MEDICODE INC, 424A, 1997-10-31

MEDICODE INC
424A, 1997-10-31
COMPUTER PROGRAMMING SERVICES

Previous: TELMARK INC, 10-Q, 1997-10-31

Next: EATON VANCE MUNICIPALS TRUST II, NSAR-A, 1997-10-31

<PAGE>

FILED PURSUANT TO RULE 424(a)
REGISTRATION NO.333-36293
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
+INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A +
+REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE +
+SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY +
+OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT +
+BECOMES EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR +
+THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE +
+SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE +
+UNLAWFUL PRIOR TO THE REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS +
+OF ANY SUCH STATE. +
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
SUBJECT TO COMPLETION, DATED OCTOBER 31, 1997

[LOGO OF MEDICODE APPEARS HERE]

2,000,000 SHARES

COMMON STOCK

Of the 2,000,000 shares of Common Stock offered hereby, 1,250,000 shares are
being issued and sold by Medicode, Inc. ("Medicode" or the "Company") and
750,000 shares are being sold by the Selling Stock- holders. See "Principal and
Selling Stockholders." The Company will not receive any of the proceeds from
the sale of shares by the Selling Stockholders. Prior to this offering, there
has been no public market for the Common Stock of the Company. It is currently
estimated that the initial public offering price of the Common Stock will be
between $12.00 and $14.00 per share. See "Underwriting" for information
relating to the method of determining the initial public offering price.

-----------

THE COMMON STOCK OFFERED HEREBY INVOLVES A HIGH DEGREE OF RISK.
SEE "RISK FACTORS" BEGINNING ON PAGE 6.

-----------

THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR
ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.

<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
UNDERWRITING PROCEEDS
PRICE TO DISCOUNTS AND PROCEEDS TO TO SELLING
PUBLIC COMMISSIONS COMPANY(1) STOCKHOLDERS
- --------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Per Share................... $ $ $ $
- --------------------------------------------------------------------------------
Total(2).................... $ $ $ $
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
</TABLE>
(1) Before deducting expenses payable by the Company, estimated at $750,000.
(2) The Company has granted the Underwriters a 30-day option to purchase up to
an additional 300,000 shares of Common Stock solely to cover over-
allotments, if any. If the Underwriters exercise this option in full, the
total Price to Public, Underwriting Discounts and Commissions and Proceeds
to Company will be $ , $ and $ , respectively.

-----------

The Common Stock is offered by the Underwriters as stated herein, subject to
receipt and acceptance by them and subject to their right to reject any order
in whole or in part. It is expected that delivery of such shares will be made
through the offices of BancAmerica Robertson Stephens, San Francisco,
California on or about , 1997.

BANCAMERICA ROBERTSON STEPHENS

HAMBRECHT & QUIST

WESSELS, ARNOLD & HENDERSON

The date of this Prospectus is , 1997
<PAGE>

CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS
THAT STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE OF THE COMMON STOCK OF
THE COMPANY, INCLUDING STABILIZING BIDS, SYNDICATE COVERING TRANSACTIONS OR
THE IMPOSITION OF PENALTY BIDS. FOR A DISCUSSION OF THESE ACTIVITIES, SEE
"UNDERWRITING."

2
<PAGE>

NO DEALER, SALES REPRESENTATIVE OR ANY OTHER PERSON HAS BEEN AUTHORIZED TO
GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATIONS IN CONNECTION WITH THIS
OFFERING OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS, AND, IF GIVEN OR MADE,
SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY THE COMPANY, ANY SELLING STOCKHOLDER OR ANY UNDERWRITER. THIS
PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL, OR A SOLICITATION OF AN OFFER
TO BUY, ANY SECURITIES OTHER THAN THE REGISTERED SECURITIES TO WHICH IT
RELATES OR AN OFFER TO, OR A SOLICITATION OF, ANY PERSON IN ANY JURISDICTION
IN WHICH SUCH AN OFFER OR SOLICITATION WOULD BE UNLAWFUL. NEITHER THE DELIVERY
OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES,
CREATE ANY IMPLICATION THAT THERE HAS BEEN NO CHANGE IN THE AFFAIRS OF THE
COMPANY SINCE THE DATE HEREOF OR THAT THE INFORMATION CONTAINED HEREIN IS
CORRECT AS OF ANY TIME SUBSEQUENT TO THE DATE HEREOF.

UNTIL , 1997, (25 DAYS FROM THE DATE OF THIS PROSPECTUS), ALL DEALERS
EFFECTING TRANSACTIONS IN THE REGISTERED SECURITIES, WHETHER OR NOT
PARTICIPATING IN THIS DISTRIBUTION, MAY BE REQUIRED TO DELIVER A PROSPECTUS.
THIS DELIVERY REQUIREMENT IS IN ADDITION TO THE OBLIGATION OF DEALERS TO
DELIVER A PROSPECTUS WHEN ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR
UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.

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

TABLE OF CONTENTS

<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Summary................................................................ 4
Risk Factors........................................................... 6
The Company............................................................ 13
Use of Proceeds........................................................ 13
Dividend Policy........................................................ 13
Capitalization......................................................... 14
Dilution............................................................... 15
Selected Consolidated Financial Data................................... 16
Management's Discussion and Analysis of Financial Condition and Results
of Operations......................................................... 17
Business............................................................... 23
Management............................................................. 33
Certain Transactions................................................... 40
Principal and Selling Stockholders..................................... 41
Description of Capital Stock........................................... 44
Shares Eligible for Future Sale........................................ 46
Underwriting........................................................... 48
Legal Matters.......................................................... 49
Experts................................................................ 49
Additional Information................................................. 50
Index to Financial Statements.......................................... F-1
</TABLE>

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

Medicode, ClaimsManager System, Claims Edit System, CareTrends,
Comprehensive Healthcare Payment System, Medical Bill Advisor, Allowed Medical
and PowerTrak are trademarks of the Company. Trade names and trademarks of
other companies appearing in this Prospectus are the property of their
respective holders.

3
<PAGE>

SUMMARY

This Prospectus contains forward-looking statements which involve risks and
uncertainties. The Company's actual results could differ materially from those
anticipated in these forward-looking statements as a result of certain factors,
including those set forth under "Risk Factors" and elsewhere in this
Prospectus. The following summary is qualified in its entirety by the more
detailed information, including "Risk Factors" and the Consolidated Financial
Statements and Notes thereto, appearing elsewhere in this Prospectus.

THE COMPANY

Medicode is a leading provider of health care information products which
reduce administrative costs associated with the reimbursement process, control
clinical costs and increase the efficiency of the health care delivery process.
The Company's products are used by payors, providers and self-insured employers
to (i) accurately code and measure utilization of health care services, (ii)
screen and edit claims for accuracy, consistency and compliance, (iii)
efficiently evaluate, negotiate and implement provider payment arrangements,
and (iv) track and analyze all aspects of care for a particular medical
condition from initial diagnosis to treatment. The foundation for Medicode's
solutions is its proprietary database of over 500 million geographically
dispersed ambulatory patient care records, which is leveraged through the
Company's clinical and technical expertise in data collection, mapping and
analysis.

Health care payors have attempted to achieve cost savings by shifting to
providers an increasing portion of the financial risk associated with care
delivery, generally under capitated payment arrangements. These initiatives
have increased the necessity for reliable clinical and financial data in the
health care delivery and payment system. The pursuit of administrative savings
has led to the implementation of systems and knowledge bases designed to
streamline administrative processes and financial transactions. Clinical cost
containment efforts have focused on assessing the appropriateness of care and
the reasonableness of provider charges, requiring standardized pricing
guidelines and comparative databases and decision support tools. More recent
care reengineering efforts require systems to capture and compare the outcomes
of various treatment paths and standardize best treatment practices.

Medicode's products are designed to provide solutions for administrative cost
reduction, clinical cost containment and care reengineering. The Company's
syndicated data products include proprietary coding source books and reference
materials used by medical providers and payors to code medical procedures
performed and other various non-proprietary titles which the Company resells.
Approximately 80,000 customers have purchased one or more of the Company's
syndicated data products in the last three years. The Company's benchmarking
database products include databases of usual, customary and reasonable charges
for specific procedures in particular geographic areas and state-mandated
workers' compensation fee schedules which are currently licensed to over 1,300
customers. The Company's clinical editing software includes products for
enhancing data accuracy, consistency and compliance and decision support tools
which are currently licensed to over 170 customers.

The Company's product development strategy leverages its proprietary patient
encounter database which the Company regularly updates through the addition of
data contributed by customers. The Company's products under development
include: Allowed Medical, which will enable customers to evaluate payor-allowed
charges by geographic region to determine more accurately the amount which will
actually be paid for specific procedures; CareTrends, which will track a
patient's entire course of treatment for a particular condition enabling
customers to assess utilization and referral patterns and enhance clinical
practice guidelines based on demonstrated outcomes; and the PowerTrak System,
which will apply managed care analysis guidelines and decision support to
enable comprehensive medical management of workers' compensation and automobile
insurance claims.

The Company's growth strategy is to: (i) leverage its approximately 80,000
current customers by cross-selling additional higher value, higher margin
products; (ii) target additional underpenetrated customer segments such as
providers assuming financial risk, self-insured employers and workers'
compensation and automobile insurers; (iii) target larger customers with
significant operating budgets and more complex information system needs; (iv)
continue to emphasize repeat and recurring revenue from customers who have
previously purchased similar products from the Company; and (v) pursue the
acquisition of complementary businesses, products or technologies.

4
<PAGE>

THE OFFERING

<TABLE>
<S> <C>
Common Stock Offered by the Company. 1,250,000 shares
Common Stock Offered by the Selling
Stockholders....................... 750,000 shares
Common Stock Outstanding after the
Offering........................... 7,936,535 shares(1)
Use of Proceeds..................... For working capital and other general
corporate purposes. See "Use of Proceeds."
Proposed Nasdaq National Market Sym-
bol................................ MECD
</TABLE>

SUMMARY FINANCIAL INFORMATION
(in thousands, except per share data)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEAR ENDED DECEMBER 31, SEPTEMBER 30,
------------------------ ------------------
1994 1995 1996 1996 1997
------- ------- ------- -------- --------
<S> <C> <C> <C> <C> <C>
CONSOLIDATED STATEMENT OF
OPERATIONS DATA:
Revenue.......................... $21,035 $25,699 $32,618 $18,773 $22,791
Cost of revenue.................. 7,173 9,164 11,053 5,357 6,811
Selling, general and administra-
tive............................ 10,774 11,947 13,735 9,428 10,634
Research and development......... 3,141 4,335 5,214 4,148 4,229
Operating income (loss).......... (53) 253 2,616 (160) 1,117
Net income (loss)................ (112) 48 1,629 (128) 750
Pro forma net income per
share(2)........................ $ 0.21 $ 0.09
Shares used in computing pro
forma net income per share(2)... 7,873 7,909
</TABLE>

<TABLE>
<CAPTION>
SEPTEMBER 30, 1997
--------------------------------------
ACTUAL PRO FORMA (3) AS ADJUSTED(3)(4)
------ ------------- -----------------
<S> <C> <C> <C> <C> <C>
CONSOLIDATED BALANCE
SHEET DATA:
Cash and cash equiv-
alents............. $5,345 $7,030 $21,578
Working capital..... 1,490 3,175 17,723
Total assets........ 12,702 14,387 28,935
Long-term liabili-
ties, less current
portion............ -- -- --
Stockholders' equi-
ty................. 2,945 4,630 19,178
</TABLE>
- --------
(1) Based upon shares outstanding as of September 30, 1997. Includes 1,060,386
shares issuable upon the exercise of outstanding warrants upon the
completion of this offering and 227,892 shares to be sold by certain
Selling Stockholders after the exercise of outstanding options immediately
prior to the completion of this offering. Excludes (i) 1,476,738 shares
issuable upon exercise of options outstanding at a weighted average
exercise price of $1.58 per share, (ii) 200,000 shares reserved for future
issuance under the Company's Employee Stock Purchase Plan (the "Purchase
Plan") and (iii) 750,000 shares reserved for future issuance under the
Company's stock option plans. See "Capitalization," "Management -- Stock
Plans" and "Description of Capital Stock."
(2) See Note 1 of Notes to Consolidated Financial Statements for information
concerning the computation of pro forma net income (loss) per share.
(3) Pro forma and as adjusted stockholders' equity assumes the conversion of
all outstanding shares of Preferred Stock into Common Stock and the
exercise of outstanding warrants to purchase 1,060,386 shares of Common
Stock upon the completion of this offering with expected proceeds of
$1,685,000.
(4) As adjusted to reflect the sale of (i) 1,250,000 shares of Common Stock
offered by the Company hereby at an assumed initial public offering price
of $13.00 per share and the receipt of the net proceeds therefrom, and (ii)
the exercise of options to purchase 227,892 shares by certain Selling
Stockholders immediately prior to the completion of this offering and the
receipt of the proceeds therefrom. See "Use of Proceeds" and
"Capitalization."

Except as otherwise indicated, all information in this Prospectus assumes (i)
the reincorporation of the Company from Utah to Delaware which will be
effective prior to the completion of this offering, (ii) the filing of the
Company's Restated Certificate of Incorporation authorizing a class of
undesignated Preferred Stock, to be effective upon the completion of this
offering, (iii) the conversion of all outstanding shares of Preferred Stock
into Common Stock upon the completion of this offering, (iv) the exercise of
outstanding warrants to purchase 1,060,386 shares of Common Stock upon the
completion of this offering, (v) a 1.466-for-one forward stock split of the
Company's Common Stock to be effected prior to the completion of this offering,
and (vi) no exercise of the Underwriters' over-allotment option. See
"Description of Capital Stock" and "Underwriting."

5
<PAGE>

RISK FACTORS

This Prospectus contains forward-looking statements which involve risks and
uncertainties. The Company's actual results could differ materially from those
anticipated in these forward-looking statements as a result of certain
factors, including those set forth in the following risk factors and elsewhere
in this Prospectus. In addition to the other information in this Prospectus,
the following risk factors should be considered carefully in evaluating the
Company and its business before purchasing the Common Stock offered by this
Prospectus.

SEASONALITY; POTENTIAL FLUCTUATIONS IN FUTURE QUARTERLY OPERATING RESULTS

In addition to seasonality, the Company's quarterly operating results have
varied significantly in the past and are likely to vary substantially in the
future. Operating results for a particular quarter could be adversely affected
by factors such as the availability or delays in release of updated coding
reference data from regulatory agencies and professional associations; failure
of customers to renew licenses for the Company's benchmarking database or
software products; delays or price increases by the Company's suppliers,
printers and third-party product manufacturers; announcements of new products
by the Company or its competitors; discontinuation of any of the Company's
products and services; the loss of customers due to consolidation in the
health care industry; the timing of revenue recognition; customer budgeting
cycles and changes in customer budgets; changes in product mix; investments by
the Company in marketing, sales, research and development and administrative
personnel necessary to support the Company's anticipated operations; marketing
and sales promotional activities; changes in the length of the sales cycle for
the Company's products; software defects and other quality factors; excess
inventory charges associated with syndicated data products that remain unsold
at the end of the selling season; and general economic conditions. The
Company's operating results for any particular quarterly or annual period may
not be indicative of results for future periods.

As a result of any or all of the foregoing factors, the Company believes
that quarter-to-quarter comparisons of its results of operations should not be
relied upon as indications of future performance. In addition, due to the
foregoing or other factors, it is possible that in some future quarter the
Company's operating results may be below the expectations of public market
analysts and investors. In such event, the price of the Company's Common Stock
would likely be materially and adversely affected. There can be no assurance
that the Company will be successful in addressing these concerns. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."

DEPENDENCE ON REPEAT CUSTOMERS

A significant portion of the Company's revenue for any given period is
derived from the sale of products to customers who purchased a similar product
during the corresponding prior period. In 1995 and 1996, approximately 75% of
the Company's annual revenue was repeat and recurring in nature. Repeat and

6
<PAGE>

recurring revenue includes revenue from the sale of syndicated data products,
benchmarking database licenses and software licenses. Customers generally do
not enter into long-term contracts for syndicated data products. As a result,
repeat revenue from these products is dependent upon the customers' decision
to purchase updated materials. Benchmarking database licenses typically have
terms that are renewable annually. Consequently, repeat revenue from these
products is dependent upon customers' decisions to renew their licenses each
year. In contrast, software products are generally sold pursuant to multi-year
licenses. Decisions by current customers to refrain from purchasing, to reduce
their purchases of updated coding reference materials in the future, or to not
renew database or software licenses from the Company, could have a material
adverse effect on the Company's business, financial condition and results of
operations. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations."

TECHNOLOGICAL CHANGE AND NEED FOR PRODUCT DEVELOPMENT

The health care information market is characterized by rapid technological
change, changing customer needs and evolving industry standards. The Company
believes that as the market for its current products matures, its future
success will depend on its ability to enhance its current products and to
develop, acquire and introduce new products to keep pace with technological
developments and emerging industry standards. In this regard, the Company has
under development several new benchmarking database and software products
scheduled for commercial release. The Company's products under development
will require additional development, testing and quality assurance prior to
commercial introduction. Furthermore, there can be no assurance that
unforeseen delays or difficulties will not be encountered during the
development of a particular product or that scheduled release dates will be
achieved. There can be no assurance that the Company's expected new product
releases and product enhancements will adequately address customers'
requirements for performance and functionality or that new software products
will not contain errors that would delay product introduction or shipment. In
addition, products that the Company develops and introduces may not, when
introduced, be responsive to the needs of the market and the Company's
customers and may therefore fail to achieve market acceptance. Any inability
of the Company to meet scheduled release dates for new products or the failure
of new products being developed by the Company to achieve market acceptance
could have a material adverse effect on the Company's business, financial
condition and results of operations. See "Business -- Research and Product
Development."

Notwithstanding the Company's product development efforts, the introduction
of competing products embodying new technologies and the emergence of new
industry standards could render the Company's products obsolete or
noncompetitive. Furthermore, regardless of whether the Company is successful
in developing and introducing new products, competitors may develop and
introduce new products and services that render the Company's products and
services obsolete or noncompetitive. If competitors introduce new products
that render the Company's products obsolete or noncompetitive, the Company's
business, financial condition and results of operations would be materially
and adversely affected. See "Business -- Research and Product Development."

DEPENDENCE ON AMA LICENSES AND DATA SOURCES

The Company incorporates the Physicians' Current Procedural Terminology
("CPT") codes of the American Medical Association (the "AMA") into its
products under a nonexclusive agreement with the AMA. The CPT code system is
considered to be the current industry standard for identifying medical
procedures. Loss of the right to incorporate and use the CPT codes in the
Company's products or an increase in royalty payments to the AMA for the use
of such codes coupled with the inability to pass such costs on to customers in
whole or in part would adversely affect the Company's business, financial
condition and results of operations. The Company also obtains data from its
customers and from other sources that is used to update its proprietary
database. There can be no assurance that the Company's sources will continue
to provide data in the future or will provide such data on a timely basis. In
addition, the Company's data sources generally are not subject to exclusive
agreements with the Company; therefore, data included in the Company's
products may also be available to the Company's competitors. Furthermore,
certain of the Company's competitors may have access to data which is
unavailable to the Company and such data may provide their database products
with features or functionality superior to those of the Company's products. To
the extent

7
<PAGE>

that the Company is unable to keep its database products complete or current,
its customers may become dissatisfied with the Company's products and
discontinue their purchases. In the event that the Company's database is or is
perceived to be incomplete or out of date, the Company's business, financial
condition or results of operations could be materially adversely affected.

DEPENDENCE ON THIRD PARTIES

The Company's syndicated data products are dependent on the timely release
of updated coding references data by government agencies and professional
associations. Delays in the release of updated coding reference data by such
third parties would have a material adverse effect on the Company's business,
financial condition and results of operations. The Company also utilizes third
parties for printing of its technical coding and reimbursement publications
and for fulfillment services for these products. There can be no assurance
that such publications will be printed in a timely manner, or that they will
satisfy the Company's quality specifications. Significant delays in the
production or distribution of such publications may cause customers to
purchase competitive products from other companies and the loss of such
revenue and the potential loss of repeat revenue associated with such
customers could have a material adverse effect on the Company's business,
financial condition and results of operations.

The Company's benchmarking database and clinical editing software products
are dependent upon a number of third-party software products and clinical
coding systems. Financial or other difficulties experienced by third-party
providers could have an adverse impact on the Company's ability to create its
products. Moreover, if third-party products and systems become unavailable,
there is no assurance the Company would be able to find suitable alternatives
on commercially reasonable terms if at all. Failure of such third parties to
maintain or enhance their products could impair the functionality of the
Company's software products and could require the Company to obtain
alternative products from other sources or to develop such software
internally, either of which could involve costs and delays as well as
diversion of Company resources. In addition, modifications or enhancements by
these third-party vendors often require that the Company modify its own
products to operate with these enhancements or modifications. There can be no
assurance that the Company will be able to modify its own software to
accommodate third-party changes or that the effort to make such changes will
not adversely affect the Company's other development projects. These factors
could have a material adverse effect on the Company's business, financial
condition and results of operations.

INTEGRITY AND RELIABILITY OF DATA

The marketability of the Company's database products depends significantly
on the integrity of the data upon which they are based. Although the Company
tests data for completeness and consistency, it does not conduct independent
audits of the information provided by its customers. Moreover, while the
Company believes that the benchmarking and other clinical, cost and
performance information contained in its databases generally represents the
operating experience of the health care providers from which it is obtained,
there can be no assurance that such information is appropriate for comparative
analysis in any or all cases or that the databases accurately reflect general
or specific trends in the health care market. If the information contained in
the Company's databases were found or perceived to be inaccurate, or if such
information were generally perceived to be unreliable, commercial acceptance
of the Company's database products would be materially and adversely affected.
Such loss of commercial acceptance could have a material adverse effect on the
Company's business, financial condition and results of operations.

UNCERTAIN ABILITY TO PROTECT PROPRIETARY TECHNOLOGY; RISKS OF INFRINGEMENT

The Company's success is dependent to a significant extent on its ability to
maintain the proprietary and confidential aspects of its products. The Company
relies on its license agreements with customers, confidentiality agreements
with employees, trade secrets, copyrights and patents to protect its
proprietary rights. There can be no assurance that the legal protections
available to and precautions taken by the Company will be adequate to prevent
misappropriation of the Company's proprietary information. Furthermore,
although the Company holds an issued patent relating to its CareTrends
technology, there can be no assurance

8
<PAGE>

such patent, or any future patents that may be issued to the Company, will not
be challenged, and subsequently invalidated or circumvented, by competitors or
others.

Substantial litigation regarding intellectual property rights exists in the
software industry, and the Company expects that software products may be
increasingly subject to third-party infringement claims as the number of
products and competitors in the Company's industry segment grows and the
functionality of products overlaps. The Company is not aware of any
infringement claims against the Company; however there can be no assurance
that third parties will not in the future claim infringement by the Company
with respect to current or future products, patents, copyrights, trademarks or
other proprietary rights. Any such claims, regardless of their merit, could
result in significant diversion of management time, result in costly
litigation, delay or prevent product shipments or require the Company to enter
into costly royalty or licensing agreements. Such royalty or licensing
agreements, if required, may not be available on terms acceptable to the
Company or at all. Any of these events could have a material adverse effect on
the Company's ability to market and sell its products and on its business,
financial condition and results of operations. See "Business --Intellectual
Property."

CHANGES IN THE HEALTH CARE INDUSTRY; GOVERNMENT REGULATION

The health care industry is subject to changing political, economic and
regulatory influences that may affect the procurement practices and operation
of health care providers and payors. The Company's products and services are
designed to function within the current structure of the United States health
care financing and reimbursement system, their commercial value could be
adversely affected if there were material changes in this system. Many federal
and state legislators have announced that they intend to propose programs to
reform the United States health care system at both the federal and state
levels. These programs may, if enacted, increase governmental involvement in
health care, lower reimbursement rates and otherwise change health care
delivery and payment systems. Participants in the health care market may react
to these proposals and the uncertainty surrounding such proposals by
curtailing or deferring investments, including investments in the Company's
products and services. In addition, in response to this changing environment,
many providers and payors are consolidating to create larger organizations.
This consolidation reduces the number of potential customers for the Company's
products and services and may increase the bargaining power of these
organizations, which could lead to reduced prices for the Company's products.
The impact of these developments in the health care industry is difficult to
predict and could have a material adverse effect on the Company's business,
financial condition and results of operations.

Under the Health Insurance Portability and Accountability Act of 1996, the
Secretary of Health and Human Services is required to adopt national standards
for health information transactions and the data elements used in such
transactions. In addition, the Secretary is required to adopt safeguards to
ensure the integrity and confidentiality of health information. Violation of
the standards is punishable by fines and, in the case of wrongful disclosure
of individually identifiable health information, imprisonment. A number of
states are also considering the adoption of rules to protect the privacy of
patient records. These requirements, if adopted, may substantially affect the
means used by the Company to collect data and could therefore have an adverse
effect on the availability of data to the Company or on the Company's ability
to use certain data.

Although the Company is not currently subject to regulation by the United
States Food and Drug Administration (the "FDA"), the FDA could determine in
the future that one or more of the Company's software products is a clinical
decision tool, and thus subject to FDA regulation. In such event, the Company
could experience delays in developing and marketing new software products and
an increase in research and development costs which could have a material
adverse effect on the Company's business, financial condition or results of
operations.

PRODUCT LIABILITY

The Company's products provide information that relates to payment and
reimbursement of health care claims and provision of care. Any failure of the
Company's products to function in accordance with their

9
<PAGE>

specifications could result in product liability claims against the Company by
its customers. The Company may also be subject to potential claims if
physicians make clinical decisions or develop protocols which result in
adverse clinical events. The Company maintains insurance to protect against
certain types of product liability claims, but there can be no assurance that
its insurance coverage would adequately cover any claim asserted against the
Company. A successful claim brought against the Company in excess of, or
excluded from, its insurance coverage could have a material adverse effect on
the Company's business, financial condition or results of operations. Even
unsuccessful claims could result in the Company's expenditure of funds in
litigation and diversion of management time and resources. Although the
Company uses standard contractual language to protect against claims by its
customers, there can be no assurance that the Company will not be subject to
product liability claims, that such claims will not result in liability in
excess of insurance coverage, that the Company's insurance will cover such
claims or that appropriate insurance will continue to be available to the
Company in the future at commercially reasonable rates.

The information products offered by the Company may contain undetected
errors or failures. Errors or failures that are not detected until after the
commencement of commercial shipments of a product could result in a loss of,
or delay in, market acceptance of products and in claims against the Company.
The Company also depends on the accuracy of the data received from its data
sources. If a statistically significant number of medical records or
transactions were found to have been altered or incorrectly entered, or
otherwise contain flawed data, there could be a loss of, or delay in, market
acceptance of products based on such data and possible claims against the
Company, which could have a material adverse effect on the Company's business,
financial condition or results of operations.

COMPETITION

The health care information systems market is intensely competitive. The
Company believes that the principal competitive factors in the market include
the breadth and quality of system and product offerings, access to proprietary
data, the proprietary nature of methodologies and technical resources, and the
price and the effectiveness of marketing and sales efforts. Many of the
Company's existing and potential competitors have significantly greater
financial, technical, product development and marketing resources than the
Company. Competitors vary in size and in the scope and breadth of the products
and services offered, and the Company's products compete with various products
in their relevant markets. The Company's potential competitors include
specialty health care information companies, health care information systems
companies, software vendors and large data processing and information
companies. The Company also competes with the internal information resources
and systems of certain of its prospective and existing customers. Furthermore,
other major information companies not presently offering clinical health care
information services may enter the markets in which the Company competes.
There can be no assurance that future competition will not have a material
adverse effect on the Company's business, financial condition or results of
operations. See "Business -- Competition."

DEPENDENCE ON KEY PERSONNEL

The Company's success depends to a significant extent upon a number of key
managerial, technical and marketing personnel, none of whom is bound by an
employment agreement or has prior experience in managing a public company. The
Company maintains key man life insurance on its Chief Executive Officer and
President, Eugene S. Cattarina. The amount of the policy is $1.0 million and
the Company is the named beneficiary. The loss of the services of one or more
of the key employees of the Company could have a material adverse effect on
the Company. In addition, the Company believes that its future success will
also depend in large part upon its ability to attract, train and retain highly
skilled technical, management, sales and marketing personnel. Competition for
such personnel in the health care information and software industries is
intense. There can be no assurance that the Company will be successful in
attracting or retaining such personnel, and the failure to attract or retain
such personnel could have a material adverse effect on the Company's business,
financial condition or results of operations. See "Management."

RISKS ASSOCIATED WITH POTENTIAL ACQUISITIONS

The Company may in the future pursue acquisitions of complementary
technologies or businesses. Future acquisitions by the Company may result in
potentially dilutive issuances of equity securities, the

10
<PAGE>

incurrence of additional debt and amortization expenses related to goodwill
and other intangible assets, which could adversely affect the Company's
results of operations. In addition, acquisitions involve numerous risks,
including difficulties in the assimilation of the operations, products and
personnel of the acquired company, the diversion of management's attention
from other business concerns, risks of entering markets in which the Company
has no direct prior experience, and the potential loss of key employees of the
acquired company. There can be no assurance that the Company will ever
successfully complete an acquisition or that the Company will realize value
equal to or in excess of the consideration paid with respect to any
acquisition. These factors could have a material adverse effect on the
Company's business, financial condition or results of operations.

BROAD MANAGEMENT DISCRETION OVER USE OF PROCEEDS

The primary uses of proceeds from this offering are to provide funds for
research and development, sales and marketing, working capital and general
corporate purposes, including capital expenditures. A significant portion of
the net proceeds to the Company from this offering has not been designated for
specific uses. Accordingly, management of the Company will have broad
discretion with respect to the use of these funds. See "Use of Proceeds."

CONTROL BY EXISTING STOCKHOLDERS

The Company's executive officers, directors and their affiliates will, in
the aggregate, beneficially own approximately 51.9% of the outstanding shares
of the Company's Common Stock immediately following this offering (50.1% if
the Underwriters' over-allotment option is exercised in full). As a result,
these stockholders will continue to be able to elect all of the Company's
directors, will retain the voting power to approve all matters requiring
stockholder approval, and will continue to have significant influence over the
affairs of the Company. Such concentration of ownership may have the effect of
delaying, deferring or preventing a change in control of the Company. See
"Principal and Selling Stockholders."

POTENTIAL ANTI-TAKEOVER EFFECT OF DELAWARE LAW, CERTIFICATE OF INCORPORATION
AND BYLAWS

Certain provisions of Delaware law applicable to the Company could delay or
make more difficult a merger, tender offer or proxy contest involving the
Company, including Section 203 of the Delaware General Corporation Law, which
prohibits a Delaware corporation from engaging in any business combination
with any interested stockholder for a period of three years from the date the
person became an interested stockholder unless certain conditions are met. In
addition, the Board of Directors of the Company may issue shares of Preferred
Stock without stockholder approval on such terms as the Board may determine.
The rights of the holders of Common Stock will be subject to, and may be
adversely affected by, the rights of the holders of any Preferred Stock that
may be issued in the future. In addition, the Company's Certificate of
Incorporation and Bylaws eliminate the right of stockholders to call special
meetings of stockholders or to act by written consent without a meeting,
provide for a classified board of directors and eliminate cumulative voting in
the election of directors. All of the foregoing could have the effect of
delaying, deferring or preventing a change in control of the Company and could
limit the price that certain investors might be willing to pay in the future
for shares of the Company's Common Stock. See "Management" and "Description of
Capital Stock."

SHARES ELIGIBLE FOR FUTURE SALE

Sales of substantial amounts of Common Stock in the public market following
the offering made hereby could have an adverse effect on the trading price of
the Common Stock. Upon completion of this offering, the Company will have
outstanding 7,936,535 shares of Common Stock assuming no exercise of
outstanding options after September 30, 1997 other than the exercise of an
aggregate of 227,892 options to purchase Common Stock by certain Selling
Stockholders, all of which shares will be sold in this offering. Of these
shares, the 2,000,000 shares offered hereby (2,300,000 shares if the
Underwriters' over-allotment option is exercised in full) will be freely
tradeable without restriction or further registration under the Securities Act
of 1933, as amended (the "Securities Act"), unless purchased by "affiliates"
of the Company as that term is defined in Rule 144 under the Securities Act.
The remaining 5,936,535 shares of Common Stock outstanding upon completion of
this offering are "restricted securities" as defined in Rule 144 adopted under
the Securities Act.

11
<PAGE>

As a result of lock-up agreements between certain stockholders and
representatives of the Underwriters and the provisions of Rule 144 and Rule
701, additional shares will be available for sale in the public market as
follows: (i) no shares will be eligible for immediate sale on the date of this
Prospectus, (ii) 4,876,149 shares will be eligible for sale upon expiration of
the lock-up agreements 180 days after the date of this Prospectus, subject to
the provisions of Rule 144 and Rule 701 and (iii) the remaining 1,060,386
shares will be eligible for sale thereafter upon expiration of their
respective one-year holding periods. Shortly after the closing of this
offering, the Company intends to file a registration statement under the
Securities Act to register approximately 2,427,000 shares of Common Stock
reserved for issuance under the Company's stock option plans. Following the
closing of this offering, the holders of 5,076,649 shares of Common Stock will
be entitled to certain registration rights with respect to such shares. The
existence of a large number of shares eligible for future sale could have an
adverse impact on the Company's ability to raise additional equity capital or
on the price at which such equity capital could be raised. See "Description of
Capital Stock -- Registration Rights."

NO PRIOR PUBLIC MARKET; POSSIBLE VOLATILITY OF STOCK PRICE

Prior to this offering, there has been no public market for the Company's
Common Stock, and there can be no assurance that a viable public market for
the Common Stock will develop or be sustained after the offering contemplated
hereby or that the trading price of the Common Stock will not decline below
the initial public offering price. The initial public offering price will be
determined through negotiations among the Company, the Selling Stockholders
and the Representatives of the Underwriters and may not be indicative of
future market prices. See "Underwriting" for information relating to the
method of determining the initial public offering price. Factors such as
announcements of technological innovations or new products by the Company, its
competitors and other third parties, as well as quarterly variations in the
Company's anticipated or actual results of operations, changes in stock market
analysts' recommendations regarding the Company's securities and market
conditions in technology and health care industries generally, may cause the
market price of the Company's Common Stock to fluctuate significantly. In
addition, the stock market has experienced extreme price and volume
fluctuations, which have particularly affected the market prices of many
technology and health care companies and which have often been unrelated to
the operating performance of such companies. These broad market fluctuations
may also adversely affect the market price of the Company's Common Stock. In
the future, the Company's operating results may be below the expectations of
public market analysts and investors, and, as a result, the price of the
Common Stock would likely be materially adversely affected. See
"Underwriting."

ABSENCE OF DIVIDENDS

The Company currently intends to retain any future earnings to fund
operations and, therefore, does not anticipate paying any cash dividends in
the foreseeable future. The Company is prohibited from paying dividends under
the terms of the Company's bank credit agreement. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations -- Liquidity and
Capital Resources" and "Dividend Policy."

DILUTION

The initial public offering price will be substantially higher than the net
tangible book value per share of Common Stock. Investors purchasing shares of
Common Stock in this offering will therefore incur immediate and substantial
net tangible book value dilution of $10.54 per share of Common Stock. See
"Dilution."

BENEFITS OF THIS OFFERING TO MANAGEMENT AND CURRENT STOCKHOLDERS

The completion of the offering will provide significant benefits to the
current stockholders of the Company, including certain of its directors and
officers. The Company will not receive any of the proceeds from the sale of
shares by the Selling Stockholders. The completion of this offering will also
create a public market for the Common Stock and thereby is likely to increase
the market value of the investment by current stockholders in the Company.
Upon the closing of this offering, the difference between the aggregate
purchase price paid by the Company's management and other current stockholders
for their shares and the aggregate market value of such shares will be
approximately $7.3 million and $64.2 million, respectively. See "Dilution,"
"Management" and "Principal and Selling Stockholders."

12
<PAGE>

THE COMPANY

The Company was incorporated in Utah in October 1988 and will be
reincorporated in Delaware under the name Medicode (Delaware), Inc. prior to
the completion of this offering. The Company's principal offices are located
at 5225 Wiley Post Way, Suite 500, Salt Lake City, Utah 84116. The telephone
number at this location is (801) 536-1000.

USE OF PROCEEDS

The net proceeds to the Company from the sale of the 1,250,000 shares of
Common Stock offered by the Company hereby at an assumed initial public
offering price of $13.00 per share are estimated to be $14,363,000
($17,990,000 if the Underwriters' over-allotment option is exercised in full)
after deducting the underwriting discounts and commissions and estimated
offering expenses payable by the Company. The Company plans to use the
proceeds of this offering for research and development, sales and marketing
and general corporate purposes including working capital. In addition,
approximately $3.5 million of such proceeds are expected to be used for
capital expenditures, including approximately $2.5 million of expenditures for
new computer and management information systems. The amount and timing of
expenditures will depend on numerous factors, and management of the Company
will have broad discretion in determining the amount and timing of such
expenditures. The Company may also use a portion of the net proceeds to
acquire related businesses, technologies or products. While the Company
regularly evaluates potential acquisitions, the Company has no present
agreements or commitments with respect to any such acquisition. Pending such
uses, the Company intends to invest the net proceeds of this offering in
investment grade, short-term, income- producing investments, including United
States government obligations.

The Company will not receive any proceeds from the sale of the shares of
Common Stock offered by the Selling Stockholders.

DIVIDEND POLICY

The Company currently intends to use all available funds in the operation of
its business and does not anticipate paying any cash dividends in the
foreseeable future. Future dividends, if any, will be determined by the Board
of Directors. Covenants in the Company's bank credit facility prohibit the
payment of cash dividends.

13
<PAGE>

CAPITALIZATION

The following table sets forth the capitalization of the Company as of
September 30, 1997 (i) on a pro forma basis to give effect to the filing of a
Restated Certificate of Incorporation to authorize 5,000,000 and 50,000,000
shares of Preferred Stock and Common Stock, respectively, to reflect the
conversion of all outstanding shares of the Company's Preferred Stock into
Common Stock and the exercise of all outstanding warrants upon the completion
of this offering and the retirement of treasury stock, and (ii) as adjusted to
reflect the exercise of options to purchase 227,892 shares to be sold by
certain Selling Stockholders, and the sale of the 1,250,000 shares of Common
Stock offered by the Company hereby at an assumed initial public offering
price of $13.00 per share and after deducting the underwriting discounts and
commissions and estimated offering expenses payable by the Company.

<TABLE>
<CAPTION>
SEPTEMBER 30, 1997
---------------------
PRO FORMA AS ADJUSTED
--------- -----------
(in thousands)
<S> <C> <C>
Long-term liabilities, less current portion.............. $ -- $ --
Stockholders' equity:
Preferred Stock, $0.001 par value, 5,000,000 shares
authorized, no shares issued and outstanding, pro
forma and as adjusted................................. -- --
Common Stock, $0.001 par value, 50,000,000 shares
authorized; 6,458,643 shares issued and outstanding,
pro forma; 7,936,535 shares issued and outstanding, as
adjusted(1)........................................... 6,041 20,589
Accumulated deficit.................................... (1,082) (1,082)
Note receivable from stockholder....................... (329) (329)
------ -------
Total stockholders' equity........................... 4,630 19,178
------ -------
Total capitalization............................... $4,630 $19,178
====== =======
</TABLE>
- --------
(1) Common Stock outstanding pro forma includes 1,060,386 shares of Common
Stock issuable upon the exercise of outstanding warrants upon the
completion of this offering. Common Stock outstanding as adjusted includes
227,892 shares to be sold by certain Selling Stockholders after the
exercise of outstanding stock options immediately prior to the completion
of this offering. Excludes (i) 1,476,738 shares of Common Stock reserved
for issuance upon exercise of stock options outstanding as of September
30, 1997 at a weighted average exercise price of $1.58 per share, (ii)
200,000 shares reserved for future issuance under the Company's Purchase
Plan and (iii) 750,000 shares reserved for future issuance under the
Company's stock option plans. See "Management -- Stock Plans."

14
<PAGE>

DILUTION

The pro forma net tangible book value of the Company as of September 30,
1997 was approximately $4,630,000 or $0.72 cents per share of Common Stock.
Pro forma net tangible book value per share represents the amount of the
Company's total tangible assets less total liabilities divided by the total
number of shares of Common Stock outstanding after giving effect to the
conversion of all outstanding shares of Preferred Stock into Common Stock and
the exercise of all outstanding warrants upon the completion of this offering.
After giving effect to the sale by the Company of the 1,250,000 shares of
Common Stock offered hereby at an assumed initial public offering price of
$13.00 per share and after deducting underwriting discounts and commissions
and estimated offering expenses payable by the Company, the Company's pro
forma net tangible book value as of September 30, 1997 would have been
approximately $18,993,000 or $2.46 per share. This represents an immediate
increase in pro forma net tangible book value per share of $1.74 per share to
existing stockholders and an immediate dilution of $10.54 per share to new
investors purchasing shares of Common Stock in this offering. The following
table illustrates this per share dilution:

<TABLE>
<S> <C> <C>
Assumed initial public offering price per share................ $13.00
Pro forma net tangible book value per share at September 30,
1997........................................................ $0.72
Increase per share attributable to new investors............. 1.74
-----
Pro forma net tangible book value per share after this offer-
ing........................................................... 2.46
------
Dilution to new investors...................................... $10.54
======
</TABLE>

The following table sets forth, on a pro forma basis as of September 30,
1997, the number of shares of Common Stock purchased from the Company, the
total consideration paid and the average price per share paid by existing
stockholders and to be paid (at an assumed initial public offering price of
$13.00 per share) by purchasers of shares offered hereby (after deducting the
underwriting discounts and commissions and estimated offering expenses payable
by the Company).

<TABLE>
<CAPTION>
SHARES PURCHASED TOTAL CONSIDERATION
----------------- ------------------- AVERAGE PRICE
NUMBER PERCENT AMOUNT PERCENT PER SHARE
--------- ------- ----------- ------- -------------
<S> <C> <C> <C> <C> <C>
Existing stockhold-
ers(1)(2)................. 6,686,535 84.3% $22,700,000 58.3% $ 3.39
New investors.............. 1,250,000 15.7 16,250,000 41.7 13.00
--------- ----- ----------- -----
Total.................... 7,936,535 100.0% $38,950,000 100.0%
========= ===== =========== =====
</TABLE>
- --------
(1) Includes 1,060,386 shares of Common Stock issuable upon the exercise of
outstanding warrants upon the completion of this offering. Proceeds from
the exercise of such warrants are expected to be $1,685,000. Also includes
227,892 shares of Common Stock issuable upon the exercise of outstanding
options by certain Selling Stockholders immediately prior to the
completion of this offering, all of which shares will be offered in this
offering. Proceeds from the exercise of such options are expected to be
$185,000.
(2) Sales by the Selling Stockholders will reduce the number of shares held by
existing stockholders to 5,936,535 or 74.8% of the total number of shares
of Common Stock outstanding and will increase the number of shares held by
new investors to 2,000,000 or 25.2% of the total number of shares of
Common Stock outstanding after the offering.

The computations in the above table are determined after deducting the
underwriting discounts and commissions and estimated expenses of this offering
payable by the Company and assume no exercise of outstanding stock options
other than the options to purchase 227,892 shares of Common Stock which will
be exercised in connection with this offering. At September 30, 1997 there
were (i) options outstanding to purchase 1,476,738 shares of Common Stock at a
weighted average exercise price of $1.58 per share (ii) 200,000 shares
reserved for future issuance under the Company's Purchase Plan and (iii)
750,000 shares reserved for future issuance under the Company's stock option
plans. To the extent outstanding options are exercised, there will be further
dilution to new investors,. See "Management -- Stock Plans."

15
<PAGE>

SELECTED CONSOLIDATED FINANCIAL DATA

The consolidated statement of operations data presented below for the five
years ended December 31, 1996 and for the nine months ended September 30, 1997
and the consolidated balance sheet data for the five years ended December 31,
1996 and for the nine months ended September 30, 1997, are derived from the
Company's financial statements (except as otherwise noted) which have been
audited by Ernst & Young LLP, independent auditors. The consolidated statement
of operations data for the nine months ended September 30, 1996 has been
prepared on the same basis as the annual consolidated financial statements
and, in the opinion of management, contain all adjustments, consisting only of
normal recurring adjustments, necessary for a fair presentation of the
operating results for such period. The consolidated operating results for the
nine months ended September 30, 1997 are not necessarily indicative of the
results to be expected for any other interim period or any future fiscal year.
The data set forth below should be read in conjunction with the Company's
financial statements, related notes thereto and "Management's Discussion and
Analysis of Financial Condition and Results of Operations" included elsewhere
in this Prospectus.

<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEAR ENDED DECEMBER 31, SEPTEMBER 30,
------------------------------------------- ------------------
1992 1993 1994 1995 1996 1996 1997
------- ------- ------- ------- ------- ----------- ------
(in thousands, except per share data) (unaudited)
<S> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS
DATA:
Revenue:
Syndicated data........ $ 7,679 $ 7,535 $ 9,408 $11,678 $15,830 $6,861 $8,926
Benchmarking databases
and software.......... 7,315 9,369 11,627 14,021 16,788 11,912 13,865
------- ------- ------- ------- ------- ------ ------
Total revenue.......... 14,994 16,904 21,035 25,699 32,618 18,773 22,791
Cost of revenue:
Syndicated data........ 4,049 4,281 5,001 6,544 8,455 3,448 4,390
Benchmarking database
and software.......... 791 1,772 2,172 2,620 2,598 1,909 2,421
------- ------- ------- ------- ------- ------ ------
Total cost of revenue.. 4,840 6,053 7,173 9,164 11,053 5,357 6,811
------- ------- ------- ------- ------- ------ ------
Gross profit........... 10,154 10,851 13,862 16,535 21,565 13,416 15,980
Other expenses:
Selling, general and
administrative........ 7,155 14,019 10,774 11,947 13,735 9,428 10,634
Research and develop-
ment.................. 1,689 2,211 3,141 4,335 5,214 4,148 4,229
------- ------- ------- ------- ------- ------ ------
Operating income (loss). 1,310 (5,379) (53) 253 2,616 (160) 1,117
Interest income (ex-
pense), net............ (97) (260) (165) (107) (46) (33) 83
------- ------- ------- ------- ------- ------ ------
Income (loss) before in-
come taxes............. 1,213 (5,639) (218) 146 2,570 (193) 1,200
Income tax provision
(benefit).............. 531 (1,576) (106) 98 941 (65) 450
------- ------- ------- ------- ------- ------ ------
Net income (loss)....... $ 682 $(4,063) $ (112) $ 48 $ 1,629 $ (128) $ 750
======= ======= ======= ======= ======= ====== ======
Pro forma net income per
share(1)............... $ 0.21 $ 0.09
======= ======
Shares used in computing
pro forma net income
(loss) per share (1)... 7,873 7,909
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
------------------------------------------- ------------------
1992 1993 1994 1995 1996 1996 1997
------- ------- ------- ------- ------- ----------- ------
(in thousands, except per share data) (unaudited)
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Working capital (defi-
cit)................... $(1,748) $ 566 $ (302) $ (808) $ 981 $ (996) $1,490
Total assets............ 9,014 8,116 8,179 9,923 12,000 8,157 12,702
Long-term liabilities,
less current portion... 2,700 2,274 1,546 691 285 376 --
Stockholders' equity.... 1,499 407 310 391 2,150 363 2,945
</TABLE>
- --------
(1) See Note 1 of Notes to Consolidated Financial Statements for an
explanation of the method used to determine weighted average common shares
and equivalents.

16
<PAGE>

MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion of the financial condition and results of
operations of the Company should be read in conjunction with the Consolidated
Financial Statements and the Notes thereto included elsewhere in this
Prospectus. This Prospectus contains forward-looking statements which involve
risks and uncertainties. The Company's actual results could differ materially
from those anticipated in these forward-looking statements as a result of
certain factors, including those set forth under "Risk Factors" and elsewhere
in this Prospectus.

OVERVIEW

Medicode is a leading provider of health care information products which
reduce administrative costs associated with the reimbursement process, control
clinical costs and increase the efficiency of the health care delivery
process. The Company has three primary sources of revenue: syndicated data
products, benchmarking database products and clinical editing software.

Syndicated data products include (i) essential regulatory coding products
consisting of usage manuals on various coding systems, (ii) proprietary coding
and reimbursement products consisting of problem-solving manuals and software
tools which are used to code and review medical procedures and (iii) certain
non-proprietary third-party reference materials which the Company resells.
Revenue for syndicated data products is recognized when the product is
shipped.

Benchmarking database products include database modules containing both
comparative and specialty pricing information. Revenue from benchmarking
database products is derived from the license of standardized database
modules. Database licenses typically have terms that are renewable annually.
The annual database license fee entitles the customer to an update of the then
current data residing in the database six months after the contract date.
Revenue is recognized upon shipment of the product on either magnetic tape or
diskette and incidental customer support costs are accrued. Beginning in
January 1998, the Company plans to modify its database pricing to consist of
both a database license fee, which will be payable upon shipment, and a
separate update fee for periodic database updates during the year.

Clinical editing software includes products for screening and editing health
care claims. Software products are generally sold pursuant to multi-year
software license agreements. Revenue from software contracts is recognized
ratably over the initial period or subsequent renewal periods. Some software
contracts are priced based on transaction volume or require incremental usage
fees in addition to minimum fees. Revenue from variable fees is recognized as
earned. Post-contract customer support costs related to software products are
expensed as incurred. Contracts involving custom software development are
accounted for using the percentage-of-completion method. Amounts received in
advance of satisfying revenue recognition criteria are classified as deferred
revenue. Costs incurred in the development of software products are expensed
during the period in which such costs are incurred.

The sales cycles of the Company's products vary by product category. The
Company's syndicated data products and benchmarking database products have
sales cycles of approximately zero to six months, and the Company's clinical
editing software products have sales cycles of approximately six to 12 months.

A significant portion of the Company's revenue consists of repeat and
recurring revenue from the Company's current customer base. In 1995 and 1996,
approximately 75% of the Company's annual revenue was derived from the sale of
a product to a customer that purchased a similar product during the
corresponding prior period. Customers generally do not enter into long-term
contracts for syndicated data products and, as a result, repeat revenue from
these products is dependent upon the customers' decision to purchase updated
materials annually. Because database licenses typically have terms that are
renewable annually, repeat revenue from these products is dependent upon
customers' decisions to renew their licenses for each year. Software products
are generally sold pursuant to multi-year licenses, which are renewable at the
expiration of the initial multi-year term. Failure of current customers to
purchase updated coding reference materials or

17
<PAGE>

renew database or software licenses could have a material adverse effect on
the Company's ability to achieve anticipated levels of repeat and recurring
revenue, and therefore on its business, financial condition or results of
operations.

The Company has historically experienced, and expects to continue to
experience, a seasonal pattern in its results of operations. Revenue and net
income in the fourth quarter have been significantly higher than in the other
quarters due to the nature of the Company's syndicated data business. The
Company's syndicated data products, which represented 48.5% of total revenue
in 1996, incorporates coding reference data from regulatory agencies and
professional associations which is updated annually and typically released in
the third quarter. As a result, the Company ships substantially all of its
syndicated data products in the fourth quarter and, to a lesser extent, the
ensuing first quarter. While the Company's revenue is seasonal, its operating
expense levels are relatively fixed throughout the year and, to a large
degree, are based on anticipated revenue. As a result, any failure of the
Company to achieve its anticipated revenue in the fourth quarter would
adversely affect its results of operations for the year. In addition, the
combination of seasonality in revenue and fixed expenses has historically
produced, and may in the future produce, an operating loss in the second and
third quarters. As a result of the concentration of shipments of syndicated
data products in the fourth quarter, any delay in the release of updated
coding reference data by the relevant agencies or professional associations,
or any delay in the Company's production of coding reference materials for
shipment to customers, could have a material adverse effect on the Company's
business, financial condition or results of operations in a particular quarter
or fiscal year or on an ongoing basis. Revenue from benchmarking database and
software products typically do not experience seasonal fluctuations in the
same manner as syndicated data products revenue. Accordingly, if a higher rate
of revenue growth in these divisions continues as compared to the syndicated
data products division, then the seasonality of the Company's revenue and net
income will diminish. However, due to the large portion of revenue represented
by syndicated data products, a major shift in the composition of the Company's
revenue towards benchmarking database and software products would be required
for the seasonality of the Company's revenue and net income to diminish
significantly.

18
<PAGE>

RESULTS OF OPERATIONS

The following table sets forth, for the periods indicated, certain financial
data as a percentage of total revenue:

<TABLE>
<CAPTION>
NINE MONTHS
ENDED
YEAR ENDED DECEMBER 31, SEPTEMBER 30,
-------------------------- ---------------
1994 1995 1996 1996 1997
------- ------- ------- ------ ------
<S> <C> <C> <C> <C> <C>
Revenue:
Syndicated data................. 44.7% 45.4% 48.5% 36.5% 39.2%
Benchmarking databases and soft-
ware........................... 55.3 54.6 51.5 63.5 60.8
------- ------- ------- ------ ------
Total revenue................. 100.0 100.0 100.0 100.0 100.0
Cost of revenue:
Syndicated data................. 53.2 56.0 53.4 50.3 49.2
Benchmarking databases and
software....................... 18.7 18.7 15.5 16.0 17.5
------- ------- ------- ------ ------
Total cost of revenue......... 34.1 35.7 33.9 28.5 29.9
------- ------- ------- ------ ------
Gross Profit.................... 65.9 64.3 66.1 71.5 70.1
Other expenses:
Selling, general and administra-
tive........................... 51.2 46.5 42.1 50.2 46.7
Research and development........ 14.9 16.9 16.0 22.1 18.6
------- ------- ------- ------ ------
Total other expenses.......... 66.1 63.4 58.1 72.3 65.3
Operating income (loss)........... (0.2) 0.9 8.0 (0.8) 4.8
Interest income (expense), net.... (0.8) (0.4) (0.1) (0.2) 0.4
------- ------- ------- ------ ------
Income (loss) before income taxes. (1.0) 0.5 7.9 (1.0) 5.2
Income tax provision (benefit).... (0.5) 0.4 2.9 (0.3) 2.0
------- ------- ------- ------ ------
Net income (loss)................. (0.5)% 0.1% 5.0% (0.7)% 3.2%
======= ======= ======= ====== ======
</TABLE>

Nine Months Ended September 30, 1997 and 1996

Revenue. Total revenue for the nine months ended September 30, 1997
increased 21.4% to approximately $22.8 million from $18.8 million for the
comparable nine month period ended September 30, 1996. Revenue from syndicated
data products for the 1997 period increased 30.1% to $8.9 million from $6.9
million in the 1996 period. Revenue growth for syndicated data products
resulted primarily from increased sales of essential regulatory coding
products and increased sales of electronic media and software. Revenue from
benchmarking databases and software for the 1997 period increased 16.4% to
$13.9 million from $11.9 million in the 1996 period. Benchmarking database and
software revenue growth resulted from increased unit sales to new and existing
customers and increased transaction volume from certain users of the Company's
Medical Bill Advisor system which have licenses that are priced on a
transaction volume basis.

Cost of Revenue. Cost of revenue for the nine months ended September 30,
1997 increased to $6.8 million, or 29.9% of revenues, from $5.4 million, or
28.5% of revenue, for the nine months ended September 30, 1996. The increase
in cost of revenue on a percentage basis is due primarily to the change in
revenue mix. For the nine months ended September 30, 1997, syndicated data
products accounted for 39.2% of total revenue compared to 36.5% of total
revenue for the same period in 1996. Syndicated data products have a higher
cost of revenue than benchmarking database and clinical editing software
products due primarily to the inclusion within syndicated data products of
lower margin, third-party products resold by the Company as well as paper and
printing costs associated with such products. The Company expects the cost of
syndicated data products revenue to decrease in the future as ordering
patterns shift from paper products to publications produced and delivered on
electronic media. The Company expects, however, that syndicated data products
will continue to have a higher cost of revenue than benchmarking database and
software products.

19
<PAGE>

Selling, General and Administrative. Selling, general and administrative
costs increased 12.8% to $10.6 million in the nine months ended September 30,
1997 from $9.4 million in the nine months ended September 30, 1996. As a
percentage of revenue, selling, general and administrative costs decreased
slightly to 46.7% in the 1997 period from 50.2% in the 1996 period. The dollar
increase in selling, general and administrative expenses was due primarily to
increased sales and marketing. Selling, general and administrative costs
increased due to additional administrative costs associated with support of
higher volumes of business as well as costs associated with resolution of
certain pending legal matters.

Research and Development. Research and development costs increased 2.0% to
$4.2 million for the nine months ended September 30, 1997 from $4.1 million
for the nine months ended September 30, 1996. As a percentage of revenue,
research and development costs were 18.6% in the first nine months of 1997 as
compared to 22.1% for the comparable period of 1996. This decrease was due
primarily to lower spending for development of the new PowerTrak system in the
1997 period as compared to the 1996 period. The Company has recently taken
steps to standardize the platforms and tools used to develop its various
software products. The Company believes that, as new development projects are
undertaken, research and development costs will increase in absolute dollars
in future periods.

Years Ended December 31, 1996, 1995 and 1994

Revenue. Revenue increased 26.9% to $32.6 million in 1996 and increased
22.2% to $25.7 million in 1995 from $21.0 million in 1994. Revenue from
syndicated data products increased 35.6% to $15.8 million in 1996 and
increased 24.1% to $11.7 million in 1995 from $9.4 million in 1994. The
increase in syndicated data products revenue was primarily the result of
increased sales of essential regulatory coding products due in large part to
the addition of telemarketing and direct mail resources during this period.
These additional marketing resources also contributed to increased sales of
proprietary coding and reimbursement products in 1996.

Revenue from benchmarking databases and software increased by 19.7% to $16.8
million in 1996 and increased 20.6% to $14.0 million in 1995 from $11.6
million in 1994. Revenue from benchmarking databases and software in 1996
increased due primarily to new benchmarking database products introduced at
the end of 1995, an expanded sales force, a net increase in selling prices and
increased sales of ClaimsManager and Claims Edit Systems. Sales of these
systems increased due to increases in the number of value-added resellers
offering the products as well as the availability of software interfaces
enabling users to incorporate these systems into additional management
information systems used by payors and providers.

Cost of Revenue. Cost of revenue increased 20.6% to $11.1 million in 1996
and increased by 27.8% to $9.2 million in 1995 from $7.2 million in 1994. As a
percentage of total revenue, cost of revenue was 33.9% in 1996, 35.7% in 1995
and 34.1% in 1994. Cost of revenue increased from 1994 to 1995 due primarily
to shifts in syndicated data product mix and increases in resources to support
increased volumes of software product sales. These additional resources were
generally sufficient to support 1996 levels of business and, as a result, the
total cost of revenue for benchmarking databases and software did not change
significantly from 1995 to 1996.

Selling, General and Administrative. Selling, general and administrative
expenses in absolute dollars increased by 15.0% to $13.7 million in 1996 and
increased by 10.9% to $11.9 million in 1995 from $10.8 million in 1994. As a
percentage of revenue, selling, general and administrative costs decreased to
42.1% in 1996 from 46.5% in 1995 and 51.2% in 1994. The dollar increase in
selling, general and administrative expenses was due primarily to increased
sales and marketing expenses. Selling, general and administrative costs
increased in 1996 due to increased legal and other professional service
expenses associated with the resolution of certain legal matters and costs of
hiring and relocating certain executive management personnel hired during
1996. Selling, general and administrative expenses decreased as a percentage
of revenue due primarily to increasing sales volumes.

20
<PAGE>

Research and Development. Research and development expenses increased by
20.3% to $5.2 million in 1996 and increased by 38.0% to $4.3 million in 1995
from $3.1 million in 1994. As a percentage of revenue, research and
development expenses were 16.0%, 16.9% and 14.9% in 1996, 1995 and 1994,
respectively. The increase in research and development expenses was primarily
the result of costs incurred for development of the Company's PowerTrak system
and for clinical research and development of the CareTrends episode profiling
techniques. To date, no software development costs have been capitalized by
the Company. Costs accumulated after the establishment of technological
feasibility have not been material.

Income Taxes. The Company's effective tax rate was 36.6% in 1996, 67.1% in
1995 and 48.6% in 1994. Fluctuations from the statutory tax rates have
occurred due primarily to accrual of reserves for deferred tax assets that
potentially could expire before being utilized and benefits from research tax
credits. The Company has federal and state net operating loss carry forwards
as well as tax credits attributable to the Company's subsidiary. Because usage
of these tax benefits is dependent upon the subsidiary being able to generate
operating income, such tax benefits have been fully reserved. It is
anticipated that in the future the Company's effective tax rate will
approximate the combined federal and state statutory rate.

SELECTED QUARTERLY FINANCIAL RESULTS

The following table sets forth certain unaudited quarterly financial
information for the nine quarters ended September 30, 1997. The Company
believes that all necessary adjustments, consisting only of normal recurring
adjustments, have been included in the amounts stated below to present fairly
the selected quarterly information when read in conjunction with the
Consolidated Financial Statements and the Notes thereto included elsewhere
herein. The operating results for any quarter are not necessarily indicative
of results for any subsequent period or for the entire fiscal year and the
Company believes that quarter-to-quarter comparisons of its results of
operations should not be relied upon as indications of future performance.

<TABLE>
<CAPTION>
THREE MONTHS ENDED
-----------------------------------------------------------------------------------
SEPT. 30, DEC. 31, MAR. 31, JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, SEPT. 30,
1995 1995 1996 1996 1996 1996 1997 1997 1997
--------- -------- -------- -------- --------- -------- -------- -------- ---------
(in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Revenue:
Syndicated data........ $ 934 $7,445 $2,626 $1,243 $2,992 $8,969 $3,122 $1,781 $4,023
Benchmarking databases
and software.......... 3,090 3,954 4,311 3,631 3,970 4,876 4,886 4,200 4,779
----- ------ ------ ------ ------ ------ ------ ------ ------
Total revenue.......... 4,024 11,399 6,937 4,874 6,962 13,845 8,008 5,981 8,802
Cost of revenue:
Syndicated data........ 545 4,103 1,299 716 1,433 5,007 1,516 885 1,989
Benchmarking databases
and software.......... 646 650 713 584 612 689 851 775 795
----- ------ ------ ------ ------ ------ ------ ------ ------
Total cost of revenue.. 1,191 4,753 2,012 1,300 2,045 5,696 2,367 1,660 2,784
----- ------ ------ ------ ------ ------ ------ ------ ------
Gross profit........... 2,833 6,646 4,925 3,574 4,917 8,149 5,641 4,321 6,018

Other expenses:
Selling, general and
administrative........ 3,118 3,312 3,081 2,784 3,563 4,307 3,593 3,175 3,866
Research and develop-
ment.................. 1,062 1,560 1,518 1,445 1,185 1,066 1,626 1,139 1,464
Net income (loss)....... (525) 654 187 (417) 102 1,757 259 21 470
</TABLE>

The Company's quarterly revenue and operating results have varied
significantly in the past and are likely to vary substantially from quarter-
to-quarter in the future. In addition, the Company has historically
experienced and expects to continue to experience a seasonal pattern in
revenue and net income, with revenue and net income in the fourth quarter
being significantly higher than the other quarters due to the seasonal nature
of the Company's syndicated data business. As a result of the concentration of
shipments of syndicated data products in the fourth quarter, any delay in the
release of updated coding reference data by the relevant agencies or
professional associations, or any delay in the Company's production of coding
reference materials for shipment to customers, could have a material adverse
effect on the Company's business, financial condition or results of operations
in a particular quarter or fiscal year or on an ongoing basis. Revenue from
benchmarking database and software products typically do not experience
seasonal fluctuations in the same manner as syndicated data products revenue.

21
<PAGE>

LIQUIDITY AND CAPITAL RESOURCES

During the three year period ended December 31, 1996 and for the nine months
ended September 30, 1997, the Company has generally funded its operating and
capital requirements through cash generated by operations. The Company
generated cash from operations of $400,000 in 1994, $1.6 million in 1995,
$3.2 million in 1996 and $4.1 million for the nine months ended September 30,
1997. At September 30, 1997, cash and cash equivalents totaled $5.3 million.

Cash used in financing activities was $1.1 million in 1994, $900,000 in
1995, $800,000 in 1996 and $1.1 million in the nine months ended September 30,
1997. In 1994 and 1995, the Company borrowed $500,000 annually to finance
seasonal inventory build up for syndicated data products. These borrowings
were made pursuant to a revolving credit facility and were each outstanding
for approximately six months. In 1996, the Company borrowed $500,000 to
finance the acquisition of furniture and equipment. In August 1997, the
Company repaid all of its outstanding indebtedness, including the remaining
balance of this loan.

In August 1997, the Company entered into a three year revolving line of
credit facility with a bank which provides for an initial principal amount of
$5.0 million and an interest rate of prime plus .25%. Beginning December 31,
1998 the available principal amount will decrease by $200,00 quarterly.
Borrowings are limited to a percentage of eligible accounts receivable,
inventory and equipment but in no event will the available credit be less than
$2.25 million provided that the company remains in compliance with certain
covenants. The covenants include liquidity, leverage and coverage ratios,
profitability requirements, restrictions on additional indebtedness, payment
of cash dividends on the Company's capital stock and certain restrictions on
acquisitions and investments. Borrowings are secured by substantially all of
the Company's assets. At September 30, 1997 the Company was eligible to borrow
$4.5 million under its line of credit facility and was in compliance with
covenants under the credit agreement.

Cash used in investing activities consisting of purchases of furniture and
equipment was $700,000 in 1994, $700,000 in 1995, $800,000 in 1996 and
$700,000 in the nine months ended September 30, 1997.

The Company anticipates that it will be required to undertake capital
expenditures of approximately $3.5 million over the next 12 months, including
approximately $2.5 million of expenditures for new computer and management
information systems. The Company anticipates funding these expenditures with a
portion of the proceeds of this offering.

The Company believes that the net proceeds from this offering, together with
available funds and cash generated from operations, will be adequate to
satisfy its operating and capital requirements for at least the next 12
months. There can, however, be no assurance that the Company will not require
additional financing within this time frame. Such financing, if required, may
not be available on favorable terms or at all. Future equity financings could
result in dilution to the Company's stockholders.

22
<PAGE>

BUSINESS

OVERVIEW

Medicode is a leading provider of health care information products which
reduce administrative costs associated with the reimbursement process, control
clinical costs and increase the efficiency of the health care delivery
process. The Company's products are used by payors, providers and self-insured
employers to (i) accurately code and measure utilization of health care
services; (ii) screen and edit claims for accuracy, consistency and
compliance, (iii) efficiently evaluate, negotiate and implement provider
payment arrangements, and (iv) track and analyze all aspects of care for a
particular medical condition from initial diagnosis to treatment. The
foundation for Medicode's solutions is its proprietary database of over 500
million geographically dispersed ambulatory patient care records, which is
leveraged through the Company's clinical and technical expertise in data
collection, mapping and analysis.

INDUSTRY BACKGROUND

Health care expenditures have increased rapidly in recent years, totaling
approximately $1 trillion in 1996. The rapid escalation of costs has led to
the formation of managed care organizations ("MCOs"), which have sought
aggressively to control costs and manage the delivery of care. Efforts
initially focused on administrative cost reduction, followed by clinical cost
containment and, more recently, care reengineering, or the prospective
modification of health care delivery by providers. Payors have attempted to
achieve cost savings by shifting to providers an increasing portion of the
financial risk associated with care delivery, generally under capitated
payment arrangements. Providers have responded by forming groups or networks,
including emerging integrated delivery systems. As providers assume financial
risk, they seek to implement strategies and solutions that reduce
administrative costs, enhance revenue while containing clinical costs, and
reengineer care delivery. Moreover, providers, payors and self-insured
employers must balance these cost containment and care reengineering
initiatives with increasing demands to demonstrate quality of care.

Cost containment and care reengineering techniques have greatly increased
the necessity for reliable clinical and financial data in the health care
delivery and payment system. The pursuit of administrative savings has led to
the implementation of systems and knowledge bases designed to streamline
administrative processes and financial transactions. Efforts to contain
clinical costs have led to the development of methodologies designed to assess
the appropriateness of care and the reasonableness of provider charges,
requiring standardized pricing guidelines and comparative databases and tools.
More recent care reengineering efforts require systems to compare the outcomes
of various treatment paths and standardization of best treatment practices.
Due to the increasing complexity of the health care delivery and payment
environment, the generation and use of health care claims data has become
extremely important to the cost containment and care reengineering efforts of
providers and payors. The typical patient encounter generates health care
claims data which is consistent across reimbursement environments. The
resulting database represents the most readily available and reliable set of
geographically dispersed information regarding health care transactions.

In the treatment documentation process, patient visits are documented,
procedures and diagnoses are captured and coded, and the relevant data is
entered into the provider's billing system. Because providers generally
utilize English language descriptions of procedures and conditions, standard
coding systems are employed to enable efficient claims processing and cross-
provider comparisons. These coding systems represent the common language
between providers and payors and constitute the standard unit of service
identifier in both capitated and fee-for-service environments. A number of
coding systems have been developed, including the World Health Organization's
International Classification of Diseases, 9th Edition ("ICD-9"); the American
Medical Association's ("AMA") Current Procedural Terminology, ("CPT"); and the

23
<PAGE>

Healthcare Financing Administration's ("HCFA") Current Procedural Coding
Systems ("HCPCS"). Substantial modifications to these coding systems are
typically made on an annual basis to reflect changes in medical technology and
practice.

The data generated in the treatment documentation process is then used in
the financial transaction process, which involves provider compensation, care
utilization review, trend analysis and management reporting. In a traditional
or discounted fee-for-service environment, claims are generated and
transmitted to payors for adjudication and reimbursement. Payors review claims
for accuracy, completeness and appropriateness of care, compare pricing
against benchmarks and fee schedules, reprice claims when appropriate and
employ the data generated for utilization analysis and reporting.
Additionally, in a capitated environment, claims are replaced with care
reports, which both MCOs and at-risk providers utilize to review
appropriateness and effectiveness of care and, when applicable, calculate
provider incentive payments. This reporting data is then analyzed and compared
with national benchmarks to assess and improve the care delivery process and
standardize treatment protocols. As health care's standard unit of service
identifier, coding systems are fundamental to this range of analytical tasks
in any reimbursement environment.

Industry sources estimate the incidence of inaccurately or fraudulently
coded claims to be 3% to 10% of claims nationwide. In addition to the
substantial cost reduction opportunities available through claims analysis,
editing and repricing, enhancing the accuracy of health care reimbursement
claims and tracking and measuring the appropriateness of care provided to
patients also represent significant needs. Providers need information
solutions to improve the accuracy of claims submitted for reimbursement and to
ensure appropriate revenue. Payors and self-insured employers require
information solutions to screen and edit reimbursement claims for accuracy and
cost appropriateness, and to track and analyze the level of care provided to
patients for particular medical conditions. In order for providers, payors and
self-insured employers to effectively use claims databases for cost
containment and care reengineering, such databases must be standardized,
normalized and screened for accuracy and reliability through the use of
clinical editing techniques. As larger payor and provider organizations seek
to integrate disparate data sets, they require more sophisticated clinical
editing systems and enterprise-wide analytical tools.

MEDICODE SOLUTION

Medicode's products are designed to provide solutions for administrative
cost reduction, clinical cost containment and care reengineering. Medicode's
syndicated data products, benchmarking databases and clinical editing software
are used by payors, providers and self-insured employers to enhance each
principal step in the patient encounter data flow. Medicode's products and
services enhance its customers' ability to (i) accurately code and measure
utilization of health care services, (ii) screen and edit claims for accuracy,
consistency and compliance, (iii) efficiently evaluate, negotiate and
implement provider payment arrangements, and (iv) track and analyze all
aspects of care for a particular medical condition from initial diagnosis
through treatment. The foundation for Medicode's solutions is its extensive,
proprietary database of over 500 million geographically dispersed ambulatory
patient care records, which is leveraged through the Company's clinical
expertise and technical expertise in data collection, mapping and analysis.
These elements form the basis for Medicode's product development and marketing
strategy.

GROWTH STRATEGY

Key elements of the Company's growth strategy include:

* Develop and Market New Products Based on Database and Database
Management Expertise. The Company maintains, updates, and manages a
proprietary database of over 500 million patient

24
<PAGE>

encounter records reflecting actual health care transactions, which
Medicode regularly updates through the addition of raw data contributed
by customers. The Company plans to introduce in the fourth quarter of
1997 two new products developed through its database expertise: the
PowerTrak System, a comprehensive workers' compensation and automobile
medical insurance claims management tool; and Allowed Medical, a payor-
oriented database of payor allowed health care claims. Additionally, in
the first quarter of 1998, the Company plans to introduce CareTrends, a
patient episode of care analysis tool. The Company believes its database
and database management expertise provide an efficient and extensive
platform for developing additional new products, which reduces time to
market and overall development cost.

* Leverage Large Customer Base. The Company has approximately 80,000
customers that have purchased one or more of its syndicated data
products in the last three years and has over 1,300 licensed customers
for its benchmarking database products. The Company believes there is a
significant opportunity to expand sales to existing customers because
many syndicated data and benchmarking database customers purchase only a
small percentage of the current products offered in these product lines.
Additionally, the Company continues to expand its syndicated data and
benchmarking database product offerings through new product development.
The Company also believes there is a substantial opportunity to cross-
sell higher value clinical editing software to syndicated data and
benchmarking database customers.

* Target Provider and Self-Insured Employer Segments. The Company believes
that providers and self-insured employers represent its fastest growing
customer segments. As a result of cost containment initiatives in the
health care industry, providers are increasingly assuming more financial
risk. As a result, the Company is actively marketing many of its payor-
oriented products to evolving provider organizations. In addition, the
Company believes that a substantial opportunity is developing to sell
many of its managed care oriented products to workers' compensation and
automobile insurers. The Company believes that its understanding of and
relationships with both the payor and provider markets represent a
significant competitive advantage in this regard.

* Target Larger Customers. The Company is increasingly targeting larger
payor and provider organizations which typically have larger operating
budgets, have more sophisticated requirements for analytical and
decision support tools and can achieve a higher level of cost saving
through use of enhanced information systems. The Company's ClaimsManager
System is targeted toward large provider organizations and its PowerTrak
System is being developed for large workers' compensation and automobile
insurers. The Company believes that industry consolidation will create
additional large potential customers as smaller payor and provider
organizations, which represent a major portion of the Company's current
customer base, are consolidated into larger entities.

* Emphasize Repeat and Recurring Revenue. The Company derives a
significant portion of its revenue from the sale of a product to a
customer that purchased a similar product during the corresponding prior
period. Medicode seeks to emphasize this repeat business by focusing on
annual purchasing of updated syndicated data products and benchmarking
databases and recurring revenue through contractual, multi-year software
license agreements. In 1995 and 1996, approximately 75% of the Company's
annual revenue was derived from customers that purchased a similar
system or product in the prior year. The Company believes that its high
level of repeat and recurring business results principally from
Medicode's strong end-user relationships and the ongoing need for
current information and analytical tools resulting from changes in
medical practice and the continuing evolution of the health care
industry.

* Acquire Complementary Products and Businesses. The Company may acquire
complementary businesses, products or technologies to expand into
related areas and to increase market share within the Company's existing
product lines. The Company believes that acquisitions of new products
may provide additional cross-selling opportunities and expand its
customer base.

25
<PAGE>

PRODUCTS

Medicode's products fall into three broad categories: (i) syndicated data
products, (ii) benchmarking databases and (iii) clinical editing software. The
following table summarizes the functions performed by the Company's principal
products in each of these product categories:

<TABLE>
<CAPTION>
PRODUCTS (CURRENT AND
PRODUCT LINE UNDER DEVELOPMENT) DESCRIPTION CUSTOMERS
- --------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Syndicated Data Essential Regulatory Coding reference 80,000 customers over the last
Products Coding Products materials covering CPT, three years
ICD-9 and
HCPCS coding systems
------------------------------------------------------------------------
Proprietary Coding and Interpretive tools using
Reimbursement essential regulatory
Products coding products
------------------------------------------------------------------------
Third-Party Products Resale of third-party
publications
- --------------------------------------------------------------------------------------------------------
Benchmarking UCR Modules Prevailing fees for 1,300 licensed customers
Databases --Medical medical procedures by
--Dental CPT code at the
--Anesthesia geographic level
--HCPCS
--Outpatient Facility
------------------------------------------------------------------------
Workers' Compensation State-mandated fee
Fee Schedule Module schedules for workers'
compensation claims
------------------------------------------------------------------------
RBRVS Module Resource-based pricing
system
------------------------------------------------------------------------
Allowed Medical Payor-allowed fees at
(under development, the geographic and plan
beta site testing underway, level
scheduled for release Q4/97)
------------------------------------------------------------------------
CareTrends database Episodes of care for a
particular medical
CareTrends EIS condition on a severity-
adjusted basis,
(under development, identifying
beta site testing underway, overutilization,
scheduled for release Q1/98) underutilization and
referral patterns
- --------------------------------------------------------------------------------------------------------
Clinical Editing Claims Edit System Edit claims on a line- 170 licensed customers
Software by-line basis to ensure
data accuracy,
normalization and
payment
------------------------------------------------------------------------
ClaimsManager System Edit bills on a line-by-
line basis for accuracy,
data quality, and
revenue capture
------------------------------------------------------------------------
Medical Bill Advisor Bill review and
repricing for workers'
compensation and auto
insurance medical claims
------------------------------------------------------------------------
PowerTrak System Comprehensive management
(under development, beta of workers' compensation
site testing underway, and auto insurance
scheduled for release medical claims covering
Q4/97) all state-mandated
payment rules and
regulations
</TABLE>

26
<PAGE>

Syndicated Data Products

The Company's syndicated data products include essential regulatory coding
products consisting of usage manuals on the CPT, ICD-9 and HCPCS coding
systems, and proprietary coding and reimbursement products consisting of
problem-solving manuals and software products. Medicode's syndicated data
products provide solutions for enhancing the administrative efficiency of the
treatment documentation process and the accuracy of the patient encounter data
created in this process. These technical information data products enable
payors and providers to prepare and review medical, dental and workers'
compensation claims for payment using the mandated coding systems. Providers
utilize these products in the preparation of claims while payors and self-
insured employers use these products in the claims review process. Because
substantial modifications to the CPT, ICD-9 and HCPCS coding systems are
typically made on an annual basis, customers typically require new coding
reference materials at the beginning of each calendar year. Essential
regulatory coding products are available in print and electronic media and
will be furnished through an on-line service in the future. Proprietary coding
and reimbursement products are available in print, electronic media and
software. The Company also resells third-party publications.

Benchmarking Databases

Database Technology. Medicode's proprietary database of over 500 million
patient encounter records reflecting actual health care transactions underlies
the Company's current products and provides an efficient and extensive
platform for developing new products. Medicode regularly updates its database
by obtaining raw data from customers through its voluntary data contribution
program. Currently, 22% of the Company's benchmarking database customers
contribute data in exchange for credits against future database license fees.
The Company estimates and accrues for data credits at the time of revenue
recognition. Through this data contribution program, the Company is able to
supply current information for its database related products. When data is
submitted, it is run through a sophisticated proprietary editing and quality
assurance process to standardize and normalize the data prior to acceptance
into the databases. The Company's data engineering methodologies are designed
to ensure that its databases are comprehensive, accurate and unbiased towards
either payors or providers. The resulting objectivity allows the Company to
market its products to both payors and providers and improves the credibility
of the databases as benchmarking tools. In addition, the Company is developing
new methodologies to analyze, edit and statistically validate health care
encounter data to ensure that its core databases are up to date and accurate.

Current Products. Medicode's benchmarking databases are proprietary
solutions for financial and clinical cost containment and administrative
efficiency initiatives in the financial transactions process. Payors
incorporate the Company's databases in their claims adjudication systems to
generate fee schedules for claims review and payment. These databases are also
used to evaluate, negotiate and implement provider payment arrangements in
managed care environments. The Company's five UCR modules are databases of
usual, customary and reasonable ("UCR") charges for specific procedures in
particular geographic areas. Workers' compensation modules incorporate current
fee schedules for all of the approximately 40 states that have mandated the
use of a standardized schedule. These modules are used by payors to implement
state-mandated fee schedules and by states to benchmark their fee schedules.
The resource based relative value system ("RBRVS") module is used to assess
and analyze RBRVS fees to compare with change based contract amounts and
enable migration to resource-based pricing and adjudication.

Products Under Development. The Company is developing Allowed Medical, a
product which is designed to provide a database based on charges allowed by
payors rather than charges submitted by providers. Historically, health care
pricing databases have primarily captured data regarding the amounts charged
by providers, rather than the amounts that payors will actually allow, for
particular procedures. Allowed Medical is being designed to provide an
objective and defensible benchmark of payor-allowed charges in approximately
250 geographical and plan level groupings, differentiating between primary
care and specialty fee settings. The Company believes that the Allowed Medical
module methodology will be useful for payors and providers in creating,
reviewing and repricing claims, establishing new contractual arrangements and
assessing appropriate pricing levels in geographic markets.

27
<PAGE>

CareTrends is being developed to enable providers, payors and self-insured
employers to optimize utilization of medical care through episode of care
analysis. CareTrends uses a reference database that incorporates extensive
data linked to a specific patient over a period of up to two years in order to
capture an entire course of treatment for a particular condition. The
CareTrends reference database of over 250 million records of patient encounter
information is a subset of the Company's proprietary database. The actual
clinical experience reflected in the CareTrends reference database will enable
users to compare actual patient treatment with prevailing local treatment
norms for specific medical conditions. CareTrends is being designed to support
a variety of applications, including evaluating and comparing outcomes and
treatment costs across networks, various benefit plans, individual physicians,
physician groups and others, measuring the financial impact of a provider's
practice patterns, evaluating the effect of a particular benefit structure on
costs of care, and researching and evaluating a network or health care
affiliate before accepting financial risk. Provider organizations, payors and
self-insured employers will also be able to reengineer medical condition-
specific care delivery processes by requiring individual providers to utilize
protocols developed in part from CareTrends benchmarks.

Medicode also intends to provide CareTrends database information and
analytical services in which Medicode will perform episode of care analysis
using the CareTrends database on the customers' data. Medicode will also
license the CareTrends Executive Information System ("EIS"), a full decision
support software tool, to enable customers to perform their own analysis.

Clinical Editing Software

Current Products. The Company leverages its basic coding resources and
databases with claims editing software for both payors and providers. Payors
use the Company's Claims Edit System in the claims review process to screen
and edit claims on a line-by-line basis for accuracy, consistency and
compliance with Medicare regulations and other payor requirements. Providers
use Medicode's ClaimsManager to screen and edit bills during the claims
generation process, with the dual goals of fully capturing appropriate
provider revenue, and avoiding charges that result in rejection of payment and
require claim resubmission. Payors use the Company's Medical Bill Advisor to
review, reprice and adjudicate workers' compensation and automobile medical
claims.

Products Under Development. The Company is developing the PowerTrak system,
which will succeed the Company's earlier-generation Medical Bill Advisor
software system, as a decision support application for the workers'
compensation and automobile insurance medical claims marketplace. Workers'
compensation insurers must reimburse claims in accordance with state-mandated
payment rules and regulations in all states with mandated workers'
compensation fee schedules. Automobile insurers have historically not sought
to aggressively manage or contain health care costs paid in connection with
automobile accidents and, as a result, have encountered increasing exposure to
medical reimbursement claims. PowerTrak is being developed to cover all states
with mandated workers' compensation fee schedules and will be continually
updated for state workers' compensation payment rules, regulations, and
pricing. The Company believes that PowerTrak, when introduced, will represent
the most comprehensive bill review and claims adjudication software
application for managing such claims.

SERVICES

Medicode complements its products with data analysis services, which
primarily involve benchmarking a client's data against Medicode's reference
databases. Through these services, the functionality of many of Medicode's
products can be accessed by customers on a project fee basis. Medicode also
provides analytical services to assist its customers in the review and
statistical analysis of database information provided by Medicode. Other
Medicode analytical services include impact analysis studies to demonstrate to
prospective customers potential cost savings associated with use of Medicode
products and operative report coding reviews which assist payors and providers
in properly coding medical treatments or procedures that involve complex or
unique coding concerns. In addition, in connection with software system
installation, the Company may provide, at the customer's request, additional
training and database configuration services. These services are typically
billed to customers on a per project fee basis.

28
<PAGE>

RESEARCH AND PRODUCT DEVELOPMENT

The Company's research and product development activities include new
software product development, new and ongoing database development, product
updates and enhancements to existing products. The Company uses several methods
to identify new product opportunities and enhancements to current products,
including (i) targeted focus groups to collect feedback on specific
requirements, (ii) co-development arrangements with selected customers, (iii)
user conferences to achieve broad consensus on market needs, and (iv) feedback
from users of the Company's analytical services.

The Company's research and development activities are performed internally by
the Company's research and development staff of 56 professionals as of
September 30, 1997. The Company from time to time also uses outside software
development consultants to gain access to specialized expertise. The Company
plans to continue to increase its internal software research and development
capabilities.

Medicode's new software products under development consist primarily of its
CareTrends EIS and PowerTrak systems which are being developed to run on
Windows-based UNIX operating systems with an Oracle database. The Company is
also developing Windows and UNIX based versions of its ClaimsManager and Claims
Edit systems.

The Company's research and development expenditures in the nine months ended
September 30, 1997 and the years ended December 31, 1996, 1995 and 1994 were
$4.2, $5.2, $4.3, and $3.1 million, respectively.

The Company's products under development will require additional development,
testing and quality assurance prior to commercial introduction. Furthermore,
there can be no assurance that unforeseen delays or difficulties will not be
encountered during the completion of development or that scheduled release
dates will be achieved. There can be no assurance that the Company's expected
new product releases and product enhancements will adequately address
customers' requirements for performance and functionality or that new software
products will not contain errors that would delay product introduction or
shipment. In addition, products that the Company develops and introduces may
not, when introduced, be responsive to the needs of the market and the
Company's customers and may therefore fail to achieve market acceptance. Any
inability of the Company to meet scheduled release dates for new products or
the failure of new products being developed by the Company to achieve market
acceptance could have a material adverse effect on the Company's business,
financial condition and results of operations.

CUSTOMERS

The Company's customers include health care providers, payors and self-
insured employers, located throughout the United States. As of September 30,
1997, the Company had more than 80,000 customers that have purchased one or
more of its syndicated data products in the last three years, approximately
1,300 licensed customers for its benchmarking database products, and over 170
licensed customers for its clinical editing software products. Representative
customers of the Company's products include the following:

PAYORS/SELF-INSURED EMPLOYERS PROVIDERS
Boise Cascade Cleveland Clinic
Empire Blue Cross/Blue Shield Dartmouth Hitchcock
Healthcare Compare Duke University
HealthSource Johns Hopkins University
John Alden Insurance PhyCor
Kimberly Clark Scripps Clinic
Motorola Stanford University
Wal-Mart University of Chicago

29
<PAGE>

SALES, MARKETING AND CUSTOMER SUPPORT

Medicode's sales, marketing, and customer support organization is segmented
into three sales groups, each focused on a specific market or customer
segment, and its respective product and service offerings. The Company
believes that this sales organization facilitates the marketing of additional
products to the Company's existing customers and allows the Company's sales
personnel to enhance focus on the product needs of the customers.

Payor and Self-Insured Employer Group. This group focuses on selling
benchmarking database products and clinical editing software to payors and
self-insured employers. The Company employs a field sales force currently
consisting of 10 account executives who sell to new customers. In addition,
the Company employs six inside sales professionals who concentrate on renewals
and sell new licenses to existing customers. These six inside sales personnel
sell the Company's products through telemarketing, trade shows and an annual
industry conference sponsored by the Company, and focus on generating leads
for the Company's field sales force. The Company is currently implementing a
program to use value-added resellers on a selected basis.

Provider Group. Medicode has a field sales group, currently consisting of
five sales personnel, focused on selling ClaimsManager to large provider group
practices, clinics, academic centers and provider practice management
companies. This sales group will also focus on selling certain of the
Company's payor-oriented products to providers that are assuming financial
risk for care delivery.

Syndicated Data Group. Medicode sells syndicated data products through a
direct sales and account management program, including field sales for large
accounts and telemarketing. The Company conducts a direct mail campaign and
circulates a catalog of currently available products five times a year to
approximately 80,000 customers who have purchased products during the last
three years and over 200,000 additional prospects. Medicode's telemarketing
groups respond to in-bound orders and inquiries from customers and make out-
bound calls between catalog mailings to generate new sales to new customers
and expand sales to existing customers. Medicode also utilizes resellers who
distribute certain of the Company's coding products under Medicode's name or
under a private label.

The sales cycles for the Company's products vary by product category. The
Company's syndicated data products and benchmarking databases have sales
cycles of approximately zero to six months, and the Company's clinical editing
software products have sales cycles of approximately six to 12 months. The
Company believes that its PowerTrak System will have a sales cycle of
approximately 12 to 18 months. The health care information services industry
has experienced, and may in the future experience, lengthening sales cycles,
and such changes in sales cycles for the Company's products could have a
material adverse effect on the Company's business, financial condition and
results of operations.

The Company, through its customer support group, provides customer service
and support as part of the purchase price for benchmarking database and
software products. This support includes a toll-free telephone help line to
provide both clinical and technical assistance. To facilitate prompt response
and tracking of customer inquiries, a computerized system is used to log,
track, close and analyze all customer calls. The customer support group is
comprised of experienced nurses, clinical coders, technical support
specialists, and installation and training personnel. The customer support
group is also responsible for performing operative report coding reviews and
impact analysis studies.

30
<PAGE>

COMPETITION

INTELLECTUAL PROPERTY

Medicode relies on a combination of trade secrets, patents, copyrights,
trademarks, contractual provisions and technical measures to protect its
rights in various methodologies, systems, products and databases. The Company
seeks to protect its proprietary information through confidentiality
agreements with its employees. The Company's policy is to have employees enter
into agreements which among other things prohibits the disclosure of
confidential information and requires assignment to the Company of proprietary
rights to inventions that are related to the Company's business and are
conceived during the employee's tenure with the Company. There can be no
assurance that the legal protections available to and precautions taken by the
Company will be adequate to prevent misappropriation of the Company's
proprietary information. In addition, these precautions do not prevent
independent third-party development of functionally equivalent or superior
products or services.

Medicode was issued a United States patent in September 1996 relating to
methodologies used to analyze historical medical provider billings in order to
statistically establish a normative utilization profile. The technology
covered by this patent relates to Medicode's CareTrends product line. To date,
the Company has not filed additional United States patent applications. There
can be no assurance that the Company's issued patent or any future patents
which may be issued to the Company will not be challenged and subsequently
invalidated or circumvented by competitors or others.

The Company has entered into a cross-license agreement with HPR, Inc.
("HPR") pursuant to which agreement HPR has granted to the Company a license
to use, sell, develop, and sublicense to end-users products incorporating the
techniques and methodologies in a United States patent held by HPR and the
Company has granted HPR a license to use, sell, develop, and sublicense to
end-users products incorporating the techniques and methodologies in the
Company's patent relating to CareTrends. The agreement has a 30-year term, and
the cross-licenses granted under the agreement are nonexclusive and non-
royalty bearing and extend for the life of the respective patents. HPR's
patent under which the Company is licensed relates to software algorithms
which are designed to analyze medical treatment and procedure codes for
clinical inconsistencies and logical errors.

31
<PAGE>

to current or future products, patents, copyrights, trademarks or other
proprietary rights. Any such claims, regardless of their merit, could be time
consuming, result in costly litigation, delay or prevent product shipments or
require the Company to enter into costly royalty or licensing agreements. Such
royalty or licensing agreements, if required, may not be available on terms
acceptable to the Company or at all. Any of these events could have a material
adverse effect on the Company's business, operating results and financial
condition.

EMPLOYEES

As of September 30, 1997, the Company had 225 full time equivalent
employees, including 53 in cost of sales and customer support and fulfillment,
85 in sales and marketing positions, 56 in research and development activities
and 31 in administration. None of the Company's employees are represented by a
union or other collective bargaining group. The Company believes its
relationships with its employees to be satisfactory.

PROPERTIES

The Company's principal facility is located in Salt Lake City, Utah, in
approximately 54,000 square feet of leased space, under a lease that expires
on May 1, 2001. The Company also leases approximately 9,000 square feet of
warehouse space in Salt Lake City, Utah, under a lease that expires on June
30, 2001. The Company believes that its facilities are adequate for its
current operations and its reasonably foreseeable future requirements.

LITIGATION

The Company is not a party to any material pending litigation.

32
<PAGE>

MANAGEMENT

EXECUTIVE OFFICERS AND DIRECTORS

The executive officers and directors of the Company, and their ages as of
September 30, 1997, are as follows:

<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
Thomas F. Stephenson (1) 55 Chairman of the Board of Directors
(III)....................
Eugene Santa Cattarina 50 President, Chief Executive Officer and Director
(III)....................
Kevin W. Pearson.......... 40 Chief Operating Officer, Chief Financial
Officer, Treasurer and Secretary
Eileen R. Shanon.......... 48 Senior Vice President, Purchaser and Payor Group
Jerold G. Seare, M.D...... 48 Medical Director
Kevin M. Marcum........... 36 Senior Vice President, Syndicated Data Group
Terry L. Cameron.......... 31 Senior Vice President, Provider Group
Thomas R. Martin.......... 43 Senior Vice President, Software Development
Melville H. Hodge (2) (I). 67 Director
John H. Moragne (2) (I)... 40 Director
L. John Wilkerson (1) 54 Director
(II).....................
Carl Witonsky (2) (II).... 59 Director
</TABLE>
- --------
(1) Member of Compensation Committee
(2) Member of Audit Committee
(I) Class I Director
(II) Class II Director
(III) Class III Director

Thomas F. Stephenson has served as Chairman of the Board of Directors of the
Company since 1993. Since 1988, Mr. Stephenson has been a General Partner of
the Sequoia Capital group of venture capital funds. He currently serves as a
director of Sequana Therapeutics, Inc., Sterigenics International, Inc. and
several private companies. Mr. Stephenson holds a B.A. from Harvard College,
an M.B.A. from the Harvard Business School and a J.D. from Boston College Law
School.

Eugene Santa Cattarina joined the Company in January 1996 as President and
Chief Executive Officer. Prior to joining the Company, from 1986 to 1993, Mr.
Cattarina served in several positions with TDS Healthcare Systems Corporation
("TDS") a health care software company, including Vice President Marketing and
Sales, General Manager of Domestic Division and Chief Operating Officer and
President. From 1993 to 1995, following the acquisition of TDS by ALLTEL
Corporation, Mr. Cattarina served as Chief Operating Officer and President of
TDS and then as Executive Vice President of ALLTEL Information Services-
Healthcare Division, a health care software company. From 1967 to 1986, Mr.
Cattarina held various positions with Technicon Corporation, a clinical
laboratory automation Company, most recently as President of its Domestic
division. Mr. Cattarina holds a B.S. in Chemistry from Brooklyn College.

Kevin W. Pearson became the Chief Financial Officer of the Company in
February 1993 and became Chief Operating Officer in September 1997. Mr.
Pearson joined the Company in 1991 and previously held various positions in
the database and syndicated data products divisions. Prior to joining the
Company, from 1988 to 1991, Mr. Pearson was a senior manager in the Ernst &
Young LLP health care consulting practice. Mr. Pearson holds a B.S. in Finance
from the University of Utah and an M.B.A. from Harvard Business School.

Eileen R. Shanon, the Company's founder, was appointed Senior Vice
President, Purchaser and Payor Group in September 1997 and served as Senior
Vice President of Corporate Affairs from January 1996 through September 1997.
Ms. Shanon previously served as the Company's President from 1993 to January
1996. Prior to founding the Company in 1983, Ms. Shanon served for over 13
years as a consultant, medical administrator and multi-specialty review
specialist. Ms. Shanon holds a B.S. in Business from Chadron State College.

33
<PAGE>

Jerold G. Seare, M.D. joined the Company in 1989 as Medical Director. Prior
to joining the Company, from 1984 to 1989, Dr. Seare fulfilled his general
surgical residency at the University of Utah affiliated hospitals. From 1972
to 1980, Dr. Seare operated his own chiropractic practice. Dr. Seare holds a
B.S. from the University of Utah and an M.D. from the University of Utah.

Kevin M. Marcum joined the Company in 1993 and has served as Senior Vice
President, Syndicated Data Group since 1996. From 1991 to 1993, Mr. Marcum
held a variety of sales, marketing and consulting positions, most recently
with Franklin Quest Co., a time management and consulting entity where he
served in the sales and training group of that company's Canadian subsidiary.

Terry L. Cameron joined the Company in January 1997 as Senior Vice
President, Provider Group. Prior to joining the Company, from 1996 to 1997,
Mr. Cameron served as Executive Director of Washington University's Shared
Practice Plan. From 1993 to 1996, Mr. Cameron was Director of Reimbursement
and Managed Care at Duke University Medical Center. From 1992 to 1993, Mr.
Cameron was Director of Accounts Receivable and Reimbursement for Lutheran
General Medical Group. Mr. Cameron holds a B.S. in Business Administration
from the University of Iowa.

Thomas R. Martin joined the Company in February 1997 as Vice President
Software Development. Prior to joining the Company, from 1976 to 1996, Mr.
Martin held various positions with ALLTEL Information Services-Healthcare
Division, a health care software company, most recently as Vice President of
Research and Development. Mr. Martin holds a B.S. in Electrical Engineering
from the Ohio Institute of Technology.

Melville H. Hodge has served as a director of the Company since 1996. Since
1983, Mr. Hodge has been an independent management consultant. Mr. Hodge holds
a B.S. in Electrical Engineering from Northwestern University and was a Sloan
Fellow in Executive Management at Stanford University Graduate School of
Business.

John H. Moragne has served as a director of the Company since 1993. Since
1993, Mr. Moragne has been a Managing Director of Trident Capital, a private
investment firm which he helped found. From 1989 to 1993, Mr. Moragne served
as a principal of Information Partners, a private equity firm, and from 1989
to 1993, he served as a principal of Bain Capital, a leveraged-buyout firm.
Mr. Moragne is a director of DAOU Systems, Inc. Mr. Moragne holds a B.A. from
Dartmouth College, a Masters in Engineering and Petroleum Geology from the
Stanford Graduate School of Applied Earth Sciences and an M.B.A. from Stanford
Graduate School of Business.

L. John Wilkerson has served as a director of the Company since 1993. Since
1990, Mr. Wilkerson has been a General Partner in Galen Associates, a risk
capital partnership. Since 1980, Mr. Wilkerson has also held various positions
with The Wilkerson Group, a dedicated health care products consulting
practice, including his current position as a consultant to the Wilkerson
Group. Mr. Wilkerson serves as a director of British Biotechnology PLC,
Gensia-Sicor Inc. and Stericycle, Inc. Mr. Wilkerson holds a Ph.D. from
Cornell University.

Carl Witonsky has served as a director of the Company since 1994. Since
1991, Mr. Witonsky has been an independent management consultant. From July
1995 to December 1995, Mr. Witonsky also served as the interim Chief Executive
Officer of the Company. From 1989 to 1992, Mr. Witonsky served as the Chief
Executive Officer and Chairman of the Board of GMIS Inc., a health care
information systems company. He currently serves as the Chairman of the Board
of both Integrated Medical Management and Pace Health Management Systems and
as a director of Healthworks Alliance. In addition, Mr. Witonsky is a Venture
Partner at St. Paul Venture Capital. Mr. Witonsky holds a B.S. in Mathematics
and Physics from Albright College and is a graduate of The IBM Systems
Research Institute.

BOARD COMPOSITION

The Company currently has authorized six directors. In accordance with the
terms of the Company's Restated Certificate of Incorporation, effective upon
the closing of this offering, the terms of office of the Board of Directors
will be divided into three classes; Class I, whose term will expire at the
annual meeting of

34
<PAGE>

stockholders to be held in 1998; Class II, whose term will expire at the
annual meeting of stockholders to be held in 1999; and Class III, whose term
will expire at the annual meeting of stockholders to be held in 2000. The
Class I directors are Mr. Hodge and Mr. Moragne, the Class II directors are
Mr. Wilkerson and Mr. Witonsky, and the Class III directors are Mr. Stephenson
and Mr. Cattarina. At each annual meeting of stockholders after the initial
classification, the successors to directors whose term will then expire will
be elected to serve from the time of election and qualification until the
third annual meeting following election. In addition, the Company's Restated
Certificate of Incorporation provides that the authorized number of directors
may be changed only by resolution of the Board of Directors. Any additional
directorships resulting from an increase in the number of directors will be
distributed among the three classes so that, as nearly as possible, each class
will consist of one-third of the directors. This classification of the Board
of Directors may have the effect of delaying or preventing changes in control
or management of the Company.

Each officer is elected by and serves at the discretion of the Board of
Directors. Each of the Company's officers and directors, other than
nonemployee directors, devotes substantially full time to the affairs of the
Company. The Company's nonemployee directors devote such time to the affairs
of the Company as is necessary to discharge their duties. Ilan Shanon, an
employee of the Company, is the spouse of Eileen Shanon, the Company's Senior
Vice President, Purchaser and Payor Group. Otherwise, there are no family
relationships among any of the directors, officers or key employees of the
Company.

BOARD COMMITTEES

The Board of Directors has established an Audit Committee and a Compensation
Committee. The Audit Committee consisting of Messrs. Hodge, Witonsky and
Moragne reviews the internal accounting procedures of the Company and consults
with and reviews the services provided by the Company's independent auditors.
The Compensation Committee consisting of Messrs. Stephenson and Wilkerson
reviews and recommends to the Board the compensation and benefits of all
executive officers of the Company, administers the Company's 1997 Stock Plan
and 1997 Employee Stock Purchase Plan with respect to grants made thereunder
to executive officers, and reviews general policies relating to compensation
and benefits of employees of the Company.

DIRECTOR COMPENSATION

The Company does not pay its directors for attending meetings of the Board
of Directors or for serving on Committees of the Board of Directors. Directors
are reimbursed for their out-of-pocket expenses incurred in attending
meetings. From time to time, certain directors of the Company have received
grants of options to purchase shares of the Company's Common Stock pursuant to
the 1991 Stock Option Plan. After the closing of this offering, directors of
the Company will be eligible to receive grants of options to purchase Common
Stock pursuant to the 1997 Stock Option Plan. See "-- Incentive Stock Plans"
and "Certain Transactions."

35
<PAGE>

EXECUTIVE COMPENSATION

Summary Compensation Table. The following table sets forth certain
information for the year ended December 31, 1996 regarding the compensation of
the Company's Chief Executive Officer and the four other most highly
compensated executive officers of the Company whose total salary and bonus for
such fiscal year were in excess of $100,000 (the "Named Executive Officers").

SUMMARY COMPENSATION TABLE

<TABLE>
<CAPTION>
LONG-TERM
COMPENSATION
------------
AWARDS
------------
ANNUAL COMPENSATION SECURITIES
-------------------- UNDERLYING OTHER
NAME AND PRINCIPAL POSITION SALARY($) BONUS($) OPTIONS(#) COMPENSATION
- --------------------------- ---------- --------- ------------ ------------
<S> <C> <C> <C> <C>
Eugene Santa Cattarina..... $200,000 $100,000 386,291 $54,000(1)
President and Chief Execu-
tive Officer
Kevin W. Pearson........... 150,000 67,500 21,990 2,000(2)
Executive Vice President,
Chief Operating Officer
and Chief Financial Offi-
cer
Eileen R. Shanon........... 130,000 68,000 -- 12,000(3)
Senior Vice President,
Purchaser and Payor Group
Jerold G. Seare............ 145,000 28,000 -- --
Medical Director
Kevin M. Marcum............ 120,000 60,000 51,310 --
Senior Vice President,
Syndicated Data Group
</TABLE>
- --------
(1) Represents reimbursement for relocation costs incurred in connection with
commencing employment with the Company.
(2) Represents long-term disability insurance premiums paid by the Company.
(3) Represents an automobile allowance and long-term disability insurance
premiums paid by the Company.

Option Grants in Last Fiscal Year. The following table sets forth each grant
of stock options made during the fiscal year ended December 31, 1996 to each
of the Named Executive Officers:

OPTION GRANTS IN LAST FISCAL YEAR

<TABLE>
<CAPTION>
INDIVIDUAL GRANTS
--------------------------------------------------
POTENTIAL REALIZABLE
PERCENT OF VALUE AT
TOTAL ASSUMED ANNUAL
NUMBER OF OPTIONS RATES OF STOCK
SECURITIES GRANTED TO PRICE APPRECIATION
UNDERLYING EMPLOYEES IN EXERCISE FOR OPTION TERM(4)
OPTIONS FISCAL PRICE EXPIRATION --------------------
GRANTED(#)(1) YEAR(%)(2) ($/SHARE)(3) DATE 5%($) 10%($)
------------- ------------ ------------ ---------- --------- ----------
<S> <C> <C> <C> <C> <C> <C>
Eugene Santa Cattarina.. 386,291(5) 42.92% $ .85 N/A $ N/A $ N/A
Kevin W. Pearson........ 21,990 2.44 .85 1/18/06 12,000 30,000
Eileen Shanon........... -- -- -- -- -- --
Jerold G. Seare......... -- -- -- -- -- --
Kevin M. Marcum......... 14,660 1.63 .85 1/18/06 8,000 40,000
36,650 4.07 1.71 10/17/06 39,000 100,000
</TABLE>
- --------
(1) Options were granted under the Company's 1991 Stock Option Plan and vest
over four years with one-fourth vesting on the first anniversary of the
date of grant, and the remaining shares vesting in equal monthly
installments over the next thirty-six months thereafter, subject to
continued employment with or services to the Company.
(2) Based on an aggregate of 900,124 options and stock purchase rights granted
by the Company in the year ended December 31, 1996 to employees and
directors of and consultants to the Company, including the Named Executive
Officers.

36
<PAGE>

(3) The exercise price per share of each option was equal to the fair market
value of the Common Stock on the date of grant as determined by the Board
of Directors.
(4) The potential realizable value is calculated based on the term of the
option at its time of grant (ten years). It is calculated assuming that
the fair market value of the Company's Common Stock on the date of grant
appreciates at the indicated annual rate compounded annually for the
entire term of the option and that the option is exercised and sold on the
last day of its term for the appreciated stock price. These numbers are
calculated based on the requirements promulgated by the Securities and
Exchange Commission and do not reflect the Company's estimate of future
stock price growth.
(5) The grant to Mr. Cattarina was in the form of a stock purchase right and
was made pursuant to the Company's 1991 Stock Option Plan. Mr. Cattarina
purchased such shares in June 1996 at a purchase price of $.85 per share.
The purchase price was paid by delivery of a full recourse promissory note
in the amount of $329,375, which note bears interest at 6% per annum and
is due and payable in full on the earlier of January 1, 2003 or 90 days
following the termination of Mr. Cattarina's employment with the Company.
The shares are subject to a right of repurchase in favor of the Company
which right lapsed as to 25% of such shares on January 1, 1997 and lapses
as to the remaining shares on a ratable, monthly basis over the next 36
months. In the event of the termination of Mr. Cattarina's employment
prior to the lapse of such repurchase right, the Company has the option to
repurchase, at a repurchase price equal to the original purchase price,
any shares as to which the repurchase right has not lapsed. See "Certain
Transactions."

Year End Option Values. No Named Executive Officer exercised any stock
options during the fiscal year ended December 31, 1996, other than the stock
purchase right exercised by Mr. Cattarina in June 1996. The exercise price for
such stock purchase right was equal to the fair market value of the Company's
Common Stock at the time of such exercise, and accordingly no value was
realized by Mr. Cattarina at the time of such exercise. The following table
sets forth for each of the Named Executive Officers the number and value of
securities underlying unexercised options held at December 31, 1996:

AGGREGATE OPTION EXERCISES IN LAST FISCAL YEAR AND
FISCAL YEAR-END OPTION VALUES

<TABLE>
<CAPTION>
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING UNEXERCISED OPTIONS IN-THE-MONEY OPTIONS
AT FISCAL YEAR-END AT FISCAL YEAR-END (1)
---------------------------------- -------------------------
EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
--------------- ---------------- ----------- -------------
<S> <C> <C> <C> <C>
Eugene S. Cattarina..... -- -- $ -- $ --
Kevin W. Pearson........ 213,790 72,080 400,000 139,000
Eileen R. Shanon........ 116,233 18,325 247,000 34,000
Jerold G. Seare......... 46,727 11,912 94,000 26,000
Kevin M. Marcum......... 3,512 55,128 7,000 72,000
</TABLE>
- --------
(1) Calculated on the basis of the fair market value of the underlying
securities on December 31, 1996 of $2.73 per share, as determined by the
Company's Board of Directors, minus the exercise price.

STOCK PLANS

1991 Stock Option Plan. The Company's Amended and Restated 1991 Stock Option
Plan (the "1991 Plan") provides for the grant of incentive stock options to
employees and nonstatutory stock options to employees, directors and
consultants. Options granted under the 1991 Plan typically vest over four
years. As of September 30, 1997, options to purchase an aggregate of 1,582,428
shares of Common Stock (plus options to purchase an additional 122,202 shares
which were granted prior to adoption of the 1991 Plan) were outstanding and
742,072 shares had been issued upon exercise of outstanding options and stock
purchase rights. The remaining shares reserved for issuance under the 1991
Plan will be carried forward and reserved for issuance under the 1997 Plan, as
described below. Options granted under the 1991 Plan will remain

37
<PAGE>

outstanding in accordance with their terms, but the Board of Directors has
determined that following the date of this Prospectus, no additional options
will be granted under the 1991 Plan.

1997 Stock Plan. The Company's 1997 Stock Plan (the "1997 Plan") provides
for the grant of incentive stock options to employees (including employee
directors) and nonstatutory stock options and stock purchase rights to
employees, directors and consultants. A total of 750,000 shares of Common
Stock (including the 607,500 shares remaining available for issuance under the
1991 Plan) have been reserved for issuance under the 1997 Plan, all of which
are currently available for grant. The 1997 Plan is administered by the Board
of Directors or one of its committees, as applicable. Options and stock
purchase rights granted under the 1997 Plan will vest as determined by the
relevant administrator, and may accelerate and become fully vested in the
event of an acquisition of the Company if not assumed or an equivalent option
or right is not substituted by the successor corporation or an affiliate
thereof. The exercise price of options and stock purchase rights granted under
the 1997 Plan will be as determined by the plan administrator, although the
exercise price of incentive stock options must be at least equal to the fair
market value of the Company's Common Stock on the date of grant. The Board of
Directors may amend or modify the 1997 Plan at any time. The 1997 Plan will
terminate in September 2007, unless sooner terminated by the Board of
Directors.

1997 Employee Stock Purchase Plan. The Company has adopted a 1997 Employee
Stock Purchase Plan (the "Purchase Plan") and has reserved a total of 200,000
shares of Common Stock for issuance thereunder. No shares have been issued
under the Purchase Plan. The Purchase Plan will be administered by the Board
of Directors of the Company or by a committee appointed by the Board of
Directors. The Purchase Plan permits eligible employees to purchase Common
Stock through payroll deductions of up to 15% of an employee's compensation,
up to a maximum of $25,000 for all purchases ending within the same calendar
year. Employees are eligible to participate if they are customarily employed
by the Company or any participating subsidiary for at least 20 hours per week
and more than five months in any calendar year. Unless the Board of Directors
or its committee determine otherwise, each offering period will run for 24
months and will be divided into four consecutive purchase periods of
approximately six months. The first offering period and the first purchase
period will commence on the date of this Prospectus, and new 24 month offering
periods will commence every six months thereafter. In the event of an
acquisition of the Company, offering and purchase periods then in progress
shall be shortened and all options automatically exercised. The price at which
Common Stock will be purchased under the Purchase Plan is equal to 85% of the
fair market value of the Common Stock on the first day of the applicable
offering period or the last day of the applicable purchase period, whichever
is lower. Employees may end their participation in the offering period at any
time, and participation automatically ends on termination of employment. The
Board may amend or modify the Purchase Plan at any time. The Purchase Plan
will terminate in September 2007, unless terminated earlier in accordance with
its provisions.

401(K) PLAN

The Company has adopted a tax-qualified employee savings and retirement plan
(the "401(k) Plan") covering all of the Company's employees who meet certain
eligibility requirements. Pursuant to the 401(k) Plan, employees may elect to
defer a portion of their current compensation in an amount up to the lesser of
the statutorily prescribed limit ($9,500 in 1997) which is set annually by the
Internal Revenue Service or 15% of their pre-tax earnings and have the amount
of such reduction contributed to the 401(k) Plan. The 401(k) Plan also
authorizes the Company to make matching contributions, the maximum amount
which must be set by the Board of Directors prior to the end of each plan
year. The Board of Directors has authorized matching contributions for the
calendar year 1997 of the lesser of 50% of the employee deferral limited to a
maximum Company match of 2% of an employee's salary. The 401(k) Plan is
intended to qualify under Section 401 of the Code so that employee deferrals
and Company contributions to the plan and income earned on 401(k) Plan
contributions, are not taxable to employees until withdrawn from the 401(k)
Plan, and so that employee deferrals and contributions by the Company, if any,
will be deductible by the Company for the fiscal year to which they relate.

38
<PAGE>

EXECUTIVE OFFICER BONUS PLAN

The Company has maintained an employee bonus plan which provides for annual
bonuses for executive officers. Bonuses paid under the plan will be paid in
cash after the end of the year if the Company in such year meets predetermined
targets. Each executive officer's bonus amount is determined on the basis of
satisfaction of prespecified personal goals. The bonus plan is subject to
change at the discretion of the Compensation Committee.

EMPLOYMENT CONTRACTS AND CHANGES OF CONTROL ARRANGEMENTS

The Compensation Committee of the Board of Directors, as Plan Administrator
of the 1997 Stock Plan, has the authority to provide for accelerated vesting
of the shares of Common Stock subject to outstanding options held by the Named
Executive Officers and any other officer in connection with certain changes in
control of the Company or the subsequent termination of the officer's
employment following a change in control event.

None of the Named Officers have employment agreements with the Company, and
their employment may be terminated at any time. However, the Company has
entered into an agreement with Mr. Cattarina, the Company's President and
Chief Executive Officer, which provides for the acceleration of vesting of
certain shares subject to the Company's repurchase option so that such shares
shall immediately become fully exercisable in the event of certain changes in
control. In addition, Messrs. Martin, Cameron, Pearson and Cattarina commenced
employment with the Company pursuant to employment offer letters which entitle
such individuals to certain severance payments in the event their employment
is terminated by the Company without cause.

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

No executive officer of the Company served on the compensation committee of
another entity or on any other committee of the board of directors of another
entity performing similar functions during the year ended December 31, 1996.

LIMITATIONS ON LIABILITIES AND INDEMNIFICATION MATTERS

The Company's Certificate of Incorporation limits the liability of directors
to the maximum extent permitted by Delaware law. Delaware law provides that
directors of a corporation will not be personally liable for monetary damages
for breach of their fiduciary duties as directors, except liability for (i)
any breach of their duty of loyalty to the corporation or its stockholders,
(ii) acts or omissions not in good faith or which involve intentional
misconduct or a knowing violation of law, (iii) unlawful payments of dividends
or unlawful stock repurchases or redemptions or (iv) any transaction from
which the director derived an improper personal benefit.

The Company's Bylaws provide that the Company shall indemnify its directors
and executive officers and may indemnify its employees and other agents to the
fullest extent permitted by law. The Company believes that indemnification
under its Bylaws covers at least negligence and gross negligence on the part
of indemnified parties. The Company's Bylaws also permit it to secure
insurance on behalf of any officer, director, employee or other agent for any
liability arising out of his or her actions in such capacity, regardless of
whether the Bylaws would permit indemnification.

The Company has entered into agreements to indemnify its directors and
officers, in addition to indemnification provided for in the Company's Bylaws.
These agreements, among other things, indemnify the Company's directors and
officers for certain expenses (including attorneys' fees), judgments, fines
and settlement amounts incurred by any such person in any action or
proceeding, including any action by or in the right of the Company, arising
out of such person's services as a director or officer of the Company, any
subsidiary of the Company or any other company or enterprise to which the
person provides services at the request of the Company. The Company believes
that these provisions and agreements are necessary to attract and retain
qualified persons as directors and officers.

39
<PAGE>

CERTAIN TRANSACTIONS

In January 1996, the Company sold 386,291 shares of Common Stock to Eugene
S. Cattarina, the Company's President and Chief Executive Officer, for an
aggregate purchase price of $329,375, which was paid by delivery of a full
recourse promissory note with an interest rate of 6.0%. The loan is due and
payable in full on the earlier of January 1, 2003 or 90 days following the
termination of Mr. Cattarina's employment with the Company. The shares are
subject to a right of repurchase in favor of the Company which right lapsed as
to 25% of such shares on January 1, 1997 and lapses as to the remaining shares
on a ratable, monthly basis over the next 36 months. In the event of the
termination of Mr. Cattarina's employment prior to the lapse of such
repurchase right, the Company has the option to repurchase, at a repurchase
price equal to the original purchase price, any shares as to which the
repurchase right has not lapsed.

In July 1997, Registrant granted stock options to employees and directors
under its stock plans covering an aggregate of 236,759 shares of Registrant's
Common Stock, at an exercise price of $4.09 per share.

The Company has from time to time granted options and other compensation to
its directors and executive officers. Options granted to executive officers
vest and become exercisable in full in the event of an acquisition of the
Company in which the stockholders of the Company before the transaction own
less than 50% of the voting securities of the surviving or successor
corporation (or its parent if any) after the transaction. See "Management--
Director Compensation," "--Executive Compensation" and "--Stock Plans."

All future transactions, including any loans from the Company to its
officers, directors, principal stockholders or affiliates, will be approved by
a majority of the Board of Directors, including a majority of the independent
and disinterested members of the Board of Directors or, if required by law, a
majority of disinterested stockholders, and will be on terms no less favorable
to the Company than could be obtained from unaffiliated third parties.

40
<PAGE>

PRINCIPAL AND SELLING STOCKHOLDERS

The following table sets forth certain information with respect to the
beneficial ownership of the Common Stock as of September 30, 1997 and as
adjusted to reflect the sale by the Company and the Selling Stockholders of
the shares of Common Stock offered hereby (assuming no exercise of the
Underwriters over-allotment option) by: (i) each person (or group of
affiliated persons) known by the Company to be the beneficial owner of 5% or
more of the Company's outstanding shares of Common Stock, (ii) each director,
(iii) each of the Named Executive Officers, (iv) all directors and executive
officers as a group and (v) each Selling Stockholder. Except as otherwise
noted, the stockholders named in the table have sole voting and investment
power with respect to all shares of Common Stock shown as beneficially owned
by them, subject to applicable community property laws.

<TABLE>
<CAPTION>
AMOUNT AND NATURE OF AMOUNT AND NATURE OF
BENEFICIAL OWNERSHIP BENEFICIAL OWNERSHIP
OF COMMON STOCK BEFORE OF COMMON STOCK AFTER
THE OFFERING (1) THE OFFERING (1)
----------------------- NUMBER OF -----------------------
PERCENTAGE OF SHARES PERCENTAGE OF
NAME AND ADDRESS OF OUTSTANDING BEING OUTSTANDING
BENEFICIAL OWNER NUMBER SHARES OFFERED NUMBER SHARES
------------------- --------- ------------- --------- --------- -------------
<S> <C> <C> <C> <C> <C>
Entities Affiliated with
Sequoia Capital (2).... 1,624,008 24.3% -- 1,624,008 20.5%
Thomas F. Stephenson
3000 Sand Hill Road
Menlo Park, CA 94025
Entities Affiliated with
Galen Partners (3)..... 1,253,821 18.8 -- 1,253,821 15.8
L. John Wilkerson
666 Third Avenue
New York, NY 10017
Entities Affiliated with
Partech/Paribas (4).... 1,051,535 15.7 -- 1,051,535 13.2
101 California Street,
Suite 3150
San Francisco, CA 94111
Entities Affiliated with
Trident Capital (5).... 541,335 8.1 -- 541,335 6.8
John Moragne
2480 Sand Hill Road,
Suite 100
Menlo Park, CA 94025
St. Paul Fire and Marine
Ins. Co. (6)........... 501,530 7.5 -- 501,530 6.3
8500 Normandale Lake
Blvd.
Bloomington, MN 55437
Thomas F. Stephenson
(2).................... 1,624,008 24.3 -- 1,624,008 20.5
Sequoia Capital
3000 Sand Hill Road
Menlo Park, CA 94025
John H. Moragne (5)..... 541,335 8.1 -- 541,335 6.8
Trident Capital
One Bush Street, 15th
Floor
San Francisco, CA 94104
L. John Wilkerson (3)... 1,253,821 18.8 -- 1,253,821 15.8
666 Third Avenue
New York, NY 10017
Carl Witonsky (7)....... 68,144 1.0 -- 68,144 *
Melville H. Hodge(8).... 35,184 * -- 35,184 *
Eugene S. Cattarina (9). 386,291 5.8 386,291 4.9
Eileen R. Shanon (10)... 328,301 4.8 204,005 124,296 1.6
Kevin W. Pearson (11)... 250,746 3.6 250,746 3.1
Jerold G. Seare (12).... 56,806 * 56,806 *
Kevin M. Marcum (13).... 22,601 * 22,601 *
All current directors
and executive officers
as a group (12 persons)
(14)................... 4,605,718 63.7 204,005 4,401,713 51.9
Brent Anderson (15)..... 161,846 2.4 161,846 -- *
Edward Baker (16)....... 12,461 * 12,461 -- *
Charles J. Chamberlain.. 2,137 * 2,137 -- *
Stephen Ensign.......... 17,852 * 7,999 9,853 *
First Security Bank..... 58,028 * 51,591 6,437 *
Custodian FBO John H.
Flanders IRA Rollover
Barry Johnson........... 43,979 * 14,979 29,000 *
Kenneth D. Lame or Ruth
Dodge Lame joint
tenants with rights of
survivorship........... 185,693 2.8 24,999 160,694 2.0
Richard Mandahl......... 6,597 * 2,199 4,398 *
James T. Murphy......... 175,145 2.6 28,545 146,600 1.8
Smith Barney............ 6,718 * 3,665 3,053 *
Custodian for Barbara
Ray
Byron Smith (17)........ 259,524 3.8 129,762 129,762 1.6
William Tate (18)....... 105,812 1.6 105,812 -- *
</TABLE>
- -------
* Less than one percent.

41
<PAGE>

(1) Applicable percentage of ownership is based on (i) before this offering,
6,686,535 shares of Common Stock (which number includes (a) 5,398,257
shares outstanding on September 30, 1997, (b) 1,060,386 shares to be
issued prior to the closing of the Offering upon exercise of outstanding
warrants and (c) 227,892 shares to be sold by certain Selling
Stockholders after exercise of outstanding stock options); and (ii) after
this offering; 7,936,535 shares of Common Stock outstanding (assuming no
exercise of the Underwriters' over-allotment option). Beneficial
ownership is determined in accordance with the rules of the Securities
and Exchange Commission, and includes voting and investment power with
respect to shares. Shares of Common Stock subject to options currently
exercisable or exercisable within 60 days after September 30, 1997 are
deemed outstanding for computing the percentage ownership of the person
holding such options, but are not deemed outstanding for computing the
percentage of any other person.

(2) Consists of (i) 796,983 shares and warrants exercisable within 60 days of
September 30, 1997 to purchase an aggregate of 220,726 shares held by
Sequoia Capital Growth Fund, (ii) 394,252 shares and warrants exercisable
within 60 days of September 30, 1997 to purchase an aggregate of 109,187
shares held by Sequoia Capital V, (iii) 50,886 shares and warrants
exercisable within 60 days of September 30, 1997 to purchase an aggregate
of 14,088 shares held by Sequoia Technology Partners III, (iv) 16,955
shares and warrants exercisable within 60 days of September 30, 1997 to
purchase an aggregate of 4,696 shares held by Sequoia XXIII, and (v)
12,716 shares and warrants exercisable within 60 days of September 30,
1997 to purchase an aggregate of 3,519 shares held by Sequoia Technology
Partners V. Thomas F. Stephenson is the Chairman of the Board of
Directors of the Company and a general partner of the general partner of
each of Sequoia Capital Growth Fund, Sequoia Capital V, Sequoia
Technology Partners III, Sequoia XXIII and Sequoia Technology Partners V.
Mr. Stephenson disclaims beneficial ownership of the shares held by
Sequoia Capital Growth Fund, Sequoia Capital V, Sequoia Technology
Partners III, Sequoia XXIII and Sequoia Technology Partners V except to
the extent of his proportionate partnership interest therein. Excludes
options to purchase 14,660 shares of Common Stock granted in July 1997.

(3) Consists of (i) 758,465 shares and warrants exercisable within 60 days of
September 30, 1997 to purchase an aggregate of 164,299 shares held by
Galen Partners II, L.P., (ii) 290,195 shares and warrants exercisable
within 60 days of September 30, 1997 to purchase an aggregate of 36,968
shares held by Galen Partners International II, L.P., and (iii) 3,267
shares and warrants exercisable within 60 days of September 30, 1997 to
purchase an aggregate of 627 shares held by Galen Employee Fund, L.P. L.
John Wilkerson is a director of the Company and is a general partner of
the general partner of each of Galen Partners II, L.P., Galen Partners
International II, L.P., and Galen Employee Fund, L.P. Mr. Wilkerson
disclaims beneficial ownership of the shares held by Galen Partners II,
L.P., Galen Partners International II, L.P., and Galen Employee Fund,
L.P. except to the extent of his proportionate partnership interest
therein. Excludes options to purchase 14,660 shares of Common Stock
granted in July 1997.

(4) Consists of (i) 423,927 shares and warrants exercisable within 60 days of
September 30, 1997 to purchase an aggregate of 117,410 shares held by
U.S. Growth Fund Partners C.V., (ii) 239,518 shares and warrants
exercisable within 60 days of September 30, 1997 to purchase an aggregate
of 66,336 shares held by Parvest U.S. Partners II, C.V., (iii) 152,613
shares and warrants exercisable within 60 days of September 30, 1997 to
purchase an aggregate of 42,267 shares held by Paribus U.S. Partners
V.O.F., and (iv) 7,417 shares and warrants exercisable within 60 days of
September 30, 1997 to purchase an aggregate of 2,047 shares held by
Multinvest Limited.

(5) Consists of (i) 353,915 shares and warrants exercisable within 60 days of
September 30, 1997 to purchase an aggregate of 98,019 shares held by
Trident Capital Partners Fund--I, L.P., and (ii) 70,011 shares and
warrants exercisable within 60 days of September 30, 1997 to purchase an
aggregate of 19,390 shares held by Trident Capital Partners Fund--I, C.V.
John H. Moragne is a director of the Company and is an employee of the
general partner of the general partner of each of Trident Capital
Partners Fund--I, L.P. and Trident Capital Partners Fund--I, C.V. Mr.
Moragne disclaims beneficial

42
<PAGE>

ownership of the shares held by Trident Capital Partners Fund--I, L.P. and
Trident Capital Partners Fund--I, C.V. except to the extent of his
proportionate partnership interest therein. Excludes options to purchase
14,660 shares of Common Stock granted in July 1997.

(6) Consists of 420,771 shares and warrants exercisable within 60 days of
September 30, 1997 to purchase 80,759 shares.

(7) Consists of 17,445 shares and options to purchase 50,699 shares
exercisable within 60 days of September 30, 1997. Excludes options to
purchase 14,660 shares of Common Stock granted in July 1997.

(8) Consists of 35,184 shares, of which 23,456 shares are subject to a
repurchase option in favor of the Company as of September 30, 1997.
Excludes options to purchase 14,660 shares of Common Stock granted in July
1997.

(9) Consists of 386,291 shares, of which 225,336 shares are subject to a
repurchase option in favor of the Company as of September 30, 1997. See
"Management--Executive Compensation" and "Certain Transactions." Excludes
options to purchase 36,796 shares of Common Stock granted in July 1997.

(10) Consists of 204,005 shares and options to purchase 124,296 shares
exercisable within 60 days of September 30, 1997. Excludes options to
purchase 146 shares of Common Stock granted in July 1997 and options held
by Ilan Shanon, an employee of the Company and the spouse of Ms. Shanon.
Ms. Shanon disclaims beneficial ownership of such options.

(11) Consists of options exercisable within 60 days of September 30, 1997.
Excludes options to purchase 11,141 shares of Common Stock granted in July
1997.

(12) Consists of options exercisable within 60 days of September 30, 1997.
Excludes options to purchase 146 shares of Common Stock granted in July
1997.

(13) Consists of options exercisable within 60 days of September 30, 1997.
Excludes options to purchase 29,466 shares of Common Stock granted in July
1997.

(14) Consists of 3,390,570 shares, warrants exercisable within 60 days of
September 30, 1997 to purchase 671,519 shares and options to purchase
543,629 shares exercisable within 60 days of September 30, 1997. Excludes
options to purchase 151,287 shares of Common Stock granted in July 1997.

(15) Consists of 103,206 shares and options to purchase 58,640 shares
exercisable within 60 days of September 30, 1997. Of the 161,846 shares
shown in this table as being offered by Mr. Anderson, 58,640 shares are
expected to be offered upon the exercise of options immediately prior to
this offering.

(16) Consists of options exercisable within 60 days of September 30, 1997. The
12,461 shares shown in this table as being offered by Mr. Baker are
expected to be offered upon the exercise of options immediately prior to
this offering.

(17) Consists of 121,862 shares and options to purchase 137,662 shares
exercisable within 60 days of September 30, 1997. Of the 129,762 shares
shown in this table as being offered by Mr. Smith, 68,831 shares are
expected to be offered upon the exercise of options immediately prior to
the offering.

(18) Consists of 17,852 shares and options to purchase 87,960 shares
exercisable within 60 days of September 30, 1997. Of the 105,812 shares
shown in this table as being offered by Mr. Tate, 87,960 shares are
expected to be offered upon the exercise of options immediately prior to
this offering.

43
<PAGE>

DESCRIPTION OF CAPITAL STOCK

GENERAL

The Company's Restated Certificate of Incorporation, which will become
effective upon the closing of this offering, authorizes the issuance of up to
50,000,000 shares of Common Stock, $0.001 par value per share and authorizes
the issuance of 5,000,000 shares of Preferred Stock, $0.001 par value per
share, the rights and preferences of which may be established from time to
time by the Company's Board of Directors. As of September 30, 1997, 6,458,643
shares of Common Stock (including 4,016,263 shares issuable upon conversion of
outstanding Preferred Stock and 1,060,386 shares issuable upon exercise of
outstanding warrants upon the completion of this offering) were issued and
outstanding and held of record by 33 stockholders.

COMMON STOCK

Each holder of Common Stock is entitled to one vote for each share held on
all matters to be voted upon by the stockholders and there are no cumulative
voting rights. Subject to preferences that may be applicable to any
outstanding Preferred Stock, holders of Common Stock are entitled to receive
ratably such dividends as may be declared by the Board of Directors out of
funds legally available therefor. See "Dividend Policy." In the event of a
liquidation, dissolution or winding up of the Company, holders of Common Stock
would be entitled to share in the Company's assets remaining after the payment
of liabilities and the satisfaction of any liquidation preference granted the
holders of any outstanding shares of Preferred Stock. Holders of Common Stock
have no preemptive or conversion rights or other subscription rights. There
are no redemption or sinking fund provisions applicable to the Common Stock.
All outstanding shares of Common Stock are, and the shares of Common Stock
offered by the Company in this offering, when issued and paid for, will be,
fully paid and nonassessable. The rights, preferences and privileges of the
holders of Common Stock are subject to, and may be adversely affected by the
rights of the holders of shares of any series of Preferred Stock which the
Company may designate in the future.

PREFERRED STOCK

Upon the closing of this offering, the Board of Directors will be
authorized, subject to any limitations prescribed by law, without stockholder
approval, from time to time to issue up to an aggregate of 5,000,000 shares of
Preferred Stock, $0.001 par value per share, in one or more series, each of
such series to have such rights and preferences, including voting rights,
dividend rights, conversion rights, redemption privileges and liquidation
preferences, as shall be determined by the Board of Directors. The rights of
the holders of Common Stock will be subject to, and may be adversely affected
by, the rights of holders of any Preferred Stock that may be issued in the
future. Issuance of Preferred Stock, while providing desirable flexibility in
connection with possible acquisitions and other corporate purposes, could have
the effect of making it more difficult for a third party to acquire, or of
discouraging a third party from attempting to acquire, a majority of the
outstanding voting stock of the Company. The Company has no present plans to
issue any shares of Preferred Stock.

REGISTRATION RIGHTS

As of the date hereof, the holders of 5,076,649 shares of Common Stock (the
"Registrable Securities") or their transferees are entitled to certain rights
with respect to the registration of such shares under the Securities Act.
These rights are provided under the terms of the Registration Right Agreement
between the Company and such holders. Subject to certain limitations in the
agreement, the holders of at least 30% of the Registrable Securities (or any
lesser number of shares of Registrable Securities having an expected aggregate
offering price, net of underwriting discounts and commissions, greater than
$7,500,000) may require, at any time, that the Company register their shares
for public resale. In this connection, the holders of Registrable Securities
are entitled to request registration of their shares on Form S-1 or any
similar long form registration statement on not more than two occasions. In
addition, any holder or holders or Registrable Securities may request on one
occasion each calendar year that the Company file a registration on Form S-3
(or any successor

44
<PAGE>

form to S-3) for a public offering of shares of Registrable Securities the
reasonably anticipated aggregate price to the public of which, net of
underwriting discounts and commissions, would exceed $500,000. In addition, if
the Company registered any of its Common Stock either for its own account or
for the account of any of its stockholders, the holders of Registrable
Securities are entitled to include their shares of Common Stock in the
registration. A holder's right to include shares in an underwritten
registration is subject to the ability of the underwriters to limit the number
of shares included in the offering. All expenses incurred in connection with
any required registration effected pursuant to the Registration Rights
Agreement (other than underwriting discounts and commissions) must be borne by
the Company.

DELAWARE ANTI-TAKEOVER LAW AND CERTAIN CHARTER PROVISIONS

Certain provisions of Delaware law and the Company's Certificate of
Incorporation could make more difficult the acquisition of the Company by
means of a tender offer, a proxy contest or otherwise and the removal of
incumbent officers and directors. These provisions are expected to discourage
certain types of coercive takeover practices and inadequate takeover bids and
to encourage persons seeking to acquire control of the Company to first
negotiate with the Company. The Company believes that the benefits of
increased protection of the Company's potential ability to negotiate with the
proponent of an unfriendly or unsolicited proposal to acquire or restructure
the Company outweigh the disadvantages of discouraging such proposals because,
among other things, negotiation of such proposals could result in an
improvement of their terms.

The Company will be subject to the provisions of Section 203 of the Delaware
law. In general, the statute prohibits a publicly held Delaware corporation
from engaging in a "business combination" with an "interested stockholder" for
a period of three years after the date that the person became an interested
stockholder unless (with certain exceptions) the business combination or the
transaction in which the person became an interested stockholder is approved
in a prescribed manner. Generally, a "business combination" includes a merger,
asset or stock sale, or other transaction resulting in a financial benefit to
the stockholder. Generally, an "interested stockholder" is a person who,
together with affiliates and associates, owns (or within three years prior,
did own) 15% or more of the corporation's voting stock. This provision may
have the effect of delaying, deferring or preventing a change in control of
the Company without further action by the stockholder.

The Company's Certificate of Incorporation provides that stockholder action
can be taken only at an annual or special meeting of stockholders and may not
be taken by written consent. The Bylaws provide that special meetings of
stockholders can be called only by the Board of Directors, the Chairman of the
Board, if any, the President of the Company. Moreover, the business permitted
to be conducted at any special meeting of stockholders is limited to the
business brought before the meeting by the Board of Directors, the Chairman of
the Board, if any, or the President of the Company. The Bylaws set forth an
advance notice procedure with regard to the nomination, other than by or at
the direction of the Board of Directors, of candidates for election as
directors and with regard to business to be brought before an annual meeting
of stockholders of the Company.

The Company's Certificate of Incorporation contains provisions requiring the
affirmative vote of the holders of at least two-thirds of the voting stock of
the Company to amend the foregoing provisions of the Certificate of
Incorporation and Bylaws.

TRANSFER AGENT AND REGISTRAR

The Transfer Agent and Registrar for the Company's Common Stock is Norwest
Bank Minnesota, N.A.

45
<PAGE>

SHARES ELIGIBLE FOR FUTURE SALE

Upon completion of this offering, the Company will have 7,936,535
outstanding shares of Common Stock assuming no exercise of outstanding options
after September 30, 1997 other than the exercise of an aggregate of 227,892
options to purchase Common Stock by certain Selling Stockholders, all of which
shares will be sold in this offering. Of these shares, the 2,000,000 shares
offered hereby (2,300,000 shares if the Underwriters' over-allotment option is
exercised in full) will be freely tradeable without restriction or further
registration under the Securities Act of 1933, as amended (the "Securities
Act"), unless purchased by "affiliates" of the Company as that term is defined
under Rule 144 adopted under the Securities Act. The remaining 5,936,535
shares of Common Stock outstanding upon completion of this offering are
"restricted securities" as defined in Rule 144 ("Restricted Shares"), all of
which shares are subject to lock-up agreements with the representatives of the
Underwriters. See "Underwriting."

Future sales of substantial amounts of Common Stock in the public market
could adversely affect prevailing market prices and adversely affect the
Company's ability to raise additional capital in the capital markets at a time
and price favorable to the Company. As a result of the lock-up agreements and
the provisions of Rule 144 and Rule 701, additional shares will be available
for sale in the public market as follows: (i) no shares will be eligible for
immediate sale on the date of this Prospectus, (ii) 4,876,149 shares will be
eligible for sale upon expiration of the lock-up agreements 180 days after the
date of this Prospectus, subject to the provisions of Rule 144 and Rule 701
and (iii) the remaining 1,060,386 shares will be eligible for sale thereafter
upon expiration of their respective one-year holding periods.

In general, under Rule 144 as currently in effect, any person (or persons
whose shares are aggregated) who has beneficially owned Restricted Shares for
at least one year is entitled to sell, within any three-month period, a number
of shares that does not exceed the greater of 1% of the then outstanding
shares of the Company's Common Stock (approximately 79,365 shares immediately
after this offering) or the average weekly trading volume during the four
calendar weeks preceding such sale. Sales under Rule 144 are also subject to
certain requirements as to the manner of sale, notice and availability of
current public information about the Company. A person who is not an
affiliate, has not been an affiliate within three months prior to the sale and
has beneficially owned the Restricted Shares for at least two years is
entitled to sell such shares under Rule 144(k) without regard to any of the
limitations described above.

Subject to certain limitations on the aggregate offering price of a
transaction and other conditions, Rule 701 may be relied upon with respect to
the resale of securities originally purchased from the Company by its
employees, directors, officers, consultants or advisers between May 20, 1988,
the effective date of Rule 701, and the date the issuer becomes subject to the
reporting requirements of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), pursuant to written compensatory benefit plans or written
contracts relating to the compensation of such persons. In addition, the
Securities and Exchange Commission has indicated that Rule 701 will apply to
typical stock options granted by an issuer before it becomes subject to the
reporting requirements of the Exchange Act (including options granted before
May 20, 1988, if made in accordance with the Rule had it been in effect),
along with the shares acquired upon exercise of such options beginning May 20,
1988 (including exercises after the date of this Prospectus). Securities
issued in reliance on Rule 701 are restricted securities and, subject to the
contractual restrictions described above, beginning 90 days after the date of
this Prospectus, such securities may be sold (i) by persons other than
Affiliates, subject only to the manner of sale provisions of Rule 144 and (ii)
by Affiliates under Rule 144 without compliance with its one-year minimum
holding period requirements.

Assuming no currently outstanding options are exercised as of the date
hereof, the Company intends to file a registration statement on Form S-8 under
the Securities Act to register approximately 2,427,000 shares of Common Stock
reserved for issuance under the Company's 1997 Stock Option Plan and the 1997
Employee Stock Purchase Plan, thus permitting the resale of shares issued
under such Plans by non-affiliates in the public market without restriction
under the Securities Act. Such registration statement is expected to be filed

46
<PAGE>

within 90 days after the date of this Prospectus and will automatically become
effective upon filing. 90 days following the date of this Prospectus, no
shares issuable upon the exercise of vested options as of such date will be
eligible for sale pursuant to Rule 701. 180 days after the date of this
Prospectus, 961,097 shares issuable upon exercise of vested options that are
subject to the lock-up agreements will be eligible for sale.

After this offering, the holders of approximately 5,076,649 shares are
entitled to certain registration rights with respect to such shares. If such
registration rights are exercised, the shares can be sold without any holding
period or sales volume limitation. If such holders, by exercising their
registration rights, cause a large number of shares to be registered and sold
in the public market, such sales could have an adverse effect on the market
price for the Company's Common Stock. If the Company were required to include
in a Company-initiated registration the shares held by such holders pursuant
to the exercise of their registration rights, such sales might have an adverse
effect on the Company's ability to raise needed capital. See "Description of
Capital Stock--Registration Rights."

Prior to this offering, there has been no public market for the Common Stock
of the Company and no predictions can be made as to the effect, if any, that
market sales of shares of Common Stock prevailing from time to time may have
on the market price of the Common Stock. Nevertheless, sales of significant
numbers of shares of the Common Stock in the public market may adversely
affect the market price of the Common Stock offered hereby and could impair
the Company's future ability to raise capital through an offering of its
equity securities.

47
<PAGE>

UNDERWRITING

The Underwriters named below, acting through their representatives,
BancAmerica Robertson Stephens, Hambrecht & Quist LLC and Wessels, Arnold &
Henderson, L.L.C. (the "Representatives"), have severally agreed, subject to
the terms and conditions of the Underwriting Agreement by and among the
Company, the Selling Stockholders and the Underwriters, to purchase from the
Company and the Selling Stockholders the number of shares of Common Stock set
forth opposite their respective names below. The Underwriters are committed to
purchase and pay for all such shares if any are purchased.

<TABLE>
<CAPTION>
NUMBER OF
UNDERWRITERS SHARES
------------ ---------
<S> <C>
BancAmerica Robertson Stephens..................................
Hambrecht & Quist LLC...........................................
Wessels, Arnold & Henderson, L.L.C..............................
---------
Total....................................................... 2,000,000
=========
</TABLE>

The Representatives have advised the Company and the Selling Stockholders
that the Underwriters propose to offer the shares of Common Stock to the
public at the offering price set forth on the cover page of this Prospectus
and to certain dealers at such price less a concession of not more than
$ per share, of which $ may be reallowed to other dealers. After the
consummation of this offering, the public offering price, concession and
reallowance to dealers may be reduced by the Representatives. No such
reduction shall change the amount of proceeds to be received by the Company or
the Selling Stockholders as set forth on the cover page of this Prospectus.

The Company has granted to the Underwriters an option, exercisable during
the 30-day period after the date of this Prospectus, to purchase up to 300,000
additional shares of Common Stock at the same price per share as the Company
and the Selling Stockholders will receive for the 2,000,000 shares that the
Underwriters have agreed to purchase. To the extent that the Underwriters
exercise such option, each of the Underwriters will have a firm commitment to
purchase approximately the same percentage of such additional shares that the
number of shares of Common Stock to be purchased by it shown in the above
table represents as a percentage of the 2,000,000 shares offered hereby. If
purchased, such additional shares will be sold by the Underwriters on the same
terms as those on which the 2,000,000 shares are being sold.

The Underwriting Agreement contains covenants of indemnity among the
Underwriters, the Company and the Selling Stockholders against certain civil
liabilities, including liabilities under the Securities Act.

Pursuant to the terms of lock-up agreements, the holders of 6,458,643 shares
of the Company's Common Stock prior to the offering have agreed with the
Representatives that, except for 522,108 shares being sold by the Selling
Stockholders in this offering, until 180 days after the effective date of this
Prospectus (the "lock-up period") they will not sell or otherwise dispose of
any shares of Common Stock, including shares issuable under options or
warrants exercisable during the 180 days after the date of this Prospectus,
any options or warrants to purchase shares of Common Stock or any securities
convertible into or exchangeable for shares of Common Stock owned directly by
such holders or with respect to which they have the power of disposition,
without the prior written consent of BancAmerica Robertson Stephens. 4,876,149
shares of Common Stock subject to the lock-up agreements will become eligible
for immediate public sale following expiration of the lock-up period, subject
to the provisions of Rule 144 and Rule 701 and 1,060,386 shares will be
eligible for sale thereafter upon expiration of their respective one-year
holding period. BancAmerica Robertson Stephens may, in its sole discretion,
and at any time without notice, release all or a portion of the securities
subject to the lock-up agreements. See "Shares Eligible for Future Sale." In
addition, the Company has agreed that until

48
<PAGE>

the expiration of the lock-up period, the Company will not offer, sell,
contract to sell or otherwise dispose of any shares of Common Stock, any
options or warrants to purchase Common Stock or any securities convertible
into or exchangeable for shares of Common Stock, other than the Company's
sales of shares in this offering, the issuance of shares of Common Stock upon
the exercise of outstanding options, the grant of options to purchase shares
or the issuance of shares of Common Stock under the Company's 1991 Stock
Option Plan, the 1997 Stock Option Plan and the 1997 Employee Stock Purchase
Plan, without the prior written consent of BancAmerica Robertson Stephens.

The Underwriters do not intend to confirm sales to any accounts over which
they exercise discretionary authority.

The Representatives have advised the Company that, pursuant to Regulation M
under the Securities Act, certain persons participating in the offering may
engage in transactions, including stabilizing bids, syndicate covering
transactions or the imposition of penalty bids, which may have the effect of
stabilizing or maintaining the market price of the Common Stock at a level
above that which might otherwise prevail in the open market. A "stabilizing
bid" is a bid for or the purchase of the Common Stock on behalf of the
Underwriters for the purpose of fixing or maintaining the price of the Common
Stock. A "syndicate covering transaction" is the bid for or the purchase of
the Common Stock on behalf of the Underwriters to reduce a short position
incurred by the Underwriters in connection with the offering. A "penalty bid"
is an arrangement permitting the Representatives to reclaim the selling
concession otherwise accruing to an Underwriter or syndicate member in
connection with the offering if the Common Stock originally sold by such
Underwriter or syndicate member is purchased by the Representatives in a
syndicate covering transaction and has therefore not been effectively placed
by such Underwriter or syndicate member. The Representatives have advised the
Company that such transactions may be effected on the Nasdaq National Market
or otherwise and, if commenced, may be discontinued at any time.

Prior to this offering, there has been no public market for the Company's
securities. The initial public offering price of the Common Stock will be
determined by negotiation among the Company, the Selling Stockholders and the
Representatives. Among the factors to be considered in such negotiations will
be prevailing market conditions, the results of operations of the Company in
recent periods, market valuations of publicly traded companies that the
Company and the Representatives believe to be comparable to the Company,
estimates of the business potential of the Company, the present state of the
Company's development, the current state of the industry and the economy as a
whole, and other factors deemed relevant.

LEGAL MATTERS

The validity of the Common Stock offered hereby will be passed upon for the
Company by Wilson Sonsini Goodrich & Rosati, Professional Corporation, Palo
Alto, California. Certain legal matters in connection with this offering will
be passed upon for the Underwriters by Brobeck, Phleger & Harrison LLP,
Newport Beach, California.

EXPERTS

The financial statements of Medicode, Inc. at December 31, 1995, 1996 and
September 30, 1997 and for each of the three years in the period ended
December 31, 1996 and the nine months ended September 30, 1997 appearing in
this Prospectus, and the financial statement schedule for the aforementioned
periods included in the Registration Statement have been audited by Ernst &
Young LLP, independent auditors, as set forth in their report thereon
appearing elsewhere herein, and are included in reliance upon such report
given upon the authority of such firm as experts in accounting and auditing.

49
<PAGE>

ADDITIONAL INFORMATION

The Company has filed with the Securities and Exchange Commission (the
"Commission") a registration statement on Form S-1 (together with all
amendments and exhibits thereto, the "Registration Statement") under the
Securities Act with respect to the Common Stock offered hereby. This
Prospectus, which constitutes a part of the Registration Statement, does not
contain all of the information set forth in the Registration Statement,
certain parts of which are omitted in accordance with the Rules and
Regulations of the Commission. For further information with respect to the
Company and the Common Stock offered hereby, reference is made to the
Registration Statement and to the exhibits and schedules filed therewith.
Statements contained in this Prospectus as to the contents of any contract or
other document are not necessarily complete, and in each instance reference is
made to the copy of such contract or other document filed as an exhibit to the
Registration Statement, each such statement being qualified in all respects by
such reference. Copies of the Registration Statement and the exhibits and
schedules thereto may be inspected or copied at the public reference
facilities maintained by the Commission at Room 1024, Judiciary Plaza, 450
Fifth Street, N.W., Washington, D.C. 20549, and at the Commission's regional
offices located at Northwestern Atrium Center, 500 West Madison Street, Suite
1400, Chicago, Illinois 60661 and at Seven World Trade Center, 13th Floor, New
York, New York 10048. Copies of the Registration Statement may also be
obtained from the Public Reference Section of the Commission at 450 Fifth
Street, N.W., Washington, D.C. 20549 at prescribed rates. The Commission also
maintains a World Wide Web site that contains reports, proxy and information
statements and other information regarding registrants, such as the Company,
that file electronically with the Commission. The address of the site is
http://www.sec.gov.

50
<PAGE>

INDEX TO FINANCIAL STATEMENTS

<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of Independent Auditors............................................. F-2
Consolidated Balance Sheets................................................ F-3
Consolidated Statements of Operations...................................... F-4
Consolidated Statements of Stockholders' Equity............................ F-5
Consolidated Statements of Cash Flows...................................... F-6
Notes to Consolidated Financial Statements................................. F-7
</TABLE>

F-1
<PAGE>

REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS

The Board of Directors and Stockholders
Medicode, Inc.

We have audited the accompanying consolidated balance sheets of Medicode, Inc.
as of December 31, 1995 and 1996, and September 30, 1997 and the related
consolidated statements of operations, stockholders' equity, and cash flows
for each of the three years in the period ended December 31, 1996, and the
nine months ended September 30, 1997. These financial statements are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.

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

In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Medicode, Inc.
at December 31, 1995 and 1996, and September 30, 1997 and the consolidated
results of its operations and its cash flows for each of the three years in
the period ended December 31, 1996 and the nine months ended September 30,
1997 in conformity with generally accepted accounting principles.

Ernst & Young LLP

Salt Lake City, Utah
October 27, 1997

The foregoing report is in the form that will be signed upon the completion
of stockholder approval of changes to capital accounts described in Note 5 to
the financial statements.

/s/ Ernst & Young LLP

Salt Lake City, Utah
October 27, 1997

F-2
<PAGE>

MEDICODE, INC.

CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share amounts)

<TABLE>
<CAPTION>
PRO FORMA
STOCKHOLDERS'
DECEMBER 31, EQUITY AT
------------------ SEPTEMBER 30, SEPTEMBER 30,
1995 1996 1997 1997
-------- -------- ------------- -------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents. $ 1,405 $ 3,038 $ 5,345
Accounts receivable, less
allowance for doubtful
accounts of $137, $207
and $262, respectively... 4,765 5,324 4,025
Inventories............... 1,002 1,036 487
Income tax receivable..... 46 -- --
Deferred income taxes..... 474 873 809
Prepaid expenses and other
assets................... 341 275 581
-------- -------- --------
Total current assets....... 8,033 10,546 11,247
Furniture and equipment,
net....................... 1,428 1,261 1,208
Deferred income taxes...... 462 193 247
-------- -------- --------
Total assets............... $ 9,923 $ 12,000 $ 12,702
======== ======== ========
LIABILITIES AND
STOCKHOLDERS' EQUITY
Current liabilities:
Bank line of credit....... $ 500 $ -- $ --
Accounts payable.......... 3,653 2,762 3,090
Deferred revenue.......... 1,718 1,931 2,935
Customer deposits......... 1,056 926 1,195
Accrued payroll and
related costs............ 520 998 1,263
Other accrued liabilities. 540 1,046 915
Income taxes payable...... -- 1,025 359
Current portion of long-
term debt and capital
lease obligations........ 854 877 --
-------- -------- --------
Total current liabilities.. 8,841 9,565 9,757
Long-term debt and capital
lease obligations, less
current portion........... 691 285 --
Commitments and
contingencies
Stockholders' equity:
Series A preferred stock,
no par value: 5,000,000
shares authorized;
4,016,263 shares issued
and outstanding at
December 31, 1995, 1996
and at September 30,
1997; liquidation
preference $19,122,000
Pro forma unaudited:
$0.001 par value,
5,000,000 shares
authorized, no shares
outstanding.............. 18,673 18,673 18,673 $ --
Common stock, no par
value: 50,000,000 shares
authorized; 4,155,561
shares and 4,771,463
shares issued and
outstanding at
December 31, 1995 and
1996, respectively,
4,815,442 shares issued
and outstanding at
September 30, 1997; Pro-
forma unaudited: $0.001
par value, 50,000,000
shares authorized,
5,398,275 shares issued
and outstanding, at
amount paid in........... 1,653 2,112 2,157 4,356
Treasury stock, at cost:
3,433,448 common shares
at December 31, 1995,
1996 and at September 30,
1997, Pro forma
unaudited: no treasury
shares (16,474) (16,474) (16,474) --
Note receivable from
stockholder.............. -- (329) (329) (329)
Accumulated deficit....... (3,461) (1,832) (1,082) (1,082)
-------- -------- -------- -------
Total stockholders' equity. 391 2,150 2,945 $ 2,945
-------- -------- -------- =======
Total liabilities and
stockholders' equity...... $ 9,923 $ 12,000 $ 12,702
======== ======== ========
</TABLE>

See accompanying notes.

F-3
<PAGE>

MEDICODE, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER NINE MONTHS ENDED
31, SEPTEMBER 30,
------------------------- -------------------
1994 1995 1996 1996 1997
------- ------- ------- ----------- -------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Revenue:
Syndicated data............... $ 9,408 $11,678 $15,830 $ 6,861 $ 8,926
Benchmarking databases and
software..................... 11,627 14,021 16,788 11,912 13,865
------- ------- ------- ------- -------
Total revenue................ 21,035 25,699 32,618 18,773 22,791
Cost of revenue:
Syndicated data............... 5,001 6,544 8,455 3,448 4,390
Benchmarking databases and
software..................... 2,172 2,620 2,598 1,909 2,421
------- ------- ------- ------- -------
Total cost of revenue........ 7,173 9,164 11,053 5,357 6,811
------- ------- ------- ------- -------
13,862 16,535 21,565 13,416 15,980
Operating expenses:
Selling, general and adminis-
trative...................... 10,774 11,947 13,735 9,428 10,634
Research and development...... 3,141 4,335 5,214 4,148 4,229
------- ------- ------- ------- -------
Operating income (loss)........ (53) 253 2,616 (160) 1,117
Interest income................ 66 68 55 38 125
Interest expense............... (231) (175) (101) (71) (42)
------- ------- ------- ------- -------
Income (loss) before income
taxes......................... (218) 146 2,570 (193) 1,200
Income tax expense (benefit)... (106) 98 941 (65) 450
------- ------- ------- ------- -------
Net income (loss).............. $ (112) $ 48 $ 1,629 $ (128) $ 750
======= ======= ======= ======= =======
Net income per share........... $ 0.21 $ 0.09
======= =======
Shares used in per share compu-
tations....................... 7,873 7,909
======= =======
</TABLE>

See accompanying notes.

F-4
<PAGE>

MEDICODE, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(in thousands, except share data)

<TABLE>
<CAPTION>
PREFERRED STOCK COMMON STOCK NOTE TREASURY STOCK
----------------- ---------------- RECEIVABLE ------------------ TOTAL
SHARES SHARES FROM ACCUMULATED STOCKHOLDERS'
ISSUED AMOUNT ISSUED AMOUNT STOCKHOLDER DEFICIT SHARES AMOUNT EQUITY
--------- ------- --------- ------ ----------- ----------- --------- -------- -------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Balances at December 31,
1993................... 4,016,263 $18,673 4,073,370 $1,605 $ -- $(3,397) 3,433,448 $(16,474) $ 407
Issuance of common
stock................. -- -- 17,445 15 -- -- -- -- 15
Net loss............... -- -- -- -- -- (112) -- -- (112)
--------- ------- --------- ------ ----- ------- --------- -------- ------
Balances at December 31,
1994................... 4,016,263 18,673 4,090,815 1,620 -- (3,509) 3,433,448 (16,474) 310
Exercise of stock op-
tions................. -- -- 64,746 33 -- -- -- -- 33
Net income............. -- -- -- -- -- 48 -- -- 48
--------- ------- --------- ------ ----- ------- --------- -------- ------
Balances at December 31,
1995................... 4,016,263 18,673 4,155,561 1,653 -- (3,461) 3,433,448 (16,474) 391
Issuance of common
stock................. -- -- 421,475 359 (329) 30
Exercise of stock op-
tions................. -- -- 194,427 100 -- -- -- -- 100
Net income............. -- -- -- -- -- 1,629 -- -- 1,629
--------- ------- --------- ------ ----- ------- --------- -------- ------
Balances at December 31,
1996................... 4,016,263 18,673 4,771,463 2,112 (329) (1,832) 3,433,448 (16,474) 2,150
Exercise of stock op-
tions ................ -- -- 43,979 45 -- -- -- -- 45
Net income............. -- -- -- -- -- 750 -- -- 750
--------- ------- --------- ------ ----- ------- --------- -------- ------
Balances at September
30, 1997 .............. 4,016,263 $18,673 4,815,442 $2,157 $(329) $(1,082) 3,433,448 $(16,474) $2,945
========= ======= ========= ====== ===== ======= ========= ======== ======
</TABLE>

See accompanying notes.

F-5
<PAGE>

MEDICODE, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER NINE MONTHS ENDED
31, SEPTEMBER 30,
------------------------- -------------------
1994 1995 1996 1996 1997
------- ------- ------- ----------- -------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
OPERATING ACTIVITIES
Net income (loss)............. $ (112) $ 48 $ 1,629 $ (128) $ 750
Adjustments to reconcile net
income (loss) to net cash
provided by operating activi-
ties:
Depreciation and amortiza-
tion........................ 873 1,015 985 732 704
Provision for losses on ac-
counts receivable and re-
turns....................... 247 171 547 376 200
(Gain) loss on disposition of
furniture and equipment..... (13) -- 8 -- --
Changes in operating assets
and liabilities:
Accounts receivable......... (1,869) (1,974) (1,106) 1,568 1,099
Income tax receivable....... 677 56 46 (22) --
Inventories................. (234) (51) (34) 687 549
Prepaid expenses and other
assets..................... 18 (97) 65 (118) (306)
Deferred income tax benefit. (97) (87) (130) (43) 10
Accounts payable............ 612 1,894 (891) (1,492) 328
Accrued payroll and related
costs...................... 68 (40) 478 467 265
Deferred revenue............ 301 491 213 (224) 1,004
Customer deposits........... (39) 281 (130) 189 269
Income taxes payable........ 3 (3) 1,025 -- (666)
Other accrued liabilities... 13 (58) 506 98 (131)
------- ------- ------- ------- -------
Net cash provided by operating
activities.................... 448 1,646 3,211 2,090 4,075
INVESTING ACTIVITIES
Purchase of furniture and
equipment.................... (731) (655) (825) (649) (651)
Proceeds from sale of furni-
ture and equipment........... 80 -- -- -- --
------- ------- ------- ------- -------
Net cash (used in) investing
activities.................... (651) (655) (825) (649) (651)
FINANCING ACTIVITIES
Payments on long-term debt and
capital leases............... (961) (903) (883) (776) (1,162)
Proceeds from issuance of
long-term debt............... -- -- 500 500 --
Payments on bank of line-of-
credit....................... (604) (500) (500) (500) --
Proceeds from bank line-of-
credit....................... 500 500 -- -- --
Proceeds from exercise of
stock options................ -- 33 100 100 45
Proceeds from issuance of com-
mon stock.................... 15 -- 30 -- --
------- ------- ------- ------- -------
Net cash used in financing ac-
tivities...................... (1,050) (870) (753) (676) (1,117)
------- ------- ------- ------- -------
Increase (decrease) in cash and
cash equivalents.............. (1,253) 121 1,633 765 2,307
Cash and cash equivalents at
beginning of period........... 2,537 1,284 1,405 1,405 3,038
------- ------- ------- ------- -------
Cash and cash equivalents at
end of period................. $ 1,284 $ 1,405 $ 3,038 $ 2,170 $ 5,345
======= ======= ======= ======= =======
SUPPLEMENTAL DISCLOSURE OF OTHER CASH
FLOW INFORMATION
Interest paid.................. $ 285 $ 170 $ 129 $ 104 $ 57
Income taxes paid.............. 50 204 -- -- 1,107
</TABLE>

See accompanying notes.

F-6
<PAGE>

MEDICODE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 1997

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Description of Business and Principles of Consolidation

Medicode, Inc. (the "Company") is a leading provider of health care
information products which reduce administrative costs associated with the
reimbursement process, control clinical costs and increase the efficiency of
the health care delivery process. The Company's products are used by payors,
providers and self-insured employers to (i) accurately code and measure
utilization of health care services; (ii) screen and edit claims for accuracy,
consistency and compliance, (iii) efficiently evaluate, negotiate and
implement provider payment arrangements, and (iv) track and analyze all
aspects of care for a particular medical condition from initial diagnosis to
treatment.

The accompanying consolidated financial statements include the accounts of a
subsidiary, Softouch Software, Inc. (Softouch). Significant intercompany
transactions have been eliminated.

Interim Financial Data

The accompanying interim consolidated financial statements for the nine
months ended September 30, 1996 are unaudited. In the opinion of management,
the unaudited interim consolidated financial statements have been prepared on
the same basis as the annual consolidated financial statements and reflect all
adjustments, which include only normal recurring adjustments, necessary to
present fairly the results of the Company's operations and its cash flows for
the nine months ended September 30, 1996.

The results of operations for the nine months ended September 30, 1997 are
not necessarily indicative of results to be expected for the full fiscal year.

Use of Estimates

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

Cash Equivalents

Cash equivalents are considered to be highly liquid short-term investments
purchased with original maturity dates of three months or less.

Concentrations of Credit Risk

Financial instruments which potentially subject the Company to
concentrations of credit risk include cash investments, marketable debt
securities and trade receivables. The Company places its temporary cash
investments with creditworthy, high quality financial institutions. The
Company at times holds notes and bonds issued by the United States government,
its agencies and financially strong corporations. The Company has not
experienced significant losses related to receivables from individual
customers, groups of customers within the health care industry or customers
within certain geographic areas. Due to the large number of customers in a
wide geographic area, management does not believe it is exposed to credit risk
beyond amounts provided for as allowances for bad debts.

F-7
<PAGE>

MEDICODE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

Revenue Recognition

Revenue from the sale of syndicated data products is generally recognized
when the products are shipped. Reserves for sales returns are estimated based
on historical experience and other available information and are reflected in
the financial statements as a reduction in revenue.

Revenue from benchmarking database products is derived from the license of
standardized database modules. Database licenses typically have a one-year
term with initial license fee revenue being recognized at the time the product
is shipped. Subsequent annual license fees are recognized on the contract
anniversary date. Revenue from services are recognized when the services are
performed. The Company accrues incidental customer support costs associated
with benchmarking database products when revenue is recognized. A voluntary
data contribution program is maintained whereby customers may receive a credit
against renewal license fees in exchange for raw data. Such amounts are
estimated and reduce revenue recognized at the time of initial shipment and
subsequent renewal dates.

The Company recognizes revenue in accordance with the provisions of
Statement of Position 91-1, "Software Revenue Recognition." License fees for
software products including, Claims Edit, ClaimsManager and Medical Bill
Advisor, are generally recognized ratably over the initial or subsequent
renewal periods. Some software contracts are priced based on transaction
volume or in addition to minimum fees, require incremental usage fees.
Revenues from variable fee software contracts are recognized as earned.
Customer support costs for software products are expensed as incurred.
Contracts involving custom software development are accounted for using the
percentage-of-completion method. Amounts received in advance of satisfying
revenue recognition criteria are classified as deferred revenue in the
accompanying balance sheets.

Per Share Amounts

Historical net income (loss) per share is computed using the weighted
average number of common and dilutive common equivalent shares outstanding
during the period. Dilutive common equivalent shares consist of the
incremental common shares issuable upon conversion of the series A preferred
stock (using the if-converted method) and shares issuable upon the exercise of
stock options and warrants (using the modified treasury stock method).
Pursuant to the Securities and Exchange Commission Staff Accounting Bulletins
and staff policy, such computations include all common and common equivalent
shares issued within 12 months of the filing date as if they were outstanding
for all periods presented using the treasury stock method.

Historical net income (loss) per share information as follows:

<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEAR ENDED DECEMBER 31, SEPTEMBER 30,
------------------------------ ---------------------
1994 1995 1996 1996 1997
--------- --------- --------- ----------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Net income (loss) per
share.................... $ (0.11) $ 0.01 $ 0.21 $ (0.08) $ 0.09
Shares used in computing
net income (loss) per
share.................... 1,042,000 7,329,000 7,873,000 1,591,000 7,909,000
</TABLE>

Pro forma net income (loss) per share is the same as historical net income
(loss) per share in periods of net income and is shown on the face of the
statement of operations for the year ended December 31, 1996 and the nine
months ended September 30, 1997.

In February 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 128, "Earnings Per Share", which is
required to be adopted on December 31, 1997. At that time, the Company will be
required to change the method currently used to compute earnings per share and
to restate all prior periods.

F-8
<PAGE>

MEDICODE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

Research and Development

Research and development costs are expensed as incurred. Development costs
incurred for new software products and enhancements are accounted for in
accordance with Statement of Financial Accounting Standards (SFAS) No. 86,
"Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise
Marketed." To date it has been the Company's experience that technological
feasibility of products is not established until working models have been
completed. No software development costs have been capitalized because the
impact of capitalizing such costs has been immaterial.

Intangible Assets

Intangible assets consisting of tradenames, patents and goodwill have arisen
as a result of prior business combinations. Intangible assets are amortized
using the straight-line method over their useful life. The Company
periodically reviews goodwill and other intangible assets to assess
recoverability. Differences between the carrying value of intangible assets
and their related discounted cash flows are charged to expense when asset
impairment is identified.

Furniture and Equipment

Furniture, equipment and leasehold improvements are stated at cost, less
accumulated depreciation or amortization computed using the straight-line
method. Furniture and equipment are depreciated over their estimated useful
lives of two to five years. Leasehold improvements are amortized over the
shorter of their useful lives or the remainder of the lease period. Repairs
and maintenance are charged to expense as incurred.

Stock-Based Compensation

Statement of Financial Accounting Standards No. 123, "Accounting for Stock-
Based Compensation", defines a fair value-based method of accounting for and
measuring compensation expense related to stock options or similar equity
instruments. The statement allows entities to continue to measure compensation
expense for stock-based plans using the intrinsic value-based method
prescribed by APB Opinion No. 25, "Accounting for Stock Issued to Employees."
The Company adopted SFAS No. 123 effective January 1, 1996 and has elected to
continue to account for stock-based compensation plans using the provisions of
APB Opinion No. 25. Pro forma footnote disclosure of net income has been made
as if the fair value based method of accounting defined in the statement had
been applied.

Inventories

Inventories consist primarily of syndicated data products and are valued at
the lower of cost or market. Cost is computed using the first-in, first-out
method.

The components of inventories are as follows:

<TABLE>
<CAPTION>
DECEMBER 31,
--------------------- SEPTEMBER 30,
1995 1996 1997
---------- ---------- -------------
<S> <C> <C> <C>
Work in process.......................... $ 98,000 $ 39,000 $291,000
Finished goods........................... 904,000 997,000 196,000
---------- ---------- --------
$1,002,000 $1,036,000 $487,000
========== ========== ========
</TABLE>

Reclassifications

The Company has reclassified certain prior year balances to conform with the
current year's presentation.

F-9
<PAGE>

MEDICODE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

2. FURNITURE AND EQUIPMENT

Furniture and equipment, at cost, consist of the following:

<TABLE>
<CAPTION>
DECEMBER 31
------------------------ SEPTEMBER 30,
1995 1996 1997
----------- ----------- -------------
<S> <C> <C> <C>
Computer equipment.................. $ 2,896,000 $ 3,451,000 $ 3,765,000
Furniture and fixtures.............. 622,000 640,000 639,000
Office equipment.................... 556,000 412,000 363,000
Computer software................... 165,000 165,000 147,000
Leasehold improvements.............. 140,000 146,000 140,000
----------- ----------- -----------
4,379,000 4,814,000 5,054,000
Less accumulated depreciation and
amortization....................... (2,951,000) (3,553,000) (3,846,000)
----------- ----------- -----------
$ 1,428,000 $ 1,261,000 $ 1,208,000
=========== =========== ===========
</TABLE>

3. BORROWINGS

Short-term Borrowing Arrangements

The Company has entered into a three year revolving line of credit facility
with a bank which provides for an initial principal amount of $5.0 million and
an interest rate of prime plus .25%. Beginning December 31, 1998 the available
principal amount will decrease by $200,000 quarterly. Borrowings are limited
to a percentage of eligible accounts receivable, inventory and equipment but
in no event will the available credit be less than $2.25 million provided that
the company remains in compliance with certain covenants. The covenants
include liquidity, leverage and coverage ratios, profitability requirements,
restrictions on additional indebtedness, payment of cash dividends on the
Company's capital stock and certain restrictions on acquisitions and
investments. Borrowings are secured by substantially all of the Company's
assets. At September 30, 1997, the Company was eligible to borrow $4.5 million
under its line of credit facility and was in compliance with covenants under
the credit agreement.

Long-term Debt

Long-term debt and capital lease obligations consist of the following:

<TABLE>
<CAPTION>
DECEMBER 31,
-------------------- SEPTEMBER 30,
1995 1996 1997
--------- --------- -------------
<S> <C> <C> <C>
Convertible notes payable with interest
at 4.5%, payable in annual installments
of $428,000 plus interest.............. $ 856,000 $ 428,000 $ --
Note payable to a bank with interest at
10%, payable in monthly principal in-
stallments of $17,000 plus interest,
secured by equipment................... -- 482,000 --
Capital lease obligations with interest
at 6.25% to 17%, payable in monthly in-
stallments of $32,000 including inter-
est.................................... 689,000 252,000 --
--------- --------- ------
1,545,000 1,162,000 --
Less amounts due within one year........ (854,000) (877,000) --
--------- --------- ------
$ 691,000 $ 285,000 $ --
========= ========= ======
</TABLE>

F-10
<PAGE>

MEDICODE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

4. COMMITMENTS AND CONTINGENCIES

Leases

The Company has entered into various long-term non-cancelable operating
leases for equipment, office and warehouse facilities that expire at various
dates through June 30, 2001. In certain cases, these leases contain escalation
clauses based on increases in the Consumer Price Index. The Company incurred
rental expense on these leases for fiscal years 1994, 1995 and 1996 and the
nine months ended September 30, 1997 of approximately, $653,000, $664,000,
$850,000 and $698,000, respectively.

Minimum future non-cancelable commitments under these leases as of September
30, 1997 are as follows:

<TABLE>
<CAPTION>
FACILITIES AND EQUIPMENT
YEAR ENDING DECEMBER 31, OPERATING LEASES
------------------------ ------------------------
<S> <C>
1997.............................................. $247,000
1998.............................................. 977,000
1999.............................................. 966,000
2000.............................................. 966,000
2001.............................................. 330,000
</TABLE>

Legal Proceedings

The Company is involved in various legal proceedings which arise from time
to time in connection with the conduct of the Company's business. In the
opinion of management, such proceedings will not have a material adverse
effect on the Company's financial condition or results of operations.

5. STOCKHOLDERS' EQUITY

In September, 1997, the board of directors authorized management of the
Company to file a Registration Statement with the Securities and Exchange
Commission for the Company's initial public offering of its common stock. In
conjunction with the offering, the board of directors authorized, subject to
stockholder approval, the reincorporation of the Company in Delaware and a
1.466-for-one forward stock split of Common Stock. All share and per share
amounts, as well as the conversion ratio for the Series A Preferred Stock,
included in the accompanying financial statements have been retroactively
adjusted to reflect the forward stock split. In connection with the
reincorporation, the Company will adopt an Amended and Restated Certificate of
Incorporation which provides that the Company will be authorized to issue
5,000,000 shares of $0.001 par value preferred stock and 50,000,000 shares of
$0.001 par value common stock. The preferred stock is issuable in one or more
series, each of such series to have such rights and preferences, including
voting rights, dividend rights, conversion rights, redemption privileges and
liquidation preferences, as shall be determined by the board of directors.

Preferred Stock

Under the terms of the Company's initial public offering as currently
contemplated, all shares of Series A Preferred Stock outstanding will
automatically convert on a 1.466-for-1 basis into 4,016,263 shares of common
stock upon completion of the offering. Such conversion is reflected in the pro
forma stockholders' equity at September 30, 1997 in the accompanying
consolidated balance sheet.

F-11
<PAGE>

MEDICODE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

The Series A Preferred Stock (the Preferred Stock) is entitled to receive a
percentage dividend at the rate of 10% of the initial sales price of $4.76 per
share. Dividends on Preferred Stock are non-cumulative and are not payable
unless declared. To date, no dividends have been declared by the board of
directors. In addition, the Preferred Stock will participate on a pro rata
basis in any dividends that are declared on the Company's common stock on an
as-if-converted basis.

Preferred stockholders are entitled to vote on all matters with the common
stockholders and are entitled to the number of votes equal to the number of
common shares into which their preferred shares are convertible. Each share of
common stock is entitled to one vote.

In the event of any liquidation or dissolution of the Company, holders of
Preferred Stock are entitled to payment in an amount equal to $4.76 per share
plus all declared and unpaid dividends, before any payment will be made to
common stockholders. If the assets to be distributed to the holders of
Preferred Stock are insufficient, then the assets will be distributed ratably
to the holders of the Preferred Stock.

Stock Warrants

In connection with the issuance of Series A Preferred Stock, 1,060,386
warrants to purchase common stock were issued. The weighted average exercise
price of the warrants is $1.589. The warrants expire at the earlier of the
closing of the initial public offering of the Company's common stock, provided
that gross proceeds exceed $10 million, or September 16, 1998. Upon the
closing of a public offering of the Company's common stock the warrant holders
have the right to convert their warrants into common stock on a net exercise
basis.

Note Receivable from Stockholder

In January 1996 the Company issued 386,291 shares of common stock to an
officer for an aggregate purchase price of $329,375 which was paid for by
delivery of a full recourse promissory note with an interest rate of 6.0% per
year. The shares are subject to a repurchase option in favor of the Company
that lapses 25 percent on January 1, 1997 with the remainder lapsing ratably
over the succeeding 36 months, contingent upon the officer's continued
employment with the Company.

Stock Plans

The Company adopted a stock option plan in 1991 (the "1991 Plan") that
provides for the grant of incentive stock options to employees, and
nonstatutory options and stock purchase rights to employees, directors, and
consultants. As of September 30, 1997, the Company had reserved 2,932,000
shares of common stock under the 1991 Plan. Options are granted at an exercise
price of not less than the fair value per share of the common stock on the
date of grant and expire no later than ten years from the date of grant.
Options under the 1991 Plan generally vest 25% one year after the date of
grant and on a pro rata basis over the following 36 months. However, the board
of directors, at its discretion, may decide the period over which options
become exercisable. In some circumstances, options are immediately
exercisable, however the shares issuable upon exercise of the options are
subject to repurchase by the Company. The Company does not anticipate granting
additional options under the 1991 Plan after completion of its initial public
offering.

On September 16, 1997 the board of directors approved the 1997 Stock Plan
(the "1997 Plan"). A total of 750,000 shares of common stock (including the
607,500 shares remaining available for issuance under the 1991 Plan) have been
reserved for issuance under the 1997 Plan, all of which are currently
available for grant.

F-12
<PAGE>

MEDICODE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

During 1991, the Company granted two officers options to purchase 122,202
shares of common stock at an exercise price of $0.017 per share. These shares
were issued outside of the 1991 Plan and were issued at a discount to fair
market value.

The Company has elected to follow APB 25 and related interpretations in
accounting for its employee stock options. Under APB 25, when the exercise
price of the Company's stock options equal the price set by the Company's
Board of Directors for the underlying stock as of the grant date, no
compensation expense is recognized.

For the fair value disclosure below, the compensation value of each option
grant is estimated on the date of grant using the Black-Scholes option pricing
model with the following weighted average assumptions used for grants in 1995,
1996 and the nine months ended September 30, 1997, respectively; risk-free
interest rates of 7.75%, 6.5% and 6.25%, expected lives of 7 years, 6 years
and 6 years, expected dividend yields of 0% for all periods and expected
volatility of 60%, 70% and 70% (based on stock market prices for comparable
securities in the Company's industry).

Based on calculations using the Black-Scholes option pricing model, the
weighted-average fair value of options granted during 1995, 1996 and the nine
months ended September 30, 1997 was $0.58, $.82, and $2.66, respectively. The
pro forma impact on the Company's net income had compensation cost been
recorded under the fair value method is shown below.

<TABLE>
<CAPTION>
SEPTEMBER 30,
1995 1996 1997
------- ---------- -------------
<S> <C> <C> <C>
Net income
As reported............................... $48,000 $1,629,000 $750,000
Pro forma................................. 22,000 1,555,000 645,000
Net income per share
As reported............................... .21 .09
Pro forma................................. .20 .08
</TABLE>

Because the method of accounting for stock-based compensation as defined in
SFAS No. 123 has not been applied to options granted prior to January 1, 1995,
the resulting pro forma compensation may not be representative of that to be
expected in future years.

The status of total stock options outstanding and exercisable as of
September 30, 1997 is as follows:

<TABLE>
<CAPTION>
STOCK OPTIONS OUTSTANDING STOCK OPTIONS EXERCISABLE
----------------------------- --------------------------
WEIGHTED
AVERAGE
REMAINING
RANGE OF NUMBER OF CONTRACTUAL WEIGHTED AVERAGE NUMBER OF WEIGHTED AVERAGE
EXERCISE PRICES SHARES LIFE (YEAR) EXERCISE PRICE SHARES EXERCISE PRICE
- --------------- --------------- ------------- ---------------- --------- ----------------
<S> <C> <C> <C> <C> <C>
$0.017 - 3.33 628,463 3.65 $1.04 628,462 $1.04

.51 - .85 370,408 6.92 .70 305,658 .68

.85 - 1.71 436,868 8.65 1.24 100,087 .85

2.73 - 4.09 268,891 9.75 3.93 -- --
--------------- ---------
1,704,630 1,034,207
=============== =========
</TABLE>

F-13
<PAGE>

MEDICODE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

A summary of the Company's stock option activity and related information is
as follows:

<TABLE>
<CAPTION>
OPTIONS
OUTSTANDING
----------------
SHARES AVAILABLE NUMBER WEIGHTED AVERAGE
FOR GRANT OF SHARES EXERCISE PRICE
---------------- --------- ----------------
<S> <C> <C> <C>
Outstanding at December 31,
1993......................... 2,269,368 784,834 $ 1.49
Stock purchase agreement..... (17,445) -- --
Options granted.............. (636,730) 636,730 0.51
Options canceled............. 151,484 (151,484) (3.27)
--------- --------- ------
Balances at December 31, 1994. 1,766,677 1,270,080 0.80
Options granted.............. (187,648) 187,648 0.85
Options exercised............ -- (64,746) (.51)
Options canceled............. 103,844 (103,844) (.54)
--------- --------- ------
Balances at December 31, 1995. 1,682,873 1,289,138 0.84
Stock purchase agreements.... (421,475) -- --
Options granted.............. (478,649) 478,649 1.21
Options exercised............ -- (194,427) (0.52)
Options canceled............. 59,191 (59,191) (0.54)
--------- --------- ------
Balances at December 31, 1996. 841,940 1,514,169 1.01
Options granted.............. (268,891) 268,891 3.93
Options exercised............ -- (43,979) (1.00)
Options canceled............. 34,451 (34,451) (0.85)
--------- --------- ------
Balances at September 30,
1997.......................... 607,500 1,704,630 1.47
========= ========= ======
</TABLE>

The Company has adopted the 1997 Employee Stock Purchase Plan (the "Purchase
Plan") and has reserved a total of 200,000 shares of common stock for issuance
thereunder. No shares have been issued under the Purchase Plan. The Purchase
Plan permits eligible employees to purchae common stock through payroll
deductions of up to 15% of an employee's compensation, up to a maximum of
$25,000 for all purchases ending within the same calendar year. The price at
which common stock will be purchased under the Purchase Plan is equal to 85%
of the lower of the fair market value of the common stock on the first or last
day of each purchase period. The beginning of the first purchase period will
coincide with the closing of an initial public offering of the Company's
common stock.

F-14
<PAGE>

MEDICODE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

6. INCOME TAXES

The Company uses the liability method of accounting for income taxes as
required by Statement of Financial Accounting Standards No. 109, "Accounting
for Income Taxes." Under SFAS No. 109, deferred tax assets and deferred tax
liabilities are recognized based on temporary differences between the basis of
assets and liabilities using statutory rates. SFAS No. 109 also requires a
valuation allowance against net deferred tax assets if, based upon the
available evidence, it is more likely than not that some or all of the
deferred tax assets will not be realized. Significant components of the
Company's deferred tax assets and liabilities for federal and state income
taxes are as follows:

<TABLE>
<CAPTION>
DECEMBER 31,
--------------------- SEPTEMBER30,
1995 1996 1997
--------- ---------- ------------
<S> <C> <C> <C>
Deferred tax assets:
Accrued payroll and related costs....... $ 135,000 $ 95,000 $ 98,000
Reserve for bad debts................... 51,000 77,000 97,000
Reserve for sales returns............... 104,000 281,000 336,000
Inventory capitalization................ 65,000 56,000 44,000
Tax versus book depreciation............ 99,000 151,000 196,000
Losses and credits from subsidiary...... 285,000 285,000 285,000
Tax credits............................. 276,000 -- --
Other accrued expenses.................. 208,000 406,000 285,000
--------- ---------- ----------
Total deferred tax assets................ 1,223,000 1,351,000 1,341,000
Valuation allowance...................... (285,000) (285,000) (285,000)
--------- ---------- ----------
938,000 1,066,000 1,056,000
Deferred tax liabilities:
Other................................... (2,000) -- --
--------- ---------- ----------
Total deferred tax liabilities........... (2,000) -- --
--------- ---------- ----------
Net deferred tax asset................... $ 936,000 $1,066,000 $1,056,000
========= ========== ==========
</TABLE>

As of September 30, 1997, the Company had approximately $400,000 in net
operating loss carryforwards and $135,000 in tax credit carryforwards that
expire beginning in the year 2004. Utilization of these net operating losses
and tax credits is limited to the future taxable income of the Company's
subsidiary. Under the "change of ownership" provisions of the Internal Revenue
Code, utilization of these net operating losses and credit carryforwards may
be subject to an annual limitation, depending upon the fair market value of
the Company immediately before any "change of ownership."

F-15
<PAGE>

MEDICODE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

The provision for income taxes consists of the following:

<TABLE>
<CAPTION>
YEARS ENDED
DECEMBER 31, NINE MONTHS ENDED
------------------------------- SEPTEMBER 30,
1994 1995 1996 1997
--------- -------- ---------- -----------------
<S> <C> <C> <C> <C>
Current:
Federal................. $ (12,000) $155,000 $ 889,000 $382,000
State................... 3,000 30,000 182,000 58,000
--------- -------- ---------- --------
(9,000) 185,000 1,071,000 440,000
Deferred:
Federal................. (91,000) (74,000) (75,000) 7,000
State................... (6,000) (13,000) (55,000) 3,000
--------- -------- ---------- --------
(97,000) (87,000) (130,000) 10,000
--------- -------- ---------- --------
Provision for income tax-
es...................... $(106,000) $ 98,000 $ 941,000 $450,000
========= ======== ========== ========

The reconciliation of the statutory federal income tax rate to the provision
for income taxes is as follows:

<CAPTION>
YEARS ENDED
DECEMBER 31, NINE MONTHS ENDED
------------------------------- SEPTEMBER 30,
1994 1995 1997
--------- -------- -----------------
<S> <C> <C> <C> <C>
Tax provision computed at
the statutory rate of
34%..................... $ (74,000) $ 50,000 $ 874,000 $408,000
State taxes, net of fed-
eral benefit............ (8,000) 5,000 85,000 40,000
Increase (decrease) in
valuation allowance..... 139,000 90,000 -- --
Research credits......... (167,000) (67,000) (38,000) (20,000)
Other.................... 4,000 20,000 20,000 22,000
--------- -------- ---------- --------
$(106,000) $ 98,000 $ 941,000 $450,000
========= ======== ========== ========
</TABLE>

7. BENEFIT PLAN

The Company has a defined contribution plan qualified under Section 401(k)
of the Internal Revenue Code, which is available to employees of the Company
who meet certain eligibility requirements. Under the terms of the plan,
participants make voluntary contributions based on a percentage of their
pretax earnings not to exceed limits set annually by the Internal Revenue
Service. The Company is required to match employee contributions at a 50% rate
limited to a maximum Company match of 2% of an employee's annual compensation.
In some plan years the Company may in its discretion make an additional
matching contribution. The Company's contribution vests over a five-year
period beginning with the employee's hire date. The Company recognized expense
for matching contributions of $78,000, $100,000, $104,000 and $87,000 for
fiscal 1994 , 1995, 1996 and the nine months ended September 30, 1997,
respectively. There have been no discretionary contributions made by the
Company since the inception of the 401(k) Plan.

F-16
<PAGE>

[LOGO OF MEDICODE APPEARS HERE]