the termination of the four franchise agreements between TLCS and
certain of the named

29

plaintiffs (H.L.N. CORPORATION, ET AL. V. TLCS SUBSIDIARIES, ET AL.). The
plaintiffs are seeking damages for violations of California franchise laws,
breach of contract, fraud and deceit, unfair trade practices, claims under the
RICO, negligence, intentional interference with contractual rights, declaratory
and injunctive relief and a request for an accounting. The plaintiffs have not
specified the amount of damages they are seeking. Pursuant to a Motion of
Summary Judgment, the court granted all of the individual defendants' Motion for
Summary Judgment dismissing all causes of action against these individuals. In
addition, the court dismissed the RICO, fraud, negligence, California franchise
investment law and implied covenant of good faith and fair dealing claims. The
only remaining triable issues in the case are those relating to breach of
contract, unfair business practices and wrongful termination under the
California Franchise Law. Trial is scheduled for August 2003.

NURSING SERVICES OF IOWA

On April 30, 1999, Nursing Services of Iowa, Inc., Helen Kelly, Geri-Care
Home Health Inc. and Jacquelyn Klooster, two former home healthcare licensees of
TLCS and the principals in Des Moines and Sioux City, Iowa, respectively,
commenced an action in the United States District Court for the Southern
District of Iowa, Central Division against TLCS' subsidiaries Staff Builders
International, Inc., Staff Builders Services, Inc., Staff Builders, Inc. and
certain executive officers of TLCS. The action alleges claims under the RICO,
claiming a series of deliberate and illegal actions designed to defraud Staff
Builders' franchisees, as well as claims for negligence, breach of fiduciary
duty, breach of contract, fraudulent misrepresentation and violation of the Iowa
franchise law. The complaint seeks unspecified money damages, a claim for treble
damages on the RICO claims and punitive and exemplary damages. Pursuant to TLCS'
Motion to Dismiss all counts except for one count were dismissed by the Court.
TLCS' Motion for Summary Judgment was granted on May 25, 2001, which reduced the
lawsuit to one for breach of contract only. The case was tried before a jury in
July 2002. The jury awarded nominal damages to Geri-Care and no damages to
Nursing Services of Iowa. The judgment was paid and a Satisfaction of Judgment
was entered in the court.

ADDUS HEALTHCARE

On or about April 24, 2002, we filed a complaint against Addus
Healthcare, Inc. ("Addus"), and its major shareholders, W. Andrew Wright, Mark
S. Heaney, Courtney E. Panzer, and James A. Wright (MED DIVERSIFIED, INC. V.
ADDUS HEALTHCARE, INC., ET AL., U.S. DISTRICT COURT, CENTRAL DISTRICT OF
CALIFORNIA, CASE NO. CV 02-3911 AHM (JTLX)). We contend that Addus has been
unable to perform its obligations under a certain stock purchase agreement
relating to our acquisition of Addus. We allege that Addus breached the
warranties and representations it gave regarding its financial condition, and
Addus has been unable to obtain the consent of necessary third parties to assign
some relevant contracts. We believe that Addus has breached the agreement in
other ways, as well. Additionally, we allege that the defendants have
misappropriated our deposit.

The complaint demands the imposition of a constructive trust for the
converted funds; and an injunction against the defendants' disposing of or
liquidating the $7.5 million deposit. Our complaint further alleges fraud on
behalf of the defendants, stating that they never intended to complete the
transaction but planned to use the pendency of the transaction to obtain
concessions from us. Additionally, there is a claim for breach of contract. We
seek compensatory damages of approximately $10 million per claim, plus punitive
damages, along with the equitable relief previously described and attorney's
fees.

Addus has filed a counterclaim against us. They allege that we
(1) fraudulently induced them to enter into the agreement (2) negligently
misrepresented certain aspects of our business, (3) breached the terms of the
agreement by not closing the transaction and not having available funds to close
the transaction, and (4) breached certain other confidentiality agreements. They
have sought compensatory damages in excess of $4 million, a declaratory judgment
that they are entitled to retain the $7.5 million

30

deposit, for general and special damages. We dispute these claims vigorously and
believe they are without merit. On July 9, we filed a reply to the counterclaim.
This matter has been transferred to the Northern District of Illinois. On
October 11, 2002, we filed an Amended Complaint. Addus' answer to that complaint
is due on November 1, 2002.

UNIVERSITY AFFILIATES

In January 2002, we filed a Complaint against University Affiliates IPA
("UAIPA") and its president, Sam Romeo, who at the time was also a member of our
board of directors, for breach of contract, fraud, and, as to Mr. Romeo, breach
of fiduciary duty arising out of a May 2, 2000 agreement between UAIPA and us.
Under the agreement, during the quarter ended June 2000, we advanced $2 million
to UAIPA for the purpose of creating a joint venture intended to combine UAIPA's
supposed healthcare management expertise with Internet healthcare management
systems in an effort to develop new business opportunities. As of the filing of
the suit, the companies had not proceeded with the joint venture. According to
the original agreement, if a formal joint venture agreement were not entered
into between UAIPA and us by July 1, 2000, UAIPA would guarantee payment of
$2.5 million on or before July 1, 2001. The $2.5 million has not been paid. We
seek payment of this amount, plus any profits from the business opportunities
that were to be transferred to the joint venture, and punitive damages.

On March 4, 2002, UAIPA served a cross-complaint against us, Sanga E-Health,
LLC, TSI Technologies, LLC, Mitchell Stein, and John F. Andrews alleging breach
of various contracts, breach of the implied covenant of good faith and fair
dealing, declaratory relief, promissory estoppel, fraud, negligent
misrepresentation, unjust enrichment, quantum meruit, conversion, money had and
received, breach of fiduciary duty, interference with prospective business
advantage and unfair business practices, seeking damages in the aggregate of
approximately $11 million plus punitive damages. The court denied our motion to
compel arbitration on May 8, 2002. We subsequently filed a cross-complaint
against UAIPA and Sam Romeo regarding their failure to adhere to the May 2, 2000
agreement. No trial date has been set and UAIPA is currently in bankruptcy
proceedings.

MEDICAL SPECIALTIES DISTRIBUTORS INC.

In July of 2001, Medical Specialties Inc. ("Medical Specialties") sued our
subsidiary, Chartwell, in state court in Massachusetts (MEDICAL SPECIALTIES
DISTRIBUTORS INC. V. CHARTWELL DIVERSIFIED SERVICES, INC., ET AL., BRISTOL
COUNTY SUPERIOR COURT (MASSACHUSETTS) CIVIL ACTION NO. BRCV2001-00845. This
claim alleges failure to pay for the purchase of healthcare products and
equipment rentals totaling approximately $2 million. The case is currently in
discovery. We had been informed previously by Home Medical of America, Inc.
("HMA") that they would assume the defense of this matter. As of the date
hereof, we have not been informed that HMA has actually assumed such defense. We
continue to request of HMA that they assume this defense, and have retained
counsel to handle this defense in the meantime.

TRI-COUNTY HOME HEALTH, INC.

In March of 2002, Tri-County Home Health ("Tri-County") and other plaintiffs
filed suit against Chartwell Community Services, Inc., Chartwell Diversified
Services, Inc. (each is a subsidiary of ours) and Shay Fields (TRI COUNTY HOME
HEALTH, INC. ET AL. V. CHARTWELL COMMUNITY SERVICES, INC., CHARTWELL DIVERSIFIED
SERVICES, INC. AND SHAY FIELD, 365TH JDC, HARDIN COUNTY TX, CASE NO. 42108).
Tri-County claims that the defendants breached a contract for the sale of the
long term care portion of Tri-County's operations. They have also alleged fraud,
tortious interference, material misrepresentation and unfair dealings. They seek
damages in excess of $1 million. Chartwell answered their complaint and believes
that their claims are without merit. Chartwell intends to vigorously defend this
action.

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

None.

31

PART II

ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.

(a) MARKET INFORMATION. Our common stock was listed on the AMEX under the
symbol "MED" from January 11, 2000 until July 15, 2002. Effective July 16, 2002
our common stock is quoted on the "pink sheets" under the symbol "MDDV.PK".
Prior to January 11, 2000, our common stock traded on the OTC:BB, under the
symbol "MDTK". The following table sets forth the high and low sales prices of
our common stock as reported on the AMEX for the period beginning on
January 11, 2000. The following table also sets forth the high and low bid
prices for our common stock for the periods (prior to January 11, 2000)
indicated, as reported by the OTC:BB. These prices are believed to be inter-
dealer quotations and do not include retail mark-ups, markdowns, or other fees
or commissions, and may not necessarily represent actual transactions. On
May 28, 1999, we changed our year-end from May 31 to March 31. As a result, the
quarter ending March 31, 1999 represents only one month of trading.

(b) HOLDERS. As of September 30, 2002, there were a total of 726
shareholders of record. This does not include shareholders who hold stock in
their accounts at broker/dealers.

(c) DIVIDENDS. We have never paid a cash dividend on our common stock and
do not expect to pay a cash dividend in the foreseeable future.

32

(d) SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS.

EQUITY COMPENSATION PLAN INFORMATION
(AS OF MARCH 31, 2002)

(e) RECENT SALES OF UNREGISTERED SECURITIES. In addition to security sales
previously reported in our quarterly reports on Form 10-Q for the quarters ended
June 30, 2001, September 30, 2001 and December 31, 2001, we have sold the
following securities that were not registered under the Securities Act of 1933,
as amended (the "Securities Act").

On May 15, 2001, we issued a warrant to TSI (now known as Swab Financial,
LLC) to purchase 4.8 million shares of our common stock exercisable until
May 15, 2008 at an exercise price of $2.30 per share. The warrant was issued in
consideration for TSI's contribution of 1 million shares of our common stock on
our behalf to Startnest LLC, in November 2000 and for consulting services during
the fiscal year ended March 31, 2001. TSI was an "accredited investor". We
relied on Section 4(2) of the Securities Act.

On July 31, 2001, we issued a warrant to purchase 1 million shares of our
common stock exercisable until July 31, 2006 at an exercise price of $.80 per
share to MPP Holdings, LLC, an affiliate of Manatt, Phelps and Phillips, LLP
("MPP"), which currently acts as our corporate counsel. We issued this warrant
in consideration for the credit risk MPP has taken on amounts owed to it for
services provided to us up through the first two quarters of 2001. We relied on
Section 4(2) of the Securities Act.

On August 6, 2001, we entered into an Employment Agreement with Frank P.
Magliochetti, Jr. in connection with Mr. Magliochetti's employment as one of our
senior executive officers. In accordance with the agreement, we issued options
to purchase 5 million shares of our common stock at an exercise price of $.001
per share. The options vest over three years, with any unvested portion of the
options vesting immediately upon a change in control of the company or the
termination of Mr. Magliochetti by the company for any reason other than cause.
Mr. Magliochetti will forfeit the unvested portion of the options if he is
terminated for cause or he voluntarily terminates his employment relationship
with the company for other than "Good Reason" as defined in his Employment
Agreement. On November 13, 2001, Mr. Magliochetti exercised the options in
accordance with an early exercise provision and purchased 5 million restricted
shares of our common stock valued at approximately $6.2 million. We relied on
Section 4 (2) of the Securities Act.

On October 6, 2001, we entered into a Termination and Consulting Agreement
with John F. Andrews, our former Chief Executive Officer pursuant to which we
agreed to issue warrants to

33

purchase 5 million shares of our common stock to be issued to him in accordance
with the exercise timetable set forth in the agreement and upon the achievement
of certain goals as specified in the agreement. The agreement to issue the
warrants was entered into as consideration for the termination of Mr. Andrews'
previous employment agreement and for future consulting services. In July of
2002, we amended the Termination and Consulting Agreement to revise the warrant
exercise timetable and increase the exercise price of the warrants to $.07 per
share. We granted the warrants to Mr. Andrews on July 15, 2002. We relied on
Section 4 (2) of the Securities Act.

ITEM 6. SELECTED FINANCIAL INFORMATION.

MED DIVERSIFIED AND SUBSIDIARIES
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

The net loss from continuing operations in the year ended March 31, 2002 and
2001 includes impairment charges of $175.1 million and $201 million,
respectively. The asset impairment charges reduced our assets from continuing
operations and equity.

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

The following is a discussion and analysis of our financial condition and
results of operations for the fiscal years ended March 31, 2002, 2001 and 2000.
You should read this discussion and analysis together with our consolidated
financial statements and related notes contained herein. The discussion contains
forward-looking statements that involve risks and uncertainties. These
statements relate to future events or our future financial performance. In many
cases, you can identify forward-looking statements by terminology such as "may,"
"will," "should," "expects," "plans," "anticipates," "believes," "estimates,"
"predicts," "potential," "intend" or "continue," or the negative of such terms
and other comparable terminology. These statements are only predictions. Actual
results may differ materially from those anticipated in these forward-looking
statements as a result of a variety of factors, including but not limited to
those set forth under "Risk Factors" and elsewhere in this Annual Report on
Form 10-K.

OVERVIEW

There are significant uncertainties about our ability to continue as a going
concern. We have suffered recurring losses from operations and have consistently
had negative working capital from

34

continuing operations and lower than needed levels of cash. On March 31, 2002,
we had negative working capital of $162.4 million (excluding $10.3 million of
negative working capital from discontinued operations) and accumulated deficit
of $612.6 million and a deficit stockholders' equity of $194.2 million.

During fiscal years ended March 31, 2002 and 2001, net losses from
continuing operations included asset impairment charges of $175.1 million and
$201 million, respectively. These charges reduced assets from continuing
operations and our stockholders' equity. As of March 31, 2002, the current
portion of our long-term debt and related party debt was $121.6 million. We must
extend, refinance or raise cash to meet our obligations with respect to the
$121.6 million of indebtedness that is due under contractual arrangement over
the next 12 months. While we are confident of our ability to arrange extensions,
we have not commenced serious discussions with the creditors of this
indebtedness and we cannot assure that we will be successful in doing so on
terms and conditions that are acceptable. If we are not successful in obtaining
additional funding or extending our short-term obligations, we may not be able
to continue as a going concern.

In addition to extending our short-term indebtedness, our principal focus
will be to generate positive cash flow from our continuing operations primarily
from our Business Units. We will continue to eliminate redundancies at all staff
levels and locations consistent with this objective. Our current plan indicates
that these efforts will yield positive cash flow sometime during the first
quarter of fiscal 2004, reduce operating losses throughout the year and generate
positive earnings sometime during the fourth quarter of fiscal 2004. However,
our earnings analysis has not considered any additional write-downs or
impairments of our intangible assets as required by Statement of Financial
Accounting Standards ("SFAS") SFAS 142, GOODWILL AND OTHER INTANGIBLE ASSETS to
be adopted April 1, 2002. Any such write-downs from the adoption of SFAS 142
could have a material adverse effect on our results of operations and
stockholders' equity, however implementation of the new SFAS 142 is not expected
to have any impact on cash flows from operations.

RECENT ACQUISITIONS

On August 6, 2001, we acquired Chartwell. Under the plan of merger, the
Chartwell shareholders received 500 thousand shares of our newly created
redeemable preferred stock ("Preferred Stock") by means of merger with a wholly
owned subsidiary. The Chartwell shareholders also received warrants covering up
to 20 million shares of our common stock (the "Chartwell Warrants") with an
exercise price of $4.00 per share that vest over five years at a rate of twenty
percent (20%) per year from the grant date. Each share of Preferred Stock was
automatically converted into 100 shares of our common stock when our
shareholders approved the issuance of the 70 million shares of common stock in
connection with the Chartwell acquisition on December 27, 2001.

We accounted for the Chartwell acquisition under the purchase method as
required in the provisions of SFAS 141, BUSINESS COMBINATIONS. Accordingly,
Chartwell's assets and liabilities were recorded at their initial estimated fair
market value, less certain adjustments, as of the date of the Chartwell
acquisition. The following table summarizes the determination of the Chartwell
purchase price (in thousands):

Redeemable Preferred Stock.................................. $67,825
Warrants.................................................... 1,001
Acquisition costs........................................... 678
-------
Adjusted purchase price..................................... 69,504
Add: Net liabilities assumed in Acquisition................. 16,434
-------
Goodwill.................................................... $85,938
=======

35

A condensed summary of the net liabilities acquired in the Chartwell
acquisition is as follows:

Current Assets.............................................. $45,641
Noncurrent Assets........................................... 8,159
-------
Total Assets................................................ 53,800

Current Liabilities......................................... 43,831
Non current liabilities..................................... 26,403
-------
Net liabilities assumed in acquisition...................... $16,434
=======

On November 28, 2001, we acquired TLCS, headquartered in Lake Success, New
York by means of a tender cash offer and merger. At the end of the tender offer,
approximately 10.4 million shares or approximately 87.8% of the outstanding
shares of TLCS were tendered. On December 12, 2001, we exercised our option to
acquire from TLCS an additional 2.8 million shares of its common stock at an
exercise price of $1.00 per share. These shares, when added to the shares
previously acquired, resulted in 13.2 million or approximately 90.17%, of the
total outstanding shares of TLCS being owned by us. We finalized the legal
merger with TLCS on February 14, 2002, through that date we had acquired a total
of 14.5 million shares or 99.3% of the outstanding TLCS shares. In connection
with the merger, each share of TLCS stock owned by us was canceled and retired.
TLCS' stock is no longer registered or publicly traded. We also paid
$11.5 million in cash bonuses and granted 10.8 million warrants to certain TLCS
executives in transactions related to the acquisition.

We accounted for the TLCS acquisition under SFAS 141. We acquired the stock
of TLCS for aggregate consideration of approximately $156 million, which
consists of the following (in thousands):

Purchase of 14,619,653 shares (100%) at $1.00 per share..... $ 14,620
Payments to TLCS senior executives pursuant to merger
agreement................................................. 2,929
Vested options and warrants................................. 2,609
--------
Adjusted purchase price..................................... 20,158
Net liabilities assumed in acquisition...................... 135,800
--------
Goodwill.................................................... $155,958
========

Refer to Asset Impairment Charges, page 35, which outlines the impairment of
TLCS goodwill subsequent to acquisition.

A condensed summary of the net liabilities acquired in the TLCS acquisition
is as follows:

Current assets.............................................. $ 46,906
Non current assets.......................................... 16,854
--------
Total assets................................................ 63,760

Current liabilities......................................... 146,126
Non current liabilities..................................... 53,434
--------
Net liabilities assumed in acquisition...................... $135,800
========

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

- GENERAL. Discussion and analysis of our financial condition and results of
operations are based upon our consolidated financial statements, which
have been prepared in accordance with accounting principles generally
accepted in the United States of America. The preparation of

36

these financial statements requires us to make estimates and judgments
that affect the reported amounts of assets, liabilities, revenues and
expenses, and related disclosure of contingent liabilities. On a regular
basis, we evaluate estimates, including those related to bad debts,
intangible assets, restructuring, and litigation. Estimates are based on
historical experience and on various other assumptions that are believed
to be reasonable under the circumstances, the results of which form the
basis for making judgments about the carrying values of assets and
liabilities that are not readily apparent from other sources. Actual
results may differ from these estimates under different assumptions or
conditions.

We believe the following critical accounting policies require our more
significant judgments and estimates used in the preparation of our consolidated
financial statements.

- REVENUE RECOGNITION. Our revenue recognition policy is significant because
our revenues are a key component of our results of operations. We
recognize revenues on the date services are performed and related products
are provided to patients based upon amounts we estimate will be received
under reimbursement arrangements with third party payors. In measuring
revenues, certain judgments are required that affect the application of
our revenue policy. For example, we are required to exercise judgment in
evaluating risk of concession when payments terms are beyond normal credit
period of 60 days. Further, assessment of collectibility is particularly
critical in determining whether or not revenues should be recognized in
the current market environment. We also record a provision for estimated
sales adjustments in the same period as the related revenues are recorded.
These estimates are based on historical sales adjustments, analysis of
cash collection data and other known factors. If actual results of returns
differ from the historical data we use to calculate these estimates,
revenues could be overstated.

- ALLOWANCE FOR DOUBTFUL ACCOUNTS. This allowance is for estimated losses
resulting from the inability of our customers to make required payments.
It is a significant estimate and is regularly evaluated by us for adequacy
by taking into consideration factors such as past experience, credit
quality of the customer, age of the receivable balance, individually and
in the aggregate, and current economic conditions that may affect a
customer's ability to pay. The use of different estimates or assumptions
could produce different allowance balances. If the financial condition of
our customers were to deteriorate, resulting in an impairment of their
ability to make payments, additional provisions for doubtful accounts with
assistance from legal counsel, may be required.

- CONTINGENCIES. We are engaged in legal actions arising in and out of the
ordinary course of business. We, with assistance from legal counsel, are
required to assess the likelihood of any adverse judgments or outcomes to
these matters as well as potential ranges of probable losses. A
determination of the amount of liability required, if any, for these
contingencies are made after careful analysis of each individual matter.
The required reserves, if any, may change in the future due to new
developments in each matter or changes in approach, such as a change in
settlement strategy for a particular matter.

- GOODWILL AND INTANGIBLE ASSETS. We have significant intangible assets,
including goodwill. The determination of whether or not these assets are
impaired involves significant judgments. We periodically evaluate acquired
goodwill and intangible assets for potential impairment indicators. Our
judgments regarding the existence of impairment indicators are based on
market conditions and operational performances of the acquired assets. In
assessing the recoverability of these assets, we must make assumptions
regarding estimated future cash flows and other factors. If these
estimates and related assumptions change in the future, significant
impairment charges may be recorded in future periods.

- BUSINESS ACQUISITION ACCOUNTING AND AMORTIZATION EXPENSE. Our business
strategy is to increase market share through internal growth and strategic
acquisitions. The Financial Accounting

37

Standards Board's Statement of Financial Accounting Standards ("SFAS")
No. 141, Business Combinations" and SFAS No. 142, "Goodwill and Other
Intangible Assets" provide guidance on the application of generally
accepted accounting principles for business acquisitions completed by us.
We use the purchase method of accounting for business acquisitions. We use
available cash from operations and borrowings under our available credit
facilities as the consideration for business acquisitions. We allocate the
purchase price of its business acquisitions based on the fair market value
of identifiable tangible and intangible assets. The difference between the
total cost of the acquisition and the sum of the fair values of acquired
tangible and identifiable intangible assets less liabilities is recorded
as goodwill. Through March 31, 2002, goodwill was amortized over various
periods up to 15 years. The assignment of useful lives was based on each
acquisition's ability to generate sufficient operating results to support
the recorded goodwill balance. In accordance with SFAS No. 142, we ceased
amortizing approximately $85.9 million of goodwill for acquisitions
subsequent to July 1, 2001.

- IMPAIRMENT OF ASSETS. We assess the impairment of goodwill, intangibles
and long-lived assets whenever events or changes in circumstances indicate
that the carrying value may not be recoverable. Factors we consider
important, which could trigger an impairment review include, without
limitation, (i) significant under-performance relative to expected
historical or projected future operating results; (ii) significant changes
in the manner or use of the acquired assets or the strategy for our
overall business; (iii) significant negative industry or economic trends;
(iv) increased competitive pressures; (v) a decline in our stock price for
a sustained period; and (vi) technological and regulatory changes. When we
determine that the carrying value of intangibles, long-lived assets and
related goodwill may be impaired, we evaluate the ability to recover those
assets. If those assets are determined to be impaired, the impairment to
be recognized is measured by the amount by which the carrying amount of
the assets exceeds the fair value of the assets. In accordance with SFAS
No. 142, we are required to perform an initial impairment review of
goodwill during the fiscal year ended March 31, 2003.

RECENT ACCOUNTING PRONOUNCEMENTS

On July 1, 2002, we adopted the provisions of Statement of Financial
Accounting Standards (SFAS) No. 141, BUSINESS COMBINATIONS. SFAS No. 141
eliminates the pooling of interests method of accounting for business
combinations initiated after June 30, 2001. The adoption of SFAS No. 141 does
not impact our financial position or results of operations.

In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS
No. 142, GOODWILL AND OTHER INTANGIBLE ASSETS. Under the provisions of SFAS
No. 142, intangible assets with indefinite lives and goodwill are no longer
amortized but are subject to annual impairment tests. Separable intangible
assets with finite lives continue to be amortized over their useful lives.
Furthermore, any goodwill and intangible asset determined to have an indefinite
useful life that was acquired in a purchase business combination completed after
June 30, 2001 will not be amortized, but will continue to be evaluated for
impairment in accordance with the appropriate pre-Statement 142 accounting
literature. Goodwill and intangible assets acquired in business combinations
completed prior to July 1, 2001 will continue to be amortized prior to the
adoption of Statement 142. The Company expects to have unamortized goodwill, for
acquisitions prior to June 30, 2001, in the amount of $3.4 million. Amortization
expense related to goodwill was $1.7 million and $149 thousand for the fiscal
years ended March 31, 2002 and 2001, respectively. In addition, we have
$85.9 million in goodwill associated with the Chartwell acquisition, which
occurred August 6, 2001. We have not yet determined the impact, if any, of
adopting the impairment provisions of SFAS No. 142, including whether any
transitional impairment losses will be required to be recognized as the
cumulative effect of a change in accounting principle. We will adopt the
provisions of SFAS No. 142 as of April 1, 2003.

38

In June 2001, the FASB issued SFAS No. 143, ACCOUNTING FOR ASSET RETIREMENT
OBLIGATIONS. SFAS No. 143 addresses financial accounting requirements for
retirement obligations associated with tangible long-lived assets. We do not
expect the provisions of SFAS No. 143 to have a material impact on our
consolidated financial statements. We will adopt the provisions of SFAS No. 143
as of April 1, 2003.

In August 2001, the FASB issued SFAS No. 144, ACCOUNTING FOR THE IMPAIRMENT
OR DISPOSAL OF LONG-LIVED ASSETS, that replaces SFAS No. 121, ACCOUNTING FOR THE
IMPAIRMENT OF LONG-LIVED ASSETS AND FOR LONG-LIVED ASSETS TO BE DISPOSED OF.
SFAS No. 144 requires that long-lived assets to be disposed of by sale,
including those of discontinued operations, be measured at the lower of carrying
amount or fair value less cost to sell, whether reported in continuing
operations or in discontinued operations. Discontinued operations will no longer
be measured at net realizable value or include amounts for operating losses that
have not yet been incurred. SFAS No. 144 also broadens the reporting of
discontinued operations to include all components of an entity with operations
that can be distinguished from the rest of the entity and that will be
eliminated from the ongoing operations of the entity in a disposal transaction.
The adoption of SFAS No. 144 will not have a material impact on our consolidated
financial statements. We will adopt the provisions of SFAS No. 144 as of
April 1, 2002.

In July 2002, the FASB issued SFAS No. 146, ACCOUNTING FOR COSTS ASSOCIATED
WITH EXIT OR DISPOSAL ACTIVITIES, which addresses the recognition, measurement,
and reporting of costs associated with exit or disposal activities, and
supercedes Emerging Issues Task Force (EITF) 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). The principal
difference between SFAS 146 and EITF 94-3 relates to the requirements for
recognition of a liability for a cost associated with an exit or disposal
activity. SFAS 146 requires that a liability for a cost associated with an exit
or disposal activity, including those related to employee termination benefits
and obligations under operating leases and other contracts, be recognized when
the liability is incurred, and not necessarily the date of an entity's
commitment to an exit plan, as under EITF 94-3. SFAS 146 also establishes that
the initial measurement of a liability recognized under SFAS 146 be based on
fair value. The provisions of SFAS 146 are effective for exit or disposal
activities that are initiated after December 31, 2002, with early application
encouraged. The Company expects to adopt SFAS 146, effective January 1, 2003.
For exit or disposal activities initiated prior to December 31, 2002, the
Company plans to follow the accounting guidelines outlined in EITF 94-3.

RESULTS OF CONTINUING OPERATIONS

FISCAL YEARS ENDED MARCH 31, 2002, 2001 AND 2000

The results of operations presented herein reflect our consolidated net
sales and expenses from continuing operations. These results include all of our
operations located in the United States. The financial information included
herein is derived from the audited financial statements for the fiscal years
ended March 31, 2002, 2001 and 2000. In addition, we have included in the
comparisons below the unaudited pro forma financial information for the year
ended March 31, 2002 and 2001 to include the acquisitions of Chartwell and TLCS
as if these transactions occurred on April 1, 2000. For more detailed
information regarding the proforma effects of these mergers SEE Forms 8-K/A
filed February 11, 2002 and February 20, 2002.

39

The table presented below reflects the results of operations from our
continuing operations (in thousands). The results of our UK operations have been
excluded:

- ------------------------

(a) Includes general and administrative costs, sales and marketing costs,
research and development costs and bad debt expense. See discussion below
concerning non-recurring and non-cash expenses.

As detailed below, Chartwell's income from operations under management for
the seven-month period since acquisition totaled $3.0 million.

The following table summarizes the operations for Chartwell and subsidiaries
and the statements of operations of non-majority joint ventures, which are
managed by Chartwell since our merger with Chartwell on August 6, 2001 (in
thousands):

- ------------------------

* Chartwell's ownership in the joint ventures ranges from 45% to 50%. As a
result of the Chartwell merger, we have investments in nine (9) joint
ventures with various health care providers that provide home care services,
including high-tech infusion therapy, nursing, clinical respiratory
services, and durable medical equipment to home care patients. Our ownership
in the joint ventures includes: one with 80% interest which is consolidated,
one with 45% interest and seven with 50% interest accounted for on the
equity basis of accounting. Our weighted average interest in the revenue
under management of these joint ventures for the post acquisition period
ended March 31, 2002 is 52.18%. Total Chartwell revenue under management for
the post acquisition period eight months ended March 31, 2002, which
includes unconsolidated joint ventures as well as Chartwell subsidiary
revenue, is $117.2 million.

40

NET SALES

Net sales for the fiscal years ended March 31, 2002, 2001 and 2000 are
summarized as follows (in thousands):

On a comparative basis, net sales in our Distance Medicine segment for the
fiscal year ended March 31, 2002 decreased $4.8 million or 49.5% over the
comparable prior year period. The decrease is primarily due to the completion of
existing billable work on Internet and related projects for customers. During
the year, we focused upon products that are more profitable and ceased marketing
those products that were not considered likely to be profitable in the future.
This segment's decrease was partially offset by net sales from new Distance
Medicine Solutions products we have been focusing our resources on. As indicated
previously, we have re-evaluated our priorities for use of capital resources and
have decided to exit the Distance Medicine Solutions Segment.

Pharmacy revenues for fiscal years ended March 31, 2002, 2001 and 2000 are
summarized as follows (in thousands):

PrimeRx, including Network, revenues decreased in the fiscal year ended
March 31, 2002 compared to comparable periods in 2001 as a result of our
decision to discontinue consolidation of Network subsequent to August 1, 2001
and our decision to dispose of unprofitable pharmacy operations of PrimeRx in
the first and second quarters of fiscal 2002. As a result of our settling the
Network dispute, effective July 1, 2002, all PrimeRx business operations have
been returned to the majority shareholders. Effective July 1, 2002 we do not own
any shares in PrimeRx or Network and accordingly will not consolidate their
operations in the future.

Chartwell pharmacy revenues of $33.3 million in the fiscal year ended
March 31, 2002 increased over comparable prior year periods as a result of the
August 6, 2001 acquisition of Chartwell. Similarly, on a proforma basis, the
$17.2 million or 51.8% increase in fiscal 2002 over fiscal 2001 reflects
Chartwell's first full fiscal year of pharmacy operations.

Resource pharmacy revenues increased in the fiscal year ended March 31, 2002
compared to 2001 as a result of having a full fiscal year's revenue in 2002
while 2001 reflects pharmacy revenues subsequent to the June 2000 acquisition of
Resource, an institutional pharmacy provider for skilled nursing and assisted
living facilities within the state of Nevada.

41

Home Health/Alternative Site revenues of $131.8 million in the fiscal year
ended March 31, 2002 were a result of home health revenues generated as a result
of the Chartwell and TLCS acquisitions. The reported home health revenues from
Chartwell of $37.7 million for the fiscal year ended March 31, 2002 reflects
revenue earned subsequent to the acquisition of Chartwell on August 6, 2001.
Home Health/Alternative Site revenues from TLCS of $94.1 million represents
revenues generated subsequent to the November 28, 2001 acquisition of TLCS. A
comparative proforma analysis indicates a $42.8 million or 15.7% increase in
revenues from fiscal 2001. The increase reflects increased patient admissions
for Medicare services at TLCS, resulting in a $19.3 million or 8% increase, and
Chartwell's first full fiscal year of operations, resulting in a $23.5 million
or 71.9% revenue increase.

The increase in sales for fiscal 2001 compared to fiscal 2000 resulted from
the inclusion of $78.4 million in sales from our pharmacy services, which were
acquired in April and June 2000, and an increase of $8.6 million from Distance
Medicine services and related consulting. Sales from our Distance Medicine
services and consulting included $2.9 million from our Distance Medicine
segments and $6.7 million from our medical e-business services. The sales from
our medical e-business services and consulting included $5.3 million from
services provided to affiliates with which we have entered into contracts or
agreements.

COSTS AND EXPENSES

COST OF SALES

Cost of sales for the fiscal years ended March 31, 2002 and 2001 consist of
labor and product costs associated with providing Home Health/Alternative Site
Services, the cost of pharmaceuticals sold through our Pharmacy Management and
Distribution Services and the cost of providing our Distance Medicine Solutions
healthcare management systems that include hardware, software and services.
During the reported period ended March 31, 2000, cost of sales primarily
consisted of professional services.

Cost of sales for the fiscal years ended March 31, 2002, 2001 and 2000 are
summarized as follows (in thousands):

Distance Medicine Solutions cost of sales declined in the fiscal year ended
March 31, 2002 compared to the same periods in 2001 as a result of our decision
to cease marketing and providing certain products. Cost of sales as a percentage
of sales increased in the fiscal year ended March 31, 2002 as compared to the
same period in 2001 is a result of a decrease in consulting services which have
a significantly lower gross margin than sales of Internet-based products.

42

Pharmacy Management and Distribution cost of sales in the fiscal year ended
March 31, 2002 decreased compared with the same periods in 2000 because of the
cessation of the consolidation of Network effective August 1, 2001 and the
disposal of unprofitable pharmacy operations, offset by pharmacy cost of sales
associated with Chartwell revenues subsequent to August 6, 2001. The gross
margin on Chartwell revenues is higher than those on Network and other pharmacy
operations in 2001. Home Health/Alternative Site Services cost of sales
represents cost of sales for certain services provided by Chartwell and TLCS
subsequent to their acquisition of those entities in fiscal year 2002.

Cost of sales as a percentage of sales for each of our business segments the
periods indicated below ended March 31, 2002, 2001 and 2000 are summarized as
follows:

Cost of sales as a percentage of net sales for the years ended March 31,
2002, 2001 and 2000 were 61.3%, 71.8% and 50.6%, respectively, compared to the
pro forma results for the year ended March 31, 2002 and 2001 of 57.9% and 61.6%,
respectively. The decrease in cost of sales for fiscal 2002 compared to prior
year results is due to the change in revenue mix from approximately 89.1%
pharmacy revenues in the 2001 to 34.1% pharmacy revenues and 63.6% home health
revenues in 2002. As noted previously, pharmacy cost of sales consisting of
pharmaceuticals at a higher percent to revenues than the costs of providing home
health services. One of the key trade-offs in the initial phases of providing an
integrated healthcare service system is that the direct costs of labor in these
services are higher than the product intensive costs of pharmaceutical and
technology services.

GENERAL AND ADMINISTRATIVE

General and administrative expenses consist principally of salaries,
facility costs, professional fees, sales and marketing costs, research and
development costs, and bad debt expense. These costs increased by approximately
$121.2 million and $44.1 million, respectively for the fiscal years ended
March 31, 2002 and 2001 as compared to the prior year periods. A summary of the
increase in general and administrative costs in the fiscal years ended
March 31, 2002 and 2001 from the similar prior year periods is as follows:

The increase in general and administrative costs of $71.3 million and
$2.2 million relative to acquisitions represent, the non legal general and
administrative costs incurred at Resource, Chartwell and TLCS subsequent to our
acquiring them.

We completed our acquisition of TLCS on November 28, 2001. Included in the
TLCS general and administrative costs is $6.2 million for cash bonuses paid to
management. We anticipate charges to the

43

statements of operations relative to these bonuses for the quarters ended
June 30, 2002, September 30, 2002, and December 31, 2002 of $1.5 million, $0.7,
and $0.2 million, respectively. Approximately, $7.7 million of non-cash
compensation to management of TLCS is reflected in the increase in non-cash
compensation.

Non-cash compensation expenses and costs of services during the fiscal years
ended March 31, 2002, 2001 and 2000 is summarized as:

Investment bank fees represent warrants issued for security purchase
agreements which were incurred because of our need to obtain necessary funding
associated with acquisitions and working capital needs.

Professional fees represent $3.4 million in warrants issued to various legal
counsel for services performed as well as $7.6 million in shares and warrants
issued in settlement of various litigation matters. SEE Item 3, "Legal
Proceedings".

In October 2001, we entered into a Termination and Consulting Agreement with
John F. Andrews, our former chief executive officer. Pursuant to the Termination
and Consulting Agreement, Mr. Andrews may receive up to 5 million warrants to
purchase our common stock based on a detailed long-term payout schedule. In July
of 2002, we amended the Termination and Consulting Agreement to revise the
warrant exercise timetable and increase the exercise price. Severance to former
chief executive officer represents the value of those warrants determined using
the Black-Scholes method, of approximately $2.5 million.

Bonus to current chief executive officer represents the value of options
issued to Frank P. Magliochetti, Jr., our current chief executive officer as a
non-cash bonus to enter into his employment contract with us in August 2001.

In November 2001, we acquired approximately 90% of the outstanding common
shares of TLCS. Certain officers of TLCS entered into employment agreements with
us and were issued warrants to purchase shares of our common stock. The expense
associated with those warrants was $7.7 million for the period subsequent to the
acquisition of TLCS through March 31, 2002. We anticipate charges to the
statements of operations associated with these warrants for the quarters ending
June 30, 2002, September 30, 2002 and December 31, 2002 of $1.7 million,
$0.8 million, and $0.2 million, respectively.

Non-cash compensation costs included in general and administrative costs
were $1.4 million and $.8 million for the fiscal years ended March 31, 2001 and
2000 respectively. These costs represent compensation paid to employees and
consultants through the issuance of shares, warrants, and options.

44

ASSET IMPAIRMENT CHARGES

During the years ended March 31, 2002 and 2001, we have incurred asset
impairment charges as follows:

TENDER LOVING CARE HEALTH CARE SERVICES. Subsequent to the acquisition of
TLCS, the Company determined that TLCS' financial position was worse than
anticipated and that TLCS was in violation of certain debt covenants. We have
made changes in the existing management of TLCS re-evaluated the operations as
well as the recoverability of certain trade receivables and made significant
reductions in the administrative work force. Following these actions, new
projections of future operating results were prepared and we wrote off goodwill
on TLCS of $156 million as an impaired asset.

DISTANCE MEDICINE SOLUTIONS DIVISION. During the fiscal year ended
March 31, 2001, we recorded impairment charges totaling $34.8 million associated
with three subsidiaries in the Distance Medicine business segment. These
companies were VirTx, Inc. acquired in February 2001, Illumea Corporation
acquired in May 2000 and VidiMedix acquired in June 2000. Throughout fiscal
2002, our ability to allocate funds for continued development and marketing of
the Distance Medicine products remained difficult because of our lack of cash
flow. As a result, the underlying business assumptions that were previously used
to determine the business and cash flow projections of the Distance Medicine
business unit have been revised and the expected results of operations
originally anticipated has not occurred. Therefore, during fiscal year 2002 we
recorded an impairment charge of $7.2 million on the remaining goodwill
associated with these acquisitions.

MEDPRACTICE AND MEDCOMMERCE SOFTWARE DEVELOPMENT COSTS. To date, we have
experienced lower than anticipated revenue growth in the development of the
MedPractice and MedCommerce Software. Based upon the lack of capital infusion
and our strategic decision to allocate its resources into profitable product
lines, we decided to abandon this project. We have recorded a loss of impairment
of $9.2 million during the year ended March 31, 2002 for the write-down of
software development costs related to the MedPractice and MedCommerce product.

QUANTUM TECHNOLOGY LICENSING. As a result of continued delays in the
product's marketability, our reduced commitment to product development and the
decrease in market valuations of technology companies, management revised its
analysis of its investment in Quantum Digital ("Quantum"). During the year ended
March 31, 2002, we impaired the license value of $2.8 million.

During the year ended March 31, 2001, we recorded approximately
$201 million of asset impairment charges. These charges were the result of our
review of the existing intangible assets and investments reflected on our
consolidated balance sheet. We reviewed the current relative value of each asset
based on existing business and economic conditions as well as projected
operating cash flows and current events. These impairment losses are reflected
in the consolidated statement of operations in operating expenses, and include
the write-down of the following assets: (1) goodwill of $26.1 million,
$3.7 million, $5 million and $40.6 million relating to VirTx, VidiMedix, Illumea
and PrimeRx, (2) distribution channel of $31.1 million and deferred contract of
$67.5 million relating to our contract with NCFE and (3) investment in Quantum
of $27 million. These impairment charges are further disclosed in the liquidity
section herein.

DEPRECIATION AND AMORTIZATION

Depreciation and amortization for the fiscal years ended March 31, 2002,
2001 and 2000 includes depreciation of equipment of approximately $3.6 million,
$2.0 million and $73 thousand, respectively, and the amortization of goodwill
and other intangibles of $5.7 million, $8 million and $400 thousand,
respectively. The decrease in these expenses of $2.7 million is due to the
decrease in goodwill amortization as a result of the write down of goodwill
taken in fiscal 2001 of approximately

45

$75.5 million. These decreases are offset from the inclusion of $5.6 million in
depreciation and amortization for the fiscal year ended March 31, 2002 from the
acquisition of Chartwell and TLCS.

Depreciation and amortization for the fiscal year ended March 31, 2001
includes depreciation of property and equipment of approximately $1.6 million,
amortization of deferred software of $379 thousand and amortization of goodwill
of $8 million. Compared to the reported results in 2000, the increase for the
fiscal year was approximately $1.5 million for depreciation of equipment,
$379 thousand for deferred software and $7.6 million for the amortization of
goodwill, respectively. During the last quarter of fiscal 2000 and the first
quarter of fiscal 2001, we acquired three multimedia companies that resulted in
approximately $49 million of goodwill, which was being amortized over a
seven-year period. We also entered into a 30-year management contract with
PrimeRx.com and acquired approximately 29% of its stock. We consolidated this
company and recorded the assets acquired and liabilities assumed and minority
interest at the acquisition date of approximately $40.6 million as goodwill.
During the first three quarters of fiscal 2001, this goodwill was being
amortized over a 30-year period consistent with our management contract term. In
addition, we acquired a pharmacy services company in the first quarter of this
year that resulted in approximately $2.7 million of goodwill being amortized
over a 15-year period. The goodwill recorded in March 1999 for the acquisition
of e-Net has been amortized over a ten-year period. As a result of our asset
impairment charges discussed above, our goodwill was written down in the fourth
quarter of 2001 based on management's revised projections of discounted cash
flows. In addition, the unamortized goodwill relating to e-Net of $6.4 million
has been written off and included in discontinued operations. The amortization
periods and the write off of goodwill are based on managements' best estimate of
the useful lives and estimated net cash flows of the businesses acquired based
on the facts currently available.

OTHER INCOME (EXPENSE)

Other income (expense) includes interest expense, interest income, and other
income. These costs and income on a combined basis have amounted to a net
expense of $32.1 million, $1.1 million and $1.2 million for the fiscal years
ended March 31, 2002, 2001 and 2000 respectively. Interest expense of
$32.1 million for the fiscal year ended March 31, 2002 included $5.8 million in
interest expense to accrue for the accretion to the preferred stock acquisition
debt and approximately $5.6 million for amortization of deferred financing fees.
In addition, interest increased as a result of significantly increased borrowing
in fiscal 2002. These charges were made during the second quarter of 2002. Net
interest expense increased $30.1 million over fiscal 2001, this is due to the
increased borrowing to finance the TLCS acquisition and operations.

The net other expense was $1.1 million and $1.2 million for the fiscal years
ended March 31, 2001 and 2000. Interest expense of $2 million for the year ended
March 31, 2001 includes $400 thousand as a result of a Settlement Agreement with
a private lender. Interest expense for the year ended March 31, 2000, included
approximately $1.3 million of amortization of deferred financing costs incurred
as a result of the bridge financing obtained for the acquisition of e-Net.
Interest costs include interest expense on our line of credit and bridge debt
outstanding during the year. During our third and fourth quarter of 2000, we
raised approximately $63.6 million of net proceeds through the sale of our
common stock. As a result of the cash flow, we have recognized interest income
for the year ended March 31, 2001 of approximately $880 thousand.

EXTRAORDINARY GAIN

The extraordinary gain of approximately $357 thousand in fiscal 2000 relates
to the exchange of bridge debt and its related origination fees and interest
payable for the issuance of warrants.

46

RESULTS OF DISCONTINUED OPERATIONS

The results of discontinued operations presented herein reflect the
operations of e-Net, located in the U.K. On June 14, 2001, e-Net voluntarily
filed for receivership.

The net sales, expenses, net assets and net liabilities of e-Net have been
combined in our consolidated condensed financial statements under discontinued
operations. These operations represented 100% of our product business segment
and contributed less than one percent (1%) to any other business segment. The
financial information included herein is for the fiscal years ended March 31,
2002, 2001 and 2000 and provides the components comprising the results from
discontinued operations (in thousands):

NET SALES

Net sales generated by the U.K. subsidiary for the periods presented were
from the sale, service, and installation of computer hardware and software. As a
result of the discontinuance of operations, there were no sales after June 15,
2001. Net sales in the U.K. for the fiscal year ended March 31, 2001 decreased
$7.2 million or 16% over the prior year. The decrease was attributable to
reduced demand for our products. The downturn in the economic conditions for the
high technology industry in the United States during fiscal 2001, particularly
in the last quarter of our fiscal year ended March 31, 2001, impacted the
technology markets in the U.K. causing a slow down in growth of ".com" business
due to lack of available investment and capital into the industry. These factors
contributed to e-Net's inability to increase its sales of its esparto software
product and increase its sales of computer hardware and software.

COSTS AND EXPENSES

Costs and expenses of $6.4 million, $54.1 million and $44.8 million for
fiscal years ended March 31, 2002, 2001 and 2000, include, respectively, cost of
sales (cost of hardware and software products plus the cost of installation and
delivery), sales and marketing costs and general and administrative costs
(general office costs, executive and administrative salaries, asset write downs
and professional fees) and depreciation and amortization. The decrease in costs
and expenses of $47.8 million or 88.3% in the period ended March 31, 2002
compared to the comparable prior year period is due primarily to our decision to
file for voluntary receivership and the resulting discontinuance of operations
after June 15, 2001. However, this decrease was offset as a result of severance
costs, receivership fees, asset write-downs and other professional fees
associated with discontinuing the operations and filing for voluntary
receivership.

LIQUIDITY AND CAPITAL RESOURCES

Since our inception, we have incurred accumulated losses of $612.6 million,
including losses in the fiscal year ended March 31, 2002 of $326.8 million. The
accumulated losses at March 31, 2002 include $175.1 million of asset impairment
charges.

47

In addition, we have consistently had negative working capital from
continuing operations, including approximately $162.4 million (excluding
$10.3 million of negative working capital from discontinued operations) at
March 31, 2002, and lower than anticipated levels of cash, (we have
$8.1 million of cash and cash equivalents at March 31, 2002). As of March 31,
2001, we had negative working capital of approximately $10.5 million (excluding
negative working capital of discontinued operations), including cash and cash
equivalents of $2.1 million.

As the working capital trend demonstrates we have consistently used cash in
operations, including cash used in operating activities of $52.3 million in the
fiscal year ended March 31, 2002 and $32.6 million and $5 million in the years
ended March 31, 2001 and 2000, respectively. During the fiscal year ended
March 31, 2002, cash used in operating activities approximated $52.3 million,
primarily due to the net loss from continuing operations for the period before
non cash charges such as asset impairment write downs of $175.1 million, non
cash compensation and expenses of $45.1 million and by depreciation and
amortization expense of $14.9 million, including amortization of deferred
financing fees reflected in interest expense. Sources of cash attributable to
the net change in operating assets and liabilities of $12.9 million primarily
relate to the increase in accounts payable and accrued expenses during the year.
During the fiscal year ended March 31, 2001, cash used in operating activities
was primarily due to the net loss from the period of $74.2 million before asset
impairment write downs of $201 million, and by the use of cash from the net
change in operating assets and liabilities of $900 thousand partially offset by
depreciation and amortization expense of $12.4 million, including amortization
of our distribution channel reflected in sales and marketing expense. During the
fiscal year ended March 31, 2000, we used cash in operating activities of
approximately $5 million, primarily due to the net loss from the period of
$9.7 million, partially offset by the net change in operating assets and
liabilities of $2 million and depreciation and amortization expense of
$1.7 million.

During the fiscal year ended March 31, 2002, cash used in investing
activities was approximately $22.2 million, primarily for the TLCS acquisition.
During fiscal year ended March 31, 2001, cash used from investing activities was
approximately $15.2 million, primarily for $1.6 million investment in software
development, $4.9 million in capital expenditures, $4.7 million in investments,
$1.8 million in business acquisitions and $2.2 million in cash advances to our
U.K. operations. During fiscal year ended March 31, 2000, we used cash in
investing activities of approximately $6.6 million, primarily due to a
$4.2 million investment in software acquisition and development and
$2.2 million in investments and business acquisitions.

During fiscal 2002, we provided cash from financing activities of
approximately $80.5 million, primarily due to net borrowings from credit
facilities. During fiscal year ended March 31, 2001, we used cash of
$5.8 million in financing activities consisting primarily of treasury stock
purchases of $937 thousand and net payments on long-term debt of $3.7 million.
During the fiscal year ended March 31, 2000, we raised approximately
$63.6 million from the sale of our common stock. Additional sources of financing
during that year included approximately $3.9 in long-term debt to support
business expansion and acquisitions.

As a result of our liquidity needs, we have relied upon funding through
loans from private investors and various credit facilities. These sources of
funding have often included terms that are less favorable than management
desires. However, our use of funds to meet current operating needs, as well as
funds necessary for acquisitions has required us to enter into such less
favorable agreements.

48

Our subsidiary TLCS is currently in breach of certain covenants in its
financing agreements with NCFE. TLCS has obtained all necessary waivers from the
financing facility on those covenants through December 31, 2002. If the
financing facility does not continue to fund operations, TLCS would not have
sufficient cash to support its current level of operations. In addition, TLCS
has historically used cash in its operating activities. During the years ended
February 28, 2001, and 2000 and the six months ended September 30, 2001, TLCS
used cash in operating activities of $25.4 million, $21.2 million and
$6.6 million, respectively. Furthermore, TLCS has approximately $54.4 million in
Medicare and Medicaid liabilities that are payable over the next four years.

We have projected that we may not meet current cash financing needs through
March 31, 2003 without other sources of funds or extensions on indebtedness due.

The following represents a summary of our contractual obligations and
commercial commitments:

Letters of Credit are purchased guarantees that ensure our performance or
payment to third parties in accordance with specified terms and conditions. The
following table presents our letters of credit for amounts committed but not
drawn-down. These instruments may exist or expire without being drawn down.
Therefore, the amounts committed but not drawn-down, do not necessarily
represent future cash flows.

On August 12, 2000, our board of directors approved the repurchase in the
open market of up to 2 million shares of our common stock over an eighteen-month
period. During the fiscal year ended March 31, 2002, 273 thousand shares were
acquired for approximately $429 thousand and during the fiscal year ended
March 31, 2001, 187 thousand shares were acquired for approximately
$937 thousand. No subsequent repurchases have been made and none are currently
contemplated.

On August 18, 2001, we entered into two offshore financing agreements with
SFSL, a Securities Purchase Agreement and a Debenture and Equity Agreement
providing for up to $83 million financing and $54 million in debenture
financing, respectively. No funding has been provided under either of these
agreements and we do not anticipate that we will ultimately use either of these
facilities. In August 2002, in conjunction with the Company's $70 million
debenture refinancing, these agreements were terminated.

DEBENTURES

In addition to the above-mentioned agreements with SFSL, we entered into a
series of ten (10) short form convertible debentures, dated September 5, 2001
(some of which were amended as of

49

September 10, 2001), with SFSL and its affiliate Sangate. On October 1, 2001, a
total of $40 million, less a commission of $3.7 million, was funded and
13.2 million shares of our common stock were pledged and were issuable as
collateral of these debentures. The funds were raised principally to fund the
planned acquisition of TLCS. In December 2001, these debentures were paid off
with the proceeds of new debentures and the pledged shares were released and
repledged to holders of the new debentures.

In December 2001, we entered into a series of five (5) short form
convertible debentures with PIBL. The short form debentures provided for an
aggregate of up to $85 million in financing as summarized below.

Each of the debentures provides for the following terms: (a) a stated
interest rate of seven percent (7%) per annum, payable at maturity, (b) a
maturity date of June 28, 2002 and (c) collateral in the form of our U.S.
Government medical gross accounts receivable in the amount of approximately one
hundred forty percent (140%) of the total amount funded.

Debentures 1 and 2 provide that such debentures are convertible at the
option of PIBL at any time after January 1, 2002 by PIBL or its designee, for
the number of shares of our common stock pledged as collateral under each
debenture. We may pre-pay these obligations in full without penalty at any time
prior to maturity or conversion. Debentures 3, 4 and 5 can be pre-paid prior to
maturity, without penalty, upon giving PIBL written notice 14 days in advance of
payment, but in any case not before March 28, 2002. This financing replaces and
supercedes our September 5, 2001 financing arrangement with SFSL.

On December 28, 2001, debentures 1 and 2 were funded for a total of
$40 million and accordingly, the above-referenced shares in the aggregate amount
of 13.2 million shares were pledged to PIBL as collateral for the repayment of
debentures 1 and 2 and are issuable in satisfaction of these debentures. In
connection with the funding of debentures 1 and 2, we entered into a Commission
Agreement with SFSL pursuant to which, as consideration for arranging the
financing, we provided SFSL with a commission of $680 thousand and 2 million
shares of our common stock. The proceeds of debentures 1 and 2 were used to
retire certain of our outstanding debentures with SFSL with a maturity date of
December 20, 2001.

On December 28, 2001, debentures 3, 4 and 5 were funded for a total of
$30 million. In connection with funding of debentures 3, 4 and 5, we entered
into a Commission Agreement pursuant to which, as consideration for arranging
for the financing, we provided SFSL with a commission of $2.7 million,
3 million shares of our common stock and a warrant to purchase an additional
2 million shares of our common stock at a purchase price of $4.20 per share.
Additionally, 10 million shares of our common stock were pledged to SFSL as
collateral for the December 28, 2002 funding and SFSL has the right to purchase
bondholder position rights of the 10 million shares at $3.00 per share.

In August of 2002, we reached an agreement to refinance the $70 million of
original debentures held by the Debenture Holders. Pursuant to the agreement
entered into with Private Investment Bank Limited, as agent for the Debenture
Holders, we issued five new amended debentures with a total principal balance of
$57.5 million. The new debentures mature on June 28, 2004 unless there is an
event of default that would cause acceleration of the amount due. The original
debentures, which

50

totaled $70 million and were due on June 28, 2002, have been cancelled. The
reduced total of the new debentures reflects the $12.5 million of principal
represented by a contractually subordinated debenture that was purchased by
TEGCO Investments, LLC. Additionally, $2.45 million in interest payable, that
was due through June 28, 2002 on the original debentures, was paid to the
Debenture Holders. The new agreement is subject to standard terms and conditions
including a schedule of payment obligations and the grant security interests in
assets of the Company. Also refer to our Form 8-K, dated August 19, 2002,
reported under Item 5 the refinance of $70 million debentures held by PIBL.

In December 2001, we entered into a bond financing agreement with SFSL with
respect to the issuance of bonds over the next 12 months with a minimum
commitment of $300 million to a maximum of $1 billion. The bonds are to be
secured against our gross revenue accounts receivable (as defined in the bond
financing agreement). The bonds have a stated interest rate of seven percent
(7%) per annum and a maturity date of three (3) years from date of issue. Other
terms and conditions pertaining to the sale of these bonds include the
following: (a) the collateral must be equal to at least one hundred fifty
percent (150%) of all outstanding bonds and (b) the collateral cannot be less
than fifty percent (50%) government obligations and not less than ninety percent
(90%) government and private insurance company receivables. Additional
conditions include that we satisfy our outstanding accounts receivable financing
obligations to NCFE and retain our current chairman and chief executive officer,
Frank P. Magliochetti, Jr. With respect to satisfaction of our obligations to
NCFE, we can only access the bond financing if our debt to NCFE is paid in full
or we reach a settlement with them which will release all claims and obligations
between us. Currently, our outstanding debt to NCFE totals approximately
$112.2 million. If our current chairman and chief executive officer were to
leave for any reason, the bonds would be immediately callable. We have the right
to extend the maturity date for an additional two (2) years with a one half
percent (.5%) increase in the interest rate. In connection with this agreement,
we have agreed to provide SFSL with a cash commission of five and one half
percent (5.5%) of the amount of any bond financing we receive. As of the date of
this filing, we have not issued any bonds nor pledged any of our receivables
under this arrangement. In August 2002, in conjunction with the Company's
$70 million debenture refinancing, this bond financing agreement was terminated.

As of March 27, 2002, we formed American Reimbursement, LLC, a Delaware
limited liability company ("American Reimbursement") to purchase and hold
certain accounts receivable from various entities as collateral for the benefit
of the holders of our outstanding debentures ("Debenture Holders").

As of March 29, 2002, American Reimbursement entered into five separate
Receivables Purchase Agreements with each of (1) TLCS, a wholly owned subsidiary
of Med; (2) Home Medical of America, Inc., a Delaware corporation ("HMA") a
related party to Med through common ownership; (3) Infusion Management
Systems, Inc., a Texas corporation ("IMS"); (4) Millenium Health Group, Inc.
("MHG") and (5) Chartwell Caregivers, Inc., a Delaware corporation and a wholly
owned subsidiary of Med ("CCI") pursuant to which American Reimbursement agreed
to purchase a total of approximately $100 million of medical accounts
receivables. Since all of these accounts receivables are aged beyond 180 days
and are delinquent, the collectibility of these accounts is questionable.

As of March 29, 2002, we entered into five (5) separate Continuing
Guaranties with each of (1) TLCS, (2) HMA, (3) IMS, (4) MHG and (5) CCI pursuant
to which we agreed to guarantee American Reimbursement's purchase obligations
under the Receivable Purchase Agreements. As set forth in the Security Agreement
entered into by American Reimbursement, dated as of March 29, 2002, and the
Assumption and Indemnification Agreement entered into by American Reimbursement
and us, dated as of March 29, 2002, we entered into such Continuing Guaranties
in exchange for American Reimbursement's agreement to assume and indemnify us
against any obligations we may have to the Debenture Holders or their affiliates
under the debentures or otherwise. The debenture holders are not a party to
these agreements.

51

Although we have entered into several agreements to provide funding, the
sale of common stock relative to these fundings is contingent upon many
performance targets that we have not met and may not be able to meet. Therefore,
we cannot depend on these financing facilities to provide us the required
funding to meet our operational needs. In order for us to continue our
operations, we must be successful in obtaining additional funding through
implementing the following steps:

1. Implement our business strategy.

2. Obtain additional funding either in the form of equity or debt financing
to support our operating cash requirements as well as cash required for
potential acquisitions through March 31, 2003.

3. Successfully restructure and extend our short term debt.

4. Successfully integrate Chartwell and TLCS' operations with ours to take
benefit of cost savings and potential generation of future sales to provide
sources of additional funds.

5. Renegotiate TLCS Financing Agreement with NCFE to ensure cash is
available.

If we are not successful in obtaining the funding or resolving the matters
referred to above, and we do not obtain other sources of funding to replace
these commitments, we may not be able to fund our operations or support capital
needs and business strategy beyond March 31, 2003. Accordingly, our ability to
continue as a going concern is in question.

Our independent auditors stated in their "Report of Independent Accountants"
our consolidated financial statements as of and for the fiscal years ended
March 31, 2002 and 2001 that there is substantial doubt about our ability to
continue as a going concern.

If we decide to enter into any other business ventures that would require
additional cash, we will need to raise additional funds by selling debt or
equity securities, by entering into strategic relationships, or through other
arrangements.

We may be unable to raise any additional amounts on reasonable terms, or at
all, when needed. If we are unable to raise such additional funding, we may have
to sell components of our business, curtail operations and merger and
acquisition activities, all of which in turn would seriously harm our financial
position and results of operations and our ability to operate.

CAPITAL EXPENDITURES

There were no material commitments for capital expenditures during the
fiscal year ended March 31, 2002, and no material commitments are anticipated in
the near future.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

MARKET/PRICE RISK

We are exposed to market risk in the normal course of its business
operations. We face competition and must offer our products and services at
prices the market will bear. Management believes that we are well positioned
with its mix of products and services to take advantage of future price
increases for these products and services. However, should the prices for our
products decline, this could adversely affect our future profitability and
competitiveness.

INTEREST RATE RISK

Our debt portfolio as of March 31, 2002 is composed entirely of fixed and
variable rate debt denominated in United States currency. Changes in interest
rates have different impacts on the fixed and variable rate portions of our debt
portfolio. A change in interest rate on the variable portion of the debt
portfolio impacts the interest incurred and cash flows but does not impact the
net financial

52

instrument position. If interest rates significantly increase, we could incur
additional interest expenses, which would negatively affect its cash flow and
future profitability.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

The consolidated financial statements and supplementary data are set forth
on pages F-1 through F-33 hereto.

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

The audit of our consolidated financial statements as of and for the year
ended March 31, 2001 was completed by KPMG LLP ("KPMG") as our independent
auditor. On July 26, 2002, our Board of Directors received a letter from KPMG
pursuant to which KPMG resigned from its position as our independent auditor.
Refer to our Form 8-K/A filed August 19, 2002.

KPMG's opinion on our consolidated financial statements for the fiscal year
ended March 31, 2001 contained an explanatory paragraph relating to the
Company's ability to continue as a going concern, but did not otherwise contain
a disclaimer of opinion nor was it otherwise qualified or modified as to
uncertainty, audit scope or accounting principles. In conjunction with their
audit of the March 31, 2001 financial statements KPMG reported to our Audit
Committee, in a letter dated September 20, 2001, certain reportable conditions
and material weaknesses regarding internal controls. See our Form 8-K/A filed
August 19, 2002. The Company believes that, with the exception of matters
relating to the composition of the Audit Committee, the aforementioned
reportable events identified by KPMG in their September 20, 2001 letter have
been remedied as of the date of this filing.

In connection with the audit of the fiscal year ended March 31, 2001, and
the subsequent interim period through July 26, 2002, there were no disagreements
between us and KPMG on any matter of accounting principles or practices,
financial statement disclosure, or auditing scope or procedures, except in
connection with the audit of the consolidated financial statements for the
fiscal year ended March 31, 2002. The term "disagreements" is interpreted and
used broadly, to include any difference of opinion concerning any matter of
accounting principles or practices, financial statement disclosure or auditing
scope or procedure which, if not resolved to the satisfaction of the independent
accountant, would have caused it to make reference to the subject matter of the
disagreement in connection with its report.

53

As a result of KPMG's letter dated July 26, 2002 communicating alleged
illegal acts as well as their resignation, the Securities and Exchange
Commission ("SEC") has initiated an informal inquiry into this matter. As of the
date of this Form 10-K filing, we have had preliminary discussions with the SEC,
although we have not been informed of and are not aware of any conclusions the
SEC has reached related to their inquiry. We also are not aware of whether the
informal inquiry will result in a formal investigation by the SEC.

On August 23, 2002, we engaged Brown & Brown, LLP ("Brown & Brown") as our
new independent auditors. The decision to appoint Brown & Brown was approved by
our Board of Directors as of August 23, 2002.

During the two most recent fiscal years ended March 31, 2002 and March 31,
2001, and the subsequent interim period through August 23, 2002, we did not
consult Brown & Brown regarding the application of accounting principles to a
specific transaction, either completed or proposed, or the type of audit opinion
that might be rendered on our financial statements, or for any of the matters or
reportable events set forth in the applicable SEC rules and regulations.

The audit of our consolidated financial statements as of and for the year
ended March 31, 2000 was completed by Arthur Andersen LLP ("Andersen") as our
independent accountant. On March 8, 2001, we selected KPMG LLP ("KPMG") to act
as our new independent accountant and to audit our financial statements for the
fiscal year ending March 31, 2001.

The report of Andersen on our financial statements for the fiscal year ended
March 31, 2000 did not contain an adverse opinion or a disclaimer of opinion and
were not qualified or modified as to uncertainty, audit scope or accounting
principles.

In connection with the audits of the fiscal year ended March 31, 2000, and
the subsequent interim period through March 8, 2001, there were no disagreements
between Andersen and us on any matter of accounting principles or practices,
financial statement disclosure, or auditing scope or procedures. The term
"disagreement" means any disagreement between our personnel responsible for
presentation of our financial statements and any personnel of Andersen
responsible for rendering Andersen's report on our financial statements on any
matter of accounting principles or practices, financial statement disclosure or
auditing scope or procedure which disagreements, if not resolved to the
satisfaction of Andersen, would have caused Andersen to make reference to the
subject matter of the disagreement in connection with its report.

PART III

ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT.

The information called for by this item with respect to directors' and
officers' compliance with Section 16 (a) of the Securities Exchange Act of 1934,
as amended, is set forth under the caption "Executive Officers and
Directors--Did Directors and Officers Comply with their 16 (a) Beneficial
Ownership Reporting Compliance Requirement?" in our definitive Proxy Statement
for our Annual Meeting of Stockholders to be held on December 6, 2002, and to be
filed with the SEC on or before October 25, 2002, which information is hereby
incorporated herein by reference.

ITEM 11. EXECUTIVE COMPENSATION.

The information appearing under the caption "Executive and Director
Compensation" in our definitive Proxy Statement for our Annual Meeting of
Stockholders to be held on December 6, 2002 and to be filed with the SEC on or
before October 25, 2002, is incorporated herein by reference.

54

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.

The information appearing under the caption "Security Ownership of Certain
Beneficial Owners and Management" in our definitive Proxy Statement for our
Annual Meeting of Stockholders to be held on December 6, 2002 and to be filed
with the SEC on or before October 25, 2002, is incorporated herein by reference.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

The information appearing under the caption "Certain Relationships" in our
definitive Proxy Statement relating to our Annual Meeting of Stockholders to be
held on December 6, 2002 and to be filed with the SEC on or before October 25,
2002, is incorporated herein by reference.

ITEM 14. EXHIBITS AND REPORTS ON FORM 8-K.

(a) EXHIBITS.

- ------------------------

* Filed electronically herewith.

(1) Filed as an exhibit to Registrant's Form S-18 Registration Statement
(No. 33-8420-D).

(2) Filed as an exhibit to the Registrant's Form 8-K, as filed on April 1,
1999.

(3) Filed as an exhibit to the Registrant's Form 8-K/A, as filed on April 26,
2000.

(4) Filed as an exhibit to the Registrant's Form 8-K filed on April 3, 2000.

(5) Filed as an exhibit to the Registrant's Form 8-K/A filed on May 2, 2000.

(6) Filed as an exhibit to the Registrant's Form 8-K filed May 23, 2000.

(7) Filed as an exhibit to the Registrant's Form 8-K filed June 28, 2000.

(8) Filed as an exhibit to the Registrant's Form 8-K filed March 2, 2001.

(9) Filed as an exhibit to the Registrant's Form 8-K/A filed March 9, 2001.

(10) Filed as an exhibit to the Registrant's Form 8-K filed on April 11, 2001.

(11) Filed as an exhibit to the Registrant's Form 8-K filed August 21, 2001.

(12) Filed as an exhibit to the Registrant's Form 8-K filed October 29, 2001.

(13) Filed as an exhibit to the Registrant's Form 8-K filed April 12, 2002.

(14) Filed as an exhibit to the Registrant's Form 8-K filed August 19, 2002.

(15) Filed as an exhibit to the Registrant's Form 8-K/A filed August 19, 2002.

(b) REPORTS ON FORM 8-K. We filed a Form 8-K dated August 21, 2001,
reporting under Item 2 the Merger Agreement with Chartwell Diversified
Services, Inc. We filed a Form 8-K/A dated October 22, 2001, reporting under
Item 7 financial statements and proforma financial information for the Merger
Agreement with Chartwell Diversified Services, Inc. We filed a Form 8-K dated
October 29, 2001, reporting under Item 5 the execution of the Merger Agreement
with Tender Loving Care Health Care Systems, Inc. We filed a Form 8-K/A dated
November 30, 2001, reporting under Item 7 restated financial statements and
proforma financial information for the Merger Agreement with Chartwell
Diversified Services, Inc. We filed a Form 8-K dated December 13, 2001,
reporting under Item 2 the results of the tender offer related to the executed
Merger Agreement with Tender Loving Care Health Care Systems, Inc. We filed a
Form 8-K/A dated February 11, 2002, reporting under Item 7 amended restated
financial statements and proforma financial information for the Merger Agreement
with Chartwell Diversified Services, Inc. The Company filed a Form 8-K/A dated
February 20, 2002 (to be amended), reporting under Item 7 restated financial
statements and proforma financial information for the Merger Agreement with
Tender Loving Care Health Care Systems, Inc. We filed a Form 8-K dated
April 12, 2002 reporting under Item 5 the formation and Receivable Purchase
Agreements by American Reimbursement LLC. We filed a Form 8-K, dated June 4,
2002, reporting under Item 5 notification and hearing to review its conformity
with the listing requirements for the American Stock Exchange. We filed a
Form 8-K, dated July 23, 2002, reporting under Item 5 the resignation of our
three independent members of our Board of Directors. We filed a Form 8-K, dated
August 2, 2002, reporting under Item 4 the resignation of KPMG LLP as our
independent auditors and under Item 5 the resignation of our Chief Financial
Officer. We filed a Form 8-K, dated August 19, 2002, reporting under Item 5 the
refinance of $70 million debentures held by Private Investment Bank Limited. We
filed a Form 8-K/A, dated August 19, 2002, amending our 8-K dated August 2, 2002
and reporting under Item 4 the inclusion of an August 16, 2002 letter written by
KPMG LLP to the Securities and

59

Exchange Commission. We filed a Form 8-K, dated August 23, 2002, reporting under
Item 4 the appointment of Brown & Brown, LLP as our independent auditor. We
filed a Form 8-K, dated September 19, 2002, reporting under Item 5 the
appointment of two new members to our Board of Directors.

60

MED DIVERSIFIED, INC.

INDEX TO FINANCIAL STATEMENTS

F-1

REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

To the Board of Directors and Stockholders of Med Diversified, Inc.:

We have audited the accompanying consolidated balance sheet of Med
Diversified, Inc. (formerly e-MedSoft.com) and subsidiaries as of March 31, 2002
and the related consolidated statements of operations, stockholders' equity
(deficit) and comprehensive income (loss), and cash flows for the year then
ended. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audit. The consolidated financial statements
of the Company as of March 31, 2001, were audited by other auditors whose report
dated July 23, 2001, on those statements included an explanatory paragraph that
described that the Company had suffered recurring losses from operations, had
negative working capital and negative cash flows that raised substantial doubt
about its ability to continue as a going concern as discussed in Note 1 of the
consolidated financial statements. The consolidated financial statements of the
Company as of March 31, 2000, were audited by other auditors who have ceased
operations and whose report dated June 28, 2000, expressed an unqualified
opinion on those statements.

We conducted our audit 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 audit provide a reasonable
basis for our opinion.

In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Med
Diversified, Inc. and subsidiaries as of March 31, 2002 and the results of their
operations and their cash flows for the year then ended, in conformity with
accounting principles generally accepted in the United States of America.

The accompanying consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. As discussed in
Note 1 to the consolidated financial statements, the Company has suffered
recurring losses from operations, has negative working capital and negative cash
flows that raise substantial doubt about its ability to continue as a going
concern. Management's plans in regard to these matters are also described in
Note 1. The consolidated financial statements do not include any adjustments
that might result from the outcome of this uncertainty.

/s/ Brown & Brown, LLP

Boston, Massachusetts
October 31, 2002

F-2

REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

To the Board of Directors and Stockholders of Med Diversified, Inc.:

We have audited the accompanying consolidated balance sheet of Med
Diversified, Inc. (formerly e-MedSoft.com) and subsidiaries as of March 31, 2001
and the related consolidated statements of operations, stockholders' equity
(deficit) and comprehensive income (loss), and cash flows for the year then
ended. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audit. The consolidated financial statements
of Med Diversified, Inc. as of March 31, 2000, and for the year then ended were
audited by other auditors who have ceased operations. Those auditors expressed
an unqualified opinion on those consolidated financial statements in their
report dated June 28, 2000.

We conducted our audit 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 audit provides a
reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Med
Diversified, Inc. and subsidiaries as of March 31, 2001 and the results of their
operations and their cash flows for the year then ended, in conformity with
accounting principles generally accepted in the United States of America.

The accompanying consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. As discussed in
Note 1 to the consolidated financial statements, the Company has suffered
recurring losses from operations, has negative working capital and negative cash
flows that raise substantial doubt about its ability to continue as a going
concern. Management's plans in regard to these matters are also described in
Note 1 to the consolidated financial statements. The consolidated financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.

/s/ KPMG LLP

Jacksonville, Florida
July 23, 2001

F-3

THE FOLLOWING REPORT OF ARTHUR ANDERSEN, LLP ("ANDERSEN") IS A COPY OF THE
REPORT PREVIOUSLY ISSUED BY ANDERSEN ON JUNE 28, 2000. THE REPORT OF ANDERSEN IS
INCLUDED IN THIS ANNUAL REPORT ON FORM 10-K PURSUANT TO RULE 2-02 (E) OF
REGULATION S-X. AFTER REASONABLE EFFORTS THE COMPANY HAS NOT BEEN ABLE TO OBTAIN
A REISSUED REPORT FROM ANDERSEN. ANDERSEN HAS NOT CONSENTED TO THE INCLUSION OF
ITS REPORT IN THIS ANNUAL FORM 10-K. BECAUSE ANDERSEN HAS NOT CONSENTED TO THE
INCLUSION OF ITS REPORT IN THIS ANNUAL REPORT, IT MAY BE DIFFICULT FOR
SHAREHOLDERS TO SEEK REMEDIES AGAINST ANDERSEN AND SHAREHOLDERS ABILITY TO SEEK
RELIEF AGAINST ANDERSEN MAY BE IMPAIRED.

REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

To the Board of Directors and Stockholders of e-MedSoft.com:

We have audited the accompanying consolidated balance sheet of e-MedSoft.com
(a Nevada corporation) and subsidiaries as of March 31, 2000 and the related
consolidated statements of operations, stockholders' equity and comprehensive
income (loss) and cash flows for the year ended March 31, 2000 and the four
months ended March 31, 1999. These financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these financial statements based on our audits.

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

In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of e-MedSoft.com and
subsidiaries as of March 31, 2000 and 1999, and the results of their operations
and their cash flows for the year ended March 31, 2000 and the four months ended
March 31, 1999 in conformity with accounting principles generally accepted in
the United States.

/s/ ARTHUR ANDERSEN LLP

Los Angeles, California
June 28, 2000

F-4

MED DIVERSIFIED, INC.

CONSOLIDATED BALANCE SHEETS

AS OF MARCH 31, 2002 AND 2001

(IN THOUSANDS, EXCEPT PAR VALUE)

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

F-5

MED DIVERSIFIED, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

FOR THE YEARS ENDED MARCH 31, 2002, 2001 AND 2000

(IN THOUSANDS, EXCEPT PER SHARE INFORMATION)

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

F-6

MED DIVERSIFIED, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT) AND COMPREHENSIVE
INCOME (LOSS)
FOR THE YEARS ENDED MARCH 31, 2002, 2001 AND 2000 (IN THOUSANDS, EXCEPT SHARE
INFORMATION)

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

F-7

MED DIVERSIFIED, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE YEARS ENDED MARCH 31, 2002, 2001 AND 2000

(IN THOUSANDS)

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

F-8

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

MARCH 31, 2002

1. COMPANY OVERVIEW

DESCRIPTION OF BUSINESS

Med Diversified, Inc. ("the Company") is a diversified healthcare company
that provides home healthcare and alternate site healthcare, skilled nursing,
and pharmacy management and distribution services to more than 175 thousand
patients in 37 states. All products and services are provided through a national
network of Company owned and franchise locations. In fiscal 2002, the Company
acquired two providers of home healthcare/alternative care services, Chartwell
Diversified Services, Inc. ("Chartwell") in August 2001 and Tender Loving Care
Health Care Services ("TLCS") in November 2001. The operating results and
related assets and liabilities of the acquired businesses have been consolidated
into the Company's financial statements from the date of transactions based on
accounting principles generally accepted in the United States of America.

PRINCIPLES OF CONSOLIDATION

The consolidated financial statements include the accounts of the Company
and subsidiaries.

The Company consolidated the operations of PrimeRx in the year ended
March 31, 2001 and for the period from April 1, 2001 through July 31, 2001. At
July 31, 2001, the Company ceased consolidation of Network as it no longer
controlled Network. All significant intercompany balances and transactions have
been eliminated.

GOING CONCERN

The accompanying consolidated financial statements have been prepared on the
basis that the Company will continue as a going concern, which contemplates the
realization of assets and the satisfaction of liabilities in the normal course
of business. The Company's ability to continue to operate as a going concern is
dependent on its ability to restructure payments on existing debt or raise
additional capital through issuance of additional equity securities. There is no
guarantee that funding will be available on terms acceptable to the Company.

The Company has experienced significant losses from continuing operations in
fiscal year ended March 31, 2002. At March 31, 2002, the Company had negative
working capital from continuing operations of $162.4 million (excluding
$10.3 million negative working capital of discontinued operations). Cash and
cash equivalents at March 31, 2002 were $8.1 million.

A TLCS financing agreement (SEE Note 8) contains certain covenants under
which TLCS was technically in breach. TLCS has obtained all necessary waivers
from the financing facility on those covenants through December 31, 2002. If the
financing facility does not continue to make purchases of accounts receivables,
TLCS would not have sufficient cash to support its current level of operations.

TLCS, a subsidiary of the Company, has a repayment agreement ("the
Agreement") with the Federal Centers for Medicare and Medicaid Services ("CMS")
(formerly the Federal Health Care Financing Administration) for the repayment of
all excess PIP amounts and all audit liabilities relative to Medicare audits for
periods through February 28, 2001. The balance due recorded as of March 31, 2002
is $54.5 million. The Agreement provides for aggregate monthly payments of
principal and interest through May 2005. The required monthly payments are
$1 million from March 2002 through November 2002, $1.5 million from
December 2002 through May 2004 and $1.75 million from June 2004

F-9

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

1. COMPANY OVERVIEW (CONTINUED)
through April 2005. Any remaining liabilities as of May 2005 for periods covered
by the Agreement will then be paid in a balloon payment, the amount of which is
to be determined no later than March 1, 2005. Any overpayments or audit
liabilities that are successfully appealed by the Company will be subtracted
from the total amounts owed. Interest is accrued from the date of each
assessment at the government rate of interest (currently at 13.75% per annum).
United Government Services LLC ("UGS"), a fiscal intermediary for CMS, collects
amounts due under the repayment plan by offsetting against current remittances
due to the Company. Based on this repayment plan the Company will pay, excluding
interest, $14 million through March 2003, $20.5 million through March 2004 and a
balloon payment of $21.5 million in the period ended March 2005.

As described in Note 3 to the consolidated financial statements, effective
July 15, 2002 the Company was delisted from the AMEX. Further, the Company's
stock was trading at between $0.04 to $0.28 per share during August and
September 2002. These factors may affect the Company's ability to obtain equity
or debt financing.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

RECLASSIFICATIONS

Certain previously reported amounts have been reclassified to conform to the
current year presentation.

USE OF ACCOUNTING ESTIMATES

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, disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.

CASH AND CASH EQUIVALENTS

The Company considers all highly liquid investments with maturities of
90 days or less at the time of acquisition to be cash equivalents.

ACCOUNTS RECEIVABLE

Accounts receivable consists primarily of trade receivables from the
provision of home health services, sales of pharmacy prescription drugs and
other pharmacy products and services as well as Internet products and services
to the Company's customers. The Company reviews its trade receivables for
collectability and provides an allowance for uncollectable balances based upon
management's best estimates.

INVENTORY

Inventory consists primarily of pharmaceuticals and pharmacy products and is
stated at the lower of cost or market. Cost is determined by the first-in,
first-out (FIFO) method.

F-10

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
FAIR VALUE OF FINANCIAL INSTRUMENTS AND CONCENTRATION OF SALES AND CREDIT RISK

The carrying amounts reported in the consolidated balance sheets for cash,
receivables, accounts payable and accrued liabilities approximate fair value
because of the immediate or short-term maturity of these financial instruments.
The carrying value of the Company's debt and capital leases approximate their
fair value because of the short maturities and/or interest rates which are
comparable to those available to the Company on similar terms.

PROPERTY AND EQUIPMENT

Property and equipment are stated at cost and are depreciated using the
straight-line method based on the estimated useful life of the related asset.
Useful lives are generally three to six years except for leasehold improvements
and equipment acquired under capital leases which are amortized over the shorter
of the remaining lease term or the estimated useful life of the related asset.

GOODWILL

Goodwill represents the excess of cost over the fair value of net tangible
and identifiable intangible assets acquired. Goodwill related to the acquisition
of Resource Healthcare Pharmacy (SEE note 5) was being amortized over a
fifteen-year period until the adoption of Statement of Financial Accounting
Standards No. 142, GOODWILL AND OTHER INTANGIBLE ASSETS ("SFAS 142"). Effective
for acquisitions subsequent to July 1, 2001, the Company was required to
implement the transitional provisions of SFAS 142, see Recent Accounting
Pronouncements below. Accordingly, goodwill related to the Chartwell acquisition
is not amortized but will be tested for impairment on an annual basis in the
fourth quarter of the fiscal year. The Company continually evaluates whether
events and circumstances have occurred that indicate the remaining estimated
useful life of goodwill may warrant revision or that the remaining balance of
goodwill recorded may not be recoverable. When factors indicate that goodwill
should be evaluated for possible impairment, the Company uses an estimate of
undiscounted future net cash flows over the remaining life of the goodwill to
determine if impairment has occurred. Assets are grouped at the lowest level for
which there is identifiable cash flows that are largely independent from other
asset groups.

SOFTWARE DEVELOPMENT COSTS

Costs incurred prior to technological feasibility related to the development
of software to be licensed have been expensed. Under Statement of Financial
Accounting Standards ("SFAS") No. 86, ACCOUNTING FOR THE COSTS OF COMPUTER
SOFTWARE TO BE SOLD, LEASED, OR OTHERWISE MARKETED, once the Company concludes
that technological feasibility is attained, all subsequent development costs are
capitalized and reported at the lower of unamortized cost or net realizable
value. Software development costs incurred related to software to be used
internally as part of a hosting arrangement have been capitalized in accordance
with Statement of Position ("SOP") 98-1, ACCOUNTING FOR THE COSTS OF COMPUTER
SOFTWARE INTERNALLY DEVELOPED OR OBTAINED FOR INTERNAL USE. During the years
ended March 31, 2002, 2001 and 2000, we incurred approximately $4 million,
$9.3 million and $2.9 million in software development costs, respectively. We
capitalized approximately $1 million, $2 million and $2.2 million of these costs
during the years ended March 31, 2002, 2001 and 2000, respectively. Such
deferred costs along with acquired software costs will be amortized over a three
to five year life once

F-11

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
the related products are in service or available for sale. We amortized
$1.6 million and $67 thousand for the years ended March 31, 2002 and 2001,
respectively. In fiscal 2002, we also recorded a loss on impairment of
$9.2 million (SEE Note 6) related to the discontinuation of support and
development of the MedPractice and MedCommerce product lines.

REVENUE RECOGNITION

Home health sales are recognized at the time of a visit to the patient's
home. Home health sales are primarily to Medicare/Medicaid accounts (92.0%) and
Private and Managed Care accounts (8%). Pharmacy sales are generated at the time
our pharmacy dispenses drugs to a patient that is covered in a third party
arrangement. Sales in the pharmacy division are primarily to Private and Managed
Care accounts (62.6%), Medicare/Medicaid (20.6%), Institutions (12.3%) and Other
insurance programs (4.5%). Internet sales are recognized upon final acceptance
of the product by the customer and are paid by private customers.

A portion of the Company's service revenues are derived under a form of
franchising pursuant to a license agreement under which independent companies or
contractors represent the Company within a designated territory. These licensees
assign Company personnel including registered nurses, therapists and home health
aides to service the Company's clients using the Company's trade names and
service marks. The Company pays and distributes the payroll for the direct
service personnel who are all employees of the Company, administers all payroll
withholdings and payments, bills the customers and receives and processes the
accounts receivable. The licensees are responsible for providing an office and
paying related expenses for administration including rent, utilities and costs
for administrative personnel.

The Company's software products and services are provided based upon
purchase orders and written contractual agreements. Software sales are
recognized upon acceptance by the customer. Sales from services are recorded
upon performance.

INCOME TAXES

The Company accounts for income taxes pursuant to SFAS 109, ACCOUNTING FOR
INCOME TAXES, which uses the asset and liability method. Deferred tax assets and
liabilities are recognized for the future tax consequences attributable to
differences between the financial statement carrying amounts of existing assets
and liabilities and their respective tax bases and operating loss carry
forwards. Deferred tax assets and liabilities are measured using enacted tax
rates expected to apply to taxable income in the years in which those temporary
differences are expected to be realized or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in income in the
period that includes the enactment date. Valuation allowances are established
when necessary to reduce deferred tax assets to the amounts expected to be
realized.

BASIC AND DILUTED LOSS PER SHARE

In accordance with SFAS No. 128, COMPUTATION OF EARNINGS PER SHARE, basic
earnings per share is computed by dividing the net earnings available to common
stockholders for the period by the weighted average number of common shares
outstanding during the period. Diluted earnings per share is

F-12

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
computed by dividing the net earnings for the period by the weighted average
number of common and common equivalent shares outstanding during the period.

Common equivalent shares, consisting of incremental common shares issuable
upon the exercise of stock options and warrants are excluded from the diluted
earnings per share calculation if their effect is anti-dilutive.

A summary of the shares used to compute net loss per share is as follows (in
thousands):

As of March 31, 2002, 2001 and 2000, options and warrants to purchase
approximately 55.6 million, 13.4 million and 5.7 million shares of common stock
were outstanding, respectively. In accordance with SFAS No. 128, Earnings Per
Share, the Company has included warrants to acquire 3.7 million shares in basic
earnings per share because they are issuable for little or no cash
consideration. These shares have been removed from diluted earnings per share
because they are anti-dilutive.

RECENT ACCOUNTING PRONOUNCEMENTS

On July 1, 2002, the Company adopted the provisions of Statement of
Financial Accounting Standards (SFAS) No. 141, BUSINESS COMBINATIONS. SFAS
No. 141 eliminates the pooling of interests method of accounting for business
combinations initiated after June 30, 2001. The adoption of SFAS No. 141 does
not impact the Company's financial position or results of operations.

In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS
No. 142, GOODWILL AND OTHER INTANGIBLE ASSETS. Under the provisions of SFAS
No. 142, intangible assets with indefinite lives and goodwill are no longer
amortized but are subject to annual impairment tests. Separable intangible
assets with finite lives continue to be amortized over their useful lives.
Furthermore, any goodwill and intangible asset determined to have an indefinite
useful life that was acquired in a purchase business combination completed after
June 30, 2001 will not be amortized, but will continue to be evaluated for
impairment in accordance with the appropriate pre-Statement 142 accounting
literature. Goodwill and intangible assets acquired in business combinations
completed prior to July 1, 2001 will continue to be amortized prior to the
adoption of Statement 142. The Company expects to have unamortized goodwill, for
acquisitions prior to June 30, 2001, in the amount of $3.4 million. Amortization
expense related to goodwill was $1.7 million and $149 thousand for the fiscal
years ended March 31, 2002 and 2001, respectively. In addition, the Company has
$85.9 million in goodwill associated with the Chartwell acquisition, which
occurred August 6, 2001. We have not yet determined the impact, if any, of
adopting the impairment provisions of SFAS No. 142, including whether any
transitional impairment losses will

F-13

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
be required to be recognized as the cumulative effect of a change in accounting
principle. The Company will adopt the provisions of SFAS No. 142 as of April 1,
2002.

In June 2001, the FASB issued SFAS No. 143, ACCOUNTING FOR ASSET RETIREMENT
OBLIGATIONS. SFAS No. 143 addresses financial accounting requirements for
retirement obligations associated with tangible long-lived assets. Management
does not expect the provisions of SFAS No. 143 to have a material impact on the
Company's consolidated financial statements. The Company will adopt the
provisions of SFAS No. 143 as of April 1, 2003.

In August 2001, the FASB issued SFAS No. 144, ACCOUNTING FOR THE IMPAIRMENT
OR DISPOSAL OF LONG-LIVED ASSETS, that replaces SFAS No. 121, ACCOUNTING FOR THE
IMPAIRMENT OF LONG-LIVED ASSETS AND FOR LONG-LIVED ASSETS TO BE DISPOSED OF.
SFAS No. 144 requires that long-lived assets to be disposed of by sale,
including those of discontinued operations, be measured at the lower of carrying
amount or fair value less cost to sell, whether reported in continuing
operations or in discontinued operations. Discontinued operations will no longer
be measured at net realizable value or include amounts for operating losses that
have not yet been incurred. SFAS No. 144 also broadens the reporting of
discontinued operations to include all components of an entity with operations
that can be distinguished from the rest of the entity and that will be
eliminated from the ongoing operations of the entity in a disposal transaction.
Management has not determined the impact of adopting SFAS 144 on the Company's
consolidated financial statements. The Company will adopt the provisions of SFAS
No. 144 as of April 1, 2003.

In July 2002, the FASB issued SFAS No. 146, ACCOUNTING FOR COSTS ASSOCIATED
WITH EXIT OR DISPOSAL ACTIVITIES, which addresses the recognition, measurement,
and reporting of costs associated with exit or disposal activities, and
supercedes Emerging Issues Task Force (EITF) 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). The principal
difference between SFAS 146 and EITF 94-3 relates to the requirements for
recognition of a liability for a cost associated with an exit or disposal
activity. SFAS 146 requires that a liability for a cost associated with an exit
or disposal activity, including those related to employee termination benefits
and obligations under operating leases and other contracts, be recognized when
the liability is incurred, and not necessarily the date of an entity's
commitment to an exit plan, as under EITF 94-3. SFAS 146 also establishes that
the initial measurement of a liability recognized under SFAS 146 be based on
fair value. The provisions of SFAS 146 are effective for exit or disposal
activities that are initiated after December 31, 2002, with early application
encouraged. The Company expects to adopt SFAS 146, effective January 1, 2003.
For exit or disposal activities initiated prior to December 31, 2002, the
Company plans to follow the accounting guidelines outlined in EITF 94-3.

3. SUBSEQUENT EVENTS

The following is a discussion of significant events subsequent to March 31,
2002.

AMERICAN STOCK EXCHANGE

On June 4, 2002, the Company's board of directors announced that on May 22,
2002, it received notice from the American Stock Exchange ("AMEX") that the
Company no longer meets the

F-14

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

3. SUBSEQUENT EVENTS (CONTINUED)
continued listing requirements of AMEX. On June 28, 2002, the Company announced
that it had withdrawn its appeal of the AMEX delisting determination and that
AMEX consented to the Company's request to voluntarily delist the Company's
common stock on the AMEX effective at the close of trading on July 15, 2002.
Management has elected to take this action in connection with the AMEX delisting
based upon the management's analysis that the Company is unable to meet the
AMEX's continued listing requirements given the Company's accumulated deficit at
March 31, 2002.

Beginning on July 16, 2002, the Company's common stock is quoted on the
"Pink Sheets".

NETWORK

As more fully discussed in note 16, as of July 1, 2002, the Company reached
a settlement agreement with Network, PrimeRx and its principal shareholders (the
"Network Settlement"). Under the terms of the Network Settlement, provided we
meet the obligations set forth therein, each of us, NCFE, and one of NCFE's
subsidiaries on the one hand, and the cross-defendants (which include Network
and certain alleged co-conspirators) release one another from all claims related
to the subject matter of this litigation. This release does not cover certain
employment compensation disputes that one of the principal shareholders of
PrimeRx has against us and does not release any parties other than NCFE, the
NCFE subsidiary and us. The Company's obligations include: (i) a payment of
$2.5 million on July 1, 2002 which has been made; (ii) a payment of
$2.5 million by wire transfer by August 1, 2003; (iii) a transfer of shares of
PrimeRx that the Company owned, and was made prior to July 1, 2002;
(iv) returning all of PrimeRx's, Network's and their affiliates tangible
property the Company possess by July 15, 2002, along with an inventory of such
equipment that indicates whether any equipment has been previously sold by the
Company; (v) monthly payments commencing July 15, 2002 in connection with
certain guaranties of leased equipment made by a principal shareholder of
PrimeRx; and, (vi) a dismissal of our cross-compliant with prejudice in the
arbitration proceedings. Amounts pertaining to this settlement were expensedand
recorded as of March 31, 2002.

VIDIMEDIX

As of July 7, 2002, the company had tentatively reached a settlement with
the Remaining Plaintiffs. Payment terms were being negotiated and finalized as
of July 16, 2002. Other terms included a mutual release from the Texas Action
and for the Company to dismiss the California Action with prejudice, see
Note 16.

SECURITIES AND EXCHANGE COMMISSION INQUIRY

On July 26, 2002, our Board of Directors received a letter from KPMG
pursuant to which KPMG resigned from its position as our independent auditors.
Refer to the Company's Form 8-K/A filed August 19, 2002.

As a result of KPMG's letter dated July 26, 2002 communicating alleged
illegal acts as well as their resignation, the Securities and Exchange
Commission ("SEC") has initiated an informal inquiry into this matter. As of the
date of this Form 10-K filing, we have had preliminary discussions with the SEC,
although we have not been informed of and are not aware of any conclusions the
SEC has reached

F-15

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

3. SUBSEQUENT EVENTS (CONTINUED)
related to their inquiry. We also are not aware of whether the informal inquiry
will result in a formal investigation by the SEC.

FINANCING ARRANGEMENTS

On August 14, 2002 the Company refinanced $70 million of debentures with
Private Investment Bank Limited ("PIBL"), see Note 8. To secure the extension,
the Company paid $12.5 million to reduce the principal balance with additional
principal reduction payments over the term as follows; $100 thousand per month
through July 2003, $400 thousand per month through January 2004 and
$600 thousand per month through May 2004, $25 million on July 31, 2003 and the
balance of $26.5 million due on June 28, 2004. Interest at a rate of 7% per
annum is to be paid quarterly. The Company also paid $2.5 million in accrued
interest due as of June 28, 2002. The $12.5 million principal reduction payment
was funded by TEGCO Investments LLC ("TegCo"), an entity which is majority owned
by the Company's CEO. The TegCo debt is subordinate to the PIBL debentures and
is due on June 29, 2004. Additionally, as a result of this refinancing
approximately $69.2 million of the outstanding balance will be reported as
long-term debt on the consolidated balance sheet at March 31, 2002. As of
October 31, 2002, we have been notified by PIBL's counsel that they believe
there have been certain technical breaches by us under the terms of this
refinancing. We are actively addressing these issues.

4. NCFE RELATIONSHIP

The following describes the various aspects of the relationship between
National Century Financial Enterprises, Inc. ("NCFE") and the Company.

STOCK OWNERSHIP. NCFE is partially owned, directly or indirectly, by four
individuals, who, in turn, own, directly or indirectly in the aggregate
approximately thirty three percent (33%) of the outstanding shares of the
Company's common stock as of March 31, 2002. Donald Ayers, a director of NCFE,
is one of the Company's directors.

ACQUISITION OF CHARTWELL. On August 6, 2001, the Company acquired Chartwell
Diversified Services, Inc. ("Chartwell"). Donald Ayers, a member of the
Company's board of directors was an indirect shareholder of Chartwell. Under the
plan of merger, the Chartwell shareholders received 500 thousand shares of a
newly created redeemable preferred stock of the Company (the"Preferred Stock").
The Chartwell shareholders also received warrants (the "Chartwell Warrants") to
purchase up to 20 million shares of the Company's common stock exercisable over
five years with a limit of 4 million shares per year at a strike price $4.00 per
share. Each share of Preferred Stock was automatically converted into 100 shares
of the Company's common stock, when, on December 27, 2001, the Company's
shareholders approved the issuance of the 70 million shares of common stock
issuable upon conversion of the Preferred Stock and exercise of the Chartwell
Warrants.

FINANCING. The Company has certain financing agreements with NCFE and its
subsidiaries. The Company has contracted with NCFE to provide financing for
current operations through various Sales and Subservicing Agreements
(collectively, the "Agreements"). These Agreements provide for funding from
National Premier Financial Services, Inc., and other subsidiaries of NCFE. Under
the terms of the

F-16

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

4. NCFE RELATIONSHIP (CONTINUED)
Agreements, the Company continues to bill customers, collect receipts and
process the related accounts receivable.

Under the Agreements, we are charged financing costs ranging from prime plus
three percent (3%) to 12.9% on outstanding funding balances. The Agreements
provide for funding to specified aggregate limits. Our accounts receivable must
meet certain qualitative and quantitative criteria and we must remain in
compliance with the terms of the Agreements. At March 31, 2002 and 2001, the
unpaid balances were approximately $106.1 million and $2.6 million,
respectively, and are included in related party debt in the consolidated balance
sheet.

The TLCS financing agreement contains certain covenants under which TLCS is
currently in breach. TLCS has obtained all necessary waivers from NCFE on those
covenants through December 31, 2002. If NCFE does not continue to provide
financing, TLCS would not have sufficient cash to support its current level of
operations.

At March 31, 2002, we have three unsecured notes payable to entities
affiliated with NCFE totaling $28.7 million, from the purchase of assets of a
home medical infusion company and an attendant care service company, Home
Medical of America, in September 2000. The notes are payable in sixty
(60) monthly installments ranging from $116 thousand to $314 thousand starting
on October 1, 2001. Interest accrues from the note date. Interest ranges from 9%
to 12.98% per annum and is included in the monthly payments. The notes mature on
September 2006. We have a right to offset against the payment of principal and
interest all amounts either advanced or paid on behalf of the NCFE affiliates.

In addition, at March 31, 2002, we have $8.5 million in various term notes
due to affiliates of NCFE. On December 5, 2001, we entered into a Promissory
Note and Stock Pledge Agreement with NCFE in the amount of $4.0 million. The
Promissory Note, as amended, carries an interest rate of fourteen percent (14%)
per annum with all principal and interest due and payable on June 30, 2003. We
also had a $2.3 million promissory note payable to NCFE, which bears interest at
the rate of ten percent (10%) per annum. The entire principal amount of the note
together with all accrued unpaid interest is due on December 31, 2002. There is
no prepayment penalty on the note. Additionally, the Company has various term
notes with NCFE totaling $2.2 million at March 31, 2002. These notes have
interest rates of 8% to 14%. SEE Note 8 to the Consolidated Financial Statements
for details regarding the NCFE financing arrangements.

STRATEGIC AGREEMENTS. We have agreements with NCFE to provide its services
and software solutions and to have exclusive marketing access to all of NCFE's
clients for the provision of our technology products. In February 2000, NCFE
entered into a Preferred Provider Agreement with the Company that resulted in
recording intangible assets of approximately $104 million consisting of
$36.1 million in distribution channel and $67.5 million in deferred contract.
The agreement included the development of a joint portal from which various
products and services of both companies could be marketed. Under our original
agreement with NCFE, we were to generate revenues from the portal from both a
flat fee for every doctor that signed up to transact business with NCFE through
the portal and through receiving a percentage of the receivables under NCFE
management from clients transacting over the portal. Because of a change in
market conditions causing a lack of consumer interest in these products the
Company delayed final development on the portal for NCFE.

F-17

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

4. NCFE RELATIONSHIP (CONTINUED)
Accordingly, the Company wrote-off the deferred contract asset of $67.5 million
and wrote-down the value of the distribution channel by $31.1 million during the
fourth quarter of 2001. NCFE and the Company are currently evaluating mutual
core competencies to set forth an amendment under the terms of the agreement to
establish new revenue opportunities capitalizing on such identified core
competencies between the two entities.

During the three months ended June 30, 2000, the Company recorded revenue of
$855 thousand from consulting and software services provided to an NCFE
affiliate. During the same period the Company also recorded approximately
$1.2 million in revenue from NCFE, for project management, infrastructure
development, e-business implementation and planning and other consulting
services. Approximately 20 percent of these services were provided prior to
March 31, 2000 but not recognized into revenues until acceptance by the customer
in the first quarter of fiscal 2001. The Company recorded the related party
receivables based on its contracts and its best estimate of the amount
ultimately to be realized.

During the following nine months from July 1, 2000 to March 31, 2001, the
Company recorded revenue of approximately $3.4 million from such related parties
for project management, infrastructure development, e-business implementation
and other consulting and software services. As of March 31, 2001, the Company
had a net outstanding balance of approximately $783 thousand due from the two
related entities.

Chartwell also entered into a management services agreement with HMA
beginning August 1, 2000 to provide certain management services for certain
operating assets of the Related Party while negotiating the acquisition of those
assets. One site remains managed under this agreement as of March 31, 2002.

Chartwell has non-interest bearing borrowings and advances with HMA based on
working capital needs through the transition of the purchased entities. As of
March 31, 2002, Chartwell had a net receivable of approximately $4.8 million.

5. BUSINESS COMBINATIONS AND JOINT VENTURES

ACQUISITIONS AND JOINT VENTURES FOR THE FISCAL YEAR ENDING MARCH 31, 2002

ACQUISITIONS

On October 19, 2001, the Company signed a definitive merger agreement to
acquire TLCS, a publicly traded Company, headquartered in Lake Success, New
York. This agreement superceded an earlier agreement between the parties dated
August 28, 2001. Under the merger agreement, the Company made an all cash tender
offer, wherein TLCS shareholders received $1.00 per share for TLCS' common
stock. The tender offer commenced October 30, 2001 and expired November 27,
2001. At the end of the tender offer, approximately 10.4 million shares
("Shares") or approximately 87.8% of the outstanding shares of TLCS were
tendered.

Under the merger agreement, on December 12, 2001 we exercised our option to
acquire from TLCS an additional 2.8 million shares of its common stock at an
exercise price of $1.00 per share. These shares, when added to the Shares
previously acquired, gave the Company 13.2 million or approximately 90.17%, of
the total outstanding shares of TLCS.

F-18

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

5. BUSINESS COMBINATIONS AND JOINT VENTURES (CONTINUED)

Further, the Company finalized the legal merger with TLCS and a wholly owned
subsidiary of ours on February 14, 2002. In connection with the Merger, we have
acquired and cancelled a total of 14.5 million or 99.3% of the outstanding TLCS
shares. TLCS' stock is no longer registered and is no longer publicly traded. We
accounted for the TLCS acquisition under the provisions of Statement of
Financial Accounting Standards No. 141, Business Combinations ("SFAS 141"). The
Company acquired the stock of TLCS for aggregate consideration of approximately
$156.0 million, which consists of the following (in thousands):

Purchase of 14,619,653 shares (100%) at $1.00 per share..... $ 14,620
Transaction costs........................................... 2,929
Vested options and warrants................................. 2,609
--------
Adjusted purchase price..................................... 20,158
Add: Net liabilities assumed in acquisition................. 135,800
--------
Goodwill.................................................... $155,958
========

Refer to Note 6 (c), Asset Impairment Write-offs, which outlines the
impairment of TLCS goodwill subsequent to acquisition.

A condensed summary of the net liabilities acquired in the TLCS acquisition
is as follows:

Current assets.............................................. $ 46,906
Non current assets.......................................... 16,854
--------
Goodwill and other intangibles.............................. 63,760
Current liabilities......................................... 146,126
Non current liabilities..................................... 53,434
--------
Net liabilities assumed in acquisition...................... $135,800
========

The following pro forma information gives effect to the acquisition of TLCS
as if such transaction had occurred at April 1, 2000 (unaudited, in thousands
except per share amounts):

On August 6, 2001, the Company acquired Chartwell Diversified
Services, Inc. ("Chartwell"). Donald Ayers, a member of the Company's board of
directors was an indirect shareholder of Chartwell. Under the plan of merger,
the Chartwell shareholders received 500 thousand shares of a newly created
redeemable preferred stock of the Company ("Preferred Stock"). The Chartwell
shareholders also received warrants (the "Chartwell Warrants") to purchase up to
20 million shares of the Company's common stock exercisable over 5 years with a
limit of 4 million per year at a strike price $4.00 per

F-19

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

5. BUSINESS COMBINATIONS AND JOINT VENTURES (CONTINUED)
share. Each share of Preferred Stock was automatically converted into 100 shares
of the Company's common stock, when, on December 27, 2001, the Company's
shareholders approved the issuance of the 70 million shares of common stock
issuable upon conversion of the Preferred Stock and exercise of the Chartwell
Warrants.

The Company accounted for the Chartwell Acquisition under the provisions of
SFAS 141. Accordingly, Chartwell's assets and liabilities were recorded at their
initial estimated fair market value, less certain adjustments, as of the date of
the Chartwell acquisition. The following table summarizes the acquisition of the
Chartwell (in thousands):

Redeemable preferred stock.................................. $67,825
Warrants.................................................... 1,001
Acquisition costs........................................... 678
-------
Adjusted purchase price..................................... 69,504
Add: Net liabilities assumed at acquisition................. 16,434
-------
Goodwill.................................................... $85,938
=======

The following pro forma information gives effect to the acquisition of
Chartwell as if such transaction had occurred at April 1, 2000 (unaudited, in
thousands except per share amounts):

On March 27, 2002, we formed a new subsidiary, American Reimbursement, LLC,
a Delaware limited liability company ("American Reimbursement"). American
Reimbursement was formed to purchase and hold certain accounts receivable from
various entities. Pursuant to certain agreements by and between American
Reimbursement and the Company, at the discretion of the Company, those accounts
receivable can be pledged or otherwise made available for the benefit of PIBL as
necessary to fulfill Med's obligations to PIBL pursuant to the Debentures. In
August of 2002, PIBL, as agent for the Debenture Holders, has accepted these
accounts receivable as part of the collateral securing amended and restated
debentures.

On March 29, 2002, American Reimbursement entered into five separate
Receivables Purchase Agreements to purchase, upon collection of cash, a total of
approximately $100 million of medical accounts receivables. The Company also
entered into five separate Continuing Guaranties with each of the accounts
receivables sellers pursuant to which the Company has agreed to guarantee
American Reimbursement's purchase obligations under the Receivable Purchase
Agreements. As set forth in the Security Agreement entered into by and between
the Company and American Reimbursement, dated as of March 29, 2002, and the
Assumption and Indemnification Agreement entered into by and between the Company
and American Reimbursement, dated as of March 29, 2002, the Company entered into

F-20

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

5. BUSINESS COMBINATIONS AND JOINT VENTURES (CONTINUED)
such Continuing Guaranties in exchange for American Reimbursement's agreement to
assume and indemnify the Company against obligations the Company may have to
PIBL or its affiliates under the Debentures or otherwise. American
Reimbursement's indemnification obligations under the Assumption and
Indemnification Agreement expired effective on June 26, 2002. PIBL is not a
party to these above-mentioned agreements. However, as noted above, PIBL agreed
to accept the medical accounts receivables held by American Reimbursement as
part of the collateral securing the amended debentures.

JOINT VENTURES

As a result of the Chartwell merger, in August 2001, the Company has
investments in nine joint ventures with various healthcare providers that
provide home care services, including high-tech infusion therapy, nursing,
clinical respiratory services, and durable medical equipment to home care
patients. The Company's ownership in the joint ventures includes: one with 80%
interest which is consolidated, one with 45% interest and seven with 50%
interest accounted for on the equity basis of accounting. In addition, the
Company provides various management services for each of the joint ventures
under Administrative Service Agreements, which range for periods from one to
five years.

A condensed balance sheet at March 31, 2002 and a condensed statement of
operations of the joint ventures accounted for on the equity method for the
period from August 6, 2001 through March 31, 2002 are as follows (in thousands):

CONDENSED COMBINED BALANCE SHEET

Current assets.............................................. $22,677
Non current assets.......................................... 5,313
-------
$27,990
=======
Current liabilities......................................... $ 6,051
Non current liabilities..................................... 429
Members equity:
Company..................................................... 10,246
Other members............................................... 11,264
-------
$27,990
=======

CONDENSED COMBINED STATEMENT OF OPERATIONS

Revenues.................................................... $46,990
Expenses.................................................... 40,534
-------
6,456
Net income allocated to other members....................... 3,447
-------
Net income.................................................. $ 3,009
=======

F-21

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

5. BUSINESS COMBINATIONS AND JOINT VENTURES (CONTINUED)

ACQUISITIONS FOR THE FISCAL YEAR ENDING MARCH 31, 2001

On May 5, 2000, the Company consummated the agreement dated April 18, 2000
with Illumea Corporation (Illumea) to acquire Illumea in exchange for
approximately $10.6 million in stock and cash. Illumea developed and marketed
Internet-based remote inspection and image sharing solutions in the medical and
life sciences industries. FiberPix (now known as MedMicroscopy), Illumea's core
application, enables multiple simultaneous users to view and interact with a
microscope's high fidelity images in real time over the Internet. This
acquisition was accounted for as a purchase. As a result of this acquisition the
Company recorded approximately $10.2 million in goodwill. During fiscal 2002 and
2001, the Company has recorded an asset impairment write-down (SEE Note 6) of
approximately $3.4 and $5.0 million, respectively.

On June 6, 2000, the Company consummated the agreement to acquire VidiMedix
Corporation for approximately $6.2 million in debt and liabilities. VidiMedix
provided network medicine solutions that enable physicians to deliver remote
examination, diagnosis, that allows for secure, private and collaborative
interactions and treatment to patients using advanced Internet and Web
technologies. This acquisition has been accounted for as a purchase. In
November, 2000 the Company entered into an agreement with eight of the fourteen
prior VidiMedix shareholders to issue approximately $3.4 million in shares of
our common stock to satisfy the earn out provisions in the purchase agreement.
As discussed in Note 6 the entire amount of goodwill amounting to $3.7 million
arising from this transaction has been impaired and written off during fiscal
year ending March 31, 2002. The following pro forma information for the fiscal
year ended March 31, 2000, details the effect of the acquisition of VidiMedix as
if this transaction had occurred at April 1, 1999 (unaudited and in thousands
except for per share amounts):

Net sales................................................... $ 2,241
Costs and expenses.......................................... $ 13,101
Amortization of goodwill.................................... $ 468
Net loss.................................................... $(12,495)
Net loss per share.......................................... $ (.22)

On June 16, 2000, the Company acquired Resource Healthcare (Resource) for
approximately $1.5 million in cash and $1 million in common stock (113 thousand
shares). In addition the Company has committed to issue additional common stock
with a value of $500 thousand as an earn out payment based on Resource achieving
pre-determined earning targets over the next fiscal year. Resource provides
pharmaceutical and infusion services to long-term care, assisted living and
residential care facilities throughout Nevada. Services offered by Resource
include consulting, training, billing, supplies management and facility systems
development. This acquisition has been accounted for as a purchase.

F-22

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

5. BUSINESS COMBINATIONS AND JOINT VENTURES (CONTINUED)
The following table details the allocation of the purchase price of these
acquisitions (in thousands):

ACQUISITIONS AND JOINT VENTURES FOR MARCH 31, 2000

PREFERRED PROVIDER AGREEMENT WITH NATIONAL CENTURY FINANCIAL ENTERPRISES
("NCFE")

On February 2, 2000, the Company entered into a seven year Preferred
Provider Agreement with NCFE to provide its services and software solutions and
to have exclusive marketing access to all of NCFE's clients for the provision of
the Company ("s) products. In addition, the agreement provides for a proprietary
Master Portal wherein all of NCFE's and the Company ("s) products and services
will be marketed and sold to NCFE's and the Company's customers. The Company
will receive fees for its services based on agreed upon fee schedules and
negotiated project fees. The components of the assets valued were based on their
related revenue streams and were recorded by the Company's at approximately
$67.5 million for NCFE to use our technology and $36.1 million for the NCFE
distribution channel. In September 2000, the Company amended its Preferred
Provider Agreement extending the term of the Preferred Provider Agreement to a
21-year term. The Company obtained access to NCFE customers on July 28, 2000. On
that date, the Company completed Phase 1 of the joint portal to market its
products to NCFE clients and other potential clients visiting the web site. The
portion of the portal planned to be implemented for NCFE to manage its clients
on line was completed during fiscal 2002. The Company has not generated any
revenue as originally anticipated from this deferred contract asset. As a result
of these events, and the fact that the Company no longer believes that the
original interactive connectivity between NCFE and its clients can be achieved,
the Company reevaluated these assets and reflected an impairment loss to
write-off the deferred contract asset and reduced the distribution channel asset
(SEE Note 6). In fiscal 2001, the Company wrote off $31.1 million and
$67.5 million associated with the distribution channel and deferred contract
respectively. In fiscal 2002, the company reserved the remaining unamortized
distribution channel balance of $2.3 million.

ACQUISITION OF VIRTX, INC.

On February 29, 2000, we consummated an agreement dated February 21, 2000 to
acquire privately held VirTx, Inc., a provider of secure collaborative medical
networks that are able to support the implementation of multimedia telemedicine,
telehealth, and telescience collaboration. In connection with the transaction,
the Company issued approximately 1.9 million shares of its common stock to the
VirTx shareholders and may issue additional shares pursuant to an earn-out
arrangement. This

F-23

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

5. BUSINESS COMBINATIONS AND JOINT VENTURES (CONTINUED)
transaction has been accounted for as a purchase resulting in approximately
$31 million of goodwill. The following table details the allocation of the VirTx
purchase price (in thousands):

Purchase price.............................................. $30,182
Acquisition costs........................................... 35
-------
Adjusted purchase price..................................... 30,217
Add: Excess of liabilities assumed over assets acquired..... 773
-------
Goodwill.................................................... $30,990
=======

As a result of our review of the operations of VirTx, during fiscal 2001 we
wrote off $26 million of unamortized goodwill relating to this acquisition.

The following pro forma information gives effect to the acquisition of VirTx
as if such transaction had occurred at April 1, 1999 (unaudited, in thousands
except per share amounts):

ACQUISITION OF SOFTWARE LICENSE AND JOINT VENTURE WITH QUANTUM DIGITAL SOLUTIONS
CORPORATION

On March 18, 2000, the Company acquired an exclusive 10-year license, with
an option to extend another 20 years, from Quantum Digital Solutions Corporation
("Quantum Digital") for application of their security encryption and data
scrambling technology. The Company intends to include the security technology
into its application services and will seek to develop a separate subsidiary
("Securus") that will focus on selling security solutions to the healthcare
industry. At March 31, 2000, the Company had reflected approximately
$29.1 million on the consolidated balance sheet which represented $25 million
for the value of the shares issued to obtain the option to acquire equity in
Quantum Digital, $750 thousand paid upon partial exercise of the option to
acquire equity interest and approximately $3.3 million in present value of the
lease commitment made by the Company for the acquisition of the option. At the
end of the fiscal year ended March 31, 2001, the expected product had not been
completed. As a result, management revised its analysis on the value of the
Quantum Digital investment, determining that the value of Quantum Digital's
common stock was permanently impaired. As a result, we have recorded asset
impairment charges of $2.8 million and $27 million during fiscal years 2002 and
2001, respectively.

F-24

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

5. BUSINESS COMBINATIONS AND JOINT VENTURES (CONTINUED)
OTHER BUSINESS AGREEMENTS

PRIMERX.COM

Effective April 12, 2000, the Company acquired a 29% interest in
PrimeRx.com, Inc. ("PrimeRx") and entered into a 30-year management agreement
and a preferred provider agreement with PrimeRx. PrimeRx offers a variety of
managed care pharmacy services. PrimeRx's customers include physician offices
and clinics, independent physician associations, physician practice management
organizations, managed care health plans, nursing homes, correctional
facilities, and community health centers. The agreement gave full control over
PrimeRx operations to the Company. Accordingly, the Company has consolidated the
operations of PrimeRx for the year ended March 31, 2001. The following pro forma
information for the fiscal year ended March 31, 2000, gives effect to the
consolidation of PrimeRx as if such transaction had occurred at April 1, 1999
(unaudited in thousands except per share amount):

Net sales................................................... $ 52,743
Costs and expenses.......................................... $ 62,465
Amortization of goodwill.................................... $ 1,720
Net loss.................................................... $(13,151)
Net loss per share.......................................... $ (.23)

6. ASSET IMPAIRMENT WRITE-OFFS

During the years ended March 31, 2002 and 2001, the Company incurred asset
impairment charges as follows:

(a) MEDPRACTICE AND MEDCOMMERCE SOFTWARE DEVELOPMENT COSTS

The Company has experienced lower than anticipated revenue growth in
relation to the development of MedPractice and MedCommerce Software. Based upon
deficient revenue coupled with lack of capital infusion and the Company's
strategic decision to allocate its resources into profitable product lines, the
Company decided to abandon these projects. The Company recorded an impairment

F-25

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

6. ASSET IMPAIRMENT WRITE-OFFS (CONTINUED)
loss of $9.2 million during the fiscal year ended March 31, 2002 for the
write-down of software development costs related to the MedPractice and
MedCommerce product.

(b) INVESTMENT IN AND TECHNOLOGY LICENSE OF QUANTUM DIGITAL SOLUTIONS

At the end of fiscal year 2000, the Company acquired an option to purchase
15% of Quantum Digital Solutions Corporation ("Quantum"), a company that had
security encryption and data scrambling technology. In addition, we entered into
a 10-year license with Quantum to include the security technology into the
Company's application services. As of March 31, 2001, the expected product had
not been completed. As a result of this delay and the sudden decrease in market
valuations of technology companies, management revised its analysis on the value
of the Quantum investment. As a result, during the fourth quarter of fiscal year
2001, the Company recorded an asset impairment charge of $27.0 million.

As a result of continued delays in the progress of the QDS product's
marketability, the Company's reduced commitment to product development and the
decrease in market valuations of technology companies, management revised its
analysis of its' investment in QDS. During the fiscal year ended March 31, 2002,
the Company recorded an impairment loss of $2.8 million for the write-down of
the recorded license.

(c) NCFE DEFERRED CONTRACT AND DISTRIBUTION CHANNEL

In the year ended March 31, 2000, the Company entered into a preferred
provider agreement with NCFE that resulted in recording intangible assets of
approximately $104 million consisting of $36.1 million in distribution channel
and $67.5 million in deferred contract. The agreement included the development
of a joint portal from which various products and services of both companies
could be marketed. In July 2000, the Company completed the joint portal and
began marketing its products. Under our original agreement with NCFE, we were to
generate revenues from the portal from both a flat fee for every doctor that
signed up to transact business with NCFE through the portal and through
receiving a percentage of the receivables under NCFE management from clients
transacting over the portal. Because of the problems encountered, we delayed
final development on the portal for NCFE. Accordingly, the Company wrote-off the
deferred contract asset of $67.5 million and wrote-down the value of the
distribution channel by $31.1 million during the fiscal year ended March 31,
2001.

(d) TENDER LOVING CARE HEALTH CARE SERVICES

The operations of TLCS, acquired in November 2001, have not performed as
originally anticipated. As a result, we have made changes in the existing
management of TLCS, re-evaluated the operations as well as the recoverability of
certain trade receivables and made significant reductions in the administrative
work force. Following these actions, new projections were prepared. Based on
discounted net cash flows, we wrote off goodwill on TLCS of $156 million as an
impaired asset.

(e) PRIMERX

The operations of PrimeRx have not performed as originally anticipated. As a
result, the Company changed the existing management of PrimeRx and engaged
TegRx, a pharmacy management company

F-26

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

6. ASSET IMPAIRMENT WRITE-OFFS (CONTINUED)
(see notes 5 and 11), to manage and evaluate the operations of PrimeRx. Based on
the decision to close additional pharmacies, new projections were prepared.
Based on discounted net cash flows, the Company wrote off the remaining goodwill
on PrimeRx of $40.6 million.

(f) DISTANCE MEDICINE DIVISION

During the last quarter of the year ended March 31, 2000 and the first
quarter of the year ended March 31, 2001, the Company acquired three companies
in the distance medicine field that were newly developed or in the final
development stages. These companies were VirTx, Inc. acquired in February 2001,
Illumea Corporation acquired in May 2000 and VidiMedix acquired in June 2000.
The products developed in these businesses had either been recently released or
were anticipated to be released by the end of our fiscal year 2001 or the
beginning of our first quarter of fiscal year 2002. Subsequent to
December 2000, our ability to allocate funds for continued development and
marketing of the products and businesses became more difficult because of the
Company's cash flow problems and the Company's anticipated financing plans in
the last quarter of fiscal 2001 did not come to fruition. As a result, during
fiscal year 2001 the Company has reflected a total asset impairment charge
reducing goodwill by $34.8 million on these acquisitions, consisting of
$26 million write-off of VirTx goodwill, $5 million write-off of Illumea
goodwill and $3.8 million write-off of VidiMedix goodwill. During the fiscal
year 2002, the Company recorded an impairment loss of $7.2 million on the
unamortized balance of goodwill related to these companies.

7. PROPERTY AND EQUIPMENT

Property and equipment at March 31, 2002 and 2001 consisted of the following
(in thousands):

Depreciation expense for the years ended March 31, 2002, 2001 and 2000
amounted to $3.6 million, $2.0 million and $73 thousand, respectively.

F-27

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

8. FINANCING ARRANGEMENTS

Indebtedness at March 31, 2002 and 2001 consists of the following, (in
thousands):

Repayments of long-term debt at March 31, 2002 are due as follows:

(a) The Company finances its operations through an accounts receivable purchase
program with National Premier Financial Services, Inc., and other subsidiaries
of National Century Financial Enterprises, Inc. ("NCFE"). As of March 31, 2002,
NCFE and its affiliates own approximately 33% of our common stock. The Company
is charged financing costs ranging from prime plus three percent (3%) to 12.9%
on outstanding funding balances. The financing agreement provides for the
financial institution to finance receivables up to specified aggregate limits so
long as the receivables meet certain qualitative and quantitative criteria and
the Company is in compliance with the terms of the agreement. At March 31, 2002,
the unpaid balance was approximately $106.1 million and is included in related
party debt in the consolidated balance sheet. During the fiscal year ended
March 31, 2002 financing costs under these agreements amounted to $6.3 million.
The TLCS financing agreement contains certain covenants under which TLCS is
currently in breach. TLCS has obtained all necessary waivers from the financing
facility on those covenants through December 31, 2002. If the financing facility
does not continue to provide financing, TLCS would not have sufficient cash to
support its current level of operations. Under the terms of the agreement, the
Company continues to bill customers, collect receipts and process the related
accounts receivable.

F-28

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

8. FINANCING ARRANGEMENTS (CONTINUED)
(b) At March 31, 2002, the Company had an aggregate outstanding balance of notes
payable related to acquisitions of $3.3 million. The notes payable bear annual
interest from 7.50% to 10% and have maturity dates through September 2010.

(c) At March 31, 2002, the Company has three unsecured notes payable to entities
affiliated with NCFE totaling $28.7 million. The notes are payable in sixty
monthly installments ranging from $116,272 to $313,937 starting on October 1,
2001. Interest accrues from the note date. Interest ranges from 9% to 12.98% per
annum and is included in the monthly payments. The notes mature on
September 2006. The Company has a right to offset against the payment of
principal and interest all amounts either advanced or paid on behalf of the NCFE
affiliates.

(d) At March 31, 2002, the Company had $8.5 million in various term notes due to
affiliates of NCFE. On December 5, 2001, the Company entered into a Promissory
Note and Stock Pledge Agreement with NCFE in the amount of $4 million. The
Promissory Note, as amended, carries an interest rate of 14% per annum with
interest payments beginning in August 2002 until maturity. Principal is due and
payable on June 30, 2003. The Company accrued interest expense related to this
note payable in the amount of approximately $283 thousand for the period ended
March 31, 2002. The Company also had a $2.3 million promissory note payable to
NCFE, which bears interest at the rate of 10% per annum. The entire principal
amount of the note together with all accrued unpaid interest, as amended, is due
on December 31, 2002. There is no prepayment penalty on the note. The Company
accrued interest expense related to this note payable in the amount of
approximately $190 thousand for the twelve months ended March 31, 2002.
Additionally, the Company has various term notes with NCFE totaling
$2.2 million at March 31, 2002. These notes have interest rates of 8% to 14%.
Additionally at March 31, 2002, the Company had an outstanding balance on
various miscellaneous term notes totaling $3.6 million. These notes were made at
interest rates ranging from 8% to 10% and had expiration dates ranging from 2003
through 2005.

(e) FINANCING ARRANGEMENTS WITH SOCIETE FINANCIERE DU SEUJET LIMITED AND ITS
AFFILIATES

On August 18, 2001, we executed a Securities Purchase Agreement as well as a
Debenture and Equity Agreement with Societe Financiere du Seujet Limited
("SFSL"), both for up to $83 million financing and $54 million in debenture
financing, respectively. In August 2002, in conjunction with the Company's
$70 million debenture refinancing, these agreements were terminated.

Apart from and in addition to, the foregoing SFSL agreements, the Company
entered into a series of ten (10) Short Form Convertible Debentures, dated
September 5, 2001 (some of which were amended as of September 10, 2001), with
Societe Financiere or its affiliate, Sangate Enterprises, Inc. On October 1,
2001, a total of $40 million was funded and 13.2 million shares of our Common
Stock were pledged and were issuable in satisfaction of these debentures. The
funds were raised principally to fund the planned acquisition of TLCS. On
December 31, 2001, these debentures were paid off and the pledged shares were
released. Societe Financiere received a cash commission of $2.4 million and
1 million shares of our common stock for services rendered in this transaction.

F-29

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

8. FINANCING ARRANGEMENTS (CONTINUED)
CONVERTIBLE DEBENTURES AND DEBENTURES ISSUED TO PRIVATE INVESTMENT BANK OR ITS
AFFILIATES

In December 2001, we entered into a series of five (5) short form
convertible debentures with PIBL. The short form debentures provided for an
aggregate of up to $85.0 million in financing as summarized below:

Each of the debentures provides for the following terms: (a) a stated
interest rate of seven percent (7%) per annum, payable at maturity, (b) a
maturity date of June 28, 2002 (refinanced August 2002, see Note 3 Subsequent
Events Financing Arrangements) and (c) collateral in the form of our U.S.
Government Medical gross accounts receivable in the amount of approximately one
hundred forty percent (140%) of the total amount funded.

Debentures 1 and 2 provide that such debentures are convertible at the
option of PIBL at any time after January 1, 2002 by PIBL or its designee, for
the number of shares of our common stock pledged as collateral under each
debenture. We may pre-pay these obligations in full without penalty at any time
prior to maturity or conversion. Debentures 3, 4 and 5 can be pre-paid prior to
maturity, without penalty, upon giving PIBL written notice 14 days in advance of
payment, but in any case not before March 31, 2002. This financing replaces and
supercedes our September 5, 2001 financing arrangement with SFSL.

On December 31, 2001, debentures 1 and 2 were funded for a total of
$40 million and accordingly, the above-referenced shares in the aggregate amount
of 13.2 million shares were pledged to PIBL as collateral for the repayment of
debentures 1 and 2 and are issuable at the discretion of PIBL in satisfaction of
these debentures. In connection with the funding of debentures 1 and 2, we
entered into a Commission Agreement with SFSL pursuant to which, as
consideration for arranging the financing, we provided SFSL with a commission of
$680,000 and 2 million shares of our common stock. The proceeds of debentures 1
and 2 were used to retire certain of our outstanding debentures with SFSL with a
maturity date of December 20, 2001.

On December 28, 2001, debentures 3, 4 and 5 were funded for a total of
$30 million. In connection with funding of debentures 3, 4 and 5, we entered
into a Commission Agreement pursuant to which, as consideration for arranging
for the financing, we provided SFSL with a commission of $2.7 million,
3 million shares of our common stock and a warrant to purchase an additional
2 million shares of our common stock at a purchase price of $4.20 per share.
Additionally, 10 million shares of our common stock were pledged to SFSL as
collateral for the December 28, 2002 funding with SFSL. SFSL has the unilateral
right to purchase bondholder position for the conversion rights of the
10 million shares at $3.00 per share.

F-30

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

8. FINANCING ARRANGEMENTS (CONTINUED)
In December 2001, we entered into a bond financing agreement with SFSL with
respect to the issuance of bonds over the next 12 months with a minimum
commitment of $300 million to a maximum of $1 billion. The bonds are to be
secured against our gross revenue accounts receivable (as defined in the bond
financing agreement). The bonds have a stated interest rate of seven percent
(7%) per annum and a maturity date of three years (3) from date of issue. Other
terms and conditions pertaining to the sale of these bonds include the
following: (a) the collateral must be equal to at least one hundred fifty
percent (150%) of all outstanding bonds and (b) the collateral cannot be less
than fifty percent (50%) government obligations and not less than ninety percent
(90%) government and private insurance company receivables. Additional
conditions include that we satisfy our outstanding accounts receivable financing
obligations to NCFE and retain our current chairman and chief executive officer,
Frank P. Magliochetti, Jr. With respect to satisfaction of our obligations to
NCFE, we can only access the bond financing if our debt to NCFE is paid in full
or we reach a settlement with them which will release all claims and obligations
between us. Currently, our outstanding debt to NCFE and subsidiaries totals
approximately $114.6 million. If our current chairman and chief executive
officer were to leave for any reason, the bonds would be immediately callable.
We have the right to extend the maturity date for an additional two (2) years
with a one half percent (.5%) increase in the interest rate. In connection with
this agreement, we have agreed to provide SFSL with a cash commission of 5.5% of
the amount of any bond financing we receive. As of March 31, 2002, we have not
issued any bonds nor pledged any of our receivables under this arrangement. In
August 2002, in conjunction with the Company's $70 million debenture
refinancing, this bond financing agreement was terminated.

9. LEASE COMMITMENTS

At March 31, 2002, the Company had capital lease agreements for computers
and other equipment through December 2004. The Company's capital lease
obligations includes a six-year lease agreement in the amount of $3.3 million
which requires average monthly installments of $239 thousand through
December 2003 and $183 thousand per month, thereafter. The net aggregate
carrying value of the assets under capital leases was approximately
$9.5 million and $10.2 million at March 31, 2002 and 2001, respectively, and
such amounts are included in Fixed Assets.

As of March 31, 2002, the Company had operating lease obligations for office
space in 26 states and the District of Columbia, expiring at various dates
through 2009. Rent expense reflected in the Company's statement of operations
totaled $4.5 million, $2.3 million and $553 thousand for the fiscal years ended
March 31, 2002, 2001 and 2000, respectively.

F-31

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

9. LEASE COMMITMENTS (CONTINUED)
Future minimum lease payments is as follows (in thousands):

10. DISCONTINUED OPERATIONS

The results of discontinued operations presented in the accompanying
consolidated financial statements relate to the operations of our wholly owned
subsidiary, e-Net Technology Ltd. which is located in the U.K. On June 15, 2001,
e-Net voluntarily filed for receivership.

The net sales, expenses, net assets and net liabilities of e-Net have been
included in our consolidated financial statements under discontinued operations,
since these operations represented 100% of our product business segment and
contributed less than 1% to any other business segment. The condensed financial
information included herein provides the components comprising the results from
discontinued operations (in thousands):

The following is a condensed balance sheet for e-Net (in thousands):

F-32

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

11. RELATED PARTY TRANSACTIONS

In addition to items previously described in the accompanying consolidated
financial statements, the following summarizes the Company's transactions with
related parties.

During June 2001, the Company issued 1 million shares to Quantum Digital
Solutions Corporation to satisfy its existing and future obligations through
March 31, 2002 for capital contributions related to its joint venture.

Prior to our acquisition of Chartwell Diversified Services, Inc. (CDSI), in
August 2001 and through December 2001, the Chartwell Management Company, Inc.
(CMC), a wholly owned subsidiary of CDSI, provided unsecured lines of credit
totaling $250 thousand and drawn in the amounts of $183 thousand for ZestStar
Healthcare, LLC ("ZestStar"), $50 thousand for Custom Compounding Centers of
Western PA, LLC ("CCC") and $17 thousand to Horizon Quest (HQ). In addition, CMC
paid $128 thousand and $122 thousand ($250,000 in total) for the right of first
refusal to acquire interests in ZestStar and CCC, respectively. HQ is a
marketing management business of which Kim Jacobs, CMC's President owned 65% and
Frank P. Magliochetti, Jr., our Chief Executive Officer owned 35% through
January 13, 2002. As of January 14, 2002, Mr. Jacobs owns 100% of HQ. ZestStar
is a pharmacy compounding business, of which Frank P. Magliochetti, Jr., our
Chief Executive Officer, owns 16.5%, and Kim Jacobs, who is the President of
CMC, owns 30.6%. CCC, is a pharmacy compounding business, of which Frank P.
Magliochetti, Jr., our Chief Executive Officer, owns 12%, and Kim Jacobs, who is
the President of CMC, owns 48%. Prior to September 2001, Mr. Jacobs also served
as Chief Operating Officer of CDSI. The investments in ZestStar and CCC have
been determined to be impaired and, accordingly, $473 thousand was written off
as of March 31, 2002.

On December 24, 2001, we entered into a Consulting and Advisory Agreement
with Wilson Associates, G.P. ("Wilson"). Wilson is a founder of the Company and
formerly a significant shareholder of the Company. We agreed to issue
1.9 million shares of our common stock, in consideration for general business
consulting services rendered by Wilson (such shares have not been issued). In
connection with this transaction, Wilson was an "accredited investor" and
executed a standard investment representation letter. Wilson was provided with
full disclosure regarding our company. The appropriate restrictive legends were
placed on all certificates and stop transfer orders were issued to the transfer
agent. We relied on Section 4(2) of the Securities Act.

On March 6, 2001, prior to the merger with Chartwell, the Company entered
into a Management Services (Loan Out) Agreement with TegRx Pharmacy Management
Company ("TegRx") during the fiscal year ended March 31, 2001. TegRx is majority
owned by our Chairman and Chief Executive Officer. Under the agreement, TegRx
was to have been paid a management fee of the greater of $200 thousand per month
or 40% of earnings before interest expense, income taxes, depreciation and
amortization ("EBITDA") of the Prime Rx and Resource Pharmacies for the previous
month. During the fiscal year ended March 31, 2002, the Company incurred
$1.9 million in expense under this agreement. We have since restructured this
arrangement with TegRx. Pursuant to an approval of the uninterested members of
our board of directors, we are obligated to pay TegRx $50 thousand per month for
the next 4 years. Additionally, we are obligated to issue options to purchase
3 million shares of the Company's common stock to TegRx, with a stike price of
ten cents ($0.10). TegRx may exercise such options subsequent to their grant at
any time during the next 10 years.

F-33

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

11. RELATED PARTY TRANSACTIONS (CONTINUED)
TEGCO Investments LLC ("TegCo") is a wholly-owned subsidiary of TegRx.
Effective June 28, 2002, TegCo purchased $12.5 million worth of convertible
subordinated debentures from Private Investment Bank, Ltd. ("PIBL") in
connection with the refinancing of the $70 million worth of convertible
subordinated debentures that had been outstanding to PIBL from us as of that
time, see Note 3. The debentures held by TegCo are subordinated to our
obligations to PIBL and the debentures still held by PIBL after the refinancing
and is due on June 29, 2004.

AMERICAN REIMBURSEMENT, LLC: On March 29, 2002, we organized a new, 99%
owned subsidiary, American Reimbursement, LLC, for the purpose of acquiring and
servicing a designated pool of medical accounts receivable. This newly created
subsidiary agreed to purchase more than $100 million of receivables from five
sellers and is issuing promissory notes to the sellers that obligate it to pay
the sellers under the notes, only if and to the extent that collections, net of
servicing and collection expenses, and bad debt reserves, are realized from the
purchased receivables. The promissory notes will each mature three years from
their respective date of issuance with an effective interest rate of Libor. Med
has agreed to guarantee American Reimbursement's purchase obligations to the
sellers in exchange for American Reimbursement's agreement to indemnify Med
against any obligations it may have under $70 million of subordinated debentures
issued in 2001 by Med to Private Investment Bank Limited ("PIBL"") that were due
on June 28, 2002.

Pursuant to a security agreement, dated as of March 29, 2002, American
Reimbursement granted Med a perfected security interest in all of its assets,
which consist of the purchased and contributed accounts receivable. The
subsidiary's obligations to the sellers of the accounts receivable under the
purchase money notes are subordinated and junior in right to its indemnification
obligation to Med with respect to the debentures. American Reimbursement's
indemnification obligation to Med expired on June 26, 2002. PIBL is not a party
to these above-mentioned agreements.

12. STOCKHOLDERS' EQUITY

During fiscal 2002, upon approval by our shareholders, we amended our
Articles of Incorporation to increase our authorized shares to 400 million
shares of $.001 par value common stock. Also, during the year ended March 31,
2002, we issued 500 thousand shares of $.001 par value convertible preferred
stock. The preferred stock was converted to 50 million shares of the Company's
common stock on December 27, 2001. No preferred shares were outstanding at
March 31, 2002 or 2001.

On August 12, 2000, our board of directors approved the repurchase in the
open market of up to 2 million shares of our common stock over an eighteen-month
period. During the fiscal year ended March 31, 2002, 273 thousand shares were
acquired for approximately $429 thousand and during the fiscal year ended
March 31, 2001, 187 thousand shares were acquired for approximately
$937 thousand. No subsequent repurchases have been made and none are currently
contemplated.

13. WARRANTS, STOCK OPTIONS AND OTHER COMPENSATION ARRANGEMENTS

WARRANTS

The Company has estimated the fair value of the warrants issued based on the
Black-Scholes model which includes the warrant exercise price, the market price
of shares on grant date, the weighted

F-34

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

13. WARRANTS, STOCK OPTIONS AND OTHER COMPENSATION ARRANGEMENTS (CONTINUED)
average information for risk free interest, expected life of warrant, expected
volatility of the Company's stock and expected dividends.

If the warrants have been issued as compensation for services, the estimated
value is set up as equity when granted and expensed when the services are
performed and benefit is received. If the warrants have been issued for
consideration in an acquisition, the value of the warrants are included in
equity at the time of the transaction and included in the purchase price to be
allocated. The estimated value for warrants issued in connection with debt
financing are recorded in equity and as deferred financing costs when granted.
The deferred financing costs are then amortized into expense over the term of
the debt.

Information relating to warrants in 2002, 2001, and 2000 is as follows (in
thousands):

During the year ended March 31, 2000, in addition to the warrants issued
through the raising of equity financing, the Company issued warrants to purchase
150 thousand shares of common stock at $.01 per share in satisfaction of a
$750 thousand note payable. The Company also agreed to issue 50 thousand
warrants to purchase 50 thousand shares of common stock at $2.00 per share for
professional services rendered. The value of the 50 thousand warrants was
approximately $90 thousand and was amortized during the year ended March 31,
2000.

On February 14, 2001, the Company was ordered to issue a warrant to Sanga
International, Inc. by the United States Bankruptcy Court as a result of the
final decree on the Sanga International Bankruptcy filing. Per the decree, a
warrant to purchase 2 million shares of the Company's common stock at an
exercise price of $1.60 was issued. The value of the warrant has been determined
using the Black-Scholes method and $1.6 million was reflected in equity and
legal expense in the March 31, 2001 consolidated financial statements.

On February 20, 2001, the Company entered into a Common Stock Purchase
Agreement and Registration Rights Agreement with Hoskin International Ltd. In
connection with this Agreement, the Company issued to Hoskin a stock purchase
warrant to purchase 626 thousand shares of our common stock with an exercise
price of $1.9959 per share. This warrant expires February 20, 2006. In addition,
the Company issued to Cappello Capital, our financial advisor on this
transaction, a stock purchase warrant to purchase 3.l million shares our common
stock at an exercise price per share equal to 150% of the lesser of either
$1.5967 per share or such lower purchase price as Hoskin subsequently purchases
the shares of our common stock pursuant to any draw down under the equity line.
The warrant to Cappello expires on February 20, 2011. We have recorded the
issuance of these securities as a prepayment of equity financing fees that will
be charged directly to additional paid-in-capital. Because the securities are
fully vested, and no further performance requirements by Hoskin or Cappello,
these

F-35

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

13. WARRANTS, STOCK OPTIONS AND OTHER COMPENSATION ARRANGEMENTS (CONTINUED)
securities will be valued based on the Black- Scholes model at the time of grant
date in accordance with EITF 96-18. The Company has abandoned the Common Stock
Purchase Agreement and Registration Rights Agreement transaction during fiscal
2002 due to numerous differences between the Company, Hoskin International Ltd
and Cappello Capital. In March 2002, the Company settled its disputes with
Cappello Capital. Under the Cappello settlement the Cappello Capital warrant to
purchase 3.1 million shares was cancelled and the Company has issued to Cappello
Capital 1.3 million shares of the Company's common stock and a warrant to
purchase 1.5 million shares of common stock at $1.50 per share.

On June 13, 2001, the Company issued to TSI a warrant to purchase
4.8 million shares of its common stock at an exercise price of $2.30 per share.
The issuance of this warrant was in consideration for Company stock previously
contributed by TSI on the Company's behalf. The warrant value of $2.7 million
was determined based on the Black-Scholes method using the market price of the
Company's shares on June 13, 2001. The warrant value is recorded as an increase
to equity and an increase to operating expense in the year ended March 31, 2001.

On June 28, 2001, the Company entered into a securities purchase agreement
with San Diego Asset Management Company ("SDAM") and issued a warrant allowing
SDAM to purchase 1.5 million shares of its common stock at an exercise price of
$2.50 per share. The issuance of this warrant was in consideration for the
financing contemplated under the agreement. The Company also entered into an
agreement on June 28, 2001 with Branari, Inc. ("Branari"), a related party of
SDAM, and issued a warrant allowing Branari to purchase 1.5 million shares of
its common stock at an exercise price of $2.50 per share. The issuance of this
warrant was in consideration for the financing contemplated under the agreement.
The SDAM and Branari financing agreements were amended in their entirety on
July 16, 2001 when the Company executed an agreement with SDAM. The warrants
provided for in the June 28, 2001 agreements for both Branari and SDAM were not
amended and they were carried over with the amended agreement. The value of
$1.3 million for each of these warrants was determined based on the
Black-Scholes method using the market price of the Company's shares on June 30,
2001. The warrant value was recorded as an increase to equity and an increase to
operating expense in the year ended March 31, 2002.

On July 31, 2001, the Company issued a warrant to purchase 1 million shares
of its common stock to MPP Holdings, LLC ("MPP"), an affiliate of Manatt, Phelps
and Phillips LLP, which currently acts as the Company's corporate counsel. The
exercise price of the warrant was $.80 per share. The issuance of this warrant
was in consideration for the credit risk MPP has taken on amounts owed to it for
services provided to the Company up through June 30, 2001 as well as the value
of its service for the Company over several months. The warrant value of
$934 thousand was determined based on the Black-Scholes method using the market
price of the Company's shares on June 30, 2001. The warrant value was recorded
as an increase to equity and an increase to operating expense in the year ended
March 31, 2002.

On August 6, 2001, in conjunction with the Chartwell merger, the Chartwell
shareholders received warrants to purchase 20 million shares of the Company's
common stock, at $4.00 per share, exercisable over 5 years with a limit of
4 million shares per year. The warrants were valued at approximately
$1 million, based on the Black-Scholes method, and recorded as part of the total
acquisition cost of Chartwell.

F-36

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

13. WARRANTS, STOCK OPTIONS AND OTHER COMPENSATION ARRANGEMENTS (CONTINUED)
On October 6, 2001, we entered into a Termination and Consulting Agreement
with John F. Andrews, our former Chief Executive Officer pursuant to which we
agreed to issue warrants to purchase 5 million shares of our common stock to be
issued to him in accordance with the exercise timetable set forth in the
agreement and upon the achievement of certain goals as specified in the
agreement. The agreement to issue the warrants was entered into as consideration
for the termination of Mr. Andrews' previous employment agreement and for future
consulting services. In July of 2002, we amended the Termination and Consulting
Agreement to revise the warrant exercise timetable and increase the exercise
price of the warrants to $.07 per share. We granted the warrants to Mr. Andrews
on July 1, 2002. These warrants are valued at approximately $670 thousand, based
on the Black-Scholes method, and were recorded as non-cash compensation. We
relied on Section 4 (2) of the Securities Act.

On October 18, 2001, in connection with employment contracts with three of
TLCS' executive officers, the Company issued warrants to purchase 10.8 million
shares of our common stock at $.50 per share. These warrants are valued at
approximately $18.4 million, based on the Black-Scholes method, and were
recorded as non-cash compensation.

On January 4, 2002, in connection with the Company's debenture financing, we
issued warrants to purchase 2 million shares of the Company's common stock at
$4.20 per share to SFSL. The warrants are valued at approximately $2 million,
based on the Black-Scholes method, and were recorded as deferred financing
costs. The deferred financing costs are amortized to expense over the term of
the debentures.

STOCK OPTIONS

1999 STOCK COMPENSATION PLAN

In February 1999, the Company's Board of Directors approved the
establishment of the 1999 Stock Compensation Plan (the "1999 Plan"). The
Company's stockholders approved the 1999 Plan in February 2000. During fiscal
2002 the Board of Directors approved an amendment to increase the total number
of shares of common stock subject to options under the 1999 Plan from 7 million
to 14 million, subject to adjustment in the event of certain recapitalizations,
reorganizations and similar transactions. In December 2001, the Company's
stockholders approved the amendment to the 1999 Plan.

The 1999 Plan allows the Board of Directors, or a committee established by
the Board of Directors, to grant stock options from time to time to our
employees, officers, directors, and consultants. The 1999 Plan also provides
that the Board may issue restricted stock pursuant to restricted stock right
agreements that will contain such terms and conditions as the Board determines.
The options generally expire 10 years from date of grant with vesting provisions
determined by the Board of Directors. Options may be exercisable by the payment
of cash or by other means as authorized by the Board of Directors. The Board of
Directors may amend the 1999 Plan at any time, provided that the Board of
Directors may not amend the 1999 Plan to materially increase the number of
shares available under the 1999 Plan, materially increase the benefits accruing
to participants under the 1999 Plan, or materially change the eligible class of
employees without stockholder approval.

F-37

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

13. WARRANTS, STOCK OPTIONS AND OTHER COMPENSATION ARRANGEMENTS (CONTINUED)

2000 NONQUALIFIED STOCK OPTION AND STOCK BONUS PLAN

In March 2000, the Company's Board of Directors approved the establishment
of the 2000 Nonqualified Stock Option and Stock Bonus Plan (the "2000 Plan").
The Company's Board of Directors believes that the 2000 Plan encourages
employees, officers, directors, and consultants to acquire an equity interest in
the Company and provides additional incentives and awards and recognition of
their contribution to the Company's success and to encourage these persons to
continue to promote the best interest of the Company.

The 2000 Plan allows the Company's Board of Directors to grant stock options
or issue stock bonuses to the Company's employees, officers, directors, and
consultants. Options granted under the 2000 Plan will not qualify under
Section 422 of the Internal Revenue Code of 1986 as an incentive stock option.
As a result, there was no stockholder approval required to make the plan
effective.

The 2000 Plan also provides that the Company's Board of Directors, or a
committee designated by the Board, may issue restricted stock pursuant to
restricted stock right agreements containing such terms and conditions as the
Company's Board of Directors deems appropriate.

On October 31, 2001, the Board of Directors approved an amendment to the
2000 Plan that increased the number of shares of common stock that may be issued
under the 2000 Plan from 3.5 million to 17.0 million, subject to adjustment in
the event of defined capitalizations, reorganizations, and similar transactions.
Options may be exercisable by the payment of cash or by other means as
authorized by the Board of Directors.

The Company's Board of Directors may amend the 2000 Plan at any time,
provided that the Board of Directors may not amend the 2000 Plan to adversely
effect the rights of participants under the 2000 Plan, without stockholder
approval. During the year ended March 31, 2002 and 2001, 6.4 million and
150 thousand shares, respectively, were issued under this plan. Non-cash
compensation expense of $8 million and $724 thousand is included in operating
expenses.

OTHER OPTION ISSUANCES

During the year ended March 31, 2000, the Company issued options to purchase
303 thousand shares of its common stock at $1.00 per share. The value of these
options was approximately $530 thousand and is being amortized over the vesting
periods of twelve to eighteen months. The Company expensed approximately
$344 thousand and $186 thousand for the years ended March 31, 2001 and 2000.

F-38

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

13. WARRANTS, STOCK OPTIONS AND OTHER COMPENSATION ARRANGEMENTS (CONTINUED)
Information relating to all stock options during 2002, 2001 and 2000 is as
follows (in thousands, except for option price per share average):

The following table summarizes information concerning outstanding and
exercisable options at March 31, 2002:

The Company continues to account for its stock -based compensation plans for
employees and Directors under APB Opinion No. 25. SFAS No. 123, ACCOUNTING FOR
STOCK-BASED COMPENSATION, establishes the fair-value method of accounting for
stock-based compensation plans. The Company has adopted the disclosure-only
alternative for options granted to employees and Directors, under SFAS

F-39

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

13. WARRANTS, STOCK OPTIONS AND OTHER COMPENSATION ARRANGEMENTS (CONTINUED)
No. 123, which requires disclosure of the pro forma effects on earnings as if
SFAS No. 123 had been adopted, as well as certain other information. The Company
has computed the pro forma disclosures required under SFAS No. 123 for all stock
options granted to employees and Directors of the Company as of March 31, 2002,
2001 and 2000 using the Black-Scholes option pricing model prescribed by SFAS
No. 123. Had the determination of compensation costs been based on the fair
market value at the grant dates for awards under these plans, consistent with
the method of SFAS No. 123, the Company's net loss would have been
$327.2 million, $275.6 million and $10.3 million and basic loss per share would
have been $3.15, $3.46 and $0.18 for the fiscal year ended March 31, 2002,
March 31, 2001 and March 31, 2000, respectively.

The following weighted average assumptions were used:

EMPLOYMENT AGREEMENTS

During the year ended March 31, 2000, the Company entered into an employment
agreement with John Andrews, its former Chairman and Chief Executive Officer for
an initial term of three years beginning January 15, 1999. The agreement, which
was amended in January 2000, provided for a base salary, bonus and other
benefits. The agreement also provided for a $2.5 million payment to the
Executive in the event of a "change in control" of the Company, as defined. As
part of the amendment, the Executive waived his rights to shares previously
earned for his first year of employment under the original agreement in exchange
for a $500 thousand bonus. The amended agreement provided that the Executive
Officer earned 5 thousand stock options for shares of the Company's common
stock, at no cost to the Executive, for each month of employment and additional
options to purchase shares if the Company met defined sales or net income
targets. The price of the options earned based on meeting targets was determined
by the executive at the grant date. For the fiscal years ended March 31, 2001
and 2000 the Company expensed approximately $285 thousand and $699 thousand,
respectively, under this agreement for stock compensation. See above discussion
regarding Mr. Andrews' Termination and Consulting Agreement executed on
October 6, 2001.

The Company entered into an employment agreement with the Company's
Executive Vice President and Chief Technical Officer. The initial term of the
agreement expires in January 2002 and will automatically renew for additional
one year periods unless terminated by the officer or e-MedSoft. If the Company
terminates the officer's employment without cause or if the officer terminates
his employment as a result of the Company's material breach of the agreement,
the officer will receive full compensation for the remainder of the initial term
plus a severance payment equal to 12 months pay. If e-MedSoft terminates his
employment with cause, the officer will receive compensation for the remainder
of the initial term.

F-40

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

13. WARRANTS, STOCK OPTIONS AND OTHER COMPENSATION ARRANGEMENTS (CONTINUED)
The officer also has the right to receive 150 thousand common shares of our
stock without any required payment and 40 thousand stock options to purchase our
stock. The stock vests ratably over a three-year period, and the options vest
over a one year period. On August 15, 2000 the Executive Vice President and
Chief Technical Officer resigned from the Company and his directorship of B2B.
Net Technologies, Ltd, our Australian subsidiary. In accordance with his
separation agreement, he received 25 thousand shares of the Company's stock and
a severance payment of $75 thousand, payable over six months.

On August 30, 2000, the Company entered into an employment agreement with
the Company's Vice President and Chief Operating Officer. The initial term of
the agreement expires in August, 2003 and was to automatically renew for
additional one year periods unless terminated by the Officer or the Company. If
the Officer's employment is terminated by the Company without cause or the
Company willfully breaches a material provision of this agreement that is not
cured within 30 days of written notice by the Officer, the Officer will receive
a lump-sum amount equal to the greater of (1) the sum of twelve (12) months'
pay, or (2) the sum of the monthly portion of the current salary times the
number of months remaining until the Termination Date. If his employment is
terminated by the Company with cause, the Officer will receive no further
compensation. Under the agreement, the Officer's base salary was $225,000 per
year and he was eligible to receive in addition to his base salary, annual
incentive compensation of up to 60 percent of his then current base salary. The
annual incentive compensation was based on business and personal performance
objectives established by the President and Chief Executive Officer.

The Officer also had the right to receive options to purchase 150 thousand
shares of our common stock. Eighty thousand of the options had an accelerated
vesting schedule and the remaining 70 thousand options were subject to normal
vesting terms. In addition, the Officer was eligible to receive quarterly stock
option grants which will be determined by the establishment of milestones which
are critical to the success of the Company. The annual pool was 100,000 stock
options, with the maximum award each quarter being 25 thousand. For the year
ended March 31, 2001, the Company has expensed 183 thousand under this agreement
for stock compensation. On July 11, 2001, this position was terminated.

F-41

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

14. INCOME TAXES

There are no income taxes from continuing operations for the years ended
March 31, 2002, 2001 and 2000.

The components of the Company's net deferred tax asset at March 31, 2002 and
2001are as follows:

A reconciliation of the provision for income taxes to the amount computed at
the federal statutory rate of 35% is as follows:

Net operating losses of $1.7 million start to expire in 2018. Because of a
change in ownership of the Company, future utilization of these loss carryovers
has been limited. A valuation allowance has been established to completely
offset the carrying value of the net deferred tax assets relating to domestic
operations as of March 31, 2002 and 2001 due to the uncertainty surrounding
their realization.

F-42

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

15. SEGMENT INFORMATION

The Company derives its net sales from three operating segments: (1) home
healthcare services comprised of nursing and attendant care services in the
home, (2) pharmacy services comprised of pharmaceutical management and
distribution services, and (3) Internet-based transaction and information
services comprised of our Distance Medicine and Medical e-Business products.

The accounting policies of the segments are the same as those described in
the summary of significant accounting policies in Note 2 to the consolidated
financial statements. The Company evaluates performance based on operating
earnings of the respective business segments; as such, there are no separately
identifiable statements of operations data below operating loss.

The Company's financial information by business segment is summarized as
follows (in thousands). The "Other" column includes corporate related items and
other expenses not allocated to reportable segments. In addition, other includes
$2.3 million (SEE Note 10) in assets from discontinued operations (in
thousands):

In fiscal 2002 the Company did not have a customer that generated greater
than 5 percent of net sales. During fiscal 2001, the Company's U.S. operations,
excluding pharmacy services, which represent

F-43

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

15. SEGMENT INFORMATION (CONTINUED)
89.1 percent of total sales, had two customers whose sales, on an individual
basis, represented over 5 percent of U.S. operations' net sales for an aggregate
of 85.8 percent. These two customers represented 9.7 percent of the Company's
total sales. One customer, NCFE a related party, represented 7.9 percent of the
Company's total sales.

16. CONTINGENCIES AND LEGAL MATTERS

We are party to routine litigation involving various aspects of our
business. In addition, we have been and continue to be involved in litigation
regarding several of our acquisitions and strategic relationships. Except as
described below, none of such pending litigation, in our opinion, will have a
material adverse impact on our consolidated financial condition, results of
operations, or businesses.

PRIMERX.COM/NETWORK PHARMACEUTICALS, INC.

Our relationship with PrimeRx.com ("PrimeRx"), Network and the principal
stockholders of PrimeRx has been a troubled one characterized by numerous
disputes and litigation. On March 26, 2001, we entered into a Settlement
Agreement and Mutual Releases (the "March 2001 Settlement Agreement") with
PrimeRx, Network, PrimeMed Pharmacy Services, Inc. ("PrimeMed"), another
subsidiary of PrimeRx and the shareholders of PrimeRx. On or about July 16,
2001, Network filed a complaint against us and our strategic partner, NCFE
(NETWORK PHARMACEUTICALS, INC., A NEVADA CORPORATION; NCFE; AND DOES 1 THROUGH
25, INCLUSIVE, SUPERIOR COURT OF THE STATE OF CALIFORNIA FOR THE COUNTY OF LOS
ANGELES (CENTRAL DISTRICT) (CASE NO. BC 254258). This suit alleged breach of the
March 2001 Settlement Agreement.

On or about September 26, 2001, this matter was ordered to arbitration
through the American Arbitration Association (the "AAA"). On or about
September 28, 2001, Network formally filed its claim with the AAA claiming
damages of over $10 million. In addition, on or about October 19, 2001, Network
filed documents seeking a court order allowing Network to attach up to
$14 million of our assets pending resolution of this action. Network's request
for attachment was denied.

On or about November 6, 2001, we filed documents with the AAA denying the
allegations raised by Network and counterclaiming against Network and its
alleged co-conspirators, Prem Reddy, Richard Hayes, Prime A Investments, LLC,
PrimeMed, PrimeRx and Doe Defendants for over $120 million.

As of July 1, 2002, we entered into a settlement agreement with Network,
PrimeRx and its principal shareholders (the "Network Settlement"). Under the
terms of the Network Settlement, provided we met the obligations set forth
therein, each of us, NCFE, and one of NCFE's subsidiaries on the one hand, and
the cross-defendants (which include Network and certain alleged co-conspirators)
released one another from all claims related to the subject matter of this
litigation. This release does not cover certain employment compensation disputes
that one of the principal shareholders of PrimeRx has against us and does not
release any parties other than NCFE, the NCFE subsidiary and us.

Our obligations under the Network Settlement include: (i) a payment of
$2.5 million we made on July 1, 2002; (ii) a payment of $2.5 million by wire
transfer by August 1, 2003; (iii) a transfer of shares of PrimeRx that we had
held, which transfer was made prior to July 1, 2002; (iv) returning all of
PrimeRx's, Network's and their affiliates' equipment by July 15, 2002 along with
an inventory of such equipment that indicates whether any equipment has been
previously sold by us; (v) monthly payments

F-44

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

16. CONTINGENCIES AND LEGAL MATTERS (CONTINUED)
commencing July 15 in connection with certain guaranties of leased equipment
made by a principal shareholder of PrimeRx; and, (vi) a dismissal of our
cross-complaint with prejudice in the arbitration proceedings. Amounts
pertaining to this settlement were expensed and recorded as of March 31, 2002.

VIDIMEDIX CORPORATION

On or about September 15, 2000, certain former securities holders of
VidiMedix Corporation ("VidiMedix") filed a petition against us arising out of
our acquisition of VidiMedix (MONCRIEF, ET AL. V. E-MEDSOFT.COM AND VIDIMEDIX
ACQUISITION CORPORATION, HARRIS COUNTY (TEXAS) COURT, NO. 200047334 (the "Texas
Action")). The petition was amended on or about May 24, 2001 and amended again,
on or about August 15, 2001. Plaintiffs Jana Davis Wells and Tom Davis, III
("Remaining Plaintiffs") filed a Third Amended Original Petition on or about
December 26, 2001.

Plaintiffs claimed that we owe them either 6 million shares of common stock
or liquidated damages of $8.9 million and exemplary damages of at least
$24 million. We settled those disputes with all but two former VidiMedix
shareholders, the Remaining Plaintiffs.

On May 3, 2001, we filed a lawsuit against the plaintiffs and others in
California Superior Court for the County of Los Angeles (E-MEDSOFT.COM V.
MONCRIEF, ET AL., CASE NO. BC249782 (the "California Action")). On or about
October 19, 2001, defendants caused the case to be transferred to the United
States District Court for the Central District of California based on diversity
of citizenship between the defendants and us, the case is now known as CASE NO.
EDCV 01-00803-VAP (SGLX). We settled those disputes with all but two former
VidiMedix shareholders. The terms of the settlement required us to pay
approximately $4.1 million in a combination of cash and common stock. The
Remaining Plaintiffs are the only remaining plaintiffs in the Texas Action and
the only remaining defendants in the California Action.

As of July 31, 2002, we reached a settlement with the Remaining Plaintiffs.
Settlement terms included a mutual release from the Texas Action and for us to
dismiss the California action with prejudice and monetary payments to the
remaining plaintiffs over a seven-month period.

SUTRO NASD ARBITRATION NO. 1

As disclosed in the Company's Annual Report on Form 10-K at and for the year
period ended March 31, 2001, a dispute between Sutro & Co., and the Company has
been arbitrated before the National Association of Securities Dealers. On
October 22, 2001, the Company agreed to settle the matter and Sutro NASD
Arbitration No. 2 described below for 1.6 million shares of the Company's common
stock. The Company delivered a stock certificate for 1.3 million shares of the
Company's common stock representing shares due Sutro from an exercise of Company
warrants in June and August 2000. These shares met all requirements of Rule 144
(k) and were delivered to Sutro without restriction. The Company also delivered
a stock certificate for 300 thousand shares of the Company's common stock with a
value of $720 thousand at the time of issuance. The Company agreed to register
these shares in its next registration statement filing with the SEC. If based on
the closing price of the Company's common stock two days prior to the effective
date of the registration statement, the market value of the 300 thousand shares
is less then $720 thousand, then the Company is obligated to issue an additional
number of shares such that the market value of the sum of the shares is as
nearly as possible

F-45

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

16. CONTINGENCIES AND LEGAL MATTERS (CONTINUED)
equal to $720 thousand. Based on the closing price of the Company's common stock
at June 30, 2002, the Company would be obligated to issue and additional
3.3 million shares. As a result, the Company expensed $3.7 million related to
this settlement as of March 31, 2002.

SUTRO NASD ARBITRATION NO. 2

An investor in the Company has sued Sutro for failing to honor commitments
and failures to act in accordance with its fiduciary duties. This matter was
being arbitrated before the National Association of Securities Dealers. As part
of the Sutro No. 1 NASD arbitration settlement described above, on October 22,
2001, the Company agreed to settle the matter.

CAPPELLO CAPITAL CORP.

On November 16, 2001, we filed a complaint against Cappello Capital Corp.
("Cappello") (MED DIVERSIFIED V. CAPPELLO CAPITAL CORP., LOS ANGELES SUPERIOR
COURT CASE NO. SC 069391 (the "Cappello Action")), alleging that Cappello is
liable for fraud for inducing us to enter into an exclusive financial advisor
"Engagement Agreement" by misrepresenting to us that Cappello had significant
sources of capital ready and willing to invest in us when such was not true. In
the complaint, we sought compensatory and punitive damages, as well as
rescission of the Engagement Agreement. We dismissed the case without prejudice
on March 1, 2002, and settled the case and all claims relating thereto as of
March 25, 2002. We have fulfilled all of our obligations under this settlement.

HOSKIN INTERNATIONAL, LTD. AND CAPPELLO CAPITAL CORP.

On October 30, 2001, we filed a demand for arbitration with the AAA against
Hoskin International, Ltd. ("Hoskin") and Cappello (collectively, "Respondents")
(AAA CASE NO. 50T 168 00515 1), alleging that Respondents fraudulently induced
us to enter into a "Common Stock Purchase Agreement" and to issue warrants
through various misstatements of material facts and failed to disclose facts
that the Respondents had a duty to disclose. This matter is before an
administrator assigned to the case through the San Francisco branch of the AAA.

On December 28, 2001, Hoskin filed a response to our demand in which it
denied the allegations and asserted a counterclaim alleging that we are liable
for breach of the Common Stock Purchase Agreement and warrants based on our
alleged failure to use best efforts to cause the registration statement for the
warrants to become effective at a time when the warrants could have been
exercised at a profit.

On January 2, 2002, Cappello filed a motion to stay arbitration before the
AAA as to Cappello on the grounds that Cappello was not a party to the
arbitration clause contained in the Common Stock Purchase Agreement, and that
our claims against Cappello should be resolved in the Cappello Action in Los
Angeles (as described above under "Legal Proceedings: Cappello Capital Corp.").
The Court granted Cappello's motion on January 28, 2002. We dismissed, without
prejudice, the claims asserted against Cappello in the AAA arbitration.
Arbitration in the Hoskin matter is scheduled for late October 2002. Settlement
discussions are ongoing.

F-46

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

16. CONTINGENCIES AND LEGAL MATTERS (CONTINUED)
ILLUMEA (ASIA)

On December 13, 2000, Illumea (Asia), Ltd. ("IAL"), Nathalie j.v.d.
Doornmalen, David Chung Shing Wu, George K.K. Tong, Edna Liu, Yee Mau Chen,
Norman Yuen Tsing Tao, Jeffrey Sun, Boris Luchterhand, Carol Andretta, Kin Yu,
Kathryn Ma, Alan Munro, Yonanda j.v.d. Doornmalen, Hunter Vest, Ltd., Eltrinic
Enterprises, Ltd. and True Will Investments filed a First Amended Complaint
against Illumea Corporation ("Illumea") and Andrew Borsanyi (collectively
"Defendants") arising out of our acquisition of Illumea (ILLUMEA (ASIA), LTD.,
ET AL. V. ILLUMEA CORPORATION AND ANDREW BORSANYI). All of the plaintiffs except
IAL and Nathalie Doornmalen thereafter dismissed their claims without prejudice.
As a result, only IAL and Doornmalen remained as plaintiffs.

Doornmalen, a former Illumea shareholder, alleges that she consented to our
acquisition of Illumea based on the allegedly false representation that we would
hire her. She also alleges that defendants made defamatory statements about her.
Doornmalen asserts claims for securities fraud under 15 U.S.C. Section 78j(b)
and Rule 10b-5, "conspiracy," breach of contract, fraud, false promise,
defamation, and violation of California Business & Professions Code
Section 17200 ("Section 17200"). IAL alleges that Illumea breached an agency
agreement between IAL and Illumea and engaged in fraud in connection with the
agency relationship. IAL asserts claims for breach of contract and fraud.
Collectively, plaintiffs seek compensatory damages, disgorgement under
Section 17200 and attorneys' fees.

We filed a counterclaim against IAL and Doornmalen on March 26, 2001,
alleging breach of contract, breach of fiduciary duty and fraud. We allege that
IAL and Doornmalen refused to repay Illumea for providing funding and equipment
to IAL and that Doornmalen failed to disclose certain material issues in
connection with the merger between Illumea and us.

As of April 2, 2002 these matters have been settled, under the terms of the
settlement we were required to (i) pay $300 thousand; (ii) issue 700 thousand
shares of our common stock; and (iii) file a registration statement, on
Form S-1, registering the 700 thousand shares. As of October 31, 2002, the
Company has not filed the required registration statement as set for the in the
Settlement Agreement. We have been notified that Nathalie Doornmalen has filed a
motion to enforce the Settlement Agreement in the Illumea (Asia), Ltd. matter.
The opposition to this motion is due on Monday, November 4, and the hearing is
on November 18.

TREBOR O. CORPORATION

On June 29, 2001, Trebor O. Corporation, a California corporation, doing
business as Western Pharmacy Services ("Trebor O."), and its principal Robert
Okum, filed an action in Los Angeles County Superior Court against the Company,
PrimeRx, Chartwell Diversified Services and various individuals (TREBOR O.
CORPORATION D.B.A. WESTERN PHARMACY SERVICES AND ROBERT OKUM V. E-MEDSOFT.COM,
PRIMERX, CHARTWELL DIVERSIFIED SERVICES AND VARIOUS INDIVIDUALS, LOS ANGELES
SUPERIOR COURT CASE NO. BC 253387). The plaintiffs assert claims for breach of
contract, promissory estoppel, misrepresentation, breach of confidentiality, and
tortious interference, and seek more than $5 million in compensatory damages, on
the theory that we entered into a letter of intent to purchase Trebor O, but
then refused to complete the transaction. We have settled this lawsuit as of
July 2002. Settlement terms include dismissal of Trebor O's suit against us and
a payment by us to Trebor O.

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MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

16. CONTINGENCIES AND LEGAL MATTERS (CONTINUED)
SAN DIEGO ASSET MANAGEMENT, INC.

On October 24, 2001, we filed a complaint against San Diego Asset
Management, Inc. ("SDAM") (MED DIVERSIFIED V. SAN DIEGO ASSET MANAGEMENT, INC.,
LOS ANGELES SUPERIOR COURT CASE NO. BC 260285 (the "2001 SDAM Action")) arising
out of an agreement whereby we were to sell shares of our common stock that
could be purchased for $83 million for 90% of the market price of our common
stock to SDAM. We agreed to prepare a certificate for 15 million restricted
shares of our common stock as a commission (the "Certificate"), as well as pay
$3 million in cash as commission to SDAM. We delivered the certificate for the
15 million shares, but SDAM did not deliver the $83 million. In the lawsuit, we
sought a temporary restraining order, preliminary injunction and permanent
injunction ordering SDAM to return the Certificate to us. Pursuant to the
Court's order dated November 6, 2001, the Certificate was returned to us and
cancelled. We dismissed the 2001 SDAM Action without prejudice on November 13,
2001.

On February 1, 2002, we filed for Arbitration with the National Association
of Securities Dealers (the "NASD Arbitration") against SDAM and its principals,
Wendy Feldman Purner and Daniel Feldman (collectively, "Respondents) (NASD CASE
NO. 02-00650), alleging that Respondents fraudulently induced us to enter into a
"Securities Purchase Agreement" through various misstatements of material fact
and, alternatively, that Respondents breached the Security Purchase Agreement.
On March 13, 2002, following objections to jurisdiction, we dismissed without
prejudice the claims asserted against Daniel Feldman in the arbitration. The
remaining Respondents have not yet responded to our claims and no arbitrator has
yet been selected.

On February 5, 2002, we filed a complaint against SDAM and its principals,
Wendy Feldman Purner and Daniel Feldman, (MED DIVERSIFIED, INC. V. SAN DIEGO
ASSET MANAGEMENT, INC., WENDY FELDMAN PURNER AND DANIEL FELDMAN, LOS ANGELES,
SUPERIOR COURT CASE NO. BC 267635 (the "2002 SDAM Action")), alleging that they,
in the second half of 2001, fraudulently induced us to enter into a "Debenture
Agreement" through various misstatements of material fact and, alternatively,
that they breached the Debenture Agreement.

On February 28, 2002, we amended our complaint in the 2002 SDAM Action to
add as defendants E*Trade Securities, Inc. and E*Trade Group, Inc. and to add,
as against SDAM, Wendy Feldman Purner and Daniel Feldman, the claims asserted in
the NASD Arbitration. No discovery has been propounded as of October 24, 2002.
On May 3, 2002, we dismissed E*Trade from the 2002 SDAM Action without
prejudice. On May 6, 2002, we dismissed Daniel Feldman from the 2002 SDAM Action
without prejudice.

On May 9, 2002, SDAM filed a cross-complaint against us. They allege that on
or about August of 2001, we entered into an agreement with SDAM to sell them
5 million shares of our common stock and that they paid us $2 million, but have
not received any stock. After we demurred to SDAM's cross-complaint, SDAM filed
an amended cross-complaint July 3, 2002. These matters are currently in
discovery.

CRAVEY

Warren Willard Cravey ("Cravey"), now deceased, was a client of Chartwell
Community Services, Inc. ("Chartwell").

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MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

16. CONTINGENCIES AND LEGAL MATTERS (CONTINUED)
Chartwell provided care to Cravey via its community-based alternatives
program. On October 1, 2001, Lorene Emma Barros, Individually and as Executrix
of the Estate of Warren Willard Cravey, Deceased, Cheryl Lynn Sloniger, Londa
Sylvia Cravey, Lorna Christine Tillman, and Warren Willard Cravey, II
("Plaintiffs') filed a lawsuit against Concepts of Care II, Inc., Chartwell
Community Services, Inc. f/k/a Concepts of Care, Infusion Management
Systems, Inc. d/b/a Concepts of Care, HomeCare Concepts of America, Inc. d/b/a
Concepts of Care, Mollie Primrose, and Mollie Gay Jordy ("Defendants"). (Cause
No. 23096, pending in the District Court of Jasper County, Texas.) Plaintiffs in
the above-referenced cause are the children of Cravey. They have asserted
wrongful death and survivor claims.

Plaintiffs claim that Defendants were negligent in their care of Cravey.
Plaintiffs allege against Chartwell claims for negligence, negligence per se,
gross negligence, and breach of fiduciary duty. Pursuant to the theory of
respondeat superior, Plaintiffs also assert that Chartwell is liable for the
alleged negligence of its former employee, Defendant Mollie Primrose, in her
care of Cravey. Plaintiffs also assert against Chartwell a claim for punitive
damages, alleging Chartwell's conduct was grossly negligent and/or malicious.
Chartwell denies and is vigorously defending all claims.

All parties to the suit are currently actively engaged in discovery. To
date, there have been no motions for summary judgment or any other dispositive
motions filed by any party. Though a jury trial has been demanded, this case is
not presently set for trial.

H.L.N. CORPORATION

H.L.N. Corporation, Frontlines Homecare, Inc., E.T.H.L., Inc., Phoenix
Homelife Nursing, Inc., and Pacific Rim Health Care Services, Inc., former
licensees (franchisees) of TLCS for the territory comprising certain counties in
and around Los Angeles, California, and their holding company, instituted an
action against TLCS subsidiaries, Staff Builders, Inc., Staff Builders
International, Inc. and Staff Builders Services, Inc., and certain executive
officers of TLCS. Plaintiffs filed a First and Second Amended Complaint in the
Central District on January 8, 1999 and September 1, 1999, respectively, to
challenge the termination of the four franchise agreements between TLCS and
certain of the named plaintiffs (H.L.N. CORPORATION, ET AL. V. TLCS
SUBSIDIARIES, ET AL.). The plaintiffs are seeking damages for violations of
California franchise laws, breach of contract, fraud and deceit, unfair trade
practices, claims under the RICO, negligence, intentional interference with
contractual rights, declaratory and injunctive relief and a request for an
accounting. The plaintiffs have not specified the amount of damages they are
seeking. Pursuant to a Motion of Summary Judgment, the court granted all of the
individual defendants' Motion for Summary Judgment dismissing all causes of
action against these individuals. In addition, the court dismissed the RICO,
fraud, negligence, California franchise investment law and implied covenant of
good faith and fair dealing claims. The only remaining triable issues in the
case are those relating to breach of contract, unfair business practices and
wrongful termination under the California Franchise Law. Trial is scheduled for
August 2003.

NURSING SERVICES OF IOWA

On April 30, 1999, Nursing Services of Iowa, Inc., Helen Kelly, Geri-Care
Home Health Inc. and Jacquelyn Klooster, two former home healthcare licensees of
TLCS and the principals in Des Moines and Sioux City, Iowa, respectively,
commenced an action in the United States District Court for the

F-49

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

16. CONTINGENCIES AND LEGAL MATTERS (CONTINUED)
Southern District of Iowa, Central Division against TLCS' subsidiaries Staff
Builders International, Inc., Staff Builders Services, Inc., Staff
Builders, Inc. and certain executive officers of TLCS. The action alleges claims
under the RICO, claiming a series of deliberate and illegal actions designed to
defraud Staff Builders' franchisees, as well as claims for negligence, breach of
fiduciary duty, breach of contract, fraudulent misrepresentation and violation
of the Iowa franchise law. The complaint seeks unspecified money damages, a
claim for treble damages on the RICO claims and punitive and exemplary damages.
Pursuant to TLCS' Motion to Dismiss all counts except for one count were
dismissed by the Court. TLCS' Motion for Summary Judgment was granted on
May 25, 2001, which reduced the lawsuit to one for breach of contract only. The
case was tried before a jury in July 2002. The jury awarded nominal damages to
Geri-Care and no damages to Nursing Services of Iowa. The judgment was paid and
a Satisfaction of Judgment was entered in the court.

ADDUS HEALTHCARE

On or about April 24, 2002, we filed a complaint against Addus
Healthcare, Inc. ("Addus"), and its major shareholders, W. Andrew Wright, Mark
S. Heaney, Courtney E. Panzer, and James A. Wright. We contend that Addus has
been unable to perform its obligations under a certain stock purchase agreement
relating to our acquisition of Addus. We allege that Addus breached the
warranties and representations it gave regarding its financial condition, and
Addus has been unable to obtain the consent of necessary third parties to assign
some relevant contracts. We believe that Addus has breached the agreement in
other ways, as well. Additionally, we allege that the defendants have
misappropriated our deposit.

The complaint demands the imposition of a constructive trust for the
converted funds; and an injunction against the defendants' disposing of or
liquidating the $7.5 million deposit. Our complaint further alleges fraud on
behalf of the defendants, in the sense that they never intended to complete the
transaction but planned to use the pendency of the transaction to obtain
concessions from us. Finally, there is a claim for breach of contract. We seek
compensatory damages of $10 million per claim, plus punitive damages, along with
the equitable relief previously described and attorney's fees.

Addus has filed a counterclaim against us. They allege that we
(1) fraudulently induced them to enter into the agreement, (2) negligently
misrepresented certain aspects of our business, (3) breached the terms of the
agreement by not closing the transaction and not having available funds to close
the transaction, and (4) breached certain other confidentiality agreements. They
have sought compensatory damages in excess of $4 million, a declaratory judgment
that they are entitled to retain the $7.5 million deposit, for general and
special damages and attorney's fees. We dispute these claims vigorously and
believe they are without merit. On July 9, we filed a reply to the counterclaim.
This matter is currently in discovery and has been transferred to the Northern
District of Illinois. On October 11, 2002 we filed an Amended Complaint. Addus'
answer to that complaint is due on November 1, 2002.

UNIVERSITY AFFILIATES

In January 2002, we filed a Complaint against University Affiliates IPA
("UAIPA") and its president, Sam Romeo, who at the time was also a member of our
board of directors, for breach of contract, fraud, and, as to Mr. Romeo, breach
of fiduciary duty arising out of a May 2, 2000 agreement between UAIPA and us.
Under the agreement, during the quarter ended June 2000, we advanced

F-50

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

16. CONTINGENCIES AND LEGAL MATTERS (CONTINUED)
$2 million to UAIPA for the purpose of creating a joint venture intended to
combine UAIPA's supposed healthcare management expertise with Internet
healthcare management systems in an effort to develop new business
opportunities. As of the filing of the suit, the companies had not proceeded
with the joint venture. According to the original agreement, if a formal joint
venture agreement was not entered into between UAIPA and us by July 1, 2000,
UAIPA would guarantee payment of $2.5 million on or before July 1, 2001. The
$2.5 million has not been paid. We seek payment of this amount, plus any profits
from the business opportunities that were to be transferred to the joint
venture, and punitive damages.

On March 4, 2002, UAIPA served a cross-complaint against us, Sanga E-Health,
LLC, TSI Technologies, LLC, Mitchell Stein, and John F. Andrews alleging breach
of various contracts, breach of the implied covenant of good faith and fair
dealing, declaratory relief, promissory estoppel, fraud, negligent
misrepresentation, unjust enrichment, quantum meruit, conversion, money had and
received, breach of fiduciary duty, interference with prospective business
advantage and unfair business practices, seeking damages in the aggregate of
approximately $11 million plus punitive damages. The court denied our motion to
compel arbitration on May 8, 2002. We subsequently filed a cross-complaint
against UAIPA and Sam Romeo regarding their failure to adhere to the May 2, 2000
agreement. No trial date has been set and UAIPA is currently in bankruptcy
proceedings.

MEDICAL SPECIALTIES DISTRIBUTORS INC.

In July of 2001, Medical Specialties Inc. ("Medical Specialties") sued our
subsidiary, Chartwell, in state court in Massachusetts (MEDICAL SPECIALTIES
DISTRIBUTORS INC. V. CHARTWELL DIVERSIFIED SERVICES, INC., ET AL., BRISTOL
COUNTY SUPERIOR COURT (MASSACHUSETTS) CIVIL ACTION NO. BRCV2001-00845. This
claim alleges failure to pay for the purchase of healthcare products and
equipment rentals totaling approximately $2 million. The case is currently in
discovery.

TRI-COUNTY HOME HEALTH, INC.

In March of 2002, Tri-County Home Health ("Tri-County") and other plaintiffs
filed suit against Chartwell Community Services, Inc., Chartwell Diversified
Services, Inc. (each is a subsidiary of ours) and Shay Fields (Tri County Home
Health, Inc. et al v. Chartwell Community Services, Inc., Chartwell Diversified
Services, Inc. and Shay Field, 365th JDC, Hardin County TX, case No. 42108).
Tri-County claims that the defendants breached a contract for the sale of the
long term care portion of Tri-County's operations. They have also alleged fraud,
tortious interference, material misrepresentation and unfair dealings. They seek
damages in excess of $1 million. Chartwell answered their complaint and believes
that their claims are without merit. Chartwell intends to vigorously defend this
action.

F-51

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

17. QUARTERLY FINANCIAL DATA (UNAUDITED)

Quarterly data for the fiscal years ended March 31, 2002, 2001 and 2000, was
as follows: (in thousands except per share data)

F-52

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

17. QUARTERLY FINANCIAL DATA (UNAUDITED) (CONTINUED)

18. STATEMENTS OF CASH FLOWS

The Company had the following supplemental and non-cash activities each
year:

F-53

MED DIVERSIFIED, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

MARCH 31, 2002

19. MINORITY INTEREST

Minority Interest at March 31, 2002 represents the outside ownership in the
Company's joint ventures. (See Note 5 Joint Ventures).

The Company has reflected minority interest at March 31, 2001, related to
its management contract with PrimeRx of approximately $7.4 million. The PrimeRx
minority interest represented the right of 735 thousand Series A preferred
shareholders in PrimeRx. This series A preferred stock had a $10 per share
liquidation preference on the net assets of PrimeRx (as adjusted) upon a change
in control and was otherwise redeemable at the option of the preferred
shareholders by 2005. As a result of the deconsolidation of Network and
settlement of the Network and PrimeRx matters all rights under the Series A
preferred shares were transferred to the owners of PrimeRx with no further
liability to the Company as it pertains to the Series A preferred shares. See
also Note 16 PrimeRx.com/Network Pharmaceuticals, Inc.

F-54

SIGNATURES

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

Med Diversified, Inc.

By: /s/ FRANK P. MAGLIOCHETTI, JR.
------------------------------------------------
Frank P. Magliochetti, Jr.
Chairman and Chief Executive Officer
Date: November 1, 2002

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 in the capacities and on the dates indicated.

CERTIFICATION

I, Frank P. Magliochetti, Jr., certify that:

1. I have reviewed this annual report on Form 10-K of Med Diversified,
Inc.;

2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this annual report; and

3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this annual report.

Date: November 1, 2002 /s/ FRANK P. MAGLIOCHETTI, JR.
-------------------------------------------
Frank P. Magliochetti, Jr.
Chief Executive Officer

CERTIFICATION

I, James A. Shanahan, certify that:

1. I have reviewed this annual report on Form 10-K of Med Diversified,
Inc.;

2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this annual report; and

3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this annual report.

Date: November 1, 2002 /s/ JAMES A. SHANAHAN
-------------------------------------------
James A. Shanahan
Vice President of Finance, Principal
Accounting Officer