NATIONAL QUALITY CARE INC, 10KSB40, 1998-04-15

NATIONAL QUALITY CARE INC
10KSB40, 1998-04-15
GROCERIES & RELATED PRODUCTS

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

FORM 10-KSB

(Mark One)

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

For the fiscal year ended December 31, 1997

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

For the transition period from ______________ to _____________

Commission file number: 0-19031

NATIONAL QUALITY CARE, INC.
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(Name of small business issuer specified in its charter)

Delaware 84-1215959
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(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)

1835 South La Cienega Boulevard, Suite 235, Los Angeles, California 90035
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(Address of principal executive offices, including zip code)

310-280-2758
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(Issuer's telephone number, including area code)

5901 West Olympic Boulevard, Suite 109
Los Angeles, California 90036
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(Former name or address, if changed since last report)

Securities registered under Section 12(b) of the Exchange Act:

Name of each exchange
Title of Each Class On Which Registered
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None None

Securities registered under Section 12(g) of the Exchange Act:

Common Stock, $0.01 par value per share
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(Title of Class)

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Check whether the issuer: (i) 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 (ii) has been
subject to such filing requirements for the past 90 days. Yes X No
----- -----

Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B 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-KSB or any
amendment to this Form 10-KSB. [X]

The issuer's revenues for the fiscal year ended December 31, 1997 were
$3,424,691.

The number of shares outstanding of the issuer's Common Stock as of April 9,
1998 was 9,688,523 shares. The aggregate market value of the Common Stock
(6,319,358 shares) held by non-affiliates, based on the average of the bid and
asked prices ($1.00) of the common stock as of April 9, 1998 was $6,319,358.

Transactional Small Business Disclosure Format (Check one): Yes No X
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THIS ANNUAL REPORT ON FORM 10-KSB (THE "REPORT") MAY BE DEEMED TO CONTAIN
FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF THE PRIVATE SECURITIES
LITIGATION REFORM ACT OF 1995 (THE "REFORM ACT"). FORWARD-LOOKING STATEMENTS IN
THIS REPORT OR HEREAFTER INCLUDED IN OTHER PUBLICLY AVAILABLE DOCUMENTS FILED
WITH THE SECURITIES AND EXCHANGE COMMISSION (THE "COMMISSION"), REPORTS TO THE
COMPANY'S STOCKHOLDERS AND OTHER PUBLICLY AVAILABLE STATEMENTS ISSUED OR
RELEASED BY THE COMPANY INVOLVE KNOWN AND UNKNOWN RISKS, UNCERTAINTIES AND OTHER
FACTORS WHICH COULD CAUSE THE COMPANY'S ACTUAL RESULTS, PERFORMANCE (FINANCIAL
OR OPERATING) OR ACHIEVEMENTS TO DIFFER FROM THE FUTURE RESULTS, PERFORMANCE
(FINANCIAL OR OPERATING) OR ACHIEVEMENTS EXPRESSED OR IMPLIED BY SUCH FORWARD-
LOOKING STATEMENTS. SUCH FUTURE RESULTS ARE BASED UPON MANAGEMENT'S BEST
ESTIMATES BASED UPON CURRENT CONDITIONS AND THE MOST RECENT RESULTS OF
OPERATIONS. THESE RISKS INCLUDE, BUT ARE NOT LIMITED TO, THE RISKS SET FORTH
HEREIN, EACH OF WHICH COULD ADVERSELY AFFECT THE COMPANY'S BUSINESS AND THE
ACCURACY OF THE FORWARD-LOOKING STATEMENTS CONTAINED HEREIN.

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PART I

ITEM 1. DESCRIPTION OF BUSINESS.

BUSINESS OF THE COMPANY

The following should be read in conjunction with the Company's Consolidated
Financial Statements and the related notes thereto, contained elsewhere in this
Annual Report on Form 10-KSB (the "Report"). This Report contains forward-
looking statements which involve risks and uncertainties. The Company's actual
results may differ significantly from the results discussed in the forward-
looking statements. Unless the context otherwise requires, the term "Company"
refers to National Quality Care, Inc. and its wholly-owned subsidiary, Los
Angeles Community Dialysis, Inc., a California corporation ("LACD").

The Company is a high-quality provider of integrated dialysis services for
patients suffering from chronic kidney failure, also known as end stage renal
disease ("ESRD").

The Company's principal operating subsidiary, LACD, has been in business
since 1985 and currently offers dialysis services through two (2) dialysis
centers with an aggregate of thirty (30) fully equipped stations in Los Angeles,
California and provides home dialysis services.

Further, the Company provides in-patient dialysis services by contract to
five (5) Los Angeles County hospitals. Payment for services is primarily
provided by third party payors, including Medicare, Medi-Cal (a California state
health agency) and commercial insurance companies.

HISTORY OF THE COMPANY

From inception on May 10, 1982 through May 11, 1996, the Company was
engaged in certain business operations which are not associated with the
Company's current business operations.

On May 11, 1996, the Company entered into an Agreement for Exchange of
Stock (the "Share Exchange Agreement") with LACD, Victor Gura, M.D., Avraham H.
Uncyk, M.D. and Ronald P. Lang, M.D., pursuant to which the Company issued an
aggregate of 4,234,128 shares of the Company's common stock, par value $0.01 per
share (the "Common Stock") in exchange for 100% of the issued and outstanding
shares of common stock of LACD. In connection with the closing of the Share
Exchange Agreement, LACD became the principal operating subsidiary of the
Company. On May 28, 1996, the Company changed its name to "National Quality
Care, Inc." See "Item 12 - Certain Relationships and Related Transactions."

BUSINESS PLAN

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The market for such acquisition prospects is highly competitive and
management expects that certain potential acquirors will have significantly
greater capital than the Company. In addition, financing for such acquisitions
or development may not be available to the Company on commercially reasonable
terms. In the event the Company cannot obtain the additional financing needed
to fulfill its acquisition and development strategy, the Company may be unable
to achieve its proposed expansion strategy. See "Risk Factors" and "Item 6 -
"Management's Discussion and Analysis or Plan of Operation."

THE DIALYSIS INDUSTRY

END-STAGE RENAL DISEASE

ESRD is the state of advanced renal impairment that is irreversible and
requires routine dialysis treatments or kidney transplantation to sustain life.
Qualified patients with ESRD have been entitled since 1972 to Medicare benefits
regardless of age or financial circumstances. According to figures published by
the Health Care Financing Administration ("HCFA"), the number of patients
requiring chronic dialysis services in the United States has increased at a 9%
compounded annual growth rate to approximately 257,000 patients in 1995 from
66,000 in 1982. It is estimated that there are currently 230,000 ESRD patients
in the United States and that the United States market for outpatient and
inpatient services to ESRD patients in 1997 exceeded $14 billion.

The Company attributes the continuing growth in the number of ESRD patients
principally to the aging of the general population and better treatment and
longer survival of patients with hypertension, diabetes and other illnesses that
lead to ESRD. Management also believes improved dialysis technology has enabled
older patients and those who previously could not tolerate dialysis due to other
illnesses to benefit from this life-prolonging treatment.

It is estimated that there were approximately 3,000 dialysis facilities in
the United States at the beginning of 1997, of which approximately 27% were
owned by independent physicians (down from 37% in 1992), 28% were hospital-based
facilities (down from 33% in 1992), and 45% were owned by seven (7) major multi-
facility dialysis providers (up from 30% in 1992). The dialysis services
industry has been undergoing rapid consolidation. The Company believes that
many physician owners are selling their facilities to obtain relief from
changing government regulation and administrative constraints, to enable them to
focus on patient care and to realize a return on their investment. Hospitals
are also motivated to sell or outsource management of their facilities as they
refocus their resources on their care business due to increasing competitive
pressures within the hospital industry. The Company believes that these changes
in the health care environment will continue to drive consolidation within the
dialysis services industry.

TREATMENT OPTIONS FOR END-STAGE RENAL DISEASE

Treatment options for ESRD include hemodialysis, peritoneal dialysis and
kidney transplantation. ESRD patients are treated predominantly in outpatient
treatment facilities. HCFA estimates that, during 1996, 85% of the ESRD
patients in the United States were receiving hemodialysis treatment in
outpatient facilities, with the remaining patients being treated in the home
either through peritoneal dialysis (14%) or home hemodialysis (1%).

HEMODIALYSIS. Hemodialysis, the most common form of ESRD treatment, is
generally performed either in a freestanding facility or in a hospital-based
facility. Hemodialysis uses an artificial kidney, called a dialyzer, to remove
certain toxins, fluids and salt from the patient's blood combined with a machine
to control external blood flow and to monitor certain vital signs of the
patient. The dialysis process occurs across a semi-permeable membrane that
divides the dialyzer into two distinct chambers. While blood is circulated
through one chamber, a pre-mixed dialyzer fluid is circulated through the other
chamber. The toxins and excess fluid

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from the blood selectively cross the membrane into the dialysis fluid. A
hemodialysis treatment usually lasts approximately three hours and is
performed three times per week per patient.

PERITONEAL DIALYSIS. Peritoneal dialysis is generally performed by the
patient at home. There are several variations of peritoneal dialysis. The most
common are continuous ambulatory peritoneal dialysis ("CAPD") and continuous
cycling peritoneal dialysis ("CCPD") or automated peritoneal dialysis ("APD").
All forms of peritoneal dialysis use the patient's peritoneal (abdominal) cavity
to eliminate fluid and toxins from the patient. CAPD utilizes a sterile,
pharmaceutical-grade dialysis solution which is introduced into the patient's
peritoneal cavity through a surgically placed catheter. Toxins in the blood
continuously cross the peritoneal membrane into the dialysis solution. After
several hours, the patient drains the used dialysis solution and replaces it
with fresh solution. CCPD and APD are performed in a manner similar to CAPD,
but use a mechanical device to cycle dialysis solution while the patient is
sleeping or at rest.

OTHER TREATMENT OPTIONS. An alternative treatment not provided by the
Company is kidney transplantation. Although transplantation, when successful,
is generally the most desirable form of therapeutic intervention, the shortage
of suitable donors limits the availability of this treatment option.

QUALITY MANAGEMENT PROGRAM

The Company believes its reputation for quality care is a significant
competitive advantage in attracting patients and physicians and in pursuing
growth in the managed care environment. The Company engages in organized and
systematic efforts to measure, maintain and improve the quality of services it
delivers. See "Operations - Quality Assurance."

UTILIZATION OF OPERATING CAPACITY

The Company believes that current patient demand is met by the capacity of
its currently existing facilities. The Company has entered into a lease for an
additional dialysis facility in Los Angeles, California, which the Company
anticipates to be operational in June, 1998. Management believes that this
additional facility will enable the Company to accommodate additional patient
volume demand. The Company continues to seek to expand its capacity and
potential patient base, based on the ability of the Company to finance such
expansion and to acquire such facilities in a commercially acceptable manner to
management. The Company will continue to focus on enhancing operating
efficiencies, including staffing, purchasing and financial reporting systems and
controls. See "Item 6 - Management's Discussion and Analysis or Plan of
Operation."

OPERATIONS

LOCATION, CAPACITY AND USE OF FACILITIES

The Company currently operates two (2) outpatient dialysis centers with an
aggregate of thirty (30) dialysis stations located in Los Angeles, California.
The Company anticipates that an additional dialysis center with approximately
sixteen (16) stations will be operational in June, 1998. However, there can be
no assurances to this effect. The Company also provides acute inpatient
dialysis services to five (5) hospitals. System-wide, the Company provides
training, supplies and on-call support services to all of its CAPD and CCPD
patients. See "Item 2 - Description of Properties."

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OPERATION OF FACILITIES

The Company's dialysis facilities are designed specifically for outpatient
hemodialysis and generally contain, in addition to space for dialysis
treatments, a nurses' station, a patient weigh-in area, a supply room, a water
treatment space used to purify the water used in hemodialysis treatments, a
dialyzer reprocessing room (where, with both the patient's and physician's
consent, the patient's dialyzer is sterilized for reuse), staff work areas,
offices and a staff lounge and kitchen. The Company's facilities also have a
designated area for training patients in home dialysis. The Company's
facilities also offer amenities for the patients, such as a color television
with headsets at each dialysis station.

In accordance with conditions for participation in the Medicare ESRD
program, the Company's facilities have a qualified physician director ("Medical
Director"). See "Physician Relationships" below. The Company's facilities also
have an Administrator and a registered nurse, who supervises the day-to-day
operations of the facility and the staff. The staff consists of registered
nurses, licensed practical or vocational nurses, patient care technicians, a
social worker, a registered dietician, a unit clerk and bio-medical technicians.

The Company also offers various forms of home dialysis, primarily CAPD.
Home dialysis services consist of providing equipment and supplies, training,
patient monitoring and follow-up assistance to patients who prefer and are able
to receive dialysis treatments in their homes. Patients and their families or
other patient helpers are trained by a registered nurse to perform either CAPD
or CCPD at home. Company training programs for CAPD or CCPD generally encompass
two to three weeks.

EQUIPMENT SUPPLY AGREEMENT

The Company has entered into a three (3) year agreement, commencing January
1, 1997, with a large medical equipment supplier, to purchase a significant
portion of the medical equipment to be utilized in the Company's dialysis
operations from such supplier on a discounted basis.

INPATIENT DIALYSIS SERVICES

The Company provides inpatient dialysis services (excluding physician
professional services) to five (5) hospitals. These services are required in
connection with the hospital's inpatient services for a per treatment fee
individually negotiated with each hospital. In most instances, the Company
transports the dialysis equipment and supplies to the hospital when requested
and administers the dialysis treatment. Examples of cases in which such
inpatient services are required include patients with acute kidney failure
resulting from trauma or similar causes, patients in the early stages of ERSD
and ESRD patients who require hospitalization for other reasons.

ANCILLARY SERVICES

Dialysis facilities may provide a comprehensive range of ancillary services
to ESRD patients, the most significant of which is the administration of
erythropoietin ("EPO") upon a physician's prescription. EPO is a bio-engineered
protein which stimulates the production of red blood cells and is used in
connection with all forms of dialysis to treat anemia, a medical complication
frequently experienced by ESRD patients, and has the effect of reducing or
eliminating the need for blood transfusions for dialysis patients. The Company
administers EPO to ESRD patents, but currently does not provide other ancillary
services to its patients.

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PHYSICIAN RELATIONSHIPS

A key factor in the success of a facility is its relationships with local
nephrologists. An ESRD patient generally seeks treatment at a facility near
such patient's home and where such patient's nephrologist has practice
privileges. Consequently, the Company relies on its ability to meet the needs
of referring physicians in order to continue to receive physician referrals of
ESRD patients.

Certain of the Company's Medical Directors, including Drs. Gura and Lang,
who are affiliates of the Company, have entered into written contracts with the
Company which specify their duties and establish their compensation (which is
fixed for periods of one year or more). The compensation of the Medical
Directors and other physicians under contract depend upon competitive factors in
the local market, the physician's professional qualifications and
responsibilities and the size and utilization of the facility or relevant
program. Although the Company's Medical Directors are affiliates of the
Company, the Company believes that these compensation arrangements are on terms
no less favorable to the Company than could have been obtained from comparable
independent third parties. The aggregate compensation of the Medical Directors
and other physicians under contract is fixed for period of one year or more by
written agreement.

As is often true in the dialysis industry, one or a few physicians account
for all or a significant portion of a dialysis facility's patient referral base.
Therefore, the Company's selection of a location for a dialysis facility is
determined in part by the physician or nephrologist selected (in advance) to
serve as the Company's Medical Director. The Company primarily receives
referrals of its patients from Drs. Gura and Lang, who are also affiliates of
the Company. The loss of an important referring physician could have a material
adverse effect on the operations of the Company.

Generally, the Company has non-competition agreements with its Medical
Directors or referring physicians.

QUALITY ASSURANCE

QUALITY MANAGEMENT PROGRAM. The Company engages in organized and
systematic efforts to measure, maintain and improve the quality of services it
delivers and believes that it has earned a favorable reputation for quality in
the dialysis community. The Company has recently implemented a quality
management program designed to measure outcomes and improve the quality of its
services. The Company's quality management program and clinical information
systems have been developed and implemented at the Company's dialysis facilities
under the direction of the Company's executive management, Victor Gura, M.D. and
Ronald P. Lang, M.D. The quality management program involves all areas of the
Company's services, monitoring and evaluating all of the Company's activities
with a focus on continuous improvement. These objectives are accomplished
through measurable trend analysis based on specific statistical tools for
analysis and communication, and through continuing employee and patient
education.

CLINICAL INFORMATION SYSTEMS. To support the quality management program
and in response to current payor demands for cost-effective health care
treatments with measurable outcomes, the Company utilizes a PC-based, networked
clinical information system that will provide the Company, managed care
organizations and other payors with detailed patient outcome reports and
critical clinical information.

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SOURCES OF REVENUE REIMBURSEMENT

The following table provides information for the periods indicated
regarding the percentage of Company net operating revenues provided by: (i) the
Medicare ESRD program, (ii) Medicaid, (iii) private/alternative payors, such as
private insurance and private funds, and (iv) hospital inpatient dialysis
services:

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31
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1997 1996
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<S> <C> <C>
Medicare 42.6% 48.3%
Medicaid 19.0 15.6
Private/alternative payors 10.8 10.1
Hospital inpatient
dialysis services 27.6 26.0
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Total 100.0% 100.0%
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</TABLE>
Under the Medicare ESRD program, Medicare reimburses dialysis providers for
the treatment of individuals who are diagnosed to have ESRD and are eligible for
participation in the Medicare program, regardless of age or financial
circumstances. For each treatment, Medicare pays 80% of the amount set by the
Medicare prospective reimbursement system, and a secondary payor (usually
Medicare supplemental insurance or the state Medicaid program) pays
approximately 20% of the amount set by the Medicare prospective reimbursement
system. The State of California, the only state in which the Company operates
dialysis facilities, provides Medicaid benefits to qualified recipients to
supplement their Medicare entitlement. The Medicare and Medicaid programs are
subject to statutory and regulatory changes, administrative rulings,
interpretations of policy and governmental funding restrictions, some of which
may have the effect of decreasing program payments, increasing costs or
modifying the way the Company operates its dialysis business. See "Medicare
Reimbursement."

Assuming a patient is eligible for participation in the Medicare program,
the commencement date of Medicare benefits for ESRD patients electing
hemodialysis is dependent on several factors. For ESRD patients 65 years of age
or older who are not covered by an employer group health plan, Medicare coverage
commences immediately. For ESRD patients 65 years of age or older who are
covered by an employer group health plan, Medicare coverage commences after a
30-month coordination period. ESRD patients under 65 years of age who are not
covered by an employer group health plan (for example, the uninsured, those
covered by Medicaid or by an individual health insurance policy) must wait 90
days after commencing dialysis treatments to be eligible for Medicare benefits.
During the first 90 days of treatment, the patient, Medicaid or the private
insurer is responsible for payment (and, in the case of the individual covered
by private insurance, such responsibility is limited to the terms of the policy,
with the patient being responsible for the balance). ESRD patients under 65
years of age who are covered by an employer group health plan must wait 30
months after commencing dialysis treatments before Medicare becomes the primary
payor. During the first 30 months of treatments, the employer group health plan
is responsible for payment at its negotiated rate or, in the absence of such a
rate, at the Company's usual and customary rates, and the patient is responsible
for deductibles and co-payments, if applicable, under the terms of the employer
group health plan.

If an ESRD patient with an employer group health plan elects home dialysis
training during the first 90 days of dialysis, Medicare becomes the primary
payor after 30 months. If an ESRD patient without an employer group health plan
begins home dialysis training during the first three months of dialysis,
Medicare immediately becomes the primary payor.

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MEDICARE REIMBURSEMENT

The Company is reimbursed by Medicare under a prospective reimbursement
system for chronic dialysis services provided to ESRD patients. Under this
system, the reimbursement rates are fixed in advance and have been adjusted from
time to time by Congress. Although this form of reimbursement limits the
allowable charge per treatment, it provides the Company with predictable and
recurring per treatment revenues and allows the Company to retain any profit
earned. Medicare has established a composite rate set by HCFA that governs the
Medicare reimbursement available for a designated group of dialysis services,
including the dialysis treatment, supplies used for such treatment, certain
laboratory tests and certain medications. The Medicare composite rate is
subject to regional differences based upon certain factors, including regional
differences in wage earnings. Certain other services and items are eligible for
separate reimbursement under Medicare and are not part of the composite rate,
including certain drugs (including EPO), blood (for amounts in excess of three
units per patient per year) and certain physician ordered tests provided to
dialysis patients. Claims for Medicare reimbursement must generally be
presented within 15 to 27 months of treatment depending on the month in which
the service was rendered and for Medicaid secondary reimbursement, if
applicable, within 60 to 90 days after payment of the Medicare claim. The
Company generally submits claims monthly and is usually paid by Medicare within
30 days of the submission. If in the future Medicare were to include in its
composite reimbursement rate any of the ancillary services presently reimbursed
separately, the Company would not be able to seek separate reimbursement for
these services and this would adversely affect the Company's results of
operations to the extent a corresponding increase were not provided in the
Medicare composite rate.

The Company receives reimbursement for outpatient dialysis services
provided to Medicare-eligible patients at rates that are currently between $118
and $138 per treatment, depending upon regional wage variations. The Medicare
reimbursement rate is subject to change by legislation and recommendations by
the Prospective Payment Assessment Commission ("PROPAC"). The Medicare ESRD
reimbursement rate was unchanged from commencement of the program in 1972 until
1983. From 1983 through December, 1990, numerous Congressional actions resulted
in net reduction of the average reimbursement rate from a fixed rate of $138 per
treatment in 1983 to $126 per treatment in 1990. In 1990, Congress increased
the ESRD reimbursement rate, effective January 1, 1991, resulting in an average
ESRD reimbursement rate of $126 per treatment. In 1990, Congress required that
the Department of Health and Human Services ("HHS") and PROPAC study dialysis
costs and reimbursement and make findings as to the appropriateness of ESRD
reimbursement rates. The Company is unable to predict what, if any, future
changes may occur in the rate of reimbursement, or, if made, whether any such
changes will have a material effect on the Company's revenues and net earnings.
On June 1, 1989, the FDA approved the production and sale of EPO, and HCFA
approved Medicare reimbursement for the use of EPO by dialysis patients.

From June 1, 1989 through December 31, 1990, the Medicare ESRD program
reimbursed for EPO at the fixed rate of $40 per administration of EPO, in
addition to the dialysis facility's allowable composite rate for dosages of up
to 9,999 units per administration. For higher dosages, an additional $30 per
EPO administration was allowed. Effective January 1, 1991, the Medicare
allowable prescribed rate for EPO was changed to $11 per 1,000 units, rounded to
the nearest 100 units. Subsequently, legislation was enacted to reduce the
Medicare prescribed rate for EPO by $1 per 1,000 units after December 31, 1993.
The Office of the Inspector General of HHS recently recommended that Medicare
reimbursement for EPO be reduced from $10 to $9 per 1,000 units and HHS has
concurred with this recommendation. However, HHS has not determined whether it
will pursue this change through the rulemaking process. The President's fiscal
1999 budget includes this proposed reduction in EPO reimbursement. There can be
no assurance that the Company can maintain current operating margins in the
future for EPO administrations due to potential reimbursement decreases, or to
potential increases in product costs from its sole manufacturer.

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MEDICAID REIMBURSEMENT

Medicaid programs are state administered programs partially funded by the
federal government. These programs are intended to provide coverage for
patients whose income and assets fall below state defined levels and who are
otherwise uninsured. The programs also serve as supplemental insurance programs
for the Medicare co-insurance portion and provide certain coverages (e.g. oral
medications) that are not covered by Medicare. State regulations generally
follow Medicare reimbursement levels and coverages without any co-insurance
amounts. The State of California, the only state in which the Company currently
operates, requires beneficiaries to pay a monthly share of the cost based upon
levels of income or assets. The Company is a licensed ESRD Medicaid provider in
the State of California.

GOVERNMENT REGULATION

GENERAL

The Company's dialysis operations are subject to extensive governmental
regulations at the federal, state and local levels. These regulations require
the Company to meet various standards relating to, among other things, the
management of facilities, personnel, maintenance of proper records, equipment
and quality assurance programs. The Company's dialysis facilities are subject
to periodic inspection by state agencies and other governmental authorities to
determine if the premises, equipment, personnel and patient care meet applicable
standards. To receive Medicare reimbursement, the Company's dialysis facilities
must be certified by HCFA. The Company's dialysis facilities are so certified.

Any loss by the Company of its various federal certifications, its
authorization to participate in the Medicare or Medicaid programs or its
licenses under the laws of any state or other governmental authority from which
a substantial portion of its revenues is derived or a change resulting from
healthcare reform reducing dialysis reimbursement or reducing or eliminating
coverage for dialysis services would have a material adverse effect on the
Company's business. To date, the Company has not had any difficulty in
maintaining its licenses or its Medicare and Medicaid authorizations. The
healthcare services industry will continue to be subject to intense regulation
at the federal and state levels, the scope and effect of which cannot be
predicted. No assurance can be given that the activities of the Company will
not be reviewed and challenged or that healthcare reform will not result in a
material adverse change to the Company.

FRAUD AND ABUSE

The Company's dialysis operations are subject to the illegal remuneration
provisions of the Social Security Act (sometimes referred to as the "anti-
kickback" statute) and similar state laws that impose criminal and civil
sanctions on persons who solicit, offer, receive or pay any remuneration,
whether directly or indirectly, in return for inducing the referral of a patient
for treatment or the ordering or purchasing of items or services that are paid
for in whole or in part by Medicare, Medicaid or similar state programs.
Violations of the federal anti-kickback statute are punishable by criminal
penalties, including imprisonment, fines or exclusion of the provider from
future participation in the Medicare and Medicaid programs, and civil penalties,
including assessments of $2,000 per improper claim for payment plus twice the
amount of such claim and suspension from future participation in Medicare and
Medicaid. Some state statutes also include criminal penalties. Although the
federal statute expressly prohibits transactions that have traditionally had
criminal implications, such as kickbacks, rebates or bribes for patient
referrals, its language has not been limited to such obviously wrongful
transactions. Court decisions state that, under certain circumstances, the
statute is also violated when one purpose (as opposed to the "primary" or a
"material" purpose) of a payment is to induce referrals. Proposed federal
legislation would expand the federal illegal remuneration laws to include
referrals of any patients regardless of payor source.

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In July, 1991 and in November, 1992, the Secretary of HHS published
regulations that create exceptions or "safe harbors" for certain business
transactions. Transactions that are structured within the safe harbors will be
deemed not to violate the federal illegal remuneration statute. For a business
arrangement to receive the protection of a relevant safe harbor, each and every
element of the safe harbor must be satisfied. Transactions that do not satisfy
all elements of a relevant safe harbor do not necessarily violate the illegal
remuneration statute, but may be subject to greater scrutiny by enforcement
agencies. The Company believes its arrangements with referring physicians are
in material compliance with applicable laws. The Company seeks wherever
practicable to structure its various business arrangements to satisfy as many
safe harbor elements as possible under the circumstances. The Company believes
that its arrangements with referring physicians materially satisfy the relevant
safe harbor requirements. Although the Company has never been challenged under
these statutes and believes it complies in all material respects with these and
all other applicable laws and regulations, there can be no assurance that the
Company will not be required to change its practices or experience a material
adverse effect as a result of any challenge.

The conditions of participation in the Medicare ESRD program mandate that
treatment at a dialysis facility be "under the general supervision of a Director
who is a physician." Generally, the Medical Director must be board eligible or
board certified in internal medicine or pediatrics and have had at least 12
months of experience or training in the care of patients at ESRD facilities.
The Company has by written agreement engaged qualified physicians to serve as
Medical Directors for its facility. These Medical Directors, Victor Gura, M.D.
and Ronald P. Lang, M.D., are also affiliates of the Company. The Company may
also contract with one or more physicians to serve as Assistant or Associate
Medical Directors, or to direct specific programs, such as CAPD training, or to
provide Medical Director services for acute dialysis services provided to
hospitals. The compensation of the Medical Directors and other physicians under
contract may depend upon competitive factors in the local market, the
physician's professional qualifications and responsibilities and the size and
utilization of the facility or relevant program. Although the Company's Medical
Directors are affiliates of the Company, the Company believes that these
compensation arrangements are on terms no less favorable to the Company than
could have been obtained from comparable independent third parties. The
aggregate compensation of the Medical Directors and other physicians under
contract is fixed for period of one year or more by written agreement. Because
in all cases, the Company's Medical Directors and the other physicians under
contract refer patients to the Company's facilities, the federal anti-kickback
statute may apply. The Company believes it is in material compliance with the
anti-kickback statute with respect to its arrangements with these physicians
under contract. Among the safe harbors promulgated by the Secretary of HHS is
one relevant to the Company's arrangements with its Medical Directors and the
other physicians under contract. That safe harbor, generally applicable to
personal services and management contracts, sets forth six requirements. None
of the Company's agreements with its Medical Directors or other physicians under
contract satisfy all of these elements. However, the Company believes that the
Company's agreements with its Medical Directors and other physicians under
contract satisfy the relevant safe harbor requirements.

On July 21, 1994, the Secretary of HHS proposed a rule that the Secretary
said "would modify the original set of safe harbor provisions to give greater
clarity to the rulemaking's original intent." The proposed rule would, among
other things, make changes to the safe harbors on personal services and
management contracts, small entity investment and space rentals. The Company
does not believe that its conclusions with respect to the application of these
safe harbors to its current arrangements as set forth above would change if the
proposed rule were adopted in the form proposed. However, the Company cannot
predict the outcome of the rulemaking process or whether changes in the safe
harbors rule will affect the Company's position with respect to the
anti-kickback statute.

The Company operates its dialysis facilities in the State of California,
which has enacted statutes prohibiting physicians from holding financial
interests in various types of medical facilities to which they refer patients.

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A California statute makes it unlawful for a physician who has, or a member
of whose immediate family has, a financial interest with or in an entity to
refer a person to that entity for laboratory, diagnostic nuclear medicine,
radiation oncology, physical rehabilitation, psychometric testing, home infusion
therapy, or diagnostic imaging goods or services. Under the statute, "financial
interest" includes, among other things, any type of ownership interest, debt,
loan, lease, compensation, remuneration, discount, rebate, refund, dividend,
distribution, subsidy or other form of direct or indirect payment, whether in
money or otherwise, between a physician and the entity to which the physician
makes a referral for the items described above. The statute also prohibits the
entity to which the referral was made from presenting a claim for payment to any
payor for a service furnished pursuant to a prohibited referral and prohibits a
payor from paying for such a service. Violation of the statute by a physician is
a misdemeanor and subjects the physician to civil fines. Violation of the
prohibition on submitting a claim in violation of the statute is a public
offense, subjecting the offender to a fine of up to $15,000 for each violation
and possible action against licensure. The Company does not provide
remuneration to its referring physicians for the administration of services
provided to patients so referred.

The Company believes it is in material compliance with current applicable
laws and regulations. No assurance can be made that in the future the Company's
business arrangements, past or present, will not be the subject of an
investigation or prosecution by a federal or state governmental authority. Such
an investigation or prosecution could result in any, or any combination, of the
penalties discussed above depending upon the agency involved in such
investigation and prosecution. None of the Company's business arrangement with
physicians, vendors, patients or others have been the subject of investigation
by any governmental authority. No assurance can be given that the Company's
activities will not be reviewed or challenged by regulatory authorities. The
Company monitors legislative developments and would seek to restructure a
business arrangement if the Company determined that one or more of its business
relationships place it in material noncompliance with such a statute.

STARK I

Provisions of the Omnibus Budget Reconciliation Act of 1989 ("Stark I")
restrict physician referrals for clinical laboratory services to entities with
which a physician or an immediate family member has a "financial relationship."
The entity is precluded from claiming payment for such services under the
Medicare or Medicaid programs, is liable for the refund of amounts received
pursuant to prohibited claims, can receive civil penalties of up to $15,000 per
service and can be excluded from participation in the Medicare and Medicaid
programs. Because of its broad language, Stark I may be interpreted by HCFA to
apply to the Company's operations. However, regulations interpreting Stark I
have created an exception to its applicability for services furnished in a
dialysis facility if payment for those services is included in the ESRD
composite rate. The Company believes that its compensation arrangements with
its Medical Directors and other physicians under contract are in material
compliance with the provisions of Stark I.

STARK II

Provisions of the Omnibus Budget Reconciliation Act of 1993 ("Stark II")
restrict physician referrals for certain "designated health services" to
entities with which a physician or an immediate family member has a "financial
relationship." The entity is prohibited from claiming payment for such services
under the Medicare or Medicaid programs, is liable for the refund of amounts
received pursuant to prohibited claims, can receive civil penalties of up to
$15,000 per service and can be excluded from participation in the Medicare and
Medicaid programs. Comparable provisions applicable to clinical laboratory
services became effective in 1992. Stark II provisions which may be relevant to
the Company became effective on January 1, 1995.

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Because of its broad language, Stark II may be interpreted by HCFA to apply
to the Company's operations. Consequently, Stark II may require the Company to
restructure certain existing compensation agreements with its Medical Directors,
or, in the alternative, to refuse to accept referrals for designated health
services from such physicians. The Company believes, but cannot assure, that if
Stark II is interpreted to apply to the Company's operations, the Company will
be able to bring its financial relationships with referring physicians into
material compliance with the provisions of Stark II, including relevant
exceptions. If the Company cannot achieve such material compliance, and Stark
II is broadly interpreted by HCFA to apply to the Company, such application of
Stark II could have a material adverse effect on the Company. A broad
interpretation of Stark II to include dialysis services and items provided
incident to dialysis services would apply to the Company's competitors as well.

A "financial relationship" under Stark II is defined as an ownership or
investment interest in, or a compensation arrangement between the physician and
the entity. The Company has entered into compensation agreements with its
principal Medical Directors and other referring physicians, certain of whom are
principal stockholders of the Company. The Company believes that such
arrangements are in material compliance with the anti-kickback statute, Stark II
and the various state statutes.

Stark II includes certain exceptions. A personal services compensation
arrangement is excepted from Stark II prohibitions if: (i) the arrangement is
set out in writing, signed by the parties, and specifies the services covered by
the arrangement, (ii) the arrangement covers all of the services to be provided
by the physician (or an immediate family member of such physician) to the
entity, (iii) the aggregate services contracted for do not exceed those that are
reasonable and necessary for the legitimate business purposes of the
arrangement, (iv) the term of the arrangement is for at least one year, (v) the
compensation to be paid over the term of the arrangement is set in advance, does
not exceed fair market value, and is not determined in a manner that takes into
account the volume or value of any referrals or other business generated between
the parties, (vi) the services to be performed do not involve the counseling or
promotion or a business arrangement or other activity that violates any state or
federal law, and (vii) the arrangement meets such other requirements that may be
imposed pursuant to regulations promulgated by HCFA. The Company believes that
its compensation arrangements with Medical Directors and other physicians under
contract materially satisfy the personal services exception to the Stark II
prohibitions.

Payments made to a lessor by a lessee for the use of premises are excepted
from Stark II prohibitions if: (i) the lease is set out in writing, signed by
the parties, and specifies the premises covered by the lease, (ii) the space
rented or leased does not exceed that which is reasonable and necessary for the
legitimate business purposes of the lease or rental and is used exclusively by
the lessee when being used by the leasee, subject to certain permitted payments
for common areas, (iii) the lease provides for a term of rental or lease for at
least one year, (iv) the rental charges over the term of the lease are set in
advance, are consistent with fair market value, and are not determined in a
manner that takes into account the volume or value of any referrals or other
business generated between the parties, (v) the lease would be commercially
reasonable even if no referrals were made between the parties, and (vi) the
lease meets such other requirements that may be imposed pursuant to regulations
promulgated by HCFA. The Company currently leases its dialysis facilities from
unaffiliated third parties.

For purposes of Stark II, "designated health services" includes: clinical
laboratory services, radiology and other diagnostic services, durable medical
equipment, parenteral and enteral nutrients, equipment and supplies, prosthetics
and prosthetic devices, home health services, outpatient prescription drugs, and
inpatient and outpatient hospital services. The Company believes that the
language and legislative history of Stark II indicate that Congress did not
intend to include dialysis services and the services and items provided incident
to dialysis services within the Stark II prohibitions. Although the Company
does not bill Medicare or Medicaid for hospital inpatient and outpatient
services, the Company's Medical Directors may request or establish a plan of
care that includes dialysis services for hospital inpatients and outpatients
that may be considered a referral to the Company within the meaning of Stark II.

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MEDICARE

Because the Medicare program represents a substantial portion of the
federal budget, Congress takes action in almost every legislative session to
modify the Medicare program for the purpose of reducing the amounts otherwise
payable from the program to health care providers. Legislation or regulations
may be enacted in the future that may significantly modify the ESRD program or
substantially reduce the amount paid for Company services. Further, statutes or
regulations may be adopted which impose additional requirements in order for the
Company to be eligible to participate in the federal and state payment programs.
Such new legislation or regulations may adversely affect the Company's business
operations.

OTHER REGULATIONS

The Company's operations are subject to various state hazardous waste
disposal laws. Those laws as currently in effect do not classify most of the
waste produced during the provision of dialysis services to be hazardous,
although disposal of non-hazardous medical waste is also subject to regulation.
Occupational Safety and Health Administration regulations require employers of
workers who are occupationally subject to blood or other potentially infectious
materials to provide those workers with certain prescribed protections against
bloodborne pathogens. The regulatory requirements apply to all health care
facilities, including dialysis facilities, and require employers to make a
determination as to which employees may be exposed to blood or other potentially
infectious materials and to have in effect a written exposure control plan. In
addition, employers are required to provide or employ hepatitis B vaccinations,
personal protective equipment, infection control training, post-exposure
evaluation and follow-up, waste disposal techniques and procedures, and
engineering and work practice control. Employers are also required to comply
within certain record-keeping requirements. The Company believes it is in
material compliance with the foregoing laws and regulations.

Although the Company believes it complies in all material respects with
current applicable laws and regulations, the health care service industry will
continue to be subject to substantial regulation at the federal and state
levels, the scope and effect of which cannot be predicted by the Company. No
assurance can be given that the Company's activities will not be reviewed or
challenged by regulatory authorities.

COMPETITION

The dialysis industry is fragmented and highly competitive, particularly
in terms of acquisition of existing dialysis facilities and developing
relationships with referring physicians. Competition for qualified
physicians to act as Medical Directors is also high. It is estimated that
there were approximately 3,000 dialysis facilities in the United States at
the beginning of 1997, of which approximately 27% were owned by independent
physicians (down from 37% in 1992), 28% were hospital-based facilities (down
from 33% in 1992), and 45% were owned by seven (7) major multi-facility
dialysis providers (up from 30% in 1992). There are also numbers of health
care providers that have entered or may decide to enter the dialysis
business. Certain of the Company's competitors have substantially greater
financial resources than the Company and may compete with the Company for
acquisitions and development of facilities in markets targeted by the
Company. Competition for acquisitions has increased the cost of acquiring
existing dialysis facilities.

INSURANCE

The Company carries property and general liability insurance, professional
liability insurance and other insurance coverage in amounts deemed adequate by
management. However, there can be no assurance that any future claims will not
exceed applicable insurance coverage. Furthermore, no assurance can be given
that malpractice and other liability insurance will be available at a reasonable
cost or that the Company will be able to maintain adequate levels of malpractice
insurance and other liability insurance in the future. Physicians practicing at
the Company's facilities are required to maintain their own malpractice
insurance. However, the

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Company maintains coverage for the activities of its Medical Directors (but not
for their individual private medical practices).

EMPLOYEES

As of March 30, 1998, the Company had twenty (20) full-time employees,
including two (2) executive, fifteen (15) medical and three (3) administrative
personnel.

The Company intends to hire additional personnel as the development of the
Company's business makes such action appropriate. The loss of the services of
key personnel could have a material adverse effect on the Company's business.
Since there is intense competition for qualified personnel knowledgeable of the
Company's industry, no assurance can be given that the Company will be
successful in retaining and recruiting needed key personnel. The Company does
not have key-man life insurance for any of its employees.

The Company's employees are not represented by a labor union and are not
covered by a collective bargaining agreement. The Company believes that its
employee relations are good.

RISK FACTORS

THIS REPORT MAY BE DEEMED TO CONTAIN FORWARD-LOOKING STATEMENTS WITHIN THE
MEANING OF THE REFORM ACT. FORWARD-LOOKING STATEMENTS IN THIS REPORT OR
HEREAFTER INCLUDED IN OTHER PUBLICLY AVAILABLE DOCUMENTS FILED WITH THE
COMMISSION, REPORTS TO THE COMPANY'S STOCKHOLDERS AND OTHER PUBLICLY AVAILABLE
STATEMENTS ISSUED OR RELEASED BY THE COMPANY INVOLVE KNOWN AND UNKNOWN RISKS,
UNCERTAINTIES AND OTHER FACTORS WHICH COULD CAUSE THE COMPANY'S ACTUAL RESULTS,
PERFORMANCE (FINANCIAL OR OPERATING) OR ACHIEVEMENTS TO DIFFER FROM THE FUTURE
RESULTS, PERFORMANCE (FINANCIAL OR OPERATING) OR ACHIEVEMENTS EXPRESSED OR
IMPLIED BY SUCH FORWARD-LOOKING STATEMENTS. SUCH FUTURE RESULTS ARE BASED UPON
MANAGEMENT'S BEST ESTIMATES BASED UPON CURRENT CONDITIONS AND THE MOST RECENT
RESULTS OF OPERATIONS. THESE RISKS INCLUDE, BUT ARE NOT LIMITED TO, RISKS SET
FORTH HEREIN, EACH OF WHICH COULD ADVERSELY AFFECT THE COMPANY'S BUSINESS AND
THE ACCURACY OF THE FORWARD-LOOKING STATEMENTS CONTAINED HEREIN.

THERE IS A LIMITED PUBLIC MARKET FOR THE COMPANY'S COMMON STOCK. PERSONS
WHO MAY OWN OR INTEND TO PURCHASE SHARES OF COMMON STOCK IN ANY MARKET WHERE THE
COMMON STOCK MAY TRADE SHOULD CONSIDER THE FOLLOWING RISK FACTORS, TOGETHER WITH
OTHER INFORMATION CONTAINED ELSEWHERE IN THE COMPANY'S REPORTS, PROXY STATEMENTS
AND OTHER AVAILABLE PUBLIC INFORMATION, AS FILED WITH THE SECURITIES AND
EXCHANGE COMMISSION, PRIOR TO PURCHASING SHARES OF THE COMMON STOCK:

FINANCIAL RISKS

LACK OF PROFITABILITY AND EXPANSION STRATEGY. The Company generated a loss
of approximately $366,000 during the fiscal year ended December 31, 1997.
Further, as of December 31, 1997, the Company had an accumulated deficit of
approximately $1,073,000. The Company generated income from operations during
the year ended December 31, 1997 of approximately $165,000. However, management
believes that the $366,000 net loss on an overall basis during the year ended
December 31, 1997 substantially resulted from costs of approximately $113,000
related to the Share Exchange Agreement, payments with respect to the Company's
business operations prior to the Share Exchange Agreement and $220,000 related
to a revaluation of a note receivable with respect to the sale of the Company's
business operations prior to the Share Exchange Agreement, each of which the
Company believes to be non-recurring costs. The Company's business strategy
includes the proposed expansion of the Company's business operations by
acquisitions and development of additional dialysis facilities and related
health care service business. There can be no assurance that the Company's
expansion strategy will create operating synergies with any proposed or
development target or result in profitable operations. See "Item 6 -
Management's Discussion and Analysis or Plan of Operation" and "Item 12 -
Certain Relationships and Related Transactions."

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NEED FOR ADDITIONAL CAPITAL FOR EXPANSION. The Company's current business
plan includes a strategy to expand as a provider of dialysis services through
the development of new dialysis facilities and the acquisition of additional
dialysis facilities and other strategically related health care services in
selected markets. The market for such acquisition prospects is highly
competitive and management expects that certain potential acquirors will have
significantly greater capital than the Company. In addition, financing for such
acquisitions or development may not be available to the Company on commercially
reasonable terms. In the event the Company cannot obtain the additional
financing needed to fulfill its acquisition strategy, the Company may be unable
to achieve its proposed expansion strategy. See "Item 6 - Management's
Discussion and Analysis or Plan of Operation."

SECURITIES RISKS

LIMITED PUBLIC MARKET FOR COMMON STOCK. There is currently a limited
public market for the Common Stock. Holders of the Company's Common Stock may,
therefore, have difficulty selling their Common Stock, should they decide to do
so. In addition, there can be no assurances that such markets will continue or
that any shares of Common Stock which may be purchased may be sold without
incurring a loss. Any such market price of the Common Stock may not necessarily
bear any relationship to the Company's book value, assets, past operating
results, financial condition or any other established criteria of value, and may
not be indicative of the market price for the Common Stock in the future.
Further, the market price for the Common Stock may be volatile depending on a
number of factors, including business performance, industry dynamics, news
announcements or changes in general economic conditions. See "Item 5 - Market
for Common Equity and Related Stockholder Matters."

DISCLOSURE RELATING TO LOW-PRICED STOCKS. The Company's Common Stock is
currently listed for trading in the over-the-counter market on the NASD
Electronic Bulletin Board or in the "pink sheets" maintained by the National
Quotation Bureau, Inc., which are generally considered to be less efficient
markets than markets such as NASDAQ or other national exchanges, and which may
cause difficulty in conducting trades and difficulty in obtaining future
financing. Further, the Company's securities are subject to the "penny stock
rules" adopted pursuant to Section 15 (g) of the Securities Exchange Act of
1934, as amended (the "Exchange Act"). The penny stock rules apply to
non-NASDAQ companies whose common stock trades at less than $5.00 per share or
which have tangible net worth of less than $5,000,000 ($2,000,000 if the company
has been operating for three or more years). Such rules require, among other
things, that brokers who trade "penny stock" to persons other than "established
customers" complete certain documentation, make suitability inquiries of
investors and provide investors with certain information concerning trading in
the security, including a risk disclosure document and quote information under
certain circumstances. Many brokers have decided not to trade "penny stock"
because of the requirements of the penny stock rules and, as a result, the
number of broker-dealers willing to act as market makers in such securities is
limited. In the event that the Company remains subject to the "penny stock
rules" for any significant period, there may develop an adverse impact on the
market, if any, for the Company's securities. See "Item 5 - Market for Common
Equity and Related Stockholder Matters."

CONTROL BY PRINCIPAL STOCKHOLDERS. The Company's principal stockholders,
directors and executive officers of the Company and their affiliates control the
voting power of approximately 42.3% of the outstanding Common Stock. As a
result of such Common Stock ownership, such persons will be in a position to
exercise significant control with respect to the affairs of the Company and the
election of directors. See "Item 11 - Security Ownership of Certain Beneficial
Owners and Management."

CERTAIN REGISTRATION RIGHTS. The Company has entered into various
agreements pursuant to which certain holders of the Company's outstanding Common
Stock, who are affiliates of the Company, have been granted the right, under
various circumstances, to have Common Stock that is currently outstanding
registered for sale in accordance with the registration requirements of the
Securities Act upon demand or "piggybacked"

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<PAGE>

to a registration statement which may be filed by the Company. Of the currently
issued and outstanding Common Stock, 800,000 shares may be the subject of future
registration statements pursuant to the terms of such agreements. In addition,
currently outstanding options and warrants issued to certain consultants and
employees to purchase up to 790,928 shares of Common Stock are either the
subject of current registration statements or have certain registration rights.
Any such registration statement may have a material adverse effect on the market
price for the Company's Common Stock resulting from the increased number of free
trading shares of Common Stock in the market. There can be no assurances that
such registration rights will not be enforced or that the enforcement of such
registration rights will not have a material adverse effect on the market price
for the Common Stock. See "Item 12 - Certain Relationships and Related
Transactions."

POTENTIAL ANTI-TAKEOVER EFFECT OF CERTAIN CHARTER PROVISIONS. The
Company's Certificate of Incorporation includes certain provisions which are
intended to protect the Company's stockholders by rendering it more difficult
for a person or persons to obtain control of the Company without cooperation of
the Company's management. These provisions include certain super-majority
requirements for the amendment of the Company's Certificate of Incorporation and
Bylaws. Such provisions are often referred to as "anti-takeover" provisions.
The inclusion of such "anti-takeover" provisions in the Certificate of
Incorporation may delay, deter or prevent a takeover of the Company which the
stockholders may consider to be in their best interests, thereby possibly
depriving holders of the Company's securities of certain opportunities to sell
or otherwise dispose of their securities at above-market prices, or limit the
ability of stockholders to remove incumbent directors as readily as the
stockholders may consider to be in their best interests. See "Item 5 - Market
for Common Equity and Related Stockholder Matters."

SHARES ELIGIBLE FOR FUTURE SALE; ISSUANCE OF ADDITIONAL SHARES. Future
sales of shares of Common Stock by the Company and its stockholders could
adversely affect the prevailing market price of the Common Stock. There are
currently 6,319,358 shares of Common Stock which are free trading shares or are
eligible to have the restrictive legend removed pursuant to Rule 144(k)
promulgated under the Securities Act. Further, 800,000 shares may be the
subject of future registration statements pursuant to the terms of certain
agreements between the Company and certain of its stockholders. Sales of
substantial amounts of Common Stock in the public market, or the perception that
such sales may occur, could have a material adverse effect on the market price
of the Common Stock. Pursuant to its Certificate of Incorporation, the Company
has the authority to issue additional shares of Common Stock and Preferred
Stock. The issuance of such shares could result in the dilution of the voting
power of the currently issued and outstanding Common Stock. See "Item 5 -
Market for Common Equity and Related Stockholder Matters."

FUTURE ISSUANCES OF PREFERRED STOCK. The Company's Certificate of
Incorporation, as amended, authorize the issuance of preferred stock with such
designation, rights and preferences as may be determined from time to time by
the Board of Directors, without stockholder approval. In the event of the
issuance of additional series of preferred stock, the preferred stock could be
utilized, under certain circumstances, as a method of discouraging, delaying or
preventing a change in control of the Company. See "Item 5 - Market for Common
Equity and Related Stockholder Matters."

LACK OF DIVIDENDS ON COMMON STOCK. The Company has paid no dividends on
its Common Stock to date and there are no plans for paying dividends on the
Common Stock in the foreseeable future. The Company intends to retain earnings,
if any, to provide funds for the expansion of the Company's business. See "Item
5 - Market for Common Equity and Related Stockholder Matters."

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GENERAL BUSINESS OPERATIONS RISKS

DEPENDENCE ON MEDICARE, MEDICAID AND OTHER SOURCES OF REIMBURSEMENT. The
Company is reimbursed for dialysis services primarily at fixed rates established
in advance under the Medicare ESRD program. Under this program, once a patient
becomes eligible for Medicare reimbursement, Medicare is responsible for payment
of 80% of the composite rates determined by HCFA for dialysis treatments. Since
1972, qualified patients with ESRD have been entitled to Medicare benefit
regardless of age or financial circumstances. The Company estimates that
approximately 43% of its net operating revenues during its fiscal year ended
December 31, 1997 were funded by Medicare. Since 1983, numerous Congressional
actions have resulted in changes in the Medicare composite reimbursement rate
from a national average of $138 per treatment in 1983 to a low of $125 per
treatment on average in 1986 and to approximately $126 per treatment on average
at present. The Company is not able to predict whether future rate changes will
be made. Reductions in composite rates could have a material adverse effect on
the Company's revenues and net earnings. Furthermore, increases in operating
costs that are subject to inflation, such as labor and supply costs, without a
compensating increase in prescribed rates, may adversely affect the Company's
earnings in the future. The Company is also unable to predict whether certain
services, as to which the Company is currently separately reimbursed, may in the
future be included in the Medicare composite rate. See "Business - Operations -
Sources of Revenue Reimbursement" and "Business - Operations - Medicare
Reimbursement."

Since June 1, 1989, the Medicare ESRD program has provided reimbursement
for the administration to dialysis patients of EPO. EPO is beneficial in the
treatment of anemia, a medical complication frequently experienced by dialysis
patients. Many of the Company's dialysis patients receive EPO. Revenues from
EPO (the substantial majority of which are reimbursed through Medicare and
Medicaid programs) were approximately $648,000, or 21% of medical service
revenues, in fiscal 1997. EPO reimbursement significantly affects the Company's
net income. Medicare reimbursement for EPO was reduced from $11 to $10 per
1,000 units for services rendered after December 31, 1993. The Office of the
Inspector General of HHS recently recommended that Medicare reimbursement for
EPO be reduced from $10 to $9 per 1,000 units and HHS has concurred with this
recommendation. However, HHS has not determined whether it will pursue this
change through the rulemaking process. The President's fiscal 1999 budget
includes this proposed reduction in EPO reimbursement. EPO is produced by a
single manufacturer, and any interruption of supply or product cost increases
could adversely affect the Company's operations. See "Business - Operations -
Medicare Reimbursement."

The State of California, the only state in which the Company currently
operates dialysis facilities, provides Medicaid (or comparable) benefits to
qualified recipients to supplement their Medicare entitlement. The Company
estimates that approximately 19% of its net operating revenues during fiscal
1997 were funded by Medicaid or comparable state programs. The Medicaid
programs are subject to statutory and regulatory changes, administrative ruling,
interpretations of policy and governmental funding restrictions, all of which
may have the effect of decreasing program payments, increasing costs or
modifying the way the Company operates its dialysis business. See "Business -
Operations - Medicaid Reimbursement."

Approximately 38% of the Company's net operating revenues during fiscal
1997 were from sources other than Medicare and Medicaid. These sources include
payments from third-party, non-government payors, at rates that generally exceed
the Medicare and Medicaid rates, and payments from hospitals with which the
Company has contracts for the provision of acute dialysis treatments. Any
restriction or reduction of the Company's ability to charge for such services at
rates in excess of those paid by Medicare would adversely affect the Company's
net operating revenues and net income. The Company is unable to quantify or
predict the degree, if any, of the risk of reductions in payments under these
various payment plans. The Company is a party to non-exclusive agreements with
certain third-party payors (one of which accounted for approximately 17% of the
Company's net operating revenues in fiscal 1997), and termination of such third-

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<PAGE>

party agreements could have an adverse effect on the Company. See "Business -
Operations - Sources of Revenue Reimbursement."

OPERATIONS SUBJECT TO GOVERNMENT REGULATION. The Company is subject to
extensive regulation by both the federal government and the states in which the
Company conducts its business. The Company is subject to the illegal
remuneration provisions of the Social Security Act and similar state laws, which
impose civil and criminal sanctions on persons who solicit, offer, receive or
pay any remuneration, directly or indirectly, for referring a patient for
treatment that is paid for in whole or in part by Medicare, Medicaid or similar
state programs. In July, 1991 and November, 1992, the federal government
published regulations that provide exceptions or "safe harbors" for certain
business transactions. Transactions that are structured within the safe harbors
are deemed not to violate the illegal remuneration provisions. Transactions
that do not satisfy all elements of a relevant safe harbor do not necessarily
violate the illegal remuneration statute, but may be subject to greater scrutiny
by enforcement agencies. The Company believes that the arrangements between the
Company and the Company's Medical Directors fall within the protection afforded
by these safe harbors. Although the Company has never been challenged under
these statutes and believes it complies in all material respects with these and
all other applicable laws and regulations, there can be no assurance that the
Company will not be required to change its practices or relationships with its
Medical Directors or that the Company will not experience material adverse
effects as a result of any such challenge.

The Omnibus Budget Reconciliation Act of 1989 includes certain provisions
("Stark I") that restrict physician referrals for clinical laboratory services
to entities with which a physician or an immediate family member has a
"financial relationship." In August, 1995, HCFA published regulations
interpreting Stark I. The regulations specifically provide that services
furnished in an ESRD facility that are included in the composite billing rate
are excluded from the coverage of Stark I. The Company believes that the
language and legislative history of Stark I indicate that Congress did not
intend to include laboratory services provided incidental to dialysis services
within the Stark I prohibition. Violations of Stark I are punishable by civil
penalties which may include exclusion or suspension of a provider from future
participation in Medicare and Medicaid programs and substantial fines. Due to
the breadth of the statutory provisions, it is possible that the Company's
practices might be challenged under this law. Any such interpretation of Stark
I would apply to the Company's competitors as well.

The Omnibus Budget Reconciliation Act of 1993 includes certain provisions
("Stark II") that restrict physician referrals for certain "designated health
services" to entities with which a physician or an immediate family member has a
"financial relationship." The Company believes that the language and
legislative history of Stark II indicate that Congress did not intend to include
dialysis services and the services and items provided incident to dialysis
services within the Stark II prohibitions. Violations of Stark II are punishable
by civil penalties, which may include exclusion or suspension of the provider
from future participation in Medicare and Medicaid programs and substantial
fines. Due to the breadth of the statutory provisions and the absence of
regulations or court decisions addressing the specific arrangements by which the
Company conducts its business, it is possible that the Company's practices might
be challenged under these laws. A broad interpretation of Stark II to include
dialysis services and items provided incident to dialysis services would apply
to the Company's competitors as well.

A California statute that became effective January 1, 1995 makes it
unlawful for a physician who has, or a member of whose immediate family has, a
financial interest with or in an entity to refer a person to that entity for,
among other services, laboratory services. The Company does not believe that
the statute is intended to apply to laboratory services that are provided
incidentally to dialysis services or that the Company's practices violate the
statute. If the Company's practices were challenged under this law, any such
interpretation would apply to the Company's competitors as well.

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<PAGE>

A number of proposals for health care reform have been made in recent
years, some of which have included radical changes in the health care system.
Health care reform could result in material changes in the financing and
regulation of the health care business, and the Company is unable to predict the
effect of such changes on its future operations. It is uncertain what
legislation on health care reform, if any, will ultimately be implemented or
whether other changes in the administration or interpretation of governmental
health care programs will occur. There can be no assurance that future health
care legislation or other changes in the administration or interpretation of
governmental health care programs will not have a material adverse effect on the
results of operations of the Company. See "Business - Operations - Medicare
Reimbursement" and "Business - Governmental Regulation."

COMPETITION. The Company directly and indirectly competes with other
businesses, including businesses in the dialysis industry. In many cases, these
competitors are larger and more firmly established than the Company. In
addition, many of such competitors have greater marketing and development
budgets and greater capital resources than the Company. Accordingly, there can
be no assurance that the Company will be able to achieve and maintain a
competitive position in the Company's industry. The dialysis industry is
fragmented and highly competitive, particularly in terms of acquisitions of
existing dialysis facilities and developing relationships with referring
physicians. Certain of the Company's competitors have substantially greater
financial resources than the Company and may compete with the Company for
acquisitions of facilities in markets targeted by the Company. Competition for
acquisitions has increased the cost of acquiring existing dialysis facilities.
See "Business - Competition."

DEPENDENCE ON PHYSICIAN REFERRALS AND REFERRALS FROM AFFILIATES. The
Company's facilities are dependent upon referrals of ESRD patients for
treatments by physicians specializing in nephrology and practicing in the
communities served by the Company's dialysis facilities. As is generally true
in the dialysis industry, at the Company's facility, one or a few physicians
account for all or a significant portion of the patient referral base. The loss
of one or more key referring physicians could have a material adverse effect on
the operations of the Company. The Company primarily receives referrals of its
ESRD patients from affiliates of the Company, who have interests in an
affiliated entity which is not a subsidiary of the Company. If such interests
are deemed to violate applicable federal or state law, such physicians may be
forced to dispose of their ownership interests. The Company cannot predict the
effect such dispositions would have on its business. See "Risk Factors -
Operations Subject to Government Regulation," "Business - Operations - Physician
Relationships" and "Business - Governmental Regulation."

INSURANCE AND POTENTIAL LIABILITY. The Company maintains, and intends to
continue to maintain, insurance, including insurance relating to personal injury
and medical professional liability insurance in amounts the Company considers
adequate and customary for the industry. The Company has never had a claim
asserted against it notwithstanding the extensive dialysis treatments it has
provided over the years. Nevertheless, a partially or wholly uninsured claim
against the Company, if successful and of sufficient magnitude, could have a
material adverse effect on the Company. There can be no assurance that such
insurance will continue to be available to the Company in the future, or if so,
that it will provide adequate coverage against potential liabilities or that a
liability claim will not have a material adverse effect on the Company. See
"Business - Insurance."

DEPENDENCE ON KEY PERSONNEL. The Company is dependent upon the skills of
its management team. There is strong competition for qualified personnel in the
dialysis industry, and the loss of key personnel or an inability to continue to
attract, retain and motivate key personnel could adversely affect the Company's
business. There can be no assurances that the Company will be able to retain
its existing key personnel or to attract additional qualified personnel. The
Company does not have key-man life insurance on any employees of the Company.
See "Item 9 - Directors, Executive Officers, Promoters and Control Persons;
Compliance with Section 16(a) of the Exchange Act."

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<PAGE>

LIMITATIONS ON DIRECTOR LIABILITY. The Company's Certificate of
Incorporation provides, as permitted by governing Delaware law, that a director
of the Company shall not be personally liable to the Company or its stockholders
for monetary damages for breach of fiduciary duty as a director, with certain
exceptions. In addition, the Company's Certificate of Incorporation and Bylaws
provide for mandatory indemnification of directors and officers to the fullest
extend permitted by Delaware law. Further, the Company has adopted certain
forms of indemnification agreements which may be entered into with the Company's
officers and directors. These provisions and agreements may discourage
stockholders from bringing suit against a director for breach of fiduciary duty
and may reduce the likelihood of derivative litigation brought by stockholders
on behalf of the Company against a director. See "Item 10 - Executive
Compensation - Indemnification of Officers and Directors."

TRANSACTIONS WITH AFFILIATES; CONFLICTS OF INTEREST. The Company has
entered into certain financial agreements with certain affiliates. Further, the
Company is dependent on referrals of ESRD patients from such affiliates.
Management of the Company believes that these agreements were negotiated at
arms' length. However, the enforcement of these agreements may create conflicts
of interests in the event of a dispute between the Company and any such parties.
Although management of the Company intends to use its best efforts to mitigate
any such conflicts of interests, there can be no assurances that management of
the Company will be able to mitigate such conflicts of interest successfully.
See "Item 12 - Certain Relationships and Related Transactions."

ITEM 2. DESCRIPTION OF PROPERTIES.

The Company leases office space located at 1835 South La Cienega Boulevard,
Suite 235, Los Angeles, California 90035, which serves as the Company's
principal executive offices and as a dialysis facility in the Company's business
operations. The Company pays $10,500 per month on a lease which expires on May
31, 2007.

The Company leases office space located at 5901 West Olympic Boulevard,
Suite 109, Los Angeles, California 90036, which facility serves as a dialysis
facility in the Company's business operations. The Company pays a monthly rent
of approximately $6,760 on a lease which expires on August 31, 2000. See "Item
3 - Legal Proceedings" and "Item 12 - Certain Relationships and Related
Transactions."

As of May 17, 1996, the Company acquired that certain real property (the
"Real Property") located at 6000 San Vicente Boulevard, Los Angeles, California,
for a purchase price of $2,055,000, as adjusted for certain credits to the
Company with respect to the purchase price. The Real Property includes the
improvement of a hospital facility. The Real Property is subject to three (3)
deeds of trust in the aggregate amount of $2,025,000. As of December 31, 1997,
the principal amount of this obligation was approximately $1,760,000. See "Item
6 - Management's Discussion and Analysis or Plan of Operation."

The loans on the Real Property are personally guaranteed by Ehud Barkai,
who is not an affiliate of the Company, and by Drs. Gura and Lang. The Company
has entered into an agreement (the "Agreement to Perform Loan Covenants") with
Mr. Barkai to perform the covenants, conditions and restrictions required of the
Company under the loan agreements with respect to the acquisition of the Real
Property. The Company has granted to Mr. Barkai's affiliated corporation, Aegis
Medical Systems, Inc. ("Aegis"), an all inclusive deed of trust ("AITD"), with
an assignment of rents, issues and profits and a power of sale to secure the
Company's agreement to repay the loans on the Real Property which are guaranteed
by Mr. Barkai.

The Company also has entered into a master lease agreement (the "Master
Lease") with Aegis for the Real Property at an annual rental rate of $1,000.
The Master Lease is subject to a written triple net lease dated January 16,
1980, with Avalon Memorial Hospital ("Avalon") as the current tenant in
possession. The term of the lease with Avalon extends through December 31,
1999, with options to extend the lease by Avalon

20
<PAGE>

for two (2) additional five (5) year terms. The term of the Master Lease
extends through May 31, 2026. However, the Master Lease may be terminated
earlier upon the cancellation, exoneration or release of any guarantees by Aegis
or Mr. Barkai with respect to loan obligations secured by the Real Property. In
connection with the Agreement to Perform Loan Covenants, Barkai has agreed that
if the net rents arising from the Real Property are paid to Aegis in an amount
or amounts sufficient to pay all amounts due under such loans as they became
due, the Company will be excused from its duty to Barkai of payment under such
loans, but only to that extent. Currently, the aggregate monthly amount due
under such loans is approximately $20,290 and the current monthly rental payment
of Avalon is approximately $22,690.

ITEM 3. LEGAL PROCEEDINGS.

LEASE LITIGATION. In November, 1997, the Company settled certain
litigation relating to its business premises at 5901 West Olympic Boulevard,
Suite 109, Los Angeles, CA 90036 ("Suite 109"). Prior to the settlement of such
litigation, the Company subleased Suite 109 from Medipace, an affiliate of the
Company, but made lease payments directly to the master lessor, a non-affiliated
third party. The master lessor had alleged that Medipace was in default on its
rental obligation pursuant to a lease agreement between Medipace and the master
lessor, which included the office space constituting Suite 109. In connection
with the settlement, the Company entered into a new lease for Suite 109 directly
with the master lessor. The Company did not make any payments to the master
lessor in connection with the settlement of the litigation. See "Item 11 -
Security Ownership of Management and Certain Beneficial Owners" and "Item 12 -
Certain Relationships and Related Transactions."

CHAPTER 11 REORGANIZATION. On July 14, 1993, the Company and its then
existing subsidiaries filed a voluntary petition in the United States Bankruptcy
Court for the District of Colorado (the "Bankruptcy Court") seeking to
reorganize under Chapter 11 of the United States Bankruptcy Code ("Bankruptcy
Code") in connection with the Company's prior business operations, at a time
when the Company's name was "Sargent, Inc." ("Sargent"). On August 11, 1994, the
Bankruptcy Court confirmed the Plan of Reorganization that Sargent had filed for
Chapter 11 reorganization. The Plan of Reorganization became effective as of
July 25, 1994. The Bankruptcy Proceeding was dismissed by the Bankruptcy Court
on September 5, 1997.

The Share Exchange Agreement between LACD and Sargent became effective on
May 11, 1996. The bankruptcy proceeding does not relate to the operations of
LACD, which became a wholly-owned subsidiary of the Company in connection with
the Share Exchange Agreement, or the Company's current business operations or
management.

Sargent and its then existing subsidiaries operated as debtor-in-possession
("DIP") under the Bankruptcy Code from July 14, 1993 to July 25, 1994 in
accordance with the Bankruptcy Court's orders issued from time to time. As a
DIP, Sargent was authorized to operate its business, but could not engage in
transactions outside of the ordinary course of business without approval, after
notice and hearing, of the Bankruptcy Court. The bankruptcy proceedings of
Sargent and its subsidiaries were consolidated for administrative purposes only.
Each debtor maintained its own separate bankruptcy case. Pursuant to the
Bankruptcy Code, a committee of Sargent's unsecured creditors was appointed.
Among other things, that committee reviewed proposed business transactions out
of the ordinary course of business and negotiated with Sargent concerning a plan
of reorganization. The unsecured creditors were paid in full on January 11,
1995.

Pursuant to the Plan of Reorganization, pre-existing equity interests of
Sargent were significantly diminished, Sargent's obligations to certain
pre-petition creditors were restricted and certain creditors which has provided
debtor-in-possession financing and/or management services to Sargent's Common
Stock in exchange for their credits and/or management services.

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<PAGE>

Except as set forth above, the Company is not a party to any material
litigation and is not aware of any pending or threatened litigation that could
have a material adverse effect on the Company's business, operating results or
financial condition.

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

During the year ended December 31, 1997, the Company's stockholders did not
adopt any resolutions at a meeting or by written consent.

PART II

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

As of April 10, 1998, the authorized capital stock of the Company consisted
of 50,000,000 shares of common stock, par value $0.01 per share (the "Common
Stock") and 5,000,000 shares of preferred stock, par value $0.01 per share (the
"Preferred Stock"). As of April 10, 1998, there were issued and outstanding
9,688,523 shares of Common Stock and options and warrants to purchase 950,928
shares of Common Stock, of which 454,440 are exercisable as of the date of this
Report. Further, the Company has issued and outstanding warrants to purchase up
to 500,000 shares of Common Stock and may issue up to an additional 4,210,644
shares of Common Stock to certain affiliates of the Company based on future
financial performance by the Company during the fiscal years ending December 31,
1998 to 2001. See "Item 12 - Certain Relationships and Related Transactions."

The Company's Common Stock is listed for trading in the over-the-counter
market and is quoted on the NASD Bulletin Board or in the "pink sheets"
maintained by the National Quotation Bureau, Inc. under the symbol "NQCI." The
Company's Common Stock has a very limited trading history.

The following table sets forth quotations for the bid and asked prices
for the Common Stock for the periods indicated below, based upon quotations
between dealers, without adjustments for stock splits, dividends, retail
mark-ups, mark-downs or commissions, and therefore, may not represent actual
transactions:

<TABLE>
<CAPTION>
BID PRICES ASKED PRICES
---------- ------------
HIGH LOW HIGH LOW
---- --- ---- ---
<S> <C> <C> <C> <C>
YEAR ENDED DECEMBER 31, 1996

1st Quarter . . . . . . 5/32 5/32 2 2
2nd Quarter . . . . . . 1/2 5/32 2 2
3rd Quarter . . . . . . 2 1/4 4 9/16
4th Quarter . . . . . . 3/4 1/4 7/8 13/32

YEAR ENDED DECEMBER 31, 1997

1st Quarter . . . . . . 2 5/32 11/16 2 7/32 13/16
2nd Quarter . . . . . . 1 15/32 9/16 1 11/16 5/8
3rd Quarter . . . . . . 1 5/8 5/16 1 21/32 3/8
4th Quarter . . . . . . 1 1/2 29/32 1 19/32 15/16

YEAR ENDING DECEMBER 31, 1998

1st Quarter . . . . . . 1 1/4 15/32 1 5/16 17/32
</TABLE>

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<PAGE>

The bid and asked sales prices of the Common Stock, as traded in the
over-the-counter market, on April 10, 1998, were approximately $0.97 and $1.03,
respectively. These prices are based upon quotations between dealers, without
adjustments for retail mark-ups, mark-downs or commissions, and therefore may
not represent actual transactions.

No dividend has been declared or paid by the Company since inception. The
Company does not anticipate that any dividends will be declared or paid in the
future.

The transfer agent for the Company is American Securities Transfer, Inc.,
938 Quail Street, Suite 101, Denver, Colorado 80215, (303) 234-5300.

CERTAIN ANTI-TAKEOVER PROCEDURAL REQUIREMENTS

The Company's Certificate of Incorporation adopts certain measures which
are intended to protect the Company's stockholders by rendering it more
difficult for a person or persons to obtain control of the Company without
cooperation of the Company's management. These measures include the potential
implementation of certain supermajority requirements for the amendment of the
Company's Certificate of Incorporation and Bylaws. Such measures are often
referred to as "anti-takeover" provisions.

The inclusion of such "anti-takeover" provisions in the Certificate of
Incorporation may delay, deter or prevent a takeover of the Company which the
stockholders may consider to be in their best interests, thereby possibly
depriving holders of the Company's securities of certain opportunities to sell
or otherwise dispose of their securities at above-market prices, or limit the
ability of stockholders to remove incumbent directors as readily as the
stockholders may consider to be in their best interests.

BUSINESS COMBINATIONS WITH SUBSTANTIAL STOCKHOLDERS. Delaware law contains
a statutory provision which is intended to curb abusive takeovers of Delaware
corporations. Section 203 of the Delaware General Corporation Law addresses the
problem by preventing certain business combinations of the corporation with
interested stockholders within three years after such stockholders become
interested. Section 203 provides, with certain exceptions, that a Delaware
corporation may not engage in any of a broad range of business combinations with
a person or an affiliate, or associate of such person, who is an "interested
stockholder" for a period of three (3) years from the date that such person
became an interested stockholder unless: (i) the transaction resulting in a
person becoming an interested stockholder, or the business combination, is
approved by the Board of Directors of the corporation before the person becomes
an interested stockholder; (ii) the interested stockholder acquired 85% or more
of the outstanding voting stock of the corporation in the same transaction that
makes such person an interested stockholder (excluding shares owned by persons
who are both officers and directors of the corporation, and shares held by
certain employee stock ownership plans); or (iii) on or after the date the
person becomes an interested stockholder, the business combination is approved
by the corporation's board of directors and by the holders of at least 66-2/3%
of the corporation's outstanding voting stock at an annual or special meeting,
excluding shares owned by the interested stockholder. Under Section 203, an
"interested stockholder" is defined as any person who is: (i) the owner of
fifteen percent (15%) or more of the outstanding voting stock of the corporation
or (ii) an affiliate or associate of the corporation and who was the owner of
fifteen percent (15%) or more of the outstanding voting stock of the corporation
at any time within the three (3) year period immediately prior to the date on
which it is sought to be determined whether such person is an interested
stockholder.

SUPERMAJORITY REQUIRED FOR AMENDMENT. In order to insure that the
substantive provisions set forth in the Certificate of Incorporation are not
circumvented by the amendment of such Certificate of Incorporation pursuant to a
vote of a majority of the voting power of the Company's outstanding shares, the
Certificate of Incorporation also provides that any amendment, change or repeal
of the provisions contained in the Certificate of Incorporation with respect to:
(i) the Company's capitalization, (ii) amendment of the Bylaws,

23
<PAGE>

(iii) determination by the Board of the number of directors, (iv) filling Board
vacancies, (v) the requirement that stockholder action be taken at an annual or
special meeting, (vi) requirements with respect to appraisal rights for
stockholders, or (vii) the amendment of the provision imposing such
supermajority requirement for amendment of the Certificate of Incorporation,
shall require the affirmative vote of the holders of at least 66 2/3% of the
voting power of all outstanding shares of voting stock, including, in any
instance where the repeal or amendment is proposed by an interested stockholder
(as such term is defined in Section 203 of the Delaware General Corporation Law)
or its affiliate or associate, the affirmative vote of a majority of the voting
power of all outstanding shares of voting stock held by persons other than such
interested stockholder or its affiliates or associates. However, only the
affirmative vote of the majority of the voting power of all outstanding shares
of voting stock is required if the amendment of any of the foregoing provisions
is approved by a majority of the Continuing Directors (as such term is defined
in the Certificate of Incorporation).

The Certificate of Incorporation permits the Board of Directors to adopt,
amend or repeal any or all of the Company's bylaws without stockholder action
and provide that such bylaws may also be adopted, amended or repealed by its
stockholders, but only if approved by holders of 66 2/3% or more of the voting
power of all outstanding shares of voting stock, including in any instance in
which the alteration is proposed by an interested stockholder or by affiliates
or associate of any interested stockholder, the affirmative vote of the holders
of at least a majority of voting power of all outstanding shares of voting stock
held by persons other than the interested stockholder who proposed such action.
However, the only stockholder vote required if the modification is approved by a
majority of the continuing directors is the affirmative vote of the majority of
the voting power of all outstanding shares of voting stock.

ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.

THIS REPORT, INCLUDING THE DISCLOSURES BELOW, CONTAINS CERTAIN
FORWARD-LOOKING STATEMENTS THAT INVOLVE SUBSTANTIAL RISKS AND UNCERTAINTIES.
WHEN USED HEREIN, THE TERMS "ANTICIPATES," "EXPECTS," "ESTIMATES," "BELIEVES"
AND SIMILAR EXPRESSIONS, AS THEY RELATE TO THE COMPANY OR ITS MANAGEMENT, ARE
INTENDED TO IDENTIFY SUCH FORWARD-LOOKING STATEMENTS. THE COMPANY'S ACTUAL
RESULTS, PERFORMANCE OR ACHIEVEMENTS MAY DIFFER MATERIALLY FROM THOSE EXPRESSED
OR IMPLIED BY SUCH FORWARD-LOOKING STATEMENTS. FACTORS THAT COULD CAUSE OR
CONTRIBUTE TO SUCH MATERIAL DIFFERENCES INCLUDE THE FACTORS DISCLOSED IN THE
"RISK FACTORS" SECTION OF THIS REPORT, WHICH READERS OF THIS REPORT SHOULD
CONSIDER CAREFULLY.

OVERVIEW OF PRESENTATION. On May 11, 1996, the Company entered into the
Share Exchange Agreement with LACD, Victor Gura, M.D., Avraham H. Uncyk, M.D.
and Ronald P. Lang, M.D., pursuant to which the Company issued an aggregate of
4,234,128 shares of the Company's common stock, par value $0.01 per share (the
"Common Stock") in exchange for 100% of the issued and outstanding shares of
common stock of LACD. In connection with the closing of the Share Exchange
Agreement, LACD became the principal operating subsidiary of the Company. On
May 28, 1996, the Company changed its name to "National Quality Care, Inc."

Since approximately May, 1996, the focus of the Company's principal
business operations has been the providing of high-quality integrated dialysis
services for patients suffering from ESRD.

The consolidated financial statements of the Company included in this
Report have been presented, for accounting purposes, as a recapitalization of
LACD, with LACD as the acquiror of the Company. For purposes of clarity in this
section, the term "Company" reflects the financial condition and results of
operations of LACD and the combined operations of the parent holding company and
LACD following the completion of the Share Exchange Agreement.

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<PAGE>

RESULTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 1997 AND DECEMBER
31, 1996. Total income for the year ended December 31, 1997 increased
approximately 6% to $3,424,691 from $3,218,623 for the year ended December 31,
1996. Medical service revenue for the year ended December 31, 1997 increased
approximately 3% to $3,152,991 from $3,050,346 for the year ended December 31,
1996. This increase primarily resulted from an increase in volume of inpatient
and home dialysis care, which was partially offset by lower rates charged by the
Company for inpatient treatment. In addition, the Company received rental
income of $271,700 during the year ended December 31, 1997 from certain real
property owned by the Company in Los Angeles, California utilized by a
non-affiliate as a hospital facility. See "Item 2 - Description of Properties."

Total operating expenses during the year ended December 31, 1997 increased
16% to $3,260,138 from $2,814,117 during the year ended December 31, 1996.
Total operating expenses include: (i) cost of medical services, (ii) selling,
general and administrative expenses, (iii) depreciation and amortization, and
(iv) rental expenses, as follows:

Cost of medical services during the year ended December 31, 1997
increased approximately 22% to $2,171,005 from $1,783,468 during the year
ended December 31, 1996. This increase primarily resulted from the increase
in medical supplies utilized in the Company's business operations due to the
corresponding increase in volume of inpatient and home dialysis care. Cost
of medical services primarily consist of two (2) categories: (i) medical
services and supplies, and (ii) outside services. Medical services and
supplies for the year ended December 31, 1997 increased approximately 20% to
$1,659,095 from $1,387,390 for the year ended December 31, 1996. The
increase was primarily due to rising usage of medical supplies prescribed due
to increased patient volume, the leasing of replacement equipment in the
Company's dialysis facilities and the acquisition of new equipment for a
dialysis facility opened by the Company in September, 1997, which in turn
resulted in higher revenues. However, the Company's new dialysis facility is
currently operating below break-even because the facility has been in
operation only since September, 1997 and has not reached a patient count
sufficient to generate profitable operations. Outside services for the year
ended December 31, 1997 increased approximately 11% to $373,335 from $336,925
for the year ended December 31, 1996. The increase was primarily
attributable to a larger volume of inpatient services.

Selling, general and administrative expenses during the year ended December
31, 1997 increased approximately 1% to $951,946 from $941,882 during the year
ended December 31, 1996.

Depreciation and amortization during the year ended December 31, 1997
increased to $70,617 from $47,464 during the year ended December 31, 1996. This
increase primarily related to the acquisition of new equipment through
capitalized leases.

Rental expenses during the year ended December 31, 1997 increased to
$66,570 from $41,303, during the year ended December 31, 1996. This increase
related to the first full year of operations with respect to the hospital
building purchased by the Company in May, 1996. See "Item 2 - "Description of
Properties."

Other expenses decreased during the year ended December 31, 1997 to
$529,295 from $1,108,359 during the year ended December 31, 1996. This
decrease in other expenses between the respective years resulted primarily from:
(i) certain non-recurring merger costs of $997,580 in 1996 related to the Share
Exchange Agreement, including legal, accounting and consulting fees, (ii)
increased interest income of $79,086 in 1997 from $19,436 in 1996, which were
partially offset by increased interest expenses of $210,049 in 1997 from
$143,048 in 1996, primarily arising from interest expenses relating to the
mortgage on the hospital facility, (iii) certain non-recurring expenses of
$113,250 in 1997 related to the Company's business operations prior to the Share
Exchange Agreement, and (iv) a valuation allowance of $220,000 on a note
receivable.

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<PAGE>

As a result of the foregoing, the Company experienced a net loss of
$366,342 during the year ended December 31, 1997, as compared to a net loss of
$706,253 during the year ended December 31, 1996. The Company experienced
income from operations during each of the years ended December 31, 1997 and
1996. However, income from operations during the year ended December 31, 1997
decreased to $164,553 from $404,506 during the year ended December 31, 1996.
This decrease in income from operations primarily resulted from lower rates
charged by the Company for inpatient treatment, expenses incurred following the
completion of the new dialysis facility in September, 1997 and from continuing
professional fees. Although the Company believes that some of the expenses
related to the new dialysis facility may not be recurring expenses, there can be
no assurances that comparable amounts of expenses may not arise in connection
with the development of the Company's proposed business plan, particularly as
may relate to any financings, acquisitions or development which may occur.
However, the Company's proposed business plan contemplates the growth of
revenues in connection with the Company's expansion strategy. There can be no
assurance that the Company's acquisition strategy will create operating
synergies with any proposed acquisitions or development target or result in
profitable operations. See "Liquidity and Capital Resources."

As of December 31, 1997, the Company had net operating loss carryforwards
totalling approximately $4,200,000 and $1,700,000 for federal and state income
tax purposes, respectively, which are available to offset future federal taxable
income, if any, through 2013. The federal and state net operating loss
carryforwards include $3,700,000 and $1,500,000 respectively, of losses, which
are limited by IRC Section 382. However, such limitations have not yet been
determined. Utilization of the Company's net operating loss may be subject to
limitation under certain circumstances.

LIQUIDITY AND CAPITAL RESOURCES. At December 31, 1997, the ratio of
current assets to current liabilities was 0.54 to 1.00 compared to 0.46 to 1.00
at December 31, 1996.

The Company has historically financed its operations through the use of
working capital and loans. The Company's cash flow needs for the year ended
December 31, 1997 were primarily provided from operations. The Company had a
working capital deficit of approximately $395,000 at December 31, 1997. A note
receivable of $865,000 was adjusted to $642,000 on the Company's financial
statements and classified as a long-term asset due to its maturity in February,
1999. The working capital deficit at December 31, 1996 was approximately
$615,000. Management believes that, as of December 31, 1997, and for the
foreseeable future, the Company will be able to finance costs of current levels
of operations from revenues, the collection of the note receivable and the
exercise of outstanding options and warrants, including the payment of the
obligations on the hospital facility.

Cash and cash equivalents were $39,220 as of December 31, 1997, as compared
to $121,812 as of December 31, 1996. This decrease was primarily attributable
to the expenditure of funds in connection with the opening of the new dialysis
facility in September, 1997.

As of December 31, 1997, the Company had borrowings in the aggregate amount
of $1,933,677, of which short-term borrowings accounted for $63,483. As of
December 31, 1996, the Company had total borrowings of $2,185,219, of which
short-term borrowings accounted for $380,414. The decrease relates to the
conversion of a note payable in the principal amount of $200,000, plus accrued
interest of $10,000 thereon, related to the acquisition of the hospital
facility, into 200,000 shares of Common Stock, and the repayment of a working
capital loan.

As of October 18, 1996, the Company completed the sale (the "Warehouse
Sale") of certain real estate and other assets, related to the Company's prior
business operation of a potato warehouse (the "Warehouse Assets") in Monte
Vista, Colorado, to certain former affiliates of the Company for the purchase
price of approximately $1,415,000. The purchase price was paid in the form of
$550,000 in cash and two (2) promissory notes in the aggregate amount of
approximately $865,000 (subject to certain adjustments), and secured by a pledge
of 648,201 shares of Common Stock.

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<PAGE>

As of April 15, 1997, the obligors on the promissory notes assigned 630,206
of the shares of Common Stock to a third party, who executed a promissory note
payable to the Company in the principal amount of approximately $865,000,
bearing interest at the rate of 8% PER ANNUM, and due and payable on or before
February 23, 1999. Further, the assignee of the shares agreed to pay the
additional sum of approximately $135,000 on the due date of the $865,000
promissory note as additional consideration for the Company's agreement to
consent to the assignment of the 630,206 shares. The promissory notes executed
by the initial obligors were cancelled. Through December 31, 1997, the Company
received $76,800, including principal and accrued interest, on such obligations
through the liquidation of 60,000 of the pledged shares of Common Stock. The
obligations owing to the Company on these amounts by the assignee of shares are
secured by the 570,206 shares of Common Stock, which are currently held in
escrow. Management believes that the note receivable will be collected through
the continuing sale of the shares held in escrow. However, there can be no
assurances that all amounts of the obligations will be recovered from the
liquidation of such shares or from other assets of the obligor. See "Item 11-
Security Ownership of Certain Beneficial Owners and Management" and "Item 12 -
Certain Relationships and Related Transactions."

Prior to and in connection with the closing of the Share Exchange
Agreement, management of the Company determined to change the Company's business
operations to the Company's current business and discontinue the prior potato
harvesting related business. As of May 11, 1996, the Company entered into a
joint venture with Vern Tharp, a former director and officer of the Company, to
manage, care and sublease two (2) potato harvesters which relate to certain of
the Company's prior business operations. In April, 1998, the Company paid
$60,000 to the lessor of the potato harvester in full satisfaction of amounts
owing on the potato harvester lease and $10,500 to Mr. Tharp, and the Company
dissolved the joint venture.

The Company has a demand note receivable from Medipace, an affiliate of the
Company's principal stockholders and two (2) of the Company directors and
executive officers, in the principal amount of $121,151, dated September 17,
1997, bearing interest at the rate of 8% PER ANNUM. As of December 31, 1997,
the principal amount of the promissory note remaining payable was $116,622. See
"Item 12 - Certain Relationships and Related Transactions."

The Company's current business plan includes a strategy to expand as a
provider of dialysis services through the development of new dialysis facilities
and the acquisition of additional facilities and other strategically related
health care services in selected markets. The market for such acquisition
prospects is highly competitive and management expects that certain potential
acquirors will have significantly greater capital than the Company. Although
the Company experienced a net loss of $366,342 during the year ended December
31, 1997, the Company generated income of $164,553 from operations during the
corresponding period. The Company has suffered recurring losses and had a
working capital deficit of approximately $395,000 at December 31, 1997. The
1997 net loss was partially attributable to the opening of a new dialysis
facility. The Company has also entered into an agreement to acquire an
additional dialysis facility, which, although currently operates on a below
break-even level, the Company expects will generate positive cash flows from
operations in the future. Based on the opening of new facilities and the
expectation of increased patient visits overall, the Company believes that it
will be able to finance the costs of its operations, including the payment of
obligations as they come due, from existing cash and cash generated by
operations. However, the Company does not currently generate sufficient cash
flow to finance any such expansion plans rapidly. In order to finance more
rapid expansion plans, the Company will require financing from external sources.
The Company does not have any commitment for such financing and there can be no
assurances that the Company will be able to obtain any such financing on terms
favorable to the Company or at all. In the event the Company cannot obtain such
additional financing, the Company may be unable to achieve its proposed
expansion strategy.

27
<PAGE>

RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS.

FASB recently issued SFAS No. 130, "Reporting Comprehensive Income," which
is required to be adopted for financial statements issued for periods beginning
after December 15, 1997. This statement establishes standards for the reporting
and display of comprehensive income and its components. Comprehensive income is
defined as revenue, expenses, gains and losses that, under generally accepted
accounting principles, are included in comprehensive income, but excluded from
net income. SFAS No. 130 requires that items of comprehensive income be
classified separately in the financial statements. SFAS No. 130 also requires
that the accumulated balance of comprehensive income items be reported
separately from retained earnings and paid-in capital in the equity section of
the balance sheet. SFAS No. 130 is not anticipated to have a material effect on
the Company's financial position or results of operations.

FASB recently issued SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information," which is required to be adopted for
financial statements issued for periods beginning after December 15, 1997. SFAS
No. 131 is not required to be applied to interim financial statements in the
initial year of application. SFAS No. 131 requires that financial and
descriptive information about operating segments be reported. Generally,
financial information will be required to be reported on the basis that it is
used internally for evaluating segment performance and deciding how to allocate
resources to segments. SFAS No. 131 is not anticipated to have any effect on
the Company's financial position or results of operations.

YEAR 2000

The Company has developed plans to address issues related to the impact on
its computer systems of the year 2000. Financial and operational systems have
been assessed and plans have been developed to address systems modification
requirements. The financial impact of making the required systems changes is
not expected to be material to the Company's consolidated financial position,
liquidity and results of operations.

ITEM 7. FINANCIAL STATEMENTS.

The financial statements required by this Item 7 are included elsewhere in
this Report and incorporated herein by this reference.

ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.

CHANGE OF FISCAL YEAR. As of August 15, 1996, in connection with the
closing of the transactions contemplated by the Share Exchange Agreement, the
Company determined to change the Company's fiscal year end from July 31 to
December 31.

1996 CHANGE IN ACCOUNTANTS. As of August 15, 1996, the Company engaged
Singer Lewak Greenbaum & Goldstein LLP, as the Company's independent certified
public accountants to replace Ehrhardt Keefe Steiner & Hottman PC, whose report
with respect to the Company's financial statements for the former fiscal year
ended July 31, 1995, was included in the Company's Form 10-KSB for the fiscal
year ended December 31, 1995 prior to the Company's change to a December 31
fiscal year end. By letter dated August 15, 1996, the Company terminated
Ehrhardt Keefe Steiner & Hottman PC as independent certified public accountants
for the Company.

The Company's former independent accountant's report covering the former
fiscal year ended July 31, 1995 did not include an adverse opinion or disclaimer
of opinion, and was not modified as to uncertainty, audit scope or accounting
principles. In connection with the audits of the two (2) most recent fiscal
years and during any subsequent interim periods preceding such dismissals, there
has not developed any disagreement

28
<PAGE>

between such former independent accountants and management of the Company or
other reportable events which have not been resolved to the Company's former
independent accountants' satisfaction.

1997 CHANGE IN ACCOUNTANTS. By letter dated December 12, 1997, the Company
terminated Singer Lewak Greenbaum & Goldstein LLP as independent certified
public accountants for the Company.

The Company's former independent certified public accountants' report
covering the two (2) fiscal years ended December 31, 1996 and 1995 did not
include an adverse opinion or disclaimer of opinion, and was not modified as to
uncertainty, audit scope or accounting principles. In connection with the
audits of the two (2) most recent fiscal years and during any subsequent interim
periods preceding such termination, there has not developed any disagreement
between such former independent certified public accountants and management of
the Company or other reportable events which have not been resolved to the
Company's former independent certified public accountants' satisfaction.

As of December 12, 1997, the Company engaged KPMG Peat Marwick LLP, as the
Company's independent auditors to replace Singer Lewak Greenbaum & Goldstein
LLP, whose report with respect to the Company's consolidated financial
statements for the fiscal year ended December 31, 1997, has been included in
this Report.

29
<PAGE>

PART III

ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT.

The directors of the Company currently have terms which will end at the
next annual meeting of the stockholders of the Company or until their successors
are elected and qualify, subject to their prior death, resignation or removal.
Officers serve at the discretion of the Board of Directors. There are no family
relationships among any of the Company's directors and executive officers.

The following reflects certain biographical information on the current
directors and executive officers of the Company:

<TABLE>
<CAPTION>
NAME POSITION AGE
---- -------- ---

<S> <C> <C>
Victor Gura, M.D. Director, President and 55
Chief Executive Officer

Ronald P. Lang, M.D. Director and Secretary 48

Ron Berkowitz Chief Operating Officer
and Chief Financial Officer 45

Jose Spiwak, M.D. Director 53

Melinda McIntyre-Kolpin Director 41
</TABLE>

VICTOR GURA, M.D. has been a director and the President and Chief Executive
Officer of the Company since May 11, 1996. Dr. Gura is a medical doctor who is
board certified in internal medicine/nephrology. He has been a director of
Medipace Medical Group, Inc., a medical group in Los Angeles, California, since
1980. He has been an attending physician at Cedars-Sinai Medical Center since
1984 and the medical director of Midway Dialysis Center since 1985. Dr. Gura
also serves as a Clinical Assistant Professor at UCLA School of Medicine. Dr.
Gura graduated from the School of Medicine, Buenos Aires University in 1966,
completed his residency in internal medicine and nephrology in Israel, and was a
fellow at the nephrology departments at Tel Aviv University Medical School and
USC Medical Center.

RONALD P. LANG, M.D. has been a director and the Secretary of the Company
since May 11, 1996. Dr. Lang is a medical doctor who is board certified in
internal medicine/nephrology. He has been a physician with Medipace Medical
Group, Inc. since 1983. Dr. Lang graduated from the Ohio State University
College of Medicine in 1973, completed his residency at St. Luke's Medical
Center in Chicago, Illinois, and was a fellow in the nephrology department at
UCLA-Center for the Health Sciences/Wadsworth Veterans Hospital. Dr. Lang also
serves as a Clinical Assistant Professor of Medicine at UCLA School of Medicine.
Dr. Lang also received M.A. and M.Ph. degrees in economics from Yale University
and was an Economist - Program Analyst for the U.S. Department of Health,
Education and Welfare (office of the Assistant Secretary for Planning and
Education) from 1973 to 1974.

30
<PAGE>

RON BERKOWITZ was appointed as the Company's Chief Financial Officer on
July 8, 1996 and as the Chief Operating Officer on March 18, 1997. He
previously served as Vice President in the lending division of Bank Leumi
Le-Israel and Bank Leumi Trust Company from 1990 until July, 1996 and was the
head of the Asset Liability Management Section from 1988 to 1990, where he
developed investment strategies for Bank Leumi. Mr. Berkowitz served on Bank
Leumi's Credit Committee and Asset Liability Committee. From 1985 to 1987, he
worked for another financial institution as a senior analyst where he was
responsible for asset liability management analysis. Mr. Berkowitz is a
Chartered Financial Analyst. Mr. Berkowitz received his undergraduate degree in
economics from Hebrew University (Israel) in 1976 and a Master's of Business
Administration (finance/management) from Indiana University in 1978.

JOSE SPIWAK, M.D. has been a director of the Company since March 11, 1998.
Dr. Spiwak is a board certified thoracic and cardiovascular surgeon, and serves
as Chairman of the Cardiovascular Thoracic Section of St. Francis Medical Center
and Presbyterian Intercommunity Hospital in Los Angeles, California. He served
as Vice-Chairman of American Health, Inc., a managing company of primary care
physicians and comprehensive healthcare delivery networks, which was sold to FPA
Medical Management, Inc. in April, 1997. Dr. Spiwak graduated from the
Universidad Javeriana Medical School (Bogota, Columbia) in 1968 and performed
his residency in Israel and the United States. Dr. Spiwak is a member of the
Board of Directors of the American Career Society.

MELINDA MCINTYRE-KOLPIN has been a director of the Company since March 18,
1998. She is currently the chief executive officer of Network Health Financial
Services, Inc., a financial services company providing a variety of services to
healthcare clients. She is also interim chief executive officer and president
of First Professional Bank, N.A., a subsidiary of Professional Bancorp, based in
Santa Monica, California, a full-service bank providing banking, financial
consulting and general business strategies for the medical community. Prior to
joining First Professional Bank, Ms. McIntyre-Kolpin was a commercial banking
officer with Bank of California. She is a board member of numerous
organizations in Southern California, including the Executive Council-Adaptive
Business Leaders; director, Synergistic Systems, Medical Billing; advisory
board, University of Southern California School of Accounting; director, Pacific
Eyenet; National Health Foundation, board of trustees; City of Hope, board of
trustees. Ms. McIntyre-Kolpin received her Bachelor of Science degree in
business administration from the University of Southern California in 1978.

As of January 15, 1997, Avraham Uncyk, M.D. resigned as a director of the
Company, and Judith Gordon, who is the wife of Dr. Uncyk, was appointed as a
director of the Company. Ms. Gordon resigned as a director of the Company on
March 18, 1998.

COMPLIANCE WITH SECTION 16 OF THE SECURITIES EXCHANGE ACT OF 1934. Section
16(a) of the Exchange Act requires the Company's directors and executive
officers and beneficial holders of more than 10% of the Company's Common Stock
to file with the Securities and Exchange Commission (the "Commission") initial
reports of ownership and reports of changes in ownership of such equity
securities of the Company. Based solely upon a review of such forms, or on
written representations form certain reporting persons that no other reports
were required for such persons, the Company believes that all reports required
pursuant to Section 16(a) with respect to its executive officers, directors and
10% beneficial stockholders for the fiscal year ended December 31, 1997 were
timely filed.

31
<PAGE>

ITEM 10. EXECUTIVE COMPENSATION.

SUMMARY COMPENSATION TABLE. The following table sets forth certain
information concerning compensation of certain of the Company's executive
officers (the "Named Executives"), including the Company's Chief Executive
Officer and all executive officers whose total annual salary and bonus exceeded
$100,000, for the fiscal years ended December 31, 1997 and 1996:

LONG TERM COMPENSATION
---------------------------------------------------
ANNUAL COMPENSATION AWARDS PAYOUTS
- ----------------------------------------------------------------------------------------------------------------------------------
(a) (b) (c) (d) (e) (f) (g) (h) (i)
NAME AND OTHER ANNUAL OTHER RESTRICTED LTIP ALL OTHER
PRINCIPAL SALARY BONUS COMPEN- AWARDS OPTIONS/ PAYOUTS COMPEN-
POSITION YEAR ($) ($) SATION ($) SARS(#) ($) SATION ($)
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Victor Gura, M.D.(1) 1997 $142,500 0 0 0 80,000 0 0
1996 $80,000 0 0 0 0 0 0

A. Vern Tharp(2) 1996 $14,233 0 0 0 125,000 0 0

Ron Berkowitz (3) 1997 $114,230 $13,000 $8,777 0 50,000 0 0
1996 $40,846 $15,600 0 $6,189 50,000 0 0
</TABLE>

_______________________________

1. Dr. Gura was appointed as the Company's Chief Executive Officer on May 11,
1996. Dr. Gura's annualized base compensation during the fiscal years
ended December 31, 1996 and 1997 were $120,000 and $150,000, respectively.
The amounts set forth in this chart reflect compensation paid to Dr. Gura
for the fiscal year ended December 31, 1996, commencing on his appointment
as Chief Executive Officer. See "Execution Compensation - Employment
Agreements."

2. Mr. Tharp was appointed as the Company's Chief Executive Officer on August
28, 1995 and resigned in such capacity on May 11, 1996. Mr. Tharp's
annualized base compensation during the fiscal year ended December 31, 1996
was $40,000.

3. Mr. Berkowitz was appointed as the Company's Chief Financial Officer on
July 8, 1996. Mr. Berkowitz' annualized base compensation during the
fiscal years ended December 31, 1996 and 1997 were $90,000 and $120,000,
respectively. The amounts set forth in this chart reflect compensation
paid to Mr. Berkowitz for the fiscal years ended December 31, 1996,
commencing on his appointment as Chief Financial Officer. See "Executive
Compensation - Employment Agreements."

32
<PAGE>

OPTION/SAR GRANTS TABLE DURING LAST FISCAL YEAR. The following table sets
forth certain information concerning grants of stock options to certain of the
Named Executives, for the fiscal year ended December 31, 1997:

- ---------------------------------------------------------------------------------------------------------------------
POTENTIAL REALIZABLE
VALUE AT ASSUMED
ANNUAL RATES OF
STOCK PRICE APPRECIATION
INDIVIDUAL GRANTS FOR OPTION TERM(1)
- ---------------------------------------------------------------------------------------------------------------------
(a) (b) (c) (d) (e) (f) (g)
NUMBER OF % OF
SECURITIES TOTAL
UNDERLYING OPTIONS/
OPTIONS/ SARS EXERCISE
SARS GRANTED TO OR BASE
GRANTED EMPLOYEES PRICE EXPIRATION
NAME (#) IN FISCAL YEAR ($/SHARE) DATE (1) 5% ($) 10%($)
- ---------------------------------------------------------------------------------------------------------------------

<S> <C> <C> <C> <C> <C> <C>
Victor
Gura, M.D. (2) 80,000 43.24% $0.81 1/14/07 $59,306 $123,836

Ron Berkowitz (3) 50,000 27.03% $0.81 1/14/07 $37,066 $77,397
</TABLE>

__________________

(1) This chart assumes a market price of $1.00 for the Common Stock, the
average of the bid and asked prices for the Company's Common Stock in the
over-the-counter market as of April 9, 1998, as the assumed market price for the
Common Stock with respect to determining the "potential realizable value" of the
shares of Common Stock underlying the options described in the chart, as reduced
by any lesser exercise price for such options. Each of the options reflected in
the chart was granted at exercise prices which the Company believes to have been
determined at the fair market value as of the date of grant. Further, the chart
assumes the annual compounding of such assumed market price over the relevant
periods, without giving effect to commissions or other costs or expenses
relating to potential sales of such securities. The Company's Common Stock has
a very limited trading history. These values are not intended to forecast the
possible future appreciation, if any, price or value of the Common Stock. The
Board of Directors will not determine an expiration date for these options until
such time as such options have vested. However, these options will have a term
no longer than ten (10) years following January 15, 1999, the grant date of such
options. The referenced amounts reflect an assumed expiration date of January
14, 2007. See Item 5 - "Market Price of Common Equity and Related Stockholder
Matters."

(2) Dr. Gura was granted an option to purchase up to 80,000 shares of
Common Stock at an exercise price of $0.81 per share. These options will only
vest in the event that the Company's stockholders approve the 1996 Stock Option
Plan pursuant to which these options have been granted. See "Item 10 - Executive
Compensation - Stock Option Plans."

(3) Mr. Berkowitz was granted an option to purchase up to 50,000 shares of
Common Stock at an exercise price of $0.81 per share. These options will only
vest in the event that the Company's stockholders approve the 1996 Stock Option
Plan pursuant to which these options have been granted. See "Item 10 -
Executive Compensation - Stock Option Plans."

33
<PAGE>

OPTION EXERCISES AND YEAR-END VALUES. The following table sets forth
information with respect to the exercised and unexercised options to purchase
shares of Common Stock for certain of the Named Executives held by them at
December 31, 1997:

VALUE OF UNEXERCISED
SHARES NUMBER OF UNEXERCISED IN THE MONEY
ACQUIRED VALUE OPTIONS AT OPTIONS AT
ON EXERCISE REALIZED(1) DECEMBER 31, 1997 DECEMBER 31, 1997(2)
------------ ----------- ----------------- --------------------
NAME EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ---- ----------- ------------- ----------- -------------

<S> <C> <C> <C> <C> <C> <C>
Victor
Guara, M.D. 0 0 0 80,000 0 $23,200

Ron Berkowitz 12,500 $875 12,500 50,000 $8,250 $14,500
</TABLE>

_________________

(1) Represents an amount equal to the number of options multiplied by the
difference between the average of the closing bid and asked prices for the
Common Stock in the over-the-counter market on the date of exercise, July
2, 1997 ($ 0.56 per share) and any lesser exercise price.

(2) Represents an amount equal to the number of options multiplied by the
difference between the average of the closing bid and asked prices for the
Common Stock in the over-the counter market on December 31, 1997 ($1.10 per
share) and any lesser exercise price.

EMPLOYMENT AGREEMENTS. The Company has entered into employment agreements
with two (2) of its executive officers, Victor Gura, M.D. and Ron Berkowitz.

The Company entered into a three (3) year employment agreement, dated as of
April 12, 1996, with Victor Gura, M.D., pursuant to which Dr. Gura agreed to
serve as the Company's Chief Executive Officer, President and Medical Director.
The employment agreement currently provides for an annual base salary of
$150,000, plus other benefits. The Company also granted options to Dr. Gura to
purchase up to 80,000 shares of Common Stock, which may vest subject to certain
events.

Mr. Berkowitz entered into a five (5) year employment agreement with the
Company, effective July 8, 1996, pursuant to which Mr. Berkowitz agreed to serve
as the Company's Chief Financial Officer. The employment agreement currently
provides for an annual base salary of $120,000, plus other benefits. The
Company also granted options to Mr. Berkowitz to purchase up to 50,000 shares of
Common Stock pursuant to the Company's 1996 Stock Option Plan (37,500 of which
have been exercised), and an additional 50,000 options, which may vest subject
to certain events.

These employees will also be entitled to participate in stock option and
bonus plans which may be adopted by the Company for officers and directors of
the Company and its subsidiaries. In the event of their involuntary termination
other than for cause or certain other circumstances, they will be entitled to
receive the unpaid balance of their salary for the remaining term of the
agreement. See "Description of Securities - Options."

34
<PAGE>

STOCK OPTION PLANS

The Company has adopted two (2) stock option plans for the benefit of
officers, directors, employees, independent contractors and consultants of the
Company and its subsidiaries. These plans include: (i) the 1996 Stock Option
Plan, and (ii) the 1996 Employee Compensatory Stock Option Plan.

1996 STOCK OPTION PLAN. As of May 12, 1996, the Company's Board of
Directors and stockholders approved the Company's 1996 Stock Option Plan (the
"1996 Stock Option Plan").

The Company has reserved for issuance thereunder an aggregate of 1,000,000
shares of Common Stock. The Company has granted options to purchase up to
994,739 shares of Common Stock under the 1996 Stock Option Plan. Of the 994,379
options granted as of the date of this Report, 981,879 options have been
exercised and all options have vested. The Board of Directors has approved a
provision in the 1996 Stock Option Plan which will place a 300,000 share limit
on the number of options that may be granted under the 1996 Stock Option Plan to
an employee in each fiscal year.

A description of each of the 1996 Stock Option Plan is set forth below.
The description is intended to be a summary of the material provisions of the
1996 Stock Option Plan and does not purport to be complete.

ADMINISTRATION OF AND ELIGIBILITY UNDER 1996 STOCK OPTION PLAN. The
1996 Stock Option Plan, as adopted, provides for the issuance of options to
purchase shares of Common Stock to officers, directors, employees, independent
contractors and consultants of the Company and its subsidiaries as an incentive
to remain in the employ of or to provide services to the Company and its
subsidiaries. The 1996 Stock Option Plan authorizes the issuance of incentive
stock options ("ISOs"), non-qualified stock options ("NSOs") and stock
appreciation rights ("SARs") to be granted by a committee (the "Committee") to
be established by the Board of Directors to administer the 1996 Stock Option
Plan.

Subject to the terms and conditions of the 1996 Stock Option Plan, the
Committee will have the sole authority to determine: (a)the persons
("optionees") to whom options to purchase shares of Common Stock and SARs will
be granted, (b) the number of options and SARs to be granted to each such
optionee, (c) the price to be paid for each share of Common Stock upon the
exercise of each option, (d) the period within which each option and SAR will be
exercised and any extensions thereof, and (e) the terms and conditions of each
such stock option agreement and SAR agreement which may be entered into between
the Company and any such optionee.

All officers, directors and employees of the Company and its subsidiaries
and certain consultants and other persons providing significant services to the
Company and its subsidiaries will be eligible to receive grants of options and
SARs under the 1996 Stock Option Plan. However, only employees of the Company
and its subsidiaries are eligible to be granted ISOs.

STOCK OPTION AGREEMENTS. All options granted under the 1996 Stock
Option Plan will be evidenced by an option agreement or SAR agreement between
the Company and the optionee receiving such option or SAR. Provisions of such
agreements entered into under the 1996 Stock Option Plan need not be identical
and may include any term or condition which is not inconsistent with the 1996
Stock Option Plan and which the Committee deems appropriate for inclusion.

INCENTIVE STOCK OPTIONS. Except for ISOs granted to stockholders
possessing more than ten percent (10%) of the total combined voting power of all
classes of the securities of the Company or its subsidiaries to whom such
ownership is attributed on the date of grant ("Ten Percent Stockholders"), the
exercise price of each ISO must be at least 100% of the fair market value of the
Company's Common Stock

35
<PAGE>

as determined on the date of grant. ISOs granted to Ten Percent Stockholders
must be at an exercise price of not less than 110% of such fair market value.

Each ISO must be exercised, if at all, within ten (10) years from the date
of grant, but, within five (5) years of the date of grant in the case of ISO's
granted to Ten Percent Stockholders.

An optionee of an ISO may not exercise an ISO granted under the 1996 Stock
Option Plan so long as such person holds a previously granted and unexercised
ISO.

The aggregate fair market value (determined as of time of the grant of the
ISO) of the Common Stock with respect to which the ISOs are exercisable for the
first time by the optionee during any calendar year shall not exceed $100,000.

As of the date of this Report, ISOs have been granted under the 1996 Stock
Option Plan to purchase up to 25,000 shares of Common Stock at an exercise price
of $0.49 per share. Of these options, 12,500 options have been exercised and
all have vested.

NON-QUALIFIED STOCK OPTIONS. The exercise price of each NSO will be
determined by the Committee on the date of grant. However, the exercise price
for the NSOs under the 1996 Stock Option Plan will in no event be less than 85%
of the fair market value of the Common Stock on the date the option is granted,
or not less than 110% of the fair market value of the Common Stock on the date
such option is granted in the case of an option granted to a Ten Percent
Stockholder.

The exercise period for each NSO will be determined by the Committee at the
time such option is granted, but in no event will such exercise period exceed
ten (10) years from the date of grant.

As of the date of this Report, NSOs have been granted under the 1996 Stock
Option Plan to purchase up to 969,739 shares of Common Stock, all of which have
been exercised. These options had the following per share exercise prices:
174,739 shares ($1.00), 700,000 shares ($0.50), 25,000 shares ($0.38) and 70,000
shares ($0.25).

STOCK APPRECIATION RIGHTS. Each SAR granted under the 1996 Stock
Option Plan will entitle the holder thereof, upon the exercise of the SAR, to
receive from the Company, in exchange therefor, an amount equal in value to the
excess of the fair market value of the Common Stock on the date of exercise of
one share of Common Stock over its fair market value on the date of exercise of
one share of Common Stock over its fair market value on the date of grant (or in
the case of an SAR granted in connection with an option, the excess of the fair
market of one share of Common Stock at the time of exercise over the option
exercise price per share under the option to which the SAR relates), multiplied
by the number of shares of Common Stock covered by the SAR or the option, or
portion thereof, that is surrendered.

SARs will be exercisable only at the time or times established by the
Committee. If an SAR is granted in connection with an option, the SAR will be
exercisable only to the extent and on the same conditions that the related
option could be exercised. The Committee may withdraw any SAR granted under the
1996 Stock Option Plan at any time and may impose any conditions upon the
exercise of an SAR or adopt rules and regulations from time to time affecting
the rights of holders of SARs.

As of the date of this Report, no SARs have been granted under the 1996
Stock Option Plan.

TERMINATION OF OPTION AND TRANSFERABILITY. In general, any unexpired
options and SARs granted under the 1996 Stock Option Plan will terminate: (a) in
the event of death or disability, pursuant to the terms of the option agreement
or SAR agreement, but not less than six (6) months or more than twelve (12)
months after the applicable date of such event, (b) in the event of retirement,
pursuant to the terms of the option agreement or SAR agreement, but no less that
thirty (30) days or more than three (3) months after

36
<PAGE>

such retirement date, or (c) in the event of termination of such person other
than for death, disability or retirement, until thirty (30) days after the date
of such termination. However, the Committee may in its sole discretion
accelerate the exercisability of any or all options or SARs upon termination of
employment or cessation of services.

The options and SARs granted under the 1996 Stock Option Plan generally
will be non-transferable, except by will or the laws of descent and
distribution.

ADJUSTMENTS RESULTING FROM CHANGES IN CAPITALIZATION. The number of
shares of Common Stock reserved under the 1996 Stock Option Plan and the number
and price of shares of Common Stock covered by each outstanding option or SAR
under the 1996 Stock Option Plan will be proportionately adjusted by the
Committee for any increase or decrease in the number of issued and outstanding
shares of Common Stock resulting from any stock dividends, split-ups,
consolidations, recapitalizations, reorganizations or like event.

AMENDMENT OR DISCONTINUANCE OF STOCK OPTION PLAN. The Board of
Directors has the right to amend, suspend or terminate the Stock Option Plans at
any time. Unless sooner terminated by the Board of Directors, the 1996 Stock
Option Plan will terminate on May 11, 2006, the tenth (10th) anniversary date of
the effectiveness of 1996 Stock Option Plan.

1996 EMPLOYEE COMPENSATORY STOCK OPTION PLAN. As of February 7, 1996, the
Company's Board of Directors adopted the 1996 Employee Compensatory Stock Option
Plan (the "Employee Stock Option Plan"). The Company has reserved for issuance
thereunder an aggregate of 500,000 shares of Common Stock. The Company has
issued non-qualified options to purchase up to 500,000 shares of Common Stock
under the Employee Stock Option Plan at an exercise price of $0.18 per share,
423,000 of which have been exercised. The optionees are currently not employees
or affiliates of the Company. The remaining 77,000 options expire on or about
February 6, 2001, the termination date of the Employee Stock Option Plan.

OTHER OPTIONS. The Company has granted options to purchase up to an
aggregate of 160,000 shares of Common Stock, at an exercise price of $0.81 per
share, to certain directors and employees. Some of these options may vest,
subject to the approval of a stock option plan by the Company's Board of
Directors and stockholders. The Company also has granted currently outstanding
options and warrants to purchase up to 1,450,928 shares of Common Stock
(including the 89,500 options which may be exercised in connection with the
Company's existing stock option plans) to certain consultants and employees of
the Company, of which 454,440 are currently exercisable.

COMPENSATION OF DIRECTORS

The Company does not currently compensate directors for services rendered
as directors.

DIRECTORS AND OFFICERS LIABILITY INSURANCE

The Company has obtained directors' and officers' liability insurance with
an aggregate limit of liability for the policy year, inclusive of costs of
defense, in the amount of $2,000,000. The insurance policy expires on March 23,
1999.

INDEMNIFICATION OF OFFICERS AND DIRECTORS

The Company's Certificate of Incorporation and Bylaws designate the
relative duties and responsibilities of the Company's officers, establish
procedures for actions by directors and stockholders and other items. The
Company's Certificate of Incorporation and Bylaws also contain extensive
indemnification provisions which will permit the Company to indemnify its
officers and directors to the maximum extent provided by Delaware law.

37
<PAGE>

TERMINATION OF EMPLOYMENT AND CHANGE OF CONTROL AGREEMENTS

Except as set forth in employment agreements of certain employees of the
Company and its subsidiaries, the Company has no compensatory plans or
arrangements which relate to the resignation, retirement or any other
termination of an executive officer or key employee with the Company or a change
in control of the Company or a change in such executive officer's or key
employee's responsibilities following a change in control.

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

The Board has a Compensation Committee and an Audit Committee comprised of
the following members of the Board of Directors: Dr. Jose Spiwak and Melinda
McIntyre-Kolpin, each of whom may be deemed to be outside/non-employee director.
The Board has no standing committee on nominations or any other committees
performing equivalent functions.

The Compensation Committee reviews and approves the annual salary and bonus
for each executive officer (consistent with the terms of any applicable
employment agreement), reviews, approves and recommends terms and conditions for
all employee benefit plans (and changes thereto) and administers the Company's
stock option plans and such other employee benefit plans as may be adopted by
the Company from time to time.

The Audit Committee reports to the Board regarding the appointment of the
independent public accountants of the Company, the scope and fees of the
prospective annual audit and the results thereof, compliance with the Company's
accounting and financial policies and management's procedures and policies
relative to the adequacy of the Company's system of internal accounting
controls.

38
<PAGE>

ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.

As of April 9, 1998, the Company had issued and outstanding 9,688,523
shares of Common Stock. The following table reflects, as of April 9, 1998, the
beneficial Common Stock ownership of: (a) each director of the Company, (b)
each current executive officer named in the Summary Compensation Table in this
Report, (c) each person known by the Company to be a beneficial owner of five
percent (5%) or more of its Common Stock, and (d) all executive officers and
directors of the Company as a group:

<TABLE>
<CAPTION>
NAME AND ADDRESS NO. OF
OF BENEFICIAL OWNER SHARES# PERCENT
- ------------------- ------- -------

<S> <C> <C>
Medipace Medical Group, Inc.(1) 800,000 8.26%

Victor Gura, M.D.(1,2) 2,772,511 28.62%

Ronald P. Lang, M.D.(1,3) 1,317,154 13.59%

Jose Spiwak, M.D.(4) 40,000 *

Melinda McIntyre-Kolpin(5) 0 *

Isaac Flombaum(6) 570,206 5.89%

Ron Berkowitz(1),(7) 52,000 *

Avraham H. Uncyk, M.D.(1,8) 969,463 10.00%

All executive officers
and directors as a group
(5 persons)(9) 3,381,665 34.86%

</TABLE>

_____________________________
(Footnotes on following page)

# Pursuant to the rules of the Securities and Exchange Commission, shares of
Common Stock which an individual or group has a right to acquire within 60
days pursuant to the exercise of options or warrants are deemed to be
outstanding for the purpose of computing the percentage ownership of such
individual or group, but are not deemed to be outstanding for the purpose
of computing the percentage ownership of any other person shown in the
table.

* Less than 1%

39
<PAGE>

___________________________
(Footnotes from previous page)

1. The address for Drs. Victor Gura, Ronald P. Lang and Avraham H. Uncyk and
Ron Berkowitz is 1835 South La Cienega Boulevard, Suite 235, Los Angeles,
California 90035. Medipace is a corporation owned by Drs. Gura, Lang and
Uncyk on a proportionate ownership interest of 67.5%, 22.5% and 10%,
respectively. The address for Medipace is 5901 West Olympic Boulevard,
Suite 300, Los Angeles, California 90036. Medipace is the registered owner
of 800,000 shares of Common Stock, and each of Drs. Gura, Lang and Uncyk
are deemed to be the beneficial owners of such 800,000 shares. See "Item
12 - Certain Relationships and Related Transactions."

2. Dr. Gura is the registered owner of 1,972,511 shares. Does not include
warrants to purchase up to 337,500 shares of Common Stock which may vest
and 2,842,185 shares of Common Stock which may be issued subject to certain
performance levels by the Company, and options to purchase up to 80,000
shares of Common Stock, which may vest subject to certain events. See
"Item 12 - Certain Relationships and Related Transactions."

3. Dr. Lang is the registered owner of 517,154 shares. Does not include
warrants to purchase up to 112,500 shares of Common Stock which may vest
and 947,395 shares of Common Stock which may be issued subject to certain
performance levels by the Company, and options to purchase up to 15,000
shares of Common Stock, which may vest subject to certain events. See
"Item 12 - Certain Relationships and Related Transactions."

4. The address for Dr. Jose Spiwak is 3628 East Imperial Highway, Suite 402,
Lynwood, California 90262. Dr. Spiwak is the registered owner of 40,000
shares of Common Stock. Does not include options to purchase up to 150,000
shares of Common Stock which may vest subject to certain schedules.

5. The address for Ms. McIntyre-Kolpin is 606 Broadway, Santa Monica,
California 90401. Does not include options to purchase up 150,000 shares
of Common Stock which may vest subject to certain schedules.

6. The address for Mr. Flombaum is Doblas 82, 2nd Piso, Buenos Aires,
Argentina. The 570,206 shares have been pledged as security for certain
obligations owing to the Company. See "Item 12 - Certain Relationships and
Related Transactions."

7. Mr. Berkowitz is the registered owner of 39,500 shares of Common Stock and
options to purchase up to 12,500 shares of Common Stock. Does not include
options to purchase up to 50,000 shares of Common Stock, which may vest
subject to certain events.

8. Dr. Uncyk is the registered owner of 159,463 shares. Dr. Uncyk's wife,
Judith Gordon, a former director of the Company, is the registered owner of
options to purchase up to 5,000 shares of Common Stock. Does not include
warrants to purchase up to 50,000 shares of Common Stock which may vest and
421,064 shares of Common Stock which may be issued subject to certain
performance levels by the Company. See "Item 12 - Certain Relationships
and Related Transactions."

9. Includes 3,369,165 shares of Common Stock and options to purchase up to
12,500 shares of Common Stock. Does not include warrants to purchase up to
500,000 shares of Common Stock which may vest and 4,210,644 shares of
Common Stock which may be issued subject to certain performance levels by
the Company, and options to purchase up to 445,000 shares of Common Stock
which may vest subject to certain events and schedules. See "Item 12 -
Certain Relationships and Related Transactions."

40
<PAGE>

ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

SHARE EXCHANGE AGREEMENT. On May 11, 1996, the Company, LACD, Victor Gura,
M.D., Avraham H. Uncyk, M.D. and Ronald P. Lang, M.D. completed the transactions
contemplated by an Agreement for Exchange of Stock (the "Share Exchange
Agreement"). In connection with the Share Exchange Agreement, the Company
issued an aggregate of 4,234,128 shares of Common Stock to Drs. Gura, Uncyk and
Lang in exchange for 100% of the issued and outstanding shares of common stock
of LACD, as follows: (i) Dr. Gura (2,183,036 shares), (ii) Dr. Lang (727,679
shares), (iii) Dr. Uncyk (323,413 shares), and (iv) Medipace, a corporation
owned by Drs. Gura, Lang and Uncyk (1,000,000 shares). The 1,000,000 shares
issued to Medipace were originally issued to Drs. Gura, Lang and Uncyk in their
proportionate ownership interests in Medipace (67.5%, 22.5% and 10%,
respectively), and subsequently transferred to Medipace. In November and
December, 1997, Medipace and Drs. Gura, Lang and Uncyk sold an aggregate of
785,000 shares of Common Stock in connection the settlement of certain claims of
an unaffiliated third party, as follows: (i) Medipace (200,000 shares), (ii) Dr.
Gura (210,525 shares), (iii) Dr. Lang (210,525 shares), and (iv) Dr. Uncyk
(163,950 shares). The 800,000 shares currently issued to Medipace have certain
registration rights with respect to claims which may be asserted by creditors of
Medipace.

CONDITIONAL ISSUANCE OF SHARES AND WARRANTS. Up to an additional 4,210,644
shares of Common Stock and warrants to purchase up to 500,000 shares of Common
Stock, at an exercise price of $3.50 per share, may be issued in the aggregate
to Drs. Gura, Uncyk and Lang in the event that the Company meets certain
financial conditions based on the results of operations of the Company during
the fiscal years ending from December 31, 1996 to 2001, on the following basis:
(i) Dr. Gura (2,842,185 shares and 337,500 warrants), (ii) Dr. Lang (947,395
shares and 112,500 warrants), and (iii) Dr. Uncyk (421,064 shares and 50,000
warrants), which reflects the percentage distribution ratio for the initial
issuance of the shares of Common Stock in connection with the Share Exchange
Agreement to Drs. Gura, Lang and Uncyk, respectively. The Company did not meet
the required results of operations for the fiscal year ended December 31, 1997.
The 4,210,644 shares may be issued and the 500,000 warrants may be exercisable
in the event that the annual pre-tax earnings from operations of the Company
during any of the years ending from December 31, 1998 to 2001 shall equal or
exceed $2,000,000. The warrants will expire 36 months from the initial date of
exercisability of the warrants.

LOANS TO AFFILIATES. Medipace has executed a demand promissory note in
favor of the Company in the principal amount of $121,151, dated September 17,
1997, which bears interest at the rate of 8% PER ANNUM. As of December 31, 1997,
the principal amount of the promissory note remaining payable was $116,622.

SALE OF WAREHOUSE ASSETS. As of October 18, 1996, the Company completed
the sale (the "Warehouse Sale") of certain real estate and other assets, related
to the Company's prior business operation of a potato warehouse (the "Warehouse
Assets") in Monte Vista, Colorado, to certain former affiliates of the Company
for the purchase price of approximately $1,415,000. The purchase price was paid
in the form of $550,000 in cash and two (2) promissory notes in the aggregate
amount of approximately $865,000 (subject to certain adjustments), and secured
by a pledge of 648,206 shares of Common Stock. As of April 15, 1997, the
obligors on the promissory notes assigned 630,206 of the shares of Common Stock
to Issaac Flombaum, making him a principal stockholder of the Company. Mr.
Flombaum executed a promissory note payable to the Company in the principal
amount of approximately $865,000, bearing interest at the rate of 8% PER ANNUM,
and due and payable on or before February 23, 1998. The Company extended the
promissory note for an additional year upon receipt of a payment in November,
1997. The promissory notes executed by the initial obligors were cancelled.
Further, Mr. Flombaum has agreed to pay the additional sum of approximately
$135,000 to the Company on the due date of the $865,000 promissory note as
additional consideration for the Company's agreement to consent to the
assignment of the 630,206 shares. The obligations owing to the Company by Mr.
Flombaum are secured by the 570,206 shares of Common Stock, which currently are
held in escrow. Through December 31, 1997, the Company received payment of
$76,800 of accrued interest on the promissory note

41
<PAGE>

through the liquidation of 60,000 of the pledged shares. See "Item 11- Security
Ownership of Certain Beneficial Owners and Management."

LEASED PREMISES. From May 11, 1996 to November, 1997, the Company leased
offices located at 5901 West Olympic Boulevard, Suite 109, Los Angeles,
California 90036, at a monthly rent of approximately $6,760, pursuant to a
sublease agreement with Medipace. The premises included a portion of premises
leased by Medipace, an affiliate of Drs. Gura, Lang and Uncyk, who are
affiliates of the Company, from a non-affiliate master lessor pursuant to a
master lease agreement. The Company made rental payments directly to the master
lessor, with the consent of the master lessor, with respect to the portion of
the premises which were the subject of the sublease. The Company currently
leases the office space directly from the master lessor at the monthly rent of
approximately $6,760.

PART IV

ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K.

A. FINANCIAL STATEMENTS

Consolidated balance sheets of National Quality Care, Inc. and subsidiary
as of December 31, 1997 and 1996, and the consolidated statements of
operations, stockholders' equity and cash flows for the years then ended.

B. REPORTS ON FORM 8-K

Current Report on Form 8-K, dated December 15, 1997.

C. OTHER EXHIBITS

16.1 Letter RE Change in Certifying Accountant of Singer Lewak Greenbaum
& Goldstein LLP, dated December 15, 1997(1)
23.1 Consent of Singer Lewak Greenbaum & Goldstein LLP, dated
April 13, 1998
23.2 Consent KPMG Peat Marwick LLP, dated April 13, 1998
27 Financial Data Schedule

_______________________

(1) Filed as part of the Company's Current Report on Form 8-K dated December
15, 1997.

42
<PAGE>

DOCUMENTS INCORPORATED BY REFERENCE

The Company is currently subject to the reporting requirements of the
Securities Exchange Act of 1934, as amended (the "Exchange Act") and in
accordance therewith files reports, proxy statements and other information with
the Commission. Such reports, proxy statements and other information may be
inspected and copied at the public reference facilities of the Commission at
Judiciary Plaza, 450 Fifth Street, N.W., Washington D.C. 20549; at its New York
Regional Office, Suite 1300, 7 World Trade Center, New York, New York, 10048;
and at its Chicago Regional Office, 500 West Madison Street, Suite 1400,
Chicago, Illinois 60661, and copies of such materials can be obtained from the
Public Reference Section of the Commission at its principal office in
Washington, D.C., at prescribed rates. In addition, such materials may be
accessed electronically at the Commission's site on the World Wide Web, located
at http://www.sec.gov. The Company intends to furnish its stockholders with
annual reports containing audited financial statements and such other periodic
reports as the Company may determine to be appropriate or as may be required by
law.

Certain documents listed above as exhibits to this Report on Form 10-KSB
are incorporated by reference from other documents previously filed by the
Company with the Commission as follows:

<TABLE>
<CAPTION>
PREVIOUS FILING EXHIBIT NUMBER
INCORPORATED BY REFERENCE IN FORM 10-KSB
------------------------- --------------
<S> <C>
1. Current Report on Form 8-K
dated as of December 15, 1997 16.1
</TABLE>

43
<PAGE>

SIGNATURES

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

NATIONAL QUALITY CARE, INC.

Dated: April 14, 1998 By: /s/ Victor Gura, M.D.
-------------------------------------
Victor Gura, M.D.
Chief Executive Officer and Director

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

NATIONAL QUALITY CARE, INC.

Dated: April 14, 1998 By: /s/ Victor Gura, M.D.
-------------------------------------
Victor Gura, M.D.
Chief Executive Officer and Director

Dated: April 14, 1998 By: /s/ Ron Berkowitz
-------------------------------------
Ron Berkowitz
Chief Financial Officer

Dated: April 14, 1998 By: /s/ Ronald P. Lang, M.D.
-------------------------------------
Ronald P. Lang, M.D.
Director

Dated: April 14, 1998 By: /s/ Jose Spiwak, M.D.
-------------------------------------
Jose Spiwak, M.D.
Director

Dated: April 14, 1998 By: /s/ Melinda McIntyre-Kolpin
-------------------------------------
Melinda McIntyre-Kolpin
Director

44
<PAGE>

NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY

Consolidated Financial Statements

December 31, 1997 and 1996

(With Independent Auditors' Report Thereon)

<PAGE>

INDEPENDENT AUDITORS' REPORT

The Board of Directors and Stockholders
National Quality Care, Inc.:

We have audited the accompanying consolidated balance sheet of National Quality
Care, Inc. and subsidiary as of December 31, 1997 and the related consolidated
statements of operations, stockholders' equity 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
consolidated financial statements based on our audit.

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

In our opinion, the 1997 consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
National Quality Care, Inc. and subsidiary as of December 31, 1997 and the
results of their operations and their cash flows for the year then ended in
conformity with generally accepted accounting principles.

KPMG Peat Marwick LLP

Los Angeles, California
March 3, 1998, except as to the
sixth paragraph of note 6, which
is as of April 7, 1998.

<PAGE>

REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS

To the Board of Directors and Stockholders
National Quality Care, Inc.

We have audited the accompanying consolidated balance sheet of National
Quality Care, Inc. and subsidiary as of December 31, 1996, and the related
consolidated statements of operations, stockholders' equity, and cash flows
for the year then ended. 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 audit.

In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of National
Quality Care, Inc. and subsidiary as of December 31, 1996, and the
consolidated results of their operations and their consolidated cash flows
for the year then ended, in conformity with generally accepted accounting
principles.

/s/ SINGER LEWAK GREENBAUM & GOLDSTEIN LLP
- -------------------------------------------
SINGER LEWAK GREENBAUM & GOLDSTEIN LLP

Los Angeles, California
April 8, 1997

<PAGE>

NATIONAL QUALITY CARE, INC.

AND SUBSIDIARY

Consolidated Balance Sheets

December 31, 1997 and 1996

ASSETS 1997 1996
-------------- -------------
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 39,220 121,812
Accounts receivable, net of allowance for doubtful accounts of $75,000 in
1997 and 1996 (note 4) 340,497 334,927
Supplies inventory 46,723 13,122
Other current assets 30,537 47,208
-------------- -------------

Total current assets 456,977 517,069

Property, plant and equipment, net (notes 3, 4 and 6) 2,561,510 2,257,735
Note receivable - related parties (note 2) 641,790 865,202
Deposits and other long-term assets (note 6) 54,231 59,197
-------------- -------------

Total assets $ 3,714,508 3,699,203
-------------- -------------
-------------- -------------

LIABILITIES AND STOCKHOLDERS' EQUITY

Current liabilities:
Accounts payable $ 595,380 448,521
Accrued expenses 192,718 303,597
Current portion of long-term debt (note 4) 63,483 380,414
-------------- -------------

Total current liabilities 851,581 1,132,532

Long-term debt, net of current portion (note 4) 1,870,194 1,804,805
-------------- -------------

Total liabilities 2,721,775 2,937,337
-------------- -------------

Stockholders' equity (note 5):
Preferred stock, $.01 par value. Authorized 5,000,000 shares; no shares
issued and outstanding -- --
Common stock, $.01 par value. Authorized 50,000,000 shares; issued and
outstanding 9,555,710 and 7,815,471 shares in 1997 and 1996,
respectively 95,556 78,154
Additional paid-in capital 2,086,394 1,508,009
Notes receivable from stockholder (note 2) (116,622) (118,044)
Accumulated deficit (1,072,595) (706,253)
-------------- -------------

Total stockholders' equity 992,733 761,866

Commitments and contingencies (note 6)
Subsequent event (note 11)
-------------- -------------

Total liabilities and stockholders' equity $ 3,714,508 3,699,203
-------------- -------------
-------------- -------------

</TABLE>

See accompanying notes to consolidated financial statements.

<PAGE>

NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY

Consolidated Statements of Operations

Years ended December 31, 1997 and 1996

1997 1996
------------- -------------
<S> <C> <C>
Income:
Medical service revenue $3,152,991 3,050,346
Rental income (note 6) 271,700 168,277
------------- -------------

Total income 3,424,691 3,218,623
------------- -------------

Operating expenses:
Cost of medical services 2,171,005 1,783,468
Selling, general and administrative expenses 951,946 941,882
Depreciation and amortization 70,617 47,464
Rent and other (note 6) 66,570 41,303
------------- -------------

Total operating expenses 3,260,138 2,814,117
------------- -------------

Income from operations 164,553 404,506
------------- -------------

Other income (expense):
Interest expense (210,049) (143,048)
Valuation allowance on note receivable (note 2) (220,000) --
Merger costs -- (997,580)
Interest income 79,086 19,436
Other income (expense) (note 6) (178,332) 12,833
------------- -------------

Total other expense (529,295) (1,108,359)
------------- -------------

Loss before provision for income taxes (364,742) (703,853)

Provision for income taxes (note 7) 1,600 2,400
------------- -------------

Net loss $ (366,342) (706,253)
------------- -------------
------------- -------------

Basic and diluted loss per common share $ (.04) (.14)
------------- -------------
------------- -------------

</TABLE>

See accompanying notes to consolidated financial statements.

<PAGE>

NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY

Consolidated Statements of Stockholders' Equity

Years ended December 31, 1997 and 1996

COMMON STOCK NOTES
------------------------------------ ADDITIONAL RECEIVABLE FROM
SHARES AMOUNT PAID-IN CAPITAL STOCKHOLDER
--------------- --------------- ------------------ ---------------
<S> <C> <C> <C> <C>
Balance, December 31, 1995 -- $ -- -- --

Net liabilities retained by Medipace Medical
Group, Inc. -- -- -- --

Reverse merger:
Shares issued for the acquisition of
Sargent, Inc. 2,436,343 24,363 1,097,213 --
Shares issued for dialysis division of
Medipace Medical Group, Inc. 4,234,128 42,341 (558,373) --

Common stock issued:
For services rendered 995,000 9,950 431,150 --
For cash 150,000 1,500 39,266 --

Stock options issued for services rendered -- -- 498,753 --

Advances to stockholder -- -- -- (118,044)

Net loss -- -- -- --
--------------- --------------- ------------------ ---------------

Balance, December 31, 1996 7,815,471 78,154 1,508,009 (118,044)

Conversion of debt to equity 200,000 2,000 208,000 --

Options exercised:
For services rendered 1,449,739 14,497 92,703 --
For cash 90,500 905 19,260 --

Stock options issued for services rendered -- -- 258,422 --

Payment on notes receivable from stockholder -- -- -- 1,422

Net loss -- -- -- --
--------------- --------------- ------------------ ---------------

Balance, December 31, 1997 9,555,710 $ 95,556 2,086,394 (116,622)
--------------- --------------- ------------------ ---------------
--------------- --------------- ------------------ ---------------

NET LIABILITIES ACCUMULATED
OF DIVISION DEFICIT TOTAL
---------------- ------------- --------------
<S> <C> <C> <C>
Balance, December 31, 1995 (1,107,148) -- (1,107,148)

Net liabilities retained by Medipace Medical
Group, Inc. 591,116 -- 591,116

Reverse merger:
Shares issued for the acquisition of
Sargent, Inc. -- -- 1,121,576
Shares issued for dialysis division of
Medipace Medical Group, Inc. 516,032 -- --

Common stock issued:
For services rendered -- -- 441,100
For cash -- -- 40,766

Stock options issued for services rendered -- -- 498,753

Advances to stockholder -- -- (118,044)

Net loss -- (706,253) (706,253)
---------------- ------------- --------------

Balance, December 31, 1996 -- (706,253) 761,866

Conversion of debt to equity -- -- 210,000

Options exercised:
For services rendered -- -- 107,200
For cash -- -- 20,165

Stock options issued for services rendered -- -- 258,422

Payment on notes receivable from stockholder -- -- 1,422

Net loss -- (366,342) (366,342)
---------------- ------------- --------------

Balance, December 31, 1997 -- (1,072,595) 992,733
---------------- ------------- --------------
---------------- ------------- --------------

</TABLE>

See accompanying notes to consolidated financial statements.

<PAGE>

NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY
Consolidated Statements of Cash Flows
Years ended December 31, 1997 and 1996

1997 1996
--------------- --------------
<S> <C> <C>
Cash flows from operating activities:
Net loss $ (366,342) (706,253)
Adjustments to reconcile net loss to net cash provided by operating
activities:
Depreciation and amortization 115,141 75,354
Issuance of common stock and stock options for services 365,622 939,853
Valuation allowance on note receivable 220,000 --
(Increase) decrease in:
Accounts receivable (5,570) (1,602)
Supplies inventory (33,601) 8,649
Other assets 22,937 (26,400)
Increase (decrease) in:
Accounts payable 146,859 136,520
Accrued expenses (100,879) 186,102
--------------- --------------

Net cash provided by operating activities 364,167 612,223
--------------- --------------

Cash flows from investing activities:
Purchase of building and equipment (247,465) (2,226,170)
Increase in deposits (1,300) --
Payments on notes receivable from stockholder 1,422 --
Advances to stockholder -- (118,044)
Purchase of Sargent, Inc., net of cash acquired -- 50,266
Proceeds from sale of assets -- 71,219
Payments on note receivable from related parties 3,412 104,291
--------------- --------------

Net cash used in investing activities (243,931) (2,118,438)
--------------- --------------

Cash flows from financing activities:
Repayment of long-term debt (249,593) (282,867)
Proceeds from issuance of long-term debt 26,600 2,337,775
Proceeds from sale of common stock 20,165 40,766
Payments made to Medipace Medical Group, Inc. in consideration for
retaining certain liabilities of the dialysis division -- (467,647)
--------------- --------------

Net cash provided by (used in) financing activities (202,828) 1,628,027
--------------- --------------

Net increase (decrease) in cash and cash equivalents (82,592) 121,812

Cash and cash equivalents, beginning of year 121,812 --
--------------- --------------

Cash and cash equivalents, end of year $ 39,220 121,812
--------------- --------------
--------------- --------------

</TABLE>

(Continued)

<PAGE>

NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY
Consolidated Statements of Cash Flows, Continued
<TABLE>
<CAPTION>

1997 1996
----------- -----------
<S> <C> <C>
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest $ 205,567 124,456
Income taxes 7,634 2,400
----------- -----------
----------- -----------
</TABLE>

Supplemental schedule of noncash investing and financing activities:
During 1997, the Company acquired equipment of $171,451 by incurring
capital lease obligations.
During 1997, current debt of $200,000 and accrued interest of $10,000 were
converted to 200,000 shares of common stock.
During 1997 and 1996, the Company granted stock options of 283,422 and
809,739, respectively, in exchange for services rendered with a fair
value of $258,422 and $498,753, respectively.
During 1997, the Company issued 1,449,739 shares, which included shares
issued from the exercise of options granted in 1997 and 1996, in exchange
for services with a fair value of $735,953. During 1996, the Company
issued 995,000 shares in exchange for services with a fair value of
$441,000.
In October 1996, the Company sold certain assets to stockholders in
exchange for $71,219 in cash and a note receivable of $865,202.
During 1996, the Company disposed of net liabilities of the discontinued
potato harvesting operations amounting to $108,761.
During 1996, the Company purchased land and building of approximately
$2,122,000 by issuing notes payable of $2,055,000 and the balance in
cash.

See accompanying notes to consolidated financial statements.

<PAGE>

NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY
Notes to Consolidated Financial Statements
December 31, 1997 and 1996

(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

ORGANIZATION AND LINE OF BUSINESS

National Quality Care, Inc. (the Company) provides dialysis services for
patients suffering from chronic kidney failure through two dialysis clinics
located in Los Angeles, California, and for patients suffering from acute
kidney failure through a visiting nurse program contracted to five Los
Angeles County hospitals. Payment for services is provided primarily by
third-party payors including Medicare, Medi-Cal and commercial insurance
companies and by contracted hospitals.

PRINCIPLES OF CONSOLIDATION

The consolidated financial statements include the accounts of National
Quality Care, Inc. and its wholly owned subsidiary, Los Angeles Community
Dialysis, Inc. All material intercompany transactions and balances have
been eliminated.

USE OF ESTIMATES

The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions. This affects the reported amounts of assets and liabilities
and disclosures of contingent assets and liabilities at the date of the
financial statements as well as the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from
those estimates.

CASH EQUIVALENTS

For purposes of the statements of cash flows, the Company considers all
highly-liquid investments purchased with original maturity of three months
or less to be cash equivalents.

BUILDING AND EQUIPMENT

Building and equipment are stated at cost. Equipment under capital leases
is stated at the present value of minimum lease payments. Depreciation and
amortization are being provided using the straight-line method over the
estimated useful lives of 5 to 30 years as follows:

<TABLE>
<S> <C>
Building 30 years
Medical equipment 7 to 10 years
Office equipment 5 years
Leasehold improvements 10 years

</TABLE>

Expenditures for maintenance and repairs are charged to operations as
incurred while renewals and betterments are capitalized. Gains or losses
on the sale of building and equipment are reflected in the statements of
operations.

PATIENT REVENUE RECOGNITION

Medical service revenue consists of net patient service revenues, which are
based on the Company's established billing rates less allowances and
discounts principally for patients covered by Medicare, Medi-Cal and other
contractual programs. Payments under these programs are based on either
predetermined rates or the costs of

1
<PAGE>

NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued

services. These contractual allowances and discounts are reduced from
accounts receivable in the accompanying consolidated balance sheets.

The Medicare and Medi-Cal programs, which are the largest payors for
services rendered by the Company, accounted for approximately 63% and 64%
of the Company's net revenues for the years ended December 31, 1997 and
1996, respectively.

IMPAIRMENT OF LONG-LIVED ASSETS

Long-lived assets are reviewed for impairment in value based upon
undiscounted future operating cash flows, and appropriate losses are
recognized whenever the carrying amount of an asset may not be recovered.

STOCK-BASED COMPENSATION

The Company measures stock-based compensation using the intrinsic-value
method, which assumes that options granted at market price at the date of
grant have no intrinsic value. In accordance with Statement of Financial
Accounting Standards (SFAS) No. 123, "Accounting for Stock-Based
Compensation" (SFAS No. 123), pro forma net loss and loss per share are
presented in note 5 as if the fair-value method had been applied.

FAIR VALUE OF FINANCIAL INSTRUMENTS

The Company measures its financial assets and liabilities in accordance
with generally accepted accounting principles. For certain of the
Company's financial instruments, including cash, accounts receivable,
accounts payable and accrued expenses, the carrying amounts approximate
fair value due to their short maturities. The amounts shown for long-term
debt also approximate fair value because current interest rates offered to
the Company for debt of similar maturities are substantially the same.

INCOME TAXES

Income taxes are accounted for under 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 and tax credit carryforwards.
Deferred tax assets and liabilities are measured using enacted tax
rates expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled. The
effect on the deferred tax assets and liabilities of a change in tax
rates is recognized in income in the period that includes the enactment
date.

RECLASSIFICATIONS

Certain amounts in the 1996 financial statements have been reclassified to
conform to the 1997 presentation.

NEW ACCOUNTING STANDARDS

In June 1997, SFAS No. 130, "Reporting Comprehensive Income" and SFAS
No. 131, "Disclosures about Segments of an Enterprise and Related
Information," were issued and are effective for annual periods beginning
after December 15, 1997. SFAS No. 130 establishes standards for
reporting comprehensive income and its components. SFAS No. 131
establishes standards for reporting financial and descriptive
information regarding an enterprise's operating segments. These
standards increase disclosure in the financial statements and will have
no impact on the Company's financial position or results of operations.

2
<PAGE>
NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued

LIQUIDITY

The Company has suffered recurring losses and has a working capital deficit
of $394,604 at December 31, 1997. The 1997 net loss was partially
attributable to the opening of a new facility. The Company has also
entered into an agreement to acquire an additional facility (see note 11),
which it expects will generate positive cash flows from operations. Based
on the opening of new facilities and the expectation of increased patient
visits overall, the Company believes that it will be able to finance the
costs of its operations, including the payment of obligations as they come
due, from existing cash and cash generated by operations.

(2) RELATED PARTY TRANSACTIONS

During 1996, a shareholder executed two 8% unsecured demand notes payable
to the Company that amounted to $118,044, inclusive of unpaid accrued
interest, at December 31, 1996. In September 1997, the notes were combined
with the accumulated unpaid interest into one 8% unsecured note payable in
monthly installments of $4,580 due March 2000. Two payments totaling
$9,160 were received in 1997 and were applied to interest and principal of
$7,738 and $1,422, respectively. The outstanding balance is presented as
an offset to stockholders' equity.

During 1996, the Company sold certain assets for no gain or loss to former
affiliates for $71,219 of cash, net of encumbrances paid on those assets of
$478,781 and promissory notes totaling $865,202 that bore 8% interest and
were due September 1996. The notes were collateralized by approximately
648,000 shares of the Company's common stock and were in default at
December 31, 1996. Subsequently, the notes were assumed by a third party,
who purchased, from the affiliate, approximately 630,000 of the common
shares. The third party executed an additional $135,000 non-interest
bearing note to the Company, which is fully reserved. Both notes are due
February 1999 and are secured by the common shares. During 1997, 60,000
common shares were sold and the proceeds were applied to reduce principal
and accrued interest by $3,412 and $73,388, respectively. The Company has
provided for a valuation allowance of $220,000 on the $861,790 note to
reserve for the difference between the approximate fair value of the
collateral and the book value of the note.

3
<PAGE>

NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY

Notes to Consolidated Financial Statements, Continued

(3) PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment as of December 31, 1997 and 1996 consist of
the following:

1997 1996
----------- ------------
<S> <C> <C>
Land $855,897 855,897
Building 1,338,710 1,338,710
Medical equipment 503,794 283,677
Leasehold improvements 158,372 --
Office furniture and equipment 40,769 6,608
----------- ------------
2,897,542 2,484,892

Less accumulated depreciation and
amortization 336,032 227,157
----------- ------------

Total $2,561,510 2,257,735

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

</TABLE>

Depreciation expense for the years ended December 31, 1997 and 1996 was
$108,875 and $64,687, respectively. Medical equipment includes $171,451 of
equipment under capitalized leases and had accumulated amortization of
$12,859 at December 31, 1997.

(4) NOTES PAYABLE

Notes payable and long-term debt at December 31, 1997 and 1996 consist of
the following:

1997 1996
------------ ------------
<S> <C> <C>
Notes payable in monthly installments of $20,293, including interest
at prime plus 2% (10.25% at December 31, 1997) per annum,
through May 2006, collateralized by land, building and equipment
and assignment of $2,000,000 in life insurance of, and guaranteed
by, two majority stockholders

$ 1,760,256 1,820,213

Note payable, originally due in April 1997, including interest at 10%,
collateralized by land, building and assignment of rents, was
converted in 1997 into 200,000 common shares -- 200,000

Note payable, due in monthly installments of $25,000, including
interest of 8.25% per annum through June 1997, collateralized by
accounts receivable -- 161,074

Note payable, due in monthly installments of $858, including interest
at 10% with the unpaid balance due August 2000, secured by
equipment 24,022 --

</TABLE>

4
<PAGE>

NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY

Notes to Consolidated Financial Statements, Continued

1997 1996
------------- --------------
<S> <C> <C>
Capitalized lease obligations, due in aggregate monthly installments of
$3,488, including interest at 12%, due December 2001,
collateralized by equipment $ 149,399 --

Other -- 3,932
------------- --------------
1,933,677 2,185,219

Less current portion 63,483 380,414
------------- --------------

Long-term debt, net of current portion $ 1,870,194 1,804,805
------------- --------------
------------- --------------

</TABLE>

<TABLE>

The following is a schedule by years of future maturities of long-term
debt:
<S> <C>
Year ending December 31:
1998 $ 63,483
1999 74,965
2000 73,619
2001 68,595
2002 68,973
Thereafter 1,584,042
------------
Total $ 1,933,677
------------
------------

</TABLE>

(5) STOCK-BASED COMPENSATION

The Company has granted options and warrants to acquire stock under two
plans and various other grants made directly to certain parties for
incentive compensation and as compensation for services rendered or to be
rendered. As of December 31, 1997, an aggregate of approximately 2,993,000
shares of stock have been authorized for issuance under these arrangements
and substantially all instruments authorized have been issued. The vesting
requirements and the term of the options vary widely based on the specific
plan or grant. Stock options granted to date expire between two and six
years after the original date of grant and vest at date of grant, with the
exception of 500,000 warrants, which are exercisable after the Company
reaches certain performance measures.

In addition, 4,210,644 shares of common stock, at an exercise price of
$3.50 per share, may be issued to certain parties in the event the Company
meets certain financial conditions based on the results of operations of
the Company during the fiscal years ending from December 31, 1998 to
December 31, 2001. The 4,210,644 shares may be issued in the event that
the annual pretax earnings from operations of the Company during any of the
years ending December 31, 1998 to 2001 shall equal or exceed $2,000,000.

5
<PAGE>

NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY

Notes to Consolidated Financial Statements, Continued

Activity in the Company's stock option and warrant arrangements was as
follows (in thousands, except option price data):

1997 1996
------------------------ ------------------------

WEIGHTED- WEIGHTED-
AVERAGE AVERAGE
NUMBER OF EXERCISE NUMBER OF EXERCISE
SHARES PRICE SHARES PRICE
---------- ----------- ---------- ------------
<S> <C> <C> <C> <C>
Outstanding, beginning of year 1,740 $ 1.29 -- $ --

Options granted 643 .61 2,885 .92
Options exercised (1,540) .37 (1,145) .39
---------- ----------- ---------- ------------

Outstanding, end of year 843 2.45 1,740 1.29
---------- ----------- ---------- ------------
---------- ----------- ---------- ------------

Exercisable, end of year 343 .90 1,240 .40
---------- ----------- ---------- ------------
---------- ----------- ---------- ------------

</TABLE>

The weighted average fair value of options granted during 1997 and 1996 was
$.23 and $.63, respectively. The fair value of each option is estimated on
the date of grant using the Black-Scholes option-pricing model with the
following assumptions: dividend yield of 0% in 1997 and 1996, expected
volatility of 160% for 1997 and 140% for 1996, risk-free interest rate of
7% in 1997 and 1996, and expected life of 1.7 years for 1997 and 2.65 years
for 1996 grants.

The following table summarizes stock-based compensation outstanding at
December 31, 1997 (shares in thousands):

OUTSTANDING EXERCISABLE
------------------------------------------------------ -------------------------------
AVERAGE WEIGHTED- WEIGHTED-
RANGE OF NUMBER REMAINING AVERAGE NUMBER AVERAGE
EXERCISE PRICES OUTSTANDING AT CONTRACTUAL LIFE EXERCISE EXERCISABLE AT EXERCISE
12/31/97 PRICE 12/31/97 PRICE
- -------------------- ------------------ ----------------- ------------- ---------------- -----------
<S> <C> <C> <C> <C> <C>
$.18 to $1.00 293 3.4 years $ .76 293 $ .76
$1.75 to $3.50 550 4.6 years 3.34 50 1.75
------------------ ----------------
843 343
------------------ ----------------
------------------ ----------------

</TABLE>

The Company acquired services from nonemployees by granting stock-based
compensation and recognized compensation expense based on the fair value of
services rendered of $365,622 and $939,853 in 1997 and 1996, respectively.
Had compensation expense for the Company's employee stock-based
compensation plans been recognized based upon the fair value of the awards
granted, as prescribed under SFAS No. 123, the Company's pro forma net loss
would have been approximately $(744,000) or $(.15) for basic and diluted
loss per share in 1996. The Company has excluded from the 1996 pro forma
loss and from the 1997 compensation expense the fair value of the 500,000
unvested warrants since management believes that it is unlikely the Company
will meet the performance measures required to make these warrants
exercisable. No additional compensation expense would be recorded in 1997
under SFAS 123, since all the stock-based compensation granted during the
year is already reflected in the net loss. The pro forma effects are not
indicative of future amounts. The Company expects to grant additional
awards in future years.

6
<PAGE>

NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY

Notes to Consolidated Financial Statements, Continued

The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options which have no vesting
restrictions and are fully transferable. The assumptions for expected life
and volatility that are required by the model are highly subjective. The
Company does not believe the pro forma results of operations are
representational of the fair value of stock-based compensation.

(6) COMMITMENTS AND CONTINGENCIES

OPERATING LEASES

The Company has operating lease agreements for its new dialysis unit and
for certain equipment. In addition to the specified rent, the property
lease provides for the payment of certain building operating expenses over
base year amounts. Minimum annual rental commitments under all leases are
as follows:

Year Ending December 31:
<S> <C>
1998 $ 289,870
1999 289,870
2000 262,822
2001 208,726
2002 208,726
THEREAFTER 643,150
------------

Total $ 1,903,164
------------
------------

</TABLE>

RENT EXPENSE WAS $160,561 AND $81,139 FOR THE YEARS ENDED DECEMBER 31, 1997
AND 1996, RESPECTIVELY.

LEASE AND SUBLEASE AGREEMENTS

During 1996, the Company purchased land and building of approximately
$2,195,000 by issuing notes payable of $2,055,000 and the balance in cash.
The property was assigned under a 30-year master lease to a third party who
subleases the building and is responsible for paying expenses and servicing
the debt associated with the property. The master lease provides minimum
rental income of $22,642 per month through 1999. The third party receives
$1,000 per year from the Company as compensation, payable in arrears.
Rental income exceeding the expenses is held as a reserve deposit, while
the Company is responsible for any shortfall. The Company recognizes the
rental income and expenses.

The carrying value of the building of the land and building was $2,123,000
and $2,167,000 at December 31, 1997 and 1996, respectively. Depreciation
expense of $44,524 and $27,890 was included in rent and other expenses at
December 31, 1997 and 1996, respectively. The net reserve deposit included
in other assets was $11,894 and $12,366 at December 31, 1997 and 1996,
respectively.

EMPLOYMENT AGREEMENT

The Company has employment agreements with certain officers that provide
aggregate annual salaries of $345,000, which expire between February 1999
and December 2002.

<PAGE>

NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY

Notes to Consolidated Financial Statements, Continued

LITIGATION

In December 1997, a judgment for approximately $136,000 was rendered
against the Company and two codefendants arising out of the original
acquisition of the Company. On April 7, 1998, the Company settled the
above litigation for $60,000 and has included the amount in other income
(expense) in the consolidated statement of operations as of December 31,
1997 as it related to prior business activities.

In November 1997, the Company settled litigation related to its sublease of
one of its dialysis centers, which required that the Company enter into a
new lease at substantially the same terms, but did not require additional
payments.

(7) INCOME TAXES

Income tax expense differed from the amounts computed by applying the U.S.
Federal income tax rate to pretax income from operations as a result of the
following:

1997 1996
------------------ ----------------
<S> <C> <C>
Computed "expected" tax expense $ (25,200) (240,100)
Increase (reduction) in income taxes resulting from:
Change in the beginning-of-the-year balance of the valuation
allowance for deferred tax assets allocated to income tax expense
1,400,000 280,000
Adjustment to deferred tax assets for net operating losses not
previously presented due to potential IRC Section 382 limitations
(1,356,000) --
State and local income taxes, net of Federal income tax benefit (4,500) (43,350)
Other permanent differences 4,000 5,000
Other, net (16,700) 850
------------------ ----------------

$ 1,600 2,400
------------------ ----------------
------------------ ----------------

</TABLE>

8
<PAGE>

NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued

The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities at
December 31, 1997 and 1996 are presented below

1997 1996
--------------- --------------
<S> <C> <C>
Deferred tax assets:
Net operating loss carryforwards $ 1,560,000 248,000
Start-up costs 85,000 --
Other 35,000 32,000
--------------- --------------

Total gross deferred tax assets 1,680,000 280,000

Less valuation allowance (1,680,000) (280,000)
--------------- --------------

Net deferred tax assets $ -- --
--------------- --------------
--------------- --------------

</TABLE>

At December 31, 1997, the Company has provided a valuation allowance for
the deferred tax asset since management has not been able to determine that
the realization of that asset is more likely than not.

At December 31, 1997, the Company has net operating loss carryforwards for
Federal and state income tax purposes of $4,200,000 and $1,700,000,
respectively, which for Federal purposes are available to offset future
Federal taxable income, if any, through 2013. The Federal and state net
operating loss carryforwards include $3,700,000 and $1,500,000,
respectively, of losses, which are limited by IRC Section 382, however such
limitations have not yet been determined.

(8) EMPLOYEE PROFIT SHARING PLAN

The Company has a 401(k) profit sharing plan (the Plan) that covers
substantially all employees who meet the eligibility requirements of the
Plan. Contributions to the Plan are made at the discretion of management
and were $2,960 and $453 for 1997 and 1996, respectively.

(9) INSURANCE COVERAGE

The Company has workers' compensation and professional liability coverage
under a policy by a commercial insurance carrier. Coverage is available on
a claims-made basis for workers' compensation up to $1,000,000 per
occurrence and in the aggregate and for professional liability up to
$1,000,000 per occurrence and $3,000,000 in the aggregate on an annual
basis.

(10) EARNINGS PER SHARE

In 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 128, "Earnings Per Share" (EPS) (SFAS
No. 128). SFAS No. 128 replaced the calculation of primary and fully
diluted earnings per share with basic and diluted earnings per share.
Unlike primary earnings per share, basic earnings per share excludes any
dilutive effects of options. Diluted earnings per share is very similar to
the previously reported primary earnings per share. All earnings per share
amounts for all periods have been restated to conform to SFAS No. 128
requirements.

9
<PAGE>

NATIONAL QUALITY CARE, INC.
AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued

Weighted average shares outstanding for both basic and diluted loss per
share during 1997 and 1996 were 8,867,000 and 5,060,000, respectively. The
Company has not included the dilutive effect of assumed conversions and
exercises of stock options and warrants since the effect of such an
inclusion would be antidilutive due to the Company's net loss in 1997 and
1996.

Had the Company included the dilutive effect of assumed conversions and
exercises of stock options and warrants on the weighted average shares
outstanding, approximately 608,000 and 620,000 shares would have been
included in 1997 and 1996, respectively. Excluded from these totals were
warrants to purchase 500,000 shares of common stock at $3.50 per share that
were issued on May 11, 1996 and options to purchase 50,000 shares of common
stock at $1.75 that were granted on May 12, 1996. These options and
warrants were not included in the computation because their exercise price
was greater than the average market price of the common shares and,
therefore, the effect would be antidilutive.

Subsequent to December 31, 1997, the Company issued to non-employees
approximately 581,000 of stock options and warrants to purchase
approximately 581,000 shares of common stock at prices ranging from $.40 to
$1.53. Of the stock options and warrants issued, approximately 244,000 are
excercisable of which approximately 108,000 were exercised subsequent to
December 31, 1997.

(11) SUBSEQUENT EVENT

In December 1997, the Company entered into an asset purchase agreement,
whereby the Company agreed to purchase substantially all the assets other
than land and building of an organization engaged in a similar line of
business. As consideration for the asset purchase, the Company will pay
$875,000 in cash and assume liabilities of $375,000. It is the intent of
the selling organization to retain the rights to the land and building and
lease such facilities to the Company. The expected closing date is April
1998.

<PAGE>

CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS

We have issued our report dated April 8, 1997 accompanying the consolidated
financial statements included in the Annual Report of National Quality Care,
Inc. on Form 10-KSB for the year ended December 31, 1997. We hereby consent to
the incorporation by reference of said report in the Registration Statements
of National Quality Care, Inc. on Forms S-8 (File Nos. 333-03622, 333-06175,
333-14839, 333-21911, 333-25955, 333-32287, 333-34703, 333-45145, 333-46967,
and 333-49059).

SINGER LEWAK GREENBAUM & GOLDSTEIN LLP

Los Angeles, California
April 13, 1998

<PAGE>

INDEPENDENT AUDITORS' CONSENT

To the Board of Directors and Stockholders
National Quality Care, Inc.

We consent to incorporation by reference in the registration statements
(Nos. 333-03622, 333-06175, 333-14839, 333-21911, 333-25955, 333-32287,
333-34703, 333-45145, 333-46967, and 333-49059), on Form S-8 of National Quality
Care, Inc. of our report dated March 3, 1998, except as to the sixth paragraph
of note 6, which is as of April 7, 1998, relating to the consolidated balance
sheet of National Quality Care, Inc. and subsidiary as of December 31, 1997, and
the related consolidated statements of operations, stockholders' equity and cash
flows for the year ended December 31, 1997, which report is incorporated by
reference in the December 31, 1997 annual report on Form 10-KSB of National
Quality Care, Inc.

KPMG Peat Marwick LLP

Los Angeles, California
April 13, 1998

<PAGE>
<ARTICLE> 5

<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> DEC-31-1997
<CASH> 39,220
<SECURITIES> 0
<RECEIVABLES> 415,497
<ALLOWANCES> 0
<INVENTORY> 46,723
<CURRENT-ASSETS> 456,977
<PP&E> 2,897,542
<DEPRECIATION> 336,032
<TOTAL-ASSETS> 3,714,508
<CURRENT-LIABILITIES> 851,581
<BONDS> 1,870,194
0
0
<COMMON> 95,556
<OTHER-SE> 897,177
<TOTAL-LIABILITY-AND-EQUITY> 3,714,508
<SALES> 0
<TOTAL-REVENUES> 3,424,691
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 3,579,384
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 210,049
<INCOME-PRETAX> (364,742)
<INCOME-TAX> 1,600
<INCOME-CONTINUING> (366,342)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 0
<EPS-PRIMARY> (.04)
<EPS-DILUTED> (.04)

</TABLE>