FPA MEDICAL MANAGEMENT INC, 10-K/A, 1996-10-03

FPA MEDICAL MANAGEMENT INC
10-K/A, 1996-10-03
NURSING & PERSONAL CARE FACILITIES

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

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FORM 10-K/A

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

FOR THE FISCAL YEAR ENDED DECEMBER 31, 1995

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

FOR THE TRANSITION PERIOD FROM TO

COMMISSION FILE NUMBER 0-24276

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FPA MEDICAL MANAGEMENT, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

DELAWARE 33-0604264
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)

2878 CAMINO DEL RIO SOUTH, 92108
SUITE 301, (ZIP CODE)
SAN DIEGO, CA
(ADDRESS OF PRINCIPAL EXECUTIVE
OFFICES)

Registrant's telephone number, including area code: (619) 295-7005

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:

COMMON STOCK, $.002 PAR VALUE PER SHARE
(TITLE OF CLASS)

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

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

The aggregate market value of the voting stock held by non-affiliates of the
registrant at March 18, 1996 was $103,345,563.

The number of shares outstanding of the registrant's Common Stock as of
March 18, 1996 was 11,191,500.

DOCUMENTS INCORPORATED BY REFERENCE

PORTIONS OF THE FOLLOWING DOCUMENTS ARE INCORPORATED BY REFERENCE IN THIS FORM
10-K.

1. PROXY STATEMENT FOR THE 1996 ANNUAL MEETING OF STOCKHOLDERS (PART III)

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PART I

ITEM 1. BUSINESS

GENERAL

FPA Medical Management, Inc. ("FPA") is a national healthcare management
service organization ("MSO") which organizes and manages primary care
physician practices and networks that contract with health maintenance
organizations ("HMOs") and other prepaid health insurance plans (collectively,
"Payors") to provide physician and related healthcare services to Payor
members ("enrollees") who select FPA primary care physicians. FPA's
relationships with its affiliated professional corporations (the "Professional
Corporations"), other providers of medical services and Payors (collectively,
the "FPA Network") offer physicians the opportunity to participate more
effectively in managed care programs by organizing physicians within
geographic areas to contract with HMOs. FPA also assumes administrative
functions necessary in a managed care environment, related to claims
adjudication, utilization management of medical services, Payor contract
negotiations and the operation of management information systems. Management
believes that FPA's management model is appealing to physicians because it
allows the physicians to keep control of their own practices while
participating in a managed care program.

The FPA Network currently consists of approximately 2,200 primary care
physicians and 3,600 specialty care physicians in eight states and 23 Payors
providing healthcare coverage to approximately 212,000 enrollees in five
states. The majority of these enrollees are in California, where FPA began its
operations and where it currently manages healthcare services for
approximately 132,000 enrollees of 11 Payors.

Through the Professional Corporations, the FPA Network manages all covered
primary and specialty medical care for each enrollee in exchange for a fixed
monthly capitation payment pursuant to Payor contracts. Specialty care
physician services, in-patient hospitalization and certain other services are
managed by primary care physicians, are subject to pre-authorization
guidelines, and are provided through contracts negotiated by FPA for the
Professional Corporations based on discounted fee-for-service, per diem or
capitation rates. Contracts with Payors and primary care physicians generally
include shared risk arrangements and other incentives designed to encourage
the provision of high-quality, cost-effective healthcare. Under these
arrangements, the Professional Corporations are able to earn additional
compensation when high-quality healthcare is provided and appropriate
utilization of certain specialty physician care and hospitalization is
achieved.

The Payor and provider contracts are approved and entered into by the
Professional Corporations. The capitation payment received from a Payor is
assigned by the Professional Corporation to FPA pursuant to an administrative
services agreement between the Professional Corporation and FPA. FPA in turn
remits a portion of the capitation payment on behalf of the Professional
Corporation to the primary care physicians in the FPA Network based on the
number of enrollees each physician covers, regardless of the amount of medical
care provided.

NATURE OF FPA'S BUSINESS

FPA's business, by its nature, is subject to various risks, including, but
not limited to, difficulties in controlling healthcare costs, difficulties in
accurately estimating revenue from shared risk arrangements and accruals for
medical services provided but not reported, uncertainty of future expansion,
dependence on primary care physicians and possible negative effects of
government regulation.

FPA's profitability primarily depends upon its ability to pay out less in
medical and administrative costs than the capitation revenue it receives from
Payors. The failure of FPA to effectively manage the provision of medical
services by physicians in the FPA Network could have an adverse effect on FPA.

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The future growth of FPA is dependent on (i) a continued increase in the
number of enrollees in the FPA Network through affiliations with, or
acquisitions of, additional physician practices and by expanding relationships
with existing Payors and entering into agreements with new Payors and (ii)
FPA's ability to retain existing and attract additional primary care
physicians. If FPA is not successful in affiliating or acquiring additional
physician groups or is unable to retain existing or attract additional primary
care physicians into the FPA Network, FPA's business could be negatively
affected.

The healthcare industry is subject to extensive federal and state
legislation. Changes in the regulations or reinterpretations of existing
regulations could significantly affect the business of FPA.

THE MANAGED HEALTHCARE INDUSTRY

Medical services traditionally have been provided on a fee-for-service basis
with insurance companies assuming responsibility for paying all or a portion
of such fees. The increase in medical costs under traditional indemnity
healthcare plans has been caused by a number of factors, including, but not
limited to, the lack of incentives on the part of healthcare providers to
deliver cost-effective medical care and the absence of controls over the
utilization of costly specialty care physicians and hospitals.

As a result of escalating healthcare costs, employers, insurers and
governmental entities have all been seeking cost-effective approaches to the
delivery of and payment for quality healthcare services. HMOs and other
managed healthcare organizations have emerged as integral components in this
effort. HMOs enroll members by entering into contracts with employer groups or
directly with individuals to provide a broad range of healthcare services for
a capitation payment, with minimal or no deductibles or co-payments required
of the members. HMOs, in turn, contract either directly with physicians, or
through organizations like FPA, hospitals and other healthcare providers to
administer medical care to HMO members. These contracts provide for payment to
the provider on either a discounted fee-for-service or per diem basis, or
through capitation payments based on the number of members covered, regardless
of the amount of necessary medical care required within the covered benefits.

In response to the growth in HMO penetration, several provider group models
have evolved pursuant to which Payors generally shift certain administrative
and economic burdens to physicians. Administrative burdens include justifying
medical procedures, seeking authorization for tests and surgical procedures
and responding to additional oversight from Payors. These burdens have been
exacerbated by the proliferation of HMOs, which require physicians to comply
with multiple formats for claims processing, credentialing and other
administrative reporting requirements. As a result, physicians' operating
expenses and the number of hours devoted to non-medical activities have
increased. In addition to adding these administrative pressures, by capitating
payments to physicians, HMOs, in effect, have also begun to shift to
physicians a significant portion of the economic risk of providing healthcare.
These arrangements exert more pressure on the physician to reduce costs and
unnecessary medical treatments while continuing to deliver quality medical
care.

To relieve these administrative and economic burdens, physicians have begun
to outsource to third parties, such as MSOs, both the management of economic
risk and the non-medical management tasks associated with the practice of
medicine. MSOs provide management and other administrative services to
physicians and, in certain circumstances, manage a portion of the economic
risk involved in providing healthcare. MSOs also help physician groups by
negotiating capitation rates and incentive payment arrangements with Payors.

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THE FPA NETWORK

The FPA Network currently has contracts to provide services to approximately
212,000 enrollees of 23 Payors, which enrollees are serviced by approximately
2,200 primary care physicians. Listed below is a breakdown of Payors,
enrollees and primary care physicians by region.

<TABLE>
<CAPTION>
FULLY DELEGATED PRIMARY CARE
ENROLLEES PHYSICIANS
REGION (APPROXIMATELY) PAYORS (APPROXIMATELY)
------ --------------- ------ ---------------
<S> <C> <C> <C>
California.............................. 132,000 11 602
New Jersey.............................. 25,000 3 830
Delaware................................ 5,000 1 83
Arizona................................. 12,000 3 174
Texas................................... 38,000 5 33
Pennsylvania............................ -- -- 382
South Carolina.......................... -- 1 91
------- --- -----
Total................................. 212,000 23 2,195
======= === =====
</TABLE>

Medical Providers

FPA currently is affiliated with approximately 2,200 primary care physicians
(family practice, internal medicine and pediatrics), approximately 602, 830,
83, 174, 33, 382 and 91 of whom practice in the California, New Jersey,
Delaware, Arizona, Texas, Pennsylvania and South Carolina, respectively.

The Professional Corporations also provide covered healthcare benefits that
are unavailable directly from primary care physicians in the FPA Network
through contracts with specialty care physicians or other ancillary providers
who are compensated on a discounted fee-for-service or capitated (i.e., a
fixed fee per enrollee paid to the provider regardless of the amount of the
care provided to enrollees in the FPA Network) basis. The FPA Network
currently includes approximately 2,500 specialty care physicians in
California. In Pennsylvania and New Jersey, FPA depends on relationships
developed by the affiliated primary care physicians in those areas to identify
and contract with specialty care physicians. Currently FPA is negotiating
specialty care and hospital contracts with several major institutions in New
Jersey. In Arizona and Texas, the FPA Network has relationships with
approximately 360 and 370 specialty care physicians, respectively.

One of the Professional Corporations, in conjunction with its Payors, has
contracted with 18 hospitals and outpatient facilities in California for
discounted inpatient and outpatient rates. Pursuant to its agreements with
three Payors, the Professional Corporation in New Jersey has access to
discounted fee arrangements with 80 hospitals. Contracts currently provide for
fixed per diem rates for inpatient services and fixed fees for specific
outpatient services, each based on specific procedures. The rates set forth in
these contracts generally reflect a discount from usual and customary charges.
FPA is currently negotiating preferred inpatient rates at other facilities in
New Jersey. In Arizona, a Professional Corporation has discounted fee-for-
service, per diem and capitated arrangements with 25 hospitals in the Phoenix
area to provide inpatient and outpatient services. In Texas, a Professional
Corporation has negotiated fee-for-service, per diem and capitated
arrangements with 14 hospitals in the San Antonio area to provide inpatient
and outpatient services.

Payor Relationships

FPA's revenue is generated through the assignment of payments made from
Payors to the Professional Corporations. The Professional Corporations'
agreements with Payors are for terms between one and ten years, with automatic
renewal periods. Payments by Payors typically are separated into two
categories: (i) capitation payments to cover outpatient and/or inpatient
services; and (ii) payments from shared risk arrangements which relate to
hospital and other services provided to enrollees. The balance of the assigned
revenue is retained by FPA pursuant to the terms of the administrative
services agreements. To the extent that shared risk pools, from

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which funds are utilized to provide inpatient hospitalization and other
services not covered by the outpatient capitated payments, are not fully
depleted, the Payors generally share the surplus with hospitals and the
Professional Corporations that assign these revenues to FPA. Inefficient
healthcare management by either FPA, hospitals or physicians could cause such
shared risk pools to be depleted.

Administrative Services Agreements. FPA has entered into administrative
services agreements with the Professional Corporations which delegate to FPA
certain administrative, management and support functions which are required by
physicians in the practice of medicine (the "Administrative Services
Agreements"). Pursuant to the Administrative Services Agreements, FPA
generally provides facilities, fixtures and equipment for the provision of all
medical services. The Administrative Services Agreements generally have either
(i) initial terms of 10 years and are renewable for an additional 10-year
period at FPA's election and thereafter renew automatically for a third 10-
year term unless either party elects to terminate or (ii) a term of 40 years.

Pursuant to the Administrative Services Agreements, the Professional
Corporations have assigned to FPA, as agent for the Professional Corporations
and as security for the payment to FPA of its management fee, substantially
all revenue received by the Professional Corporations except that Family
Practice Associates of San Diego, an Osteopathic Corporation, one of the
Professional Corporations, retains the rights to its fee-for-service revenue
and provides for its own operating costs. "Revenue" is generally defined as
all capitated sums which the Professional Corporations receive or become
entitled to receive for the performance of medical services by physicians
employed by or under contract with the Professional Corporations, all fee-for-
service revenue and substantially all shared risk pool revenue received.
Amounts that may not be assigned to FPA under applicable law (including
traditional fee-for-service Medicare payments) are not included in the revenue
assigned to FPA. As compensation for services rendered to the Professional
Corporations by FPA under the Administrative Services Agreements, FPA receives
a management fee, which consists of assigned revenues minus the costs
associated with the provision of medical care and general and administrative
expenses. FPA remits a portion of the capitation payments on behalf of the
Professional Corporations to the primary care physicians in the FPA Network
based on the number of enrollees each physician covers, regardless of the
amount of medical care provided. Pursuant to the Administrative Services
Agreements, the Professional Corporations appoint FPA as collection and
disbursement agent to collect receivables and disburse funds required to
discharge obligations arising from the Payor agreements.

FPA plans to enter into similar Administrative Services Agreements with
Professional Corporations in states other than California, Pennsylvania,
Delaware, New Jersey, Texas and Arizona. Those medical corporations will be
regulated by the laws of those states, and accordingly, modifications to the
existing management agreement structure may be made to comply with state law.

Management Services

FPA provides management services to physicians, hospitals and Payors in the
FPA Network. FPA's services include: (i) comprehensive management information
systems ("MIS") that collect and assimilate data necessary for monitoring and
managing healthcare costs; (ii) claims administration and billing services;
(iii) utilization management of medical services and related financial
reporting and analysis; (iv) care coordination and case management assistance
for enrollees requiring medically complex or long-term healthcare; (v)
monitoring of the quality and cost of hospital and ancillary care; and (vi)
credentialing and recruiting of physicians.

Management Information Systems. FPA maintains an on-line database that
provides inpatient and outpatient utilization statistics and patient encounter
reporting and tracking. FPA believes that the availability of timely
information on utilization patterns improves primary care physician
productivity and effectiveness. These data also play an integral role in the
specialty care physician and hospital utilization control process by enabling
the medical directors and utilization control nurses to monitor encounter
data, case management decisions and patient outcomes. In addition, the MIS
assist FPA in performing various administrative functions, including

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insurance verification, payment of accounts payable, financial reporting and
claims payment. The MIS also include the customer service documentation system
which assists FPA in resolving concerns enrollees may have and in evaluating
patient and physician satisfaction.

Claims Administration and Billing Services. FPA possesses complete medical
bill review and claims processing capabilities. These capabilities include
determining enrollee eligibility, identifying appropriate benefits, issuing
payments to providers, processing hospital and outpatient facility charges for
the payment of claims and providing and analyzing encounter data. As a service
to certain Professional Corporations, FPA performs fee-for-service billing and
collections. Billing staff register fee-for-service patients, send monthly
statements and pursue collection.

Utilization Management. Physicians within the FPA Network have established a
utilization management program to help ensure the delivery of high quality,
cost-effective healthcare. Utilization management encourages physicians in the
FPA Network to provide cost-effective, quality care by emphasizing preventive
medicine and by eliminating unnecessary tests, procedures, surgeries,
hospitalizations and referrals to specialty care physicians. Referrals to
specialty care physicians and all hospital admissions, with the exception of
emergencies, generally require prior approval by the utilization management
committees of the various Professional Corporations. The utilization
management committee has established guidelines for routine referrals which
can be authorized by the committee's staff. Following admission, a patient's
status is monitored daily by a member of the utilization management committee,
in conjunction with the admitting physician or in-house intensivist, to assure
timely and appropriate hospital discharge. A member of the utilization
management committee coordinates with hospital nurses for discharge planning
and use of sub-acute alternatives to hospitalization. FPA has developed
separate utilization management committees on a regional basis due to
expansion into new geographic markets.

Case Management. Case management is a service administered by the various
utilization management committees and is a clinical and administrative process
by which healthcare services are identified, coordinated, implemented and
evaluated on an ongoing basis for enrollees experiencing selected health
problems. Such selected health problems include chronic disability, complex
medical cases or problems requiring long-term care. Case management involves
the coordination of a variety of services, including home nursing, home
infusion and the provision of durable medical equipment. This approach
provides a continuum of quality care throughout the extended treatment period.

Quality Assurance. The FPA Network maintains, as a service to both its
physicians and Payors, a comprehensive quality assurance program designed to
improve patient care. The quality assurance program incorporates peer review,
patient satisfaction surveys, medical records audit, continuing medical staff
development and regular continuing medical education seminars as required by
accrediting organizations, state law and licensing requirements. Medical staff
development includes the provision of training and support programs to
encourage the team-oriented delivery of high quality, cost-effective medical
care.

Physician Credentialing and Recruitment. As a service to Payors and the
Professional Corporations, FPA verifies that the credentials of physicians in
the FPA Network meet the minimum requirements specified in Payor contracts. In
addition, FPA assists the Professional Corporations in the recruitment of
highly competent physicians who share in the philosophy of prepaid managed
healthcare. The recruitment process includes a lengthy series of interviews
and reference checks incorporating a number of credentialing and competency
assurance protocols. All of the FPA Network's physicians are licensed to
practice medicine in the state where they provide medical services and are
generally either board certified or board eligible.

Contracts with Providers

The FPA Network, through the Professional Corporations and Payors, contracts
with a variety of providers, including primary and specialty care physicians,
hospitals and other ancillary providers. These agreements generally have terms
up to three years, are automatically renewable and are terminable by either
party on the following December 31 upon at least 90 days' prior notice. A
primary care physician's affiliation and

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compensation arrangement with a Professional Corporation may take one of
several forms. The physician may be (i) an individual or a member of a group
practice or an independent practice association ("IPA") which (a) contracts
with FPA and a Professional Corporation for FPA's services and receives
capitation payments based on the number of enrollees and is entitled to
additional compensation based upon efficiency in utilizing the services of
specialty care providers, subject to other factors including but not limited
to compliance with contractual quality standards or (b) enters into a joint
venture with FPA and one of its Professional Corporations; or (ii) an
individual or group practice of physicians which sells to FPA and a
Professional Corporation the assets of its practice and receives as
compensation for employment a base salary and productivity bonus, or receives
a percentage of net collections of the practice determined in accordance with
applicable law. The physician or group which sells its practice still
practices medicine in the same location. While such physician or group is
employed and paid by a Professional Corporation, FPA provides most employees
and administrative services to such physician or group. In general, a primary
care physician is entitled to earn additional compensation if the medical
practice, determined in accordance with applicable law, meets certain targets.

In November 1994, the Board of Directors approved a physician stock option
program effective January 1, 1995. Under this program, physicians will be
eligible to receive options to purchase FPA's Common Stock if they reach
objective standards set by FPA.

The compensation structures for primary care physicians are set to be
competitive within the geographic area in which each physician is employed.
FPA currently surveys physician compensation patterns and programs in HMO and
other group practice settings to ensure that FPA Network physicians'
compensation and benefits are competitive.

Specialty care providers contract with a Professional Corporation to provide
medical services to enrollees and are compensated on a discounted fee-for-
service or capitated basis. Hospital and affiliated medical facilities
contract with a Professional Corporation and Payors to provide both inpatient
and outpatient services to enrollees on a fee-for-service, per diem or
capitated basis, which are discounted from customary charges.

Contracts with Payors

FPA arranges for contracts between Payors and the Professional Corporations.
These contracts generally provide for terms of one to three years, with
automatic renewal periods, terminable upon prior notice (generally between 30
and 180 days) by either party. These contracts obligate the Professional
Corporations to deliver covered medical benefits and to coordinate all
inpatient and outpatient care for enrollees. Under most of these arrangements,
the Professional Corporation receives a capitation payment for each Payor
enrollee who selects a primary care physician who is employed by or affiliated
with such Professional Corporation. These capitation payments, in turn, are
assigned to FPA pursuant to FPA's administrative services agreement with the
Professional Corporation. The Professional Corporations, however, retain a
level of risk for the provision of appropriate medical care. In addition,
these contracts typically provide for bonuses derived from shared risk
arrangements and provide other financial incentives designed to encourage
efficient utilization of hospital and other medical services provided to
enrollees. To encourage efficient utilization of hospital and related
services, the Payor contracts typically establish a yearly shared risk pool
from which all payments for hospitalization and other specified services are
deducted. At the end of the period, the Professional Corporation is entitled
to a portion of any excess amounts over actual expenditures deducted from the
pool. Certain of the Payor contracts which are material to FPA obligate the
Professional Corporation to bear a portion of any deficit in this fund. To
date, however, neither FPA nor any Professional Corporation has been called
upon to pay any deficit. Typically, when such deficits do occur, they are
carried forward and offset against future surpluses. Additionally, some Payor
contracts contain similar arrangements with respect to other specialty care
services. FPA has negotiated "attachment points" for stoploss insurance
independent of Payor contracts, which represent the contractual limit,
generally $15,000 per year for outpatient services and $50,000 per year for
inpatient services, relating to FPA's financial exposure on individual
enrollees. FPA believes it has negotiated favorable attachment points for the
FPA Network's enrollees.

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In 1995, revenue from two Payors, PacifiCare of California (including the
senior program) and Medigroup, Inc., each exceeded 10% of FPA's operating
revenue, assigned from Professional Corporations, and collectively accounted
for approximately 41% of FPA's operating revenue, assigned from Professional
Corporations.

Competition

The healthcare industry is highly competitive and is subject to continuing
changes in how services are provided and how providers are selected and paid.
Generally, FPA and the Professional Corporations compete with any entity that
contracts with Payors for the provision of prepaid healthcare services. The
FPA Network also competes with other companies, including other MSOs, which
provide management services to healthcare providers. Certain competitors are
significantly larger and better capitalized than FPA, provide a wider variety
of services, have greater experience in providing healthcare management
services and have longer-established relationships with buyers of such
services than does FPA.

GOVERNMENTAL REGULATION

The healthcare industry is highly regulated, and there can be no assurance
that the regulatory environment in which FPA operates will not change
significantly in the future. Generally, regulation of healthcare companies is
increasing.

Various proposals affecting federal and state regulation of the healthcare
industry, including limitations on Medicare and Medicaid payments, have been
introduced in the past, including provisions in legislation currently pending
which would reduce funds available for the Medicare program.

Federal law and the laws of the states where FPA and the Professional
Corporations currently operate generally specify who may practice medicine and
limit the scope of relationships between medical practitioners and other
parties. Under such laws, FPA is prohibited from practicing medicine or
exercising control over the provisions of medical services. In order to comply
with such laws, the FPA Network is organized so that all physician services
are offered by the physicians who are employed by or affiliated with the
Professional Corporations. FPA does not employ practicing physicians as
practitioners, exert control over their decisions regarding medical care or
represent to the public that it offers medical services. FPA has entered into
administrative services agreements with the Professional Corporations which
delegate to FPA the performance of certain administrative, management and
support functions. FPA believes that the services it provides to the FPA
Network do not constitute the practice of medicine under applicable laws.

Every state imposes licensing requirements on individual physicians and on
facilities and services operated by physicians. In addition, federal and state
laws regulate HMOs and other managed care organizations with which the
physician groups may have contracts. Many states require regulatory approval,
including certificates of need, before establishing or expanding certain types
of healthcare facilities, offering certain services or making expenditures in
excess of statutory thresholds for healthcare equipment, facilities or
programs. Some states also require licensing of third-party administrators,
entities performing utilization management functions and collections agencies.
One of FPA's subsidiaries has obtained a third-party administrator and
utilization management license in South Carolina. In connection with its
existing operations and its expansion into new markets, FPA believes it is in
compliance with all such laws and regulations and current interpretations
thereof, but there can be no assurance that such laws, regulations or
interpretations will not restrict expansion or affect operations in the future
or that additional laws and regulations will not be enacted. The ability of
FPA to operate profitably will depend in part upon FPA and its affiliated
physician groups obtaining and maintaining all necessary licenses,
certificates of need and other approvals and operating in compliance with
applicable healthcare regulations.

Federal law prohibits the offer, payment, solicitation or receipt of any
form of remuneration in return for, or in order to induce: (i) the referral of
a person for services, (ii) the furnishing or arranging for the furnishing of
items or services, or (iii) the purchase, lease or order of arranging or
recommending purchasing, leasing or

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ordering of any item or service, in each case, reimbursable under Medicare or
Medicaid. Pursuant to this anti-kickback law, the federal government has
recently announced a policy of increased scrutiny of joint ventures and other
transactions among healthcare providers in an effort to reduce potential fraud
and abuse relating to Medicare patients. The applicability of these provisions
to many kinds of business transactions in the healthcare industry has not yet
been subject to judicial and regulatory interpretation. In addition, federal
legislation currently restricts the ability of physicians to refer patients to
entities in which they have an ownership interest or compensation arrangement
for clinical laboratory services. Effective January 1, 1995, the federal anti-
referral legislation extended to entities that provide certain other
"designated health services." Many states, including those in which FPA
presently does business, have similar anti-kickback and anti-referral laws.

A violation of the federal anti-kickback statute generally requires several
elements: (i) the offer, payment, solicitation or receipt of remuneration;
(ii) the intent to induce referrals; and (iii) the ability of the parties to
make or influence referrals of patients for services reimbursable under
Medicare or Medicaid programs or to provide items or services reimbursable
under such programs. Noncompliance with, or violation of, the federal anti-
kickback legislation can result in exclusion for Medicare and Medicaid
programs and civil and criminal penalties. With respect to the self-referral
prohibition, the entity and the referring physician are prohibited from
receiving Medicare or Medicaid reimbursement for services rendered. Similar
penalties are provided for violation of state and anti-kickback and anti-
referral laws. The federal government has promulgated "safe harbor"
regulations that identify certain business and payment practices which are
deemed not to violate the federal anti-kickback statute. Although FPA's
business does not fall within certain of the current or proposed safe harbors,
FPA believes that its operations materially comply with such statutes and
regulations.

FPA believes that its business operations do not involve the offer, payment,
solicitation or receipt of remuneration to induce referrals of patients
because compensation arrangements with primary care physicians who make
referrals are designed to discourage referrals to the extent they are
unnecessary. These physicians are paid either on a capitation or fee-for-
service basis and do not receive any financial benefit from making referrals.
FPA also believes that its business arrangements do not involve the referral
of patients to entities with whom referring physicians have an ownership
interest or compensation arrangement within the meaning of federal and state
anti-referral laws, because most referrals are made directly to other
providers rather than to entities in which referring physicians have an
ownership or compensation arrangement. FPA further believes its compensation
arrangements with physicians fall within various exceptions to state and
federal anti-referral laws, including exceptions for ownership or compensation
arrangements with certain managed care organizations and for physician
incentive plans that limit referrals. In addition, FPA believes that the
methods used to acquire existing physician practices and to recruit new
physicians do not violate anti-kickback and anti-referral laws and
regulations. Should any of FPA's business arrangements be deemed to constitute
arrangements designed to induce the referral of Medicare or Medicaid patients
or to involve referrals to entities with whom the referring physician has an
ownership interest or compensation arrangement, then such arrangements could
be viewed as possibly violating anti-kickback or anti-referral laws and
regulations. A determination of liability under any such law could have a
material adverse effect on FPA's revenue.

Federal and state laws regulate insurance companies, HMOs and other managed
care organizations. Generally, these laws apply to entities that accept
financial risk. Certain of the risk arrangements entered into by FPA could be
characterized by some states as the business of insurance. FPA, however,
believes that the acceptance of capitation payments by a healthcare provider
does not constitute the conduct of the business of insurance. Many states also
regulate the establishment and operation of networks of healthcare providers.
Generally, these laws do not apply to the hiring and contracting of physicians
by other healthcare providers. There can be no assurance that regulators of
the states in which FPA operates would not apply these laws to require
licensure of FPA's operations as an insurer or provider network. FPA believes
that it is in compliance with these laws in the states in which it does
business, but there can be no assurance that future interpretations of these
laws by the regulatory authorities in these states or the states in which FPA
may expand will not require licensure or a restructuring of some or all of
FPA's operations. In the event that FPA is required to become licensed under
these laws, the licensure process can be lengthy and time consuming and,
unless the regulatory

8
<PAGE>

authority permits FPA to continue to operate while the licensure process is
progressing, FPA could experience a material adverse change in its business
while the licensure process is pending. In addition, many of the licensing
requirements mandate strict financial and other requirements which FPA may not
immediately be able to meet. Further, once licensed, FPA would be subject to
continuing oversight by and reporting to the respective regulatory agency.

In February 1996, following a dialogue with the California Department of
Corporations (the "Department") regarding whether FPA's operations classified
it as a healthcare service plan (i.e., HMO) within the meaning of California
law, FPA, on behalf of one of its subsidiaries, filed a restricted license
application with the Department. Based on discussions with the Department and
the advice of its California regulatory counsel, FPA believes that it will be
able to meet the requirements for licensure. FPA believes that its operations
will not have to be interrupted during the licensure process. Notwithstanding
the foregoing, there can be no assurance that FPA's license application will
be approved by the Department. The failure to receive such license would cause
FPA to alter the way FPA conducts business in the State of California and
could have a material adverse effect on the future operations of FPA in the
State of California.

MALPRACTICE INSURANCE

FPA requires all physicians in the FPA Network to carry certain minimum
amounts of malpractice insurance coverage. While FPA does not maintain its own
malpractice insurance, FPA is included as a named or additional insured on
policies of certain of the Professional Corporations. FPA also maintains an
errors and omissions insurance policy which covers utilization review
activities.

EMPLOYEES

At March 1, 1996, FPA had approximately 650 full-time employees. None of the
employees is subject to a collective bargaining agreement. Management believes
that its employee relations are good.

ITEM 2. PROPERTIES.

FPA leases administrative office space in each of its regions, as follows:

<TABLE>
<CAPTION>
REGION SQUARE FEET TERMINATION DATE
------ ----------- -----------------
<S> <C> <C>
San Diego, CA................................. 25,000 May 14, 1999
Sacramento, CA................................ 5,000 June 15, 2001
Los Angeles, CA............................... 16,000 December 12, 2000
Newtown Square, PA............................ 13,000 October 31, 2000
Phoenix, AZ................................... 10,000 January 31, 2001
San Antonio, TX............................... 36,000 October 30, 2005
-------
Total....................................... 105,000
=======
</TABLE>

FPA also leases certain other small administrative offices and various
medical office spaces for the health centers that FPA and the Professional
Corporations operate. As FPA and the Professional Corporations acquire
additional physician practices, management expects that FPA and the
Professional Corporations will enter into additional medical office space
leases.

ITEM 3. LEGAL PROCEEDINGS.

FPA is party to certain legal actions arising in the ordinary course of
business. In the opinion of FPA's management, liability, if any, under these
claims is adequately covered by insurance or will not have a material effect
on FPA's financial position or results of operations.

9
<PAGE>

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

Not applicable.

Executive Officers of the Registrant

Set forth below is information about the executive officers of FPA. The
offices referred to below are offices of FPA unless otherwise indicated.

All executive officers are elected to serve at the pleasure of the Board of
Directors. Set forth below is information about the executive officers of FPA.

Dr. Sol Lizerbram (48), Chairman of the Board and President since 1986.

Dr. Seth Flam (37), Chief Executive Officer since 1986.

Dr. Howard Hassman (39), Executive Vice President--Corporate Development
since September 1994; Chief Financial Officer from 1986 to September 1994.

Dr. Kevin Ellis (39), Chief Medical Officer since April 1995. Chief
Operating Officer from 1988 until April 1995.

Steven M. Lash (42), Executive Vice President and Chief Financial Officer
since September 1994. Executive Vice President for Institutional Care at Sharp
HealthCare, a healthcare system providing medical services throughout San
Diego, California, from April 1993 to September 1994; Senior Vice President of
Business Affairs and Chief Financial Officer of San Diego Hospital
Association, doing business as Sharp HealthCare, from 1981 to April 1993.

Robert J. Burg (40), Executive Vice President--East Coast since December
1994. Executive Vice President and Chief Operating Officer, Memorial Health
Alliance, a healthcare delivery system in southern New Jersey, from 1990 until
May 1994.

James A. Lebovitz (38), Senior Vice President, General Counsel and Secretary
since March 1996. Partner, Ballard Spahr Andrews & Ingersoll, a law firm, from
1991 until March 1996.

Cheryl A. Moore (30), Controller since January 1994; Vice President and
Chief Accounting Officer since August 1994. Audit manager, Deloitte & Touche,
from 1993 to January 1994; auditor, Deloitte & Touche, from 1988 to 1993.

PART II

ITEM 5. MARKET PRICE FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS.

FPA's Common Stock has traded on The Nasdaq Stock Market under the symbol
FPAM since the effective date of FPA's registration statement which registered
shares of FPA's Common Stock in FPA's initial public offering on October 20,
1994. For the period October 20, 1994 through December 31, 1994, the high and
low bids for FPA's Common Stock were $6.25 and $5.13, respectively. The table
below shows the high and low bids for FPA's Common Stock for each quarter
during 1995.

<TABLE>
<CAPTION>
1995 HIGH LOW
---- ------- ------
<S> <C> <C>
1st Quarter................................................ $11.250 $6.000
2nd Quarter................................................ 12.500 7.875
3rd Quarter................................................ 12.125 8.875
4th Quarter................................................ 9.750 5.875
</TABLE>

At March 18, 1996, there were approximately 180 holders of record of Common
Stock. FPA declared no cash dividends during 1994 or 1995 and has no plans to
declare cash dividends in the foreseeable future.

10
<PAGE>

ITEM 6. SELECTED FINANCIAL DATA.

The following statement of operations data and balance sheet data have been
derived from the consolidated financial statements of the Company. The
consolidated balance sheets of the Company as of December 31, 1994 and 1995
and the related consolidated statements of operations for each of the three
years in the period ended December 31, 1995 have been audited by Deloitte &
Touche LLP, independent auditors, whose report is included elsewhere in this
filing. The consolidated balance sheets as of December 31, 1991, 1992 and 1993
and the related consolidated statements of operations for the years then ended
have also been audited. The selected financial data below should be read in
conjunction with the consolidated financial statements and notes thereto and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------------------------------------
1991 1992 1993 1994 1995
---------- ---------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
CONSOLIDATED STATEMENT
OF OPERATIONS:
Operating revenue,
assigned from
Professional
Corporations........... $1,321,682 $8,275,229 $13,987,914 $18,435,877 $52,691,955
Medical services
expense................ 995,405 6,423,021 10,347,804 13,628,430 37,757,244
---------- ---------- ----------- ----------- -----------
326,277 1,852,208 3,640,110 4,807,447 14,934,711
General and
administrative
expense................ 862,205 1,893,206 3,471,056 4,423,842 13,310,386
---------- ---------- ----------- ----------- -----------
Income (loss) from
operations............. (535,928) (40,998) 169,054 383,605 1,624,325
Other income, net....... -- 10,053 9,267 79,892 189,725
---------- ---------- ----------- ----------- -----------
Income (loss) before
income taxes........... (535,928) (30,945) 178,321 463,497 1,814,050
Income tax expense...... -- -- -- 75,184 811,588
---------- ---------- ----------- ----------- -----------
Net income (loss)....... $ (535,928) $ (30,945) $ 178,321 $ 388,313 $ 1,002,462
========== ========== =========== =========== ===========
Net income per share.... $ 0.13
===========
Common shares
outstanding............ 3,163,000 3,981,613 7,676,402
=========== =========== ===========
PROFORMA (1):
Net income.............. $ 843,795 $ 278,078
Net income per share.... $ .27 $ .07
<CAPTION>
DECEMBER 31,
------------------------------------------------------------
1991 1992 1993 1994 1995
---------- ---------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
STATISTICAL SUMMARY:
Ending enrollment
Commercial............. 6,196 15,825 17,502 26,100 87,491
Medicare............... 301 2,664 2,617 3,443 16,936
Medicaid............... 3,627 3,046 5,834 5,033 4,868
---------- ---------- ----------- ----------- -----------
Total................. 10,124 21,535 25,953 34,576 109,295
========== ========== =========== =========== ===========
<CAPTION>
DECEMBER 31,
------------------------------------------------------------
1991 1992 1993 1994 1995
---------- ---------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
CONSOLIDATED BALANCE
SHEET DATA (1):
Cash and marketable
securities............. -- $ 423,430 $ 609,958 $12,197,911 $ 9,329,840
Working capital
(deficit).............. $ (535,528) (634,408) (599,785) 12,622,158 1,525,822
Total assets............ 107,614 1,026,595 1,632,707 18,309,401 73,798,284
Long-term debt, net of
current portion........ -- -- 20,959 1,218,986 7,486,239
Stockholders' equity
(deficit).............. (515,204) (546,149) (357,828) 14,702,968 44,093,691
</TABLE>
- --------
(1) Reflects the effects on the historical statement of operations data for
1993 as if the Company (i) had paid to the executive officers annual
compensation consistent with the employment agreements entered into as of
January 1, 1994 and (ii) had been treated as a C Corporation rather than
an S Corporation for income tax purposes, with an assumed annual effective
income tax rate of 40%. Proforma net income and net income per share for
1994 assumes no tax benefit from termination by the Company of its S
Corporation election and an assumed effective annual income tax rate of
40%.

11
<PAGE>

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

GENERAL

FPA Medical Management, Inc. and its subsidiaries and certain consolidated
Professional Corporations (collectively, the "Company") derive substantially
all of their operating revenue from the assignment by the Professional
Corporations to FPA of (i) the payments made by Payors to the Professional
Corporations for medical services and (ii) fee-for-service revenues generated
by the Professional Corporations for medical services.

As a result of physician acquisitions, the Company also generates fee-for-
service revenues through the Professional Corporations. These revenues are
presented net of contractual deductions, and represent 1% and 5% of the total
operating revenues assigned from Professional Corporations in 1994 and 1995,
respectively. In 1993, there were no fee-for-service revenues as the Company
did not operate medical groups.

Through the Professional Corporations, the Company contracts with various
healthcare providers to provide medical services to covered enrollees. Primary
care physicians are compensated by the Company under compensation arrangements
with the Professional Corporations on either a salary or capitation basis. The
costs of referrals to specialty care physicians are paid on either a
discounted fee-for-service or capitation basis. Under global capitation
contracts, the Company contracts for inpatient services which are paid on a
fee-for-service or per diem basis. Medical services expense paid for on a
capitation basis (for certain primary care and specialty care services) or
fixed salary basis (for primary care only) totaled 27%, 23% and 14% of
operating revenues assigned from Professional Corporations in 1993, 1994 and
1995, respectively, with the remainder of medical services expense (for
primary care, specialty care, ancillary services, inpatient and outpatient
services, lab charges, etc.) paid for on a discounted fee-for-service or per
diem basis.

The Company expects to continue expanding the FPA Network through increased
market penetration and the acquisition of, and affiliation with, individual
and group physician practices and IPAs. In September 1994, FPA completed the
first geographic expansion of the FPA Network by entering the Pennsylvania
market. The Company established itself in this new market by facilitating the
organization of, then contracting with, the Greater Delaware Valley
Independent Physicians Association, Inc., which created a 400-physician
network covering portions of Pennsylvania and New Jersey. In November 1994,
the Company acquired substantially all of the outstanding shares of capital
stock of PrimeCare, Inc., an IPA that holds contracts with 273 primary care
physicians in Southern New Jersey. In July 1995, the FPA Network expanded by
66 primary care physicians in Southern New Jersey through an affiliation with
a primary care network of the University of Medicine and Dentistry of New
Jersey. The FPA Network also recently expanded into Northern New Jersey,
growing the FPA Network in New Jersey to include approximately 760 primary
care physicians, three Payors and approximately 25,000 enrollees. On July 1,
1995, FPA acquired AMCS in the Phoenix, Arizona metropolitan area, which
provides services to approximately 12,000 HMO enrollees, serviced by 174
primary care physicians. In

12
<PAGE>

November 1995, the Company acquired Gonzaba Management Services Organization,
Inc. and its affiliate in San Antonio, Texas, which service approximately
38,000 fully delegated HMO members and consists of 33 primary care physicians
and over 370 contracted specialists, providing care in six medical facilities.

RESULTS OF OPERATIONS

The following table sets forth for the years ended December 31, 1993, 1994
and 1995 selected financial data expressed as a percentage of operating
revenue assigned from Professional Corporations.

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------
1993 1994 1995
------- ------- -------
<S> <C> <C> <C>
Operating revenue, assigned from Professional Cor-
porations......................................... 100.0% 100.0% 100.0%
Medical services expenses.......................... 74.0 73.9 71.7
------- ------- -------
26.0 26.1 28.3
General and administrative expense................. 24.8 24.0 25.2
------- ------- -------
Income from operations............................. 1.2 2.1 3.1
Other income....................................... .1 .4 .3
------- ------- -------
Income before tax.................................. 1.3 2.5 3.4
Income tax expense................................. -- .4 1.5
------- ------- -------
Net income......................................... 1.3% 2.1% 1.9%
======= ======= =======
Pro forma net income (1)........................... 6.0% 1.5%
======= =======
</TABLE>
- --------
(1) Reflects the effects on the historical statement of operations data for
1993 as if the Company (i) had paid to the executive officers annual
compensation consistent with the employment agreements entered into as of
January 1, 1994 and (ii) had been treated as a C Corporation rather than
an S Corporation for income tax purposes, with an assumed annual effective
income tax rate of 40%. Pro forma net income for 1994 assumes no tax
benefit from termination by the Company of its S Corporation election and
an assumed effective annual income tax rate of 40%.

COMPARISON OF 1995, 1994 AND 1993

Operating Revenue Assigned from Professional Corporations. The Company's
operating revenue, assigned from Professional Corporations increased to
$52,691,955 in 1995 from $18,435,877 in 1994 and $13,987,914 in 1993. These
increases resulted primarily from the increase in average enrollment to 63,253
in 1995 from 29,773 in 1994 and 23,232 in 1993. During 1995, the Company
acquired sixteen physician practices, which caused an increase in both
enrollment and fee-for-service revenue. Of the growth in average enrollees in
1995, approximately 7,700 enrollees or 23% of the increase in enrollment
resulted from global capitation contracts. Capitation revenue for these
enrollees is approximately twice that of capitation for outpatient only
enrollees. In 1993 and 1994, the Company had no global capitation contracts.
The Company's net fee-for-service revenue assigned from Professional
Corporations grew to approximately $2,800,000 in 1995, as compared to $240,000
in 1994. The revenue growth from 1993 to 1994 resulted primarily from the
addition of approximately 3,900 average enrollees for four months in
Pennsylvania combined with net growth in average enrollment in California of
approximately 5,000.

Medical Services Expense. Medical services expense for 1995 was $37,757,244
or 71.7% of operating revenue, assigned from Professional Corporations
compared to $13,628,430 or 73.9% of operating revenue, assigned from
Professional Corporations in 1994 and $10,347,804 or 74.0% of operating
revenue, assigned from Professional Corporations for 1993. Medical services
expense in 1995 decreased as a percentage of operating revenue, assigned from
Professional Corporations in 1994 as a result of (i) a higher revenue base per
member per month as a result of increased shared risk pool earnings and (ii)
increased capitation of specialists, which limited costs for the specialty
services provided. Medical services expense in 1994 increased from 1993 as a

13
<PAGE>

result of the following circumstances which primarily affected the fourth
quarter of 1994: (i) the FPA Network's expansion into new geographic regions
in which the Professional Corporations' contracts for specialty care were not
as favorable as its other contractual relationships, (ii) certain catastrophic
cases associated with one now-discontinued contract which resulted in a
disproportionately high cost of medical care for those enrollees and (iii)
payment for medical costs for certain acquired physician practice offices at
which membership had not yet generated break-even operating results. A change
in provider mix to more cost-effective medical care providers and an increase
in shared risk revenue recognized in the fourth quarter of 1994 partially
offset these medical services expense increases.

General and Administrative Expense. The Company's total general and
administrative expense represented 25.3%, 24.0% and 24.8% of operating
revenue, assigned from Professional Corporations in 1995, 1994 and 1993,
respectively. In January 1994, in connection with the termination of its
election to be treated as an S Corporation, FPA entered into employment
agreements with certain executive officers pursuant to which such executive
officers would receive first-year annual aggregate salaries of up to $800,000
in 1994 plus certain performance bonuses, if earned. Executive officers'
salaries in 1993 represented a high percentage of operating revenue, assigned
from Professional Corporations due to the treatment as an S Corporation. Had
salaries been paid in 1993 to such executive officers pursuant to 1994
employment agreements, general and administrative expense would have comprised
16.0% of operating revenue, assigned from Professional Corporations.

General and administrative expense, excluding executive officers' salaries,
increased to $12,269,613 or 23.3% of operating revenue, assigned from
Professional Corporations in 1995 compared to $3,541,750 or 19.2% of operating
revenue, assigned from Professional Corporations in 1994 and $1,443,052 or
10.3% of operating revenue, assigned from Professional Corporations in 1993.
The increase in general and administrative expenses as a percentage of
operating revenue, assigned from Professional Corporations in 1995 results
primarily from an increase in amortization expense of approximately $700,000
because of acquisition activity during the year. Depreciation expense
increased approximately $325,000 due to the addition of approximately
$5,000,000 in fixed assets. Additional general and administrative costs
resulted from the growth in owned medical centers, which have a higher general
and administrative expense ratio. The increase in general and administrative
costs associated with medical centers was approximately $1,475,000 or 2.8% of
operating revenue, assigned from Professional Corporations. The increase in
general and administrative expenses from 1993 to 1994 resulted from (i) costs
associated with the start-up of operations in Pennsylvania and New Jersey of
approximately $380,000, (ii) general and administrative expense associated
with acquired physician practices of approximately $330,000, (iii) costs of
maintaining marketing, acquisitions and network development departments of
approximately $270,000 and (iv) salaries of additional senior personnel.

Income Taxes. Prior to 1994, FPA elected to be treated as an S Corporation
for income tax purposes. As a result, the majority of net income was
distributed to FPA's stockholders as compensation. The Company's 1994 and 1993
net income and net income per share are presented on a pro forma basis, using
a tax rate of 40%.

Net Income. Net income for 1995 was $1,002,462. Net income for 1994 was
$388,313 as compared to 1994 pro forma net income of $278,078. Assuming an
adjustment for executive officers' salaries pursuant to the 1994 employment
agreements and a 40% effective income tax rate, net income for 1993 would have
been $843,795.

14
<PAGE>

QUARTERLY RESULTS

The following table represents certain quarterly financial information for
the eight quarters ended December 31, 1995. In the opinion of management, this
information has been prepared on the same basis as the audited financial
statements appearing elsewhere in this document and all necessary adjustments,
consisting only of normal recurring adjustments, have been included in the
amounts presented below to present fairly the quarterly results when read in
conjunction with the audited financial statements of the Company and notes
thereto. The Company's quarterly results have in the past been subject to
fluctuations and, as a result, the operating results for any quarter are not
necessarily indicative of results for any future period.

<TABLE>
<CAPTION>
QUARTER ENDED
----------------------------------------------------------------------------------------------
MARCH 31, JUNE 30, SEPT. 30, DEC. 31, MARCH 31, JUNE 30, SEPT. 30, DEC. 31,
1994 1994 1994 1994 1995 1995 1995 1995
---------- ---------- ---------- ---------- ---------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Operating revenue,
assigned from
Professional
Corporations........... $4,067,753 $4,227,053 $4,341,721 $5,799,350 $5,483,153 $10,261,653 $14,402,617 $22,544,532
Medical services ex-
pense.................. 2,984,772 3,029,413 3,140,202 4,474,043 4,205,811 7,723,571 10,264,901 15,562,961
---------- ---------- ---------- ---------- ---------- ----------- ----------- -----------
1,082,981 1,197,640 1,201,519 1,325,307 1,277,342 2,538,082 4,137,716 6,981,571
General and
administrative
expense................ 735,245 951,088 1,275,256 1,462,253 1,758,449 2,241,001 3,490,970 5,819,966
---------- ---------- ---------- ---------- ---------- ----------- ----------- -----------
Income (loss) from
operations............. 347,736 246,552 (73,737) (136,946) (481,107) 297,081 646,746 1,161,605
Other income (expense).. 2,458 7,135 (418) 70,717 121,533 70,562 7,758 (10,128)
---------- ---------- ---------- ---------- ---------- ----------- ----------- -----------
Income (loss) before
taxes.................. 350,194 253,687 (74,155) (66,229) (359,574) 367,643 654,504 1,151,477
Income tax (benefit)
expense................ (8,400) 105,400 (21,596) (220) (131,315) 135,475 300,273 507,155
---------- ---------- ---------- ---------- ---------- ----------- ----------- -----------
Net income (loss)....... $ 358,594 $ 148,287 $ (52,559) $ (66,009) $ (228,259) $ 232,168 $ 354,231 $ 644,322
========== ========== ========== ========== ========== =========== =========== ===========
</TABLE>

Operating revenue, assigned from Professional Corporations and medical
services expense during the first and third quarters have been and continue to
be affected by movements of members in Payor plans from one plan to another
during periods of open enrollment for Payors. Retroactive capitation rate
increases generally take effect during the second quarter, while medical
services expense increases tend to occur ratably throughout the year.
Quarterly results may be affected by final settlements of shared risk pool
distributions accrued in the previous year. From time to time, the
Professional Corporations may receive amounts which differ from such estimated
amounts. As the Company adds new Payors into the FPA Network, the timing of
these adjustments may vary and, consequently, results in quarters other than
the second quarter may be affected in the future, especially due to the start-
up of operations in new regions where there is no operating history.
Similarly, if medical services expense varies from amounts previously accrued
for claims incurred but not reported ("IBNR"), quarterly operating results may
fluctuate. A portion of the Company's expansion strategy includes the
acquisition of individual and group physician practices by the FPA Network,
and any such acquisition may materially affect quarterly operating results,
causing quarterly fluctuations.

LIQUIDITY AND CAPITAL RESOURCES

The Company requires capital primarily to develop physician networks,
acquire physician practices and establish an infrastructure in new regions.
Capitation arrangements positively impact cash flow because the physician
networks receive capitation revenue prior to incurring costs associated with
services provided under those agreements. However, shared risk pool
arrangements negatively impact cash flow because settlements in connection
with these arrangements are typically not collected until significantly after
the end of the period in which they were accrued.

At December 31, 1995, the Company had cash and marketable securities of
$9,329,840 and working capital (current assets in excess of current
liabilities) of $1,525,822 compared to cash and marketable securities of
$12,197,911 and working capital of $12,622,158 at December 31, 1994. The
decrease in cash and marketable securities of approximately $2,868,071 results
primarily from: (i) approximately $23,100,000 of cash payments in connection
with acquisitions, (ii) approximately $3,200,000 for the acquisition of
property and equipment, (iii)

15
<PAGE>

approximately $1,700,000 used to purchase intangible assets and (iv)
$1,200,000 in payments on notes payable, offset by approximately $25,900,000
in net proceeds from FPA's November 1995 Common Stock offering and
approximately $2,200,000 provided by operations. At December 31, 1995
approximately 48% of the Company's current liabilities consist of amounts
accrued as payable to specialty care physicians and ancillary providers. These
accrued liabilities include claims received by the Company which have not yet
been paid as well as an estimate of costs for covered medical benefits
incurred by enrollees but not yet reported by providers. These amounts are not
due and payable until after the provider has presented a claim and are
typically paid within 45 business days of receipt of such claims. The increase
in IBNR claims and claims payable from $1,284,806 at December 31, 1994 to
$10,247,476 at December 31, 1995 resulted primarily from significantly
increased membership and the fact that two Professional Corporations accepted
responsibility for hospital inpatient services, in addition to outpatient
services.

On January 29, 1996, the Company entered into a $15,000,000 credit,
security, guarantee and pledge agreement with two financial institutions.
Permitted Borrowings, as defined in the agreement, generally include
acquisitions and capital expenditures. Borrowings under this agreement bear
interest at either LIBOR plus 2 1/4% or prime rate plus 3/4%, as defined in
the agreement. On February 1, 1996, the Company borrowed $6,400,000 in
connection with various acquisitions.

The increase in long-term debt from $1,302,681 at December 31, 1994 to
$12,822,492 at December 31, 1995 results primarily from the issuance of notes
payable and assumption of long-term debt in connection with purchases of
physician practice assets of approximately $12,536,432, acquisitions of
equipment under capital leases of $347,643, and repayments of notes payable of
$1,185,630.

During the next twelve months, management intends to expend approximately
$1,000,000 on improved management information systems, and up to approximately
$5,000,000 for expansion of the FPA Network, either through physician practice
acquisition, geographic expansion or a combination thereof.

The Company believes that its cash on hand, the remaining proceeds from the
Company's recent public offering of its Common Stock and anticipated cash
flows from its operations will be sufficient to meet the Company's capital
needs through approximately the second quarter of 1996, at which time the
Company intends to obtain additional debt financing to support planned
expansion. To the extent that this additional financing is not available, the
Company may delay certain potential acquisitions or certain geographic
expansion or may seek alternate sources of financing.

The strategy to expand the FPA Network involves the acquisition of
individual and group physician practice assets. Such acquisitions may be
consummated using cash, stock, notes or any combination thereof. Management
does not believe that inflation will have a material effect on the operations
of the Company.

16
<PAGE>

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

F-1
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

<TABLE>
<CAPTION>
DECEMBER 31,
------------------------
1994 1995
----------- -----------
<S> <C> <C>
ASSETS
Current assets:
Cash................................................ $ 2,118,100 --
Marketable securities............................... 10,079,811 $ 9,329,840
Accounts receivable--net of allowance for
uncollectible accounts of $45,813 and $337,353 in
1994 and 1995, respectively........................ 2,036,312 10,371,149
Accounts receivable--other.......................... 114,564 1,664,114
Current portion of note receivable from FPASD....... 18,601 300,086
Income tax receivable............................... 163,560 195,853
Prepaid expenses.................................... 182,853 393,662
Deferred income tax asset........................... 191,172 491,824
----------- -----------
Total current assets.............................. 14,904,973 22,746,528
Property and equipment--net......................... 539,018 6,324,900
Restricted cash and deposits........................ -- 3,285,000
Goodwill--net of accumulated amortization of $41,818
and $548,606 in 1994 and 1995, respectively........ 2,455,816 33,023,607
Intangible assets--net of accumulated amortization
of $11,976 and $249,682 in 1994 and 1995,
respectively....................................... 282,840 5,988,579
Note receivable from FPASD--net of current portion.. 66,939 --
Investment in GLHP.................................. -- 1,994,900
Other assets........................................ 59,815 434,770
----------- -----------
Total............................................. $18,309,401 $73,798,284
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses............... $ 706,628 $ 3,485,348
Claims payable, including incurred but not reported
claims............................................. 1,284,806 10,247,476
Accrued payroll and related liabilities............. 207,686 1,363,304
Borrowings on line of credit........................ -- 788,325
Long-term debt--current portion..................... 83,695 5,336,253
----------- -----------
Total current liabilities......................... 2,282,815 21,220,706
Long term debt--net of current portion.............. 1,218,986 7,486,239
Deferred income tax liability....................... 104,632 992,748
Minority interest................................... -- 4,900
Stockholders' equity:
Preferred stock, $.001 par value per share,
2,000,000 shares authorized, no shares
outstanding...................................... -- --
Common stock, $.002 par value, 18,000,000 shares
authorized, 6,625,570 and 11,101,045 shares
issued and outstanding at
December 31, 1994 and 1995, respectively......... 13,252 22,202
Additional paid-in capital........................ 14,685,458 42,483,542
Stock subscriptions receivable.................... (14,227) --
Stock payable..................................... -- 567,000
Accumulated earnings.............................. 18,485 1,020,947
----------- -----------
Total stockholders' equity........................ 14,702,968 44,093,691
----------- -----------
Total........................................... $18,309,401 $73,798,284
=========== ===========
</TABLE>

See notes to consolidated financial statements.

F-2
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------------
1993 1994 1995
----------- ----------- -----------
<S> <C> <C> <C>
Managed care revenue, assigned from
Professional Corporations.............. $13,987,914 $18,193,286 $49,880,875
Fee-for-service revenue, assigned from
Professional Corporations, net of
contractual allowances................. -- 242,591 2,811,080
----------- ----------- -----------
Operating revenue, assigned from Profes-
sional Corporations.................... 13,987,914 18,435,877 52,691,955
Expenses:
Medical services expense--Professional
Corporations......................... 3,748,153 4,173,204 7,234,374
Medical services expense--others...... 6,599,651 9,455,226 30,522,870
----------- ----------- -----------
3,640,110 4,807,447 14,934,711
General and administrative expense.... 3,471,056 4,423,842 13,310,386
----------- ----------- -----------
Income from operations.................. 169,054 383,605 1,624,325
Other income (expense):
Interest and other income............. 12,325 115,191 543,973
Interest expense...................... (3,058) (35,299) (354,248)
----------- ----------- -----------
Total other income.................. 9,267 79,892 189,725
----------- ----------- -----------
Income before income taxes.............. 178,321 463,497 1,814,050
Income tax expense...................... -- 75,184 811,588
----------- ----------- -----------
Net income.............................. $ 178,321 $ 388,313 $ 1,002,462
=========== =========== ===========
Net income per share.................... $ .13
===========
Pro forma (Note 1):
Adjustment for employment agreements.. $ 1,228,004
Adjustment to income tax expense...... (562,530) $ (110,235)
----------- -----------
Net income............................ $ 843,795 $ 278,078
=========== ===========
Net income per common share........... $ .27 $ .07
=========== ===========
Weighted average common share
outstanding (including retroactive
effect of 1995 one-for-one stock
dividend--see Note 1).................. 3,163,000 3,981,613 7,676,402
=========== =========== ===========
</TABLE>

See notes to consolidated financial statements.

F-3
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)

FOR THE YEARS ENDED DECEMBER 31, 1993, 1994, AND 1995

<TABLE>
<CAPTION>
ADDITIONAL (STOCK SUBSCRIPTIONS
COMMON PAID-IN- RECEIVABLE)/STOCK ACCUMULATED
STOCK CAPITAL PAYABLE EARNINGS/(DEFICIT) TOTAL
------- ----------- -------------------- ------------------ -----------
<S> <C> <C> <C> <C> <C>
Balances, January 1,
1993................... $ 2,188 $ 9,812 $ (10,000) $ (548,149) $ (546,149)
Receipt of payment for
stock subscription... -- -- 10,000 -- 10,000
Net income for the
year ended December
31, 1993............. -- -- -- 178,321 178,321
------- ----------- --------- ---------- -----------
Balances, December 31,
1993................... 2,188 9,812 -- (369,828) (357,828)
Common stock issued
through private
placement for cash,
net of costs......... 1,294 4,571,625 -- -- 4,572,919
Preferred stock issued
and redeemed......... -- (3,750,000) -- -- (3,750,000)
Common stock issued to
former director for
services rendered.... 30 239,970 -- -- 240,000
Common stock
subscribed........... 6 49,994 (50,000) -- --
Receipt of payment for
stock subscriptions.. -- -- 35,773 -- 35,773
Common stock issued
through initial
public offering for
cash, net of costs
(including tax
benefit of
$160,924)............ 2,795 11,574,068 -- -- 11,576,863
Common stock issued in
connection with
PrimeCare, Inc.
acquisition.......... 313 1,953,250 -- -- 1,953,563
Stock warrants issued
for cash............. -- 43,365 -- -- 43,365
Net income for the
year ended December
31, 1994............. -- -- -- 388,313 388,313
One-for-one stock
dividend, effective
March 1, 1995........ 6,626 (6,626) -- -- --
------- ----------- --------- ---------- -----------
Balances, December 31,
1994................... 13,252 14,685,458 (14,227) 18,485 14,702,968
Common stock issued
through public
offering for cash,
net of costs......... 8,500 25,877,038 -- -- 25,885,538
Common stock issued in
connection with
acquisitions......... 450 1,921,046 -- -- 1,921,496
Receipt of payments
for stock
subscriptions........ -- -- 14,227 -- 14,227
Common stock payable.. -- -- 567,000 -- 567,000
Net income for the
year ended December
31, 1995............. -- -- -- 1,002,462 1,002,462
------- ----------- --------- ---------- -----------
Balances, December 31,
1995................... $22,202 $42,483,542 $ 567,000 $1,020,947 $44,093,691
======= =========== ========= ========== ===========
</TABLE>

See notes to consolidated financial statements.

F-4
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------------
1993 1994 1995
--------- ----------- -------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income............................. $ 178,321 $ 388,313 $ 1,002,462
Adjustments to reconcile net income to
net cash provided (used) by operating
activities:
Depreciation and amortization.......... 50,943 132,456 1,159,074
Imputed interest on notes payable...... -- -- 132,489
Changes in assets and liabilities:
Accounts receivable.................... (259,784) (1,338,532) (6,288,017)
Income tax receivable.................. -- (163,560) (32,293)
Deferred income taxes.................. 40,000 74,385 467,464
Accounts payable and accrued expenses.. 42,653 522,964 418,386
Claims payable, including incurred but
not reported claims................... 153,522 (315,194) 5,348,274
Accrued payroll and related
liabilities........................... 196,638 (7,157) 336,625
Prepaid expenses and other assets...... (27,453) (139,592) (388,595)
--------- ----------- -------------
Total adjustments..................... 196,519 (1,234,230) 1,153,407
--------- ----------- -------------
Net cash provided (used) by operating
activities............................ 374,840 (845,917) 2,155,869
Cash flows from investing activities:
Purchase of property and equipment..... (40,011) (471,735) (3,174,869)
Payments for intangible assets......... -- (270,621) (1,703,570)
Net payments (to) from FPASD........... (129,912) 44,372 (214,546)
Investment in GLHP..................... -- -- (1,994,900)
Net sale (purchase) of marketable
securities............................ -- (10,079,811) 749,971
Acquisition of PrimeCare, Inc. assets.. -- (307,133) --
Acquisitions, net of cash acquired..... -- (138,451) (19,796,180)
Payments escrowed for acquisitions..... -- -- (3,285,000)
Other.................................. -- -- (46,212)
Net cash used by investing activities.. (169,923) (11,223,379) (29,465,306)
--------- ----------- -------------
Cash flows from financing activities:
Net proceeds from issuance of common
stock................................. -- 11,441,604 25,885,538
Net proceeds from private placement of
stock................................. -- 4,812,919 --
Redemption of preferred stock.......... -- (3,750,000) --
Issuance of convertible subordinated
notes payable......................... -- 1,000,000 --
Proceeds from issuance of stock
warrants.............................. -- 43,365 --
Issuance of notes payable.............. -- -- --
Payments of notes payable.............. -- -- (1,185,630)
Net borrowings under bank line of
credit................................ -- -- 477,202
Receipt of payment for stock
subscriptions......................... 10,000 35,773 14,227
Payments on long-term debt............. (2,724) (6,223) --
Deferred public offering costs......... (25,665) -- --
--------- ----------- -------------
Net cash provided (used) by financing
activities............................ (18,389) 13,577,438 25,191,337
--------- ----------- -------------
Net increase (decrease) in cash........ 186,528 1,508,142 (2,118,100)
Cash, beginning of period.............. 423,430 609,958 2,118,100
--------- ----------- -------------
Cash, end of period.................... $ 609,958 $ 2,118,100 --
========= =========== =============
Supplemental cash flow information:
Cash paid for interest................. $ 3,058 $ 12,199 $ 280,818
========= =========== =============
Cash paid for income taxes............. $ 800 $ 164,363 $ 221,395
========= =========== =============
Equipment acquired under capital
leases................................ $ 27,702 $ 24,361 $ 347,643
========= =========== =============
Common stock issued in connection with
acquisitions.......................... -- $ 1,953,563 $ 1,921,496
========= =========== =============
Common stock to former director for
services rendered..................... -- $ 240,000 --
========= =========== =============
Effects of acquisitions:
Fair value of assets acquired......... -- $ 398,016 $ 41,734,831
Liabilities assumed................... -- $ (259,565) $ (21,938,651)
--------- ----------- -------------
Net cash paid for acquisitions........ -- $ 138,451 $ 19,796,180
========= =========== =============
</TABLE>

See notes to consolidated financial statements.

F-5
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

General--FPA Medical Management, Inc. ("FPA"), a Delaware corporation
incorporated in 1994, is a national healthcare management service organization
which, through its network of primary care physicians and affiliated
professional corporations ("Professional Corporations"), contracts with health
maintenance organizations ("HMOs") and other prepaid health insurance plans
(collectively, "Payors") to provide and manage physician and related
healthcare services to their enrollees who select FPA network primary care
physicians. Beginning in 1996, in certain states where there is no legal
requirement for a Professional Corporation to be the contracting entity with
Payors, FPA or one of its subsidiaries contracts directly with Payors. In
March 1994, two predecessor entities of FPA, Family Practice Medical
Management Corp., a California corporation incorporated in 1986, and FPA
Medical Management, Inc., a California corporation incorporated in 1992, were
merged into FPA. The accompanying financial statements present the financial
position and results of operations of FPA and the predecessor entities,
including the accounts of the Company's subsidiaries, FPA and certain
Professional Corporations (collectively, the "Company").

FPA and its subsidiaries currently manage the provision of prepaid
healthcare services for networks of primary care physicians in California,
Arizona, Texas, Delaware, and New Jersey. The "FPA Network" consists of
Professional Corporations and various independent practitioners. Family
Practice Associates of San Diego, an Osteopathic Corporation ("FPASD"), FPA
Medical Group of California, an Osteopathic Medical Corporation ("FPACA"), FPA
Medical Group of Pennsylvania, a Medical Corporation ("FPAPA"), FPA Medical
Group of New Jersey, a Professional Corporation ("FPANJ"), FPA Medical Group
of Delaware, P.A. ("FPADE"), FPA Independent Practice Association, an
Osteopathic Corporation ("FPAIPA"), VIP IPA, a Professional Medical
Corporation, Foundation Health IPA, a Professional Medical Corporation,
("FHIPA"), Century Family Medical Group IPA, a Professional Corporation, and
Hayward Vesper Medical Group Inc., d/b/a Chabot Medical Group IPA (together,
"Century IPA"), William Gonzaba, M.D., d/b/a Gonzaba Medical Group ("GMG") and
Arizona Managed Care Providers, Ltd. ("AMCP") are Professional Corporations
owned by certain affiliates of the Company.

The Professional Corporations contract with Payors to provide for the
delivery of healthcare services on a capitation basis (i.e., a fixed payment
per enrollee per month). Through administrative services agreements (see Note
2), the Professional Corporations assign payments from Payors to the Company
in return for management services, specialty medical care claims
administration and payment, and other services.

FPA has direct or indirect unilateral and perpetual control over the assets
and operations of the Professional Corporations for all periods presented,
other than by means of owning the majority of the voting stock of the
Professional Corporation. FPA and its subsidiaries are unable to own a
majority interest in the Professional Corporations formed in states which
prohibit the corporate practice of medicine. The Professional Corporations
have as shareholders and directors certain physicians who are employees of FPA
or one of its subsidiaries. Each shareholder/director has entered into a
succession agreement which requires such shareholder/director to sell to a
designee of FPA such shareholder/director's shares of stock if such
shareholder/director is terminated from employment with FPA. This ensures
unilateral and perpetual control over the Professional Corporations by FPA.
However, due to a parent-subsidiary relationship under generally accepted
accounting principles as described above, FPA has consolidated the financial
statements of the following Professional Corporations. FPA believes that
consolidation of the financial statements of these Professional Corporations
is necessary to present fairly the financial position and results of
operations of the Company. All significant inter-entity transactions have been
eliminated in consolidation. The consolidated financial statements include the
operations of all of the following subsidiaries and Professional Corporations
since they were acquired, were incorporated, or entered into an administrative
services agreement with FPA or one of its subsidiaries, as noted.

.PrimeCare, Inc., a majority-owned subsidiary, since November 7, 1994. (See
Note 12.)

. FPA Medical Management of Michigan, Inc., d/b/a QualNet, Inc. ("QualNet"), a
majority-owned subsidiary, since April 10, 1995. (See Note 13.)

F-6
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

. Arizona Managed Care Services, Inc. ("AMCS"), a wholly-owned subsidiary
since July 1, 1995. (See Note 14.)

. Arizona Managed Care Physicians, IPA, Ltd., d/b/a Western Maricopa Physician
Services ("WMPS"), a wholly-owned subsidiary, since July 1, 1995. (See Note
14.)

. Gonzaba Management Services Organization, Inc. ("GMSO"), a wholly-owned
subsidiary, since November 1, 1995. (See Note 15.)

. OPSU, Inc., d/b/a Gonzaba Surgery Center ("OPSU"), a wholly-owned
subsidiary, since November 1, 1995. (See Note 15.)

. Family and Senior Care, Inc. ("FSC"), a wholly-owned subsidiary, since
December 18, 1995. (See Note 17.)

. FPA Medical Management of South Carolina, Inc., a wholly-owned subsidiary,
since January 12, 1996.

. FPACA, a Professional Corporation, since May 1, 1994.

. FPAPA, a Professional Corporation, since September 1, 1994.

. FPANJ, a Professional Corporation, since April 1, 1995.

. AMCP, a Professional Corporation, since July 1, 1995. (See Note 14.)

. GMG, a Professional Corporation, since November 1, 1995. (See Note 15.)

. FPAIPA, a Professional Corporation, since January 16, 1996.

. FPADE, a Professional Corporation, since October 16, 1995.

. VIP IPA, a Professional Corporaton, since January 31, 1996. (See Note 18.)

. FHIPA, a Professional Corporation, since January 31, 1996. (See Note 18.)

. Century IPA, a Professional Corporation, since January 31, 1996. (See Note
18.)

Capitation payments from Payors are paid monthly and are recognized as
revenue during the period in which enrollees are entitled to receive services.
Contracts with Payors generally provide for terms of one to three years, with
automatic renewal periods, terminable on prior notice (generally between 30
and 180 days).

The Company has two types of Payor contracts: contracts for both inpatient
and outpatient services ("global capitation" contracts) and those limited to
outpatient services ("outpatient capitation" contracts). Under global
capitation contracts, which accounted for 15% of total operating revenues
assigned from Professional Corporations in 1995, the Company receives a fixed
monthly amount per enrollee for which the Company is financially responsible
to provide the enrollees with all necessary inpatient and outpatient care. In
1993 and 1994, there were no global capitation contracts. Under outpatient
capitation contracts, the Company receives a fixed monthly amount per enrollee
for which the Company is financially responsible to provide the enrollees with
all necessary outpatient care. Additionally, under these outpatient capitation
contracts, the Company is a party to shared risk arrangements with Payors
which generally reward the Company for the efficient utilization of inpatient
services. Under these shared risk arrangements, the Company shares any surplus
or, in some cases, deficit of inpatient cost in excess of amounts pre-
established by the Payor. Estimates of shared risk funds to be received or
paid by the Company are recorded based on estimates of hospital utilization
costs. Differences between actual settlements and amounts estimated as
receivable (or payable) relating to the shared risk arrangements are recorded
at the time of settlement, generally in the second or third quarter of the
following year. The Company does not believe that the final settlements of
these shared risk arrangements will differ materially from the estimated
amounts recorded in the financial statements. At December 31, 1994 and 1995,
shared risk receivables comprise a majority of the Company's accounts
receivable. Total revenue under outpatient capitation contracts represented
100%, 99% and 80% of total operating revenue assigned from Professional
Corporations in 1993, 1994 and 1995, respectively.

F-7
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

Medical Services Expense--Through the Professional Corporations, the Company
contracts with various healthcare providers to provide medical services to
covered enrollees. Primary care physicians are compensated by the Company
under compensation arrangements with the Professional Corporations on either a
salary or capitation basis and the cost is recorded as medical services
expense--Professional Corporations in the accompanying consolidated statement
of operations. The costs of referrals to specialty care physicians are paid on
either a discounted fee-for-service or capitation basis. Under global
capitation contracts, the Company contracts for inpatient services which are
paid on a fee-for-service or per diem basis. Medical services expense paid for
on a capitation basis (for certain primary care and specialty care services)
or fixed salary basis (for primary care only) totaled 27%, 23% and 14% of
operating revenues assigned from Professional Corporations in 1993, 1994 and
1995, respectively, with the remainder of medical services expense (for
primary care, specialty care, ancillary services, inpatient and outpatient
services, lab charges, etc.) paid for on a discounted fee-for-service or per
diem basis. The costs of healthcare services paid for on a fee-for-service or
per diem basis are recorded by the Company in the period for which services
are provided based in part on estimates, including an accrual for medical
services provided but not yet billed to the Company ("incurred but not
reported") and are included in claims payable in the accompanying consolidated
balance sheets.

The Company has negotiated "attachment points" for stoploss insurance
independent of Payor contracts which represent the contractual limits,
generally $15,000 per year for outpatient services and $50,000 per year for
impatient services, of the Company's financial exposure on individual
enrollees.

Cash--A substantial portion of the Company's cash is deposited in three
financial institutions. The Company monitors financial conditions of each
financial institution and does not believe that the deposits are subject to a
significant degree of risk.

Marketable Securities--Marketable securities represent the invested proceeds
of FPA's public offerings of Common Stock and consist of U.S. Treasury and
government agency obligations, corporate debt securities, and money market
funds. Such securities have been classified by management of FPA as available
for sale in accordance with the provisions of Statement of Financial
Accounting Standards No. 115, "Accounting for Certain Investments in Debt and
Equity Securities." The estimated fair value of the Company's marketable
securities is based on quoted market prices, which approximate cost, and
therefore no unrealized gains or losses have been reported.

Property and Equipment--Property and equipment are recorded at cost, less
accumulated depreciation and amortization. Depreciation and amortization are
computed on a straight-line basis over the estimated useful lives of the
assets, generally three to seven years.

Restricted Cash and Deposits--The Company records as restricted cash funds
escrowed for payment of claims, for future acquisitions, and other funds
contractually required to be segregated from the Company's operating cash. At
December 31, 1995, $3,000,000 of this balance relates to a pending acquisition
(see Note 18).

Goodwill--The Company has classified as goodwill the excess of the purchase
price over the fair value of the assets of entities acquired. Goodwill is
being amortized on a straight-line basis over the estimated periods of future
benefit of 15 to 25 years. At each balance sheet date, the Company evaluates
the recoverability of goodwill and based upon such evaluation, management
believes that no material impairment of goodwill has occurred.

F-8
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

Intangible Assets--Intangible assets consist primarily of capitalized costs
of geographic expansion related to the Company's operations in new regions and
non-compete agreements associated with acquisitions. Intangible assets are
being amortized on a straight-line basis over the expected period of future
benefit, ranging from 5 to 15 years.

Income Taxes--The Company accounts for income taxes in accordance with
Statement of Financial Accounting Standards No. 109, "Accounting For Income
Taxes," which requires the use of the liability method for deferred income
taxes (see Note 11).

Pro Forma Information--The pro forma net income and net income per share
information in the accompanying consolidated statements of operations reflect
the effects on historical results as if (i) compensation to certain of FPA's
officers had been consistent with the employment agreements entered into as of
January 1, 1994 and (ii) FPA had been a C Corporation rather than an S
Corporation for income tax purposes, and no tax benefit arose as a result of
the change in tax status.

Net Income per Common Share--Net income per common share is computed based
on the weighted average number of shares outstanding, giving retroactive
effect to all stock splits, including a one-for-one common stock dividend
effective March 1, 1995.

New Accounting Standards--In October 1995, the Financial Accounting
Standards Board issued Statement of Financial Accounting Standards ("SFAS")
No. 123, "Accounting for Stock-Based Compensation," which will be effective
for the Company beginning January 1, 1996. SFAS No. 123 requires expanded
disclosures of stock-based compensation arrangements with employees and
encourages (but does not require) compensation cost to be measured based on
the fair value of the equity instrument awarded. Corporations are permitted,
however, to continue to apply Accounting Principles Board ("APB") Opinion No.
25, which recognizes compensation cost based on the intrinsic value of the
equity instrument awarded. The Company will continue to apply APB Opinion No.
25 to its stock-based compensation awards to employees and will disclose the
required proforma effect on net income and earnings per share.

Reclassifications--Certain reclassifications have been made to prior years'
financial statements to conform to current year classifications.

2. ADMINISTRATIVE SERVICES AGREEMENTS

Under administrative services agreements with the Professional Corporations,
FPA and its subsidiaries provide administrative and operational services such
as contract management, marketing, financial reporting, utilization review,
case management, claims processing and payment, and quality assurance.
Pursuant to the agreements, the Professional Corporations assign to FPA and
its subsidiaries as agent all capitation revenues and substantially all shared
risk pool revenues they are entitled to receive under contracts with Payors
for prepaid medical services. In their capacities as agents for the
Professional Corporations, FPA and its subsidiaries remit a portion of the
capitation payments to the primary care physicians in the FPA Network based on
the number of enrollees each physician covers and disburses funds required to
discharge obligations arising from the Payor agreements. As compensation for
services rendered under the agreement, FPA and its subsidiaries generally
retain all revenue in excess of its costs, as defined in the agreement.

The administrative services agreements, except for the agreement with FPASD,
also provide for the assignment of all fee-for-service revenues in exchange
for expanded management services, including the provision of facilities, non-
medical staff and medical supplies for the Professional Corporation's medical
offices, billing for services performed on a fee-for-service basis, and other
services. Because the administrative services agreement with FPASD does not
assign all of its revenues to FPA and does not obligate FPA to provide FPASD

F-9
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

the expanded management services described above, unilateral and perpetual
control does not exist. The operations of FPASD have not been consolidated
into these financial statements.

For the years ended December 31, 1993, 1994 and 1995, total revenues
assigned to FPA and its subsidiaries under these agreements were $13,987,914,
$18,435,877 and $52,691,955, respectively, and medical services expenses to
the Professional Corporations totaled $3,748,153, $4,173,204, and $7,234,374,
respectively. Additionally, prior to January 1, 1994, FPA paid FPASD fixed
monthly fees for certain other medical services provided for the Company.

The administrative services agreements between FPA or its subsidiaries and
the Professional Corporations generally expire in 2003, 2004, or 2005, subject
to renewal for an additional ten years at the option of FPA or its
subsidiaries. Thereafter, the agreements renew for successive ten-year periods
unless notice of intent to let the agreements expire is given by either party.

3. MARKETABLE SECURITIES

Marketable securities at December 31 include the following (at cost which
approximates fair value):

<TABLE>
<CAPTION>
1994 1995
----------- ----------
<S> <C> <C>
U.S. Treasury and government agency obligations..... $ 4,989,820 --
Corporate debt securities........................... 4,694,270 $8,228,788
Money market funds.................................. 395,721 1,101,052
----------- ----------
Total............................................. $10,079,811 $9,329,840
=========== ==========
</TABLE>

The marketable securities held by the Company at December 31, 1995 have
contractual maturities through March 1998.

4. RELATED PARTY TRANSACTIONS

During 1995, FPA entered into a loan agreement with FPASD under which FPASD
was permitted to borrow a maximum of $650,000 for working capital purposes.
This loan replaces a previous loan with a maximum balance of $155,000. At
December 31, 1994 and 1995, the balance was $85,540 and $300,086,
respectively. The entire outstanding balance, including accrued interest at
7%, is due on demand.

In connection with a note between FPASD and a hospital ("Hospital"), FPA
agreed that it will delay receipt of its shared risk pool revenue payments
related to two Payor agreements until FPASD pays off the note, which is due
September 30, 1996. FPA will earn interest at prime plus 1% on the earned
shared risk pool revenue until it is received. Further, until the note payment
is made, the Company has agreed not to enter into capitated agreements with
other hospitals in San Diego, unless Hospital first elects not to participate
in any such agreement. FPA and FPASD have agreed that FPA will receive certain
additional shared risk pool funds until the note is paid in full.

GMSO leases from an officer of GMSO its main facility, certain leasehold
improvements, and certain medical and office equipment pursuant to a
noncancelable operating lease agreement expiring November 8, 2005. The
agreement provides for monthly payments of $58,654, subject to certain
increases based on the consumer price index. The lease also contains certain
provisions that may, at the option of the officer, require FPA to acquire the
facility at its fair market value.

F-10
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

5. PROPERTY AND EQUIPMENT

Property and equipment consists of the following at December 31:

<TABLE>
<CAPTION>
1994 1995
--------- ----------
<S> <C> <C>
Computer hardware and software...................... $ 317,885 $1,730,733
Furniture, fixtures and equipment, including medical
equipment.......................................... 276,033 2,748,796
Leasehold improvements.............................. 42,005 1,113,922
--------- ----------
Total.............................................. 635,923 5,593,451
Less accumulated depreciation and amortization...... (125,625) (542,080)
--------- ----------
Subtotal........................................... 510,298 5,051,371
Capitalized software development costs.............. 28,720 1,273,529
--------- ----------
Property and equipment--net......................... $ 539,018 $6,324,900
========= ==========
</TABLE>

6. DEBT

Convertible Subordinated Notes Payable--On October 5, 1994, FPA sold
$1,000,000 of convertible subordinated notes to representatives of the
underwriters of FPA's initial public offering. The notes bear interest at 6%,
payable semiannually, with principal due October 1999. The notes are
convertible into Common Stock of FPA at the option of the holders at any time
prior to maturity at a conversion price of $5.00 per share, subject to certain
anti-dilution provisions. After October 5, 1997, the notes are redeemable at
FPA's option at any time at par plus accrued interest. Prior to October 5,
1997, the notes are redeemable at FPA's option when the closing price of FPA's
Common Stock equals or exceeds $8.75 per share. The holders of the notes have
certain registration rights and selling restrictions with respect to the
Common Stock issuable upon conversion of the notes.

Convertible Promissory Note--In connection with the acquisition of GMSO on
November 1, 1995 (see Note 15), FPA issued a 36-month, $2,500,000 9%
convertible promissory note with payments of interest only due for the first
24 months and principal and interest monthly thereafter. At the option of the
holder, the note is convertible in its entirety at any time into the number of
shares of Common Stock determined by dividing the then-outstanding principal
amount by $10.28. If the average closing price of FPA's Common Stock for any
30-day trading period is equal to or greater than $12.85, then FPA may prepay
the note, subject to certain notification requirements. The note is secured by
the stock of GMSO and OPSU.

Lines of Credit--At December 31, 1995, GMSO maintained agreements with a
financial institution providing lines of credit totalling $1,400,000. Interest
and amounts borrowed under these lines are payable monthly at the prime rate
(8.5% at December 31, 1995). Borrowings under the lines of credit at December
31, 1995 were $788,325. In January 1996, the balance was repaid in full.

F-11
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

Notes Payable--In connection with certain acquisitions, the Company has
entered into various additional notes payable. Following is a summary of long-
term debt.

<TABLE>
<CAPTION>
DECEMBER 31,
----------------------
1994 1995
---------- -----------
<S> <C> <C>
Notes payable, interest ranging from 7% to 8.5% and
principal due through January 1, 2002............... $ 259,565 $ 5,270,421
Note payable, interest at 9% and principal due
November 9, 1997.................................... 2,500,000
Convertible note payable, interest at 9% and
principal due November 9, 1998...................... 2,500,000
6% convertible subordinated notes, interest payable
each April 5th and October 5th through 1999,
principal due October 5, 1999....................... 1,000,000 1,000,000
Notes payable to a financial institution, interest
ranging from 7% to 8.5%, paid in full in January,
1996................................................ 714,858
Other................................................ 43,116 837,213
---------- -----------
Total............................................... 1,302,681 12,822,492
Less current portion................................. 83,695 5,336,253
---------- -----------
Long term debt, net of current portion............... $1,218,986 $ 7,486,239
========== ===========
</TABLE>

At December 31, 1995 future payments on long-term debt are as follows:

<TABLE>
<CAPTION>
NOTES PAYABLE CAPITAL
AND OTHER LEASES
------------- -----------
<S> <C> <C>
1996............................................ $ 5,161,248 $ 203,823
1997............................................ 2,996,026 174,802
1998............................................ 2,840,818 92,266
1999............................................ 1,130,518 25,237
2000............................................ 134,027 3,458
Thereafter...................................... 111,419 --
----------- -----------
$12,374,056 $ 499,586
===========
Less amount representing interest due on capital
leases......................................... $ (51,150)
-----------
Present value of net minimum capital lease
payments....................................... 448,436
Notes payable and other......................... $12,374,056
-----------
Total long-term debt............................ $12,822,492
===========
</TABLE>

The fair market value of the Company's debt approximates its reported
carrying value.

7. MAJOR CUSTOMERS

In 1993, four Payors accounted for 38%, 12%, 11%, and 10%, respectively, of
the Company's operating revenue, assigned from Professional Corporations. In
1994, two Payors accounted for 33% and 10%, respectively, of the Company's
operating revenue, assigned from Professional Corporations. In 1995, two
Payors accounted for 26% and 15%, respectively, of the Company's operating
revenue, assigned from Professional Corporations.

F-12
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

8. COMMITMENTS AND CONTINGENCIES

Legal--The Company is party to certain legal actions arising in the ordinary
course of business. In the opinion of the Company's management, liability, if
any, under these claims is adequately covered by insurance and will not have a
material effect on the Company's financial position or results of operations.
The Company maintains professional liability insurance.

On September 21, 1991, FPASD and five founding directors of FPA were named
as defendants in a civil suit in the United States District Court of
California brought under the provisions of the Federal Civil False Claims Act.
The complaint sets forth numerous allegations of improper conduct by the
defendants concerning unsubstantiated billing, improper record keeping and
other related infractions. The Department of Justice conducted an
investigation and, at present, has declined to intervene in the case. FPASD
and the five founding directors of the Company believe the case to be without
merit and intend to defend the action vigorously. In December 1995, FPA was
named as an additional defendant in the suit and in February 1996 was
dismissed from the suit.

The Company is a party to certain facilities leases which terminate at
various dates through November 8, 2005. Future minimum lease payments required
under all operating leases are as follows:

<TABLE>
<S> <C>
1996........................................................... $ 2,819,255
1997........................................................... 2,717,240
1998........................................................... 2,460,642
1999........................................................... 1,873,724
2000........................................................... 1,476,300
Thereafter..................................................... 3,725,049
-----------
Total........................................................ $15,072,210
===========
</TABLE>

For 1993, 1994 and 1995, total expense under these non-cancelable operating
leases was $49,503, $262,094 and $1,235,964, respectively.

9. STOCKHOLDERS' EQUITY

Stock Splits and Dividends--The accompanying consolidated financial
statements and notes retroactively reflect all stock splits, and a one-for-one
Common Stock dividend distributed April 3, 1995 to stockholders of record on
March 1, 1995. All share, per share and stock option data have been restated
to reflect the stock splits and dividend.

Preferred Stock--During 1994, FPA issued a stock dividend consisting of one
share of Series A Redeemable Preferred Stock (the "Preferred Stock") for each
437,600 shares of FPA's Common Stock. Accordingly, five shares of Preferred
Stock were issued through the stock dividend, one to each of the Company's
five founding directors. The Preferred Stock was subsequently redeemed by FPA
at the redemption price of $750,000 per share of Preferred Stock (aggregate
$3,750,000) in connection with the 1994 private placement of Common Stock.

Omnibus Stock Option Plan--During 1994, FPA adopted the Omnibus Stock Option
Plan under which an aggregate of 1,000,000 shares of Common Stock of FPA may
be issued through incentive stock options or nonqualified stock options. On
July 13, 1995, the stockholders authorized an increase in the total number of
shares which may be granted under the plan to 1,500,000. The option price per
shares may not be less than 100% of the fair market value of the Common Stock
on the date of grant, as defined in the stock option plan document. Options
granted under the plan generally vest over three to five years.

F-13
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

1994 Physician Stock Option Plan--During 1994, FPA adopted the 1994
Physician Stock Option Plan under which an aggregate of 1,000,000 shares of
Common Stock of FPA may be issued through nonqualified stock options. The
option price per share may not be less than 100% of the fair market value of
the Common Stock on the date of grant, as defined in the stock option plan
document. Options granted under the plan generally vest over two to five
years.

1995 Non-Employee Directors' Non-Qualified Stock Option Plan--On July 13,
1995, the stockholders approved the 1995 Non-Employee Non-Qualified Stock
Option Plan under which options to purchase up to 200,000 shares of Common
Stock may be granted to non-employee directors. Options granted under the plan
generally vest over one year.

Stock option transactions and prices are summarized as follows:

<TABLE>
<CAPTION>
1995
OMNIBUS 1994 NON-EMPLOYEE DIRECTORS
STOCK PHYSICIAN STOCK NON-QUALIFIED
OPTION PLAN OPTION PLAN STOCK OPTION PLAN
----------- --------------- ----------------------
<S> <C> <C> <C>
Shares under option:
Outstanding at January
1, 1994................ -- -- --
Granted................ 858,254 -- --
Exercised.............. -- -- --
Canceled............... (3,000) -- --
--------- ------- ------
Outstanding at December
31, 1994............... 855,254 -- --
Granted................ 709,072 477,460 17,500
Exercised.............. -- -- --
Canceled............... (13,692) (25) --
--------- ------- ------
Outstanding at December
31, 1995............... 1,550,634 477,435 17,500
========= ======= ======
Average option price per
share:
At December 31, 1994... $ 5.11 N/A N/A
At December 31, 1995... $ 7.72 $ 7.05 $ 8.40
Options exercisable:
At December 31, 1994... 100,000 -- --
At December 31, 1995... 213,832 31,500 --
</TABLE>

Warrants--In connection with FPA's initial public offering, FPA sold for
$43,290 to the representatives of the underwriters warrants to purchase up to
260,000 shares of Common Stock. The warrants are exercisable through October
20, 1999 at $6.00 per share, subject to certain anti-dilution provisions.
Additionally, FPA granted to one of the representatives of the underwriters
warrants to purchase an additional 15,000 shares of FPA's Common Stock in
exchange for certain advisory services and $75. The warrants are exercisable
through November 22, 1999 at $6.00 per share, subject to certain anti-dilution
provisions.

10.COMPENSATION AGREEMENTS

The Company has employment agreements with its executive officers, which
expire at various dates through 2001. Such agreements, which have been revised
from time to time, provide for minimum salary levels, adjusted annually for
cost-of-living changes and merit increases, as well as for incentive bonuses
which are payable if specified management goals are attained. The aggregate
commitment for future salaries at December 31, 1995, excluding bonuses, was
approximately $10,000,000.

F-14
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

11.INCOME TAXES

Upon the inception of FPAMM in October 1992, FPAMM elected S Corporation
status under the Internal Revenue Code which provides that taxable income or
loss is attributable to the stockholders. Effective January 1, 1994, FPAMM
revoked its election to be treated as an S Corporation and became subject to
income taxes. In accordance with Statement of Financial Accounting Standards
No. 109, "Accounting for Income Taxes," the Company recognized a deferred tax
benefit at the date it became a taxable enterprise.

The components of the income tax expense as of December 31 are as follows:

<TABLE>
<CAPTION>
1994 1995
------- --------
<S> <C> <C>
Federal expense-deferred.................................. $58,732 $702,309
State expense
Current................................................. -- 22,477
Deferred................................................ 16,452 86,802
------- --------
Total income tax expense.................................. $75,184 $811,588
======= ========
</TABLE>

The Company's income tax expense differs from the amount that would have
resulted from applying the Federal statutory rate to pretax income because the
effect of the following items:

<TABLE>
<CAPTION>
1994 1995
--------- --------
<S> <C> <C>
Tax expense at U.S. statutory rate...................... $ 157,589 $616,777
Revocation of S Corporation status...................... (135,065) --
State taxes, net of Federal income tax benefit.......... 10,858 95,077
Goodwill amortization................................... -- 110,848
Research and development credits........................ -- (18,413)
Other................................................... 41,802 7,299
--------- --------
Total income tax expense................................ $ 75,184 $811,588
========= ========
</TABLE>

Deferred income taxes reflect the tax effects of temporary differences
between the carrying amounts of assets and liabilities for reporting and the
amounts used for income tax purposes. The tax effects of items comprising the
Company's net deferred tax asset liability at December 31 are as follows:

<TABLE>
<CAPTION>
1994 1995
--------- ---------
<S> <C> <C>
Deferred tax assets
Net operating losses............................ $ 173,667 $ 296,511
Other........................................... 13,941 23,354
--------- ---------
Total deferred assets............................... 187,608 319,865
========= =========
Deferred tax liabilities
Geographic expansion costs...................... (101,068) (179,893)
Acquisition costs currrently deductible......... -- (231,498)
Fixed assets.................................... -- (351,833)
Deferred compensation........................... -- (57,565)
--------- ---------
Total deferred liabilities.......................... (101,068) (820,789)
--------- ---------
Net deferred tax asset (liability).................. $ 86,540 $(500,924)
========= =========
</TABLE>

F-15
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

12.NEW JERSEY ACQUISITION

On November 7, 1994, the Company acquired substantially all of the
outstanding capital stock of PrimeCare, Inc. ("PrimeCare"), an independent
practice association of physicians operating in southern New Jersey, for
312,570 shares of FPA's Common Stock, valued at $1,953,563. Additionally, the
Company capitalized $307,133 in costs related to the acquisition. The
acquisition was accounted for under the purchase method. Goodwill recorded as
a result of the acquisition of PrimeCare is being amortized over 15 years on a
straight-line basis.

Under the terms of the PrimeCare acquisition, each former PrimeCare
shareholder has agreed, for a period of 18 months following the PrimeCare
closing (if PrimeCare has not entered into contracts with Payors in the
southern New Jersey region for the provision of all outpatient medical
services covering at least 25,000 members (the "Enrollment Date") during the
18 months following the PrimeCare closing) or four years following the
PrimeCare closing (if Enrollment Date has occurred during the 18 months
following the PrimeCare closing), not to join or affiliate with, or offer any
medical services through any management services organization or similar
organization that contracts with Payors with which the Company or its
affiliated entities currently contract. Additionally, if the Company contracts
with Payors whose members are then being serviced by physicians who are former
PrimeCare shareholders, such physicians will use their best efforts to convert
such members to the Company's network. Each such physician has also granted to
the Company, for an identical period of time, a right of first refusal to
purchase such physician's interest in his or her practice.

13.MICHIGAN SUBSIDIARY

On April 10, 1995, the Company signed an exclusive agreement to provide
management services through a majority-owned subsidiary, QualNet, with Great
Lakes Health Plan, Inc. ("GLHP") headquartered in Southfield, Michigan. GLHP
anticipates licensure as a health maintenance organization from the Michigan
Department of Insurance in the first quarter of 1996. Upon receipt of a
license, GLHP expects to service Medicaid enrollees in four counties which
currently have over 50,000 eligible Medicaid recipients. GLHP also expects to
market to commercial members following the initial Medicaid enrollment. In
connection with this transaction, the Company invested $2,000,000 in GLHP and
QualNet. QualNet began limited start-up operations on April 10, 1995. Included
in intangible assets are $266,034 in start-up costs related to activity in
Michigan. These costs will be amortized over five years, beginning when
operations commence in Michigan, expected to be in the first quarter of 1996.

14.ARIZONA ACQUISITIONS

Effective July 1, 1995, the Company acquired all of the outstanding shares
of AMCS and WMPS. The purchase price (including direct costs) was $1,911,511,
consisting of $1,250,000 in cash, $350,000 in Common Stock (50,378 shares), a
$250,000 three-year note payable and $61,511 in direct costs. In connection
with this acquisition, $3,100,330 was recorded as goodwill, which is being
amortized over 25 years, and $300,000 was recorded as the value of a covenant
not to compete, which is being amortized over the 11 year contractual
obligation of the physician not to compete. The acquisition was recorded under
the purchase method of accounting. AMCS, WMPS and AMCP serve approximately
13,000 managed care enrollees in the Phoenix metropolitan area.

During 1995, the Company acquired the assets and certain liabilities of two
physician practices. The aggregate purchase price of these practices was
$2,492,500 of which $1,817,731 was classified as goodwill which is being
amortized over 25 years, and $295,000 was recorded as the value of covenants
not to compete, which is being amortized over the contractual obligation of
the physicians not to compete, ranging from 10 to 13 years. These acquisitions
were accounted for under the purchase method of accounting.

F-16
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

15.TEXAS ACQUISITION

Effective November 1, 1995, the Company acquired all of the outstanding
stock of GMSO and OPSU in San Antonio, Texas. The purchase price was
$21,512,824, consisting of $14,710,404 in cash, $1,571,496 in Common Stock
(175,097 shares), $5,000,000 in notes payable, and $230,924 in direct costs.
The Company also loaned to two key employees of GMG and GMSO a total of
$660,000 to be repaid over three years. In connection with this acquisition,
$19,983,491 was recorded as goodwill, which is being amortized over 25 years,
and $1,900,000 was recorded as the value of a covenant not to compete, which
is being amortized over the 15 year contractual obligation of the physician
not to compete. The acquisition was recorded under the purchase method of
accounting. GMSO, OPSU, and GMG serve approximately 38,000 managed care
enrollees in the San Antonio area.

The following unaudited pro forma financial information presents the
consolidated results of operations as if both the Arizona and Texas
acquisitions had occurred as of the beginning of the periods presented, after
including the impact of certain adjustments, such as amortization of
intangibles, executive compensation per employment agreements, and the related
income tax effects.

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------
1994 1995
----------- -----------
<S> <C> <C>
Revenues.............................................. $50,705,977 $78,585,130
Net loss.............................................. (760,400) (250,529)
Net loss per share.................................... (.18) (.03)
</TABLE>

The Company believes that this unaudited proforma information is not
indicative of future results of operations, nor of historical operations, if
the Arizona and Texas acquisitions had occurred as of the beginning of the
periods presented.

16. CALIFORNIA ACQUISITIONS

During 1995, the Company acquired the assets and certain liabilities of 14
physician practices, and a Professional Corporation concurrently employed 22
additional physicians. The aggregate purchase price (including direct costs)
of these practices was $8,434,701 of which $6,121,916 was classified as
goodwill, which is being amortized over 25 years, and $1,743,000 was recorded
as the value of covenants not to compete, which is being amortized over the
contractual obligation of the physicians not to compete, ranging from five to
11 years. These acquisitions were accounted for under the purchase method of
accounting.

17. LICENSURE

In February 1995, following a dialogue with the California Department of
Corporations (the "Department") regarding whether the Company's operations
classified it as a healthcare service plan within the meaning of California
law, the Company, on behalf of one of its wholly-owned subsidiaries, FSC,
filed a restricted license application with the Department. Upon licensure,
all of the Company's managed care activity in the State of California is
expected to occur through this subsidiary. Based on discussions with the
Department and the advice of its California regulatory counsel, the Company
believes that it will be able to meet the requirements for licensure.
Notwithstanding the foregoing, there can be no assurance that the Company's
license application will be approved by the Department. The failure to receive
such licensure would cause the Company to alter the way the Company conducts
business in the State of California and could have a material adverse effect
on the future operations of the Company in the State of California.

F-17
<PAGE>

FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)

18. SUBSEQUENT EVENTS

The following significant events have occurred subsequent to the balance
sheet date:

Credit Agreement--On January 29, 1996, the Company entered into a
$15,000,000 credit, security, guarantee and pledge agreement ("Credit
Agreement") with two financial institutions. Permitted Borrowings, as defined
in the Credit Agreement, generally include acquisitions and capital
expenditures. Borrowings under the Credit Agreement bear interest at either
LIBOR plus 2 1/4% or prime rate plus 3/4%, as defined in the Credit Agreement.
On February 1, 1996, the Company borrowed $6,400,000 in connection with three
California acquisitions, described below. Fees of $150,000 were paid in
connection with the Credit Agreement. Fees of up to an additional $300,000 may
be incurred if additional borrowings are made. The balance outstanding is due
in full on December 31, 1998, unless the total Permitted Borrowings exceed
$5,000,000 and no Interim Repayment, as defined in the Credit Agreement, has
occurred prior to February 1, 1997, in which case the balance will be due
December 31, 1997. Periodic payments of accrued interest are due during the
term of this agreement. Additionally, the financial institutions were granted
a security interest in substantially all of the assets of the Company
(excluding those of GMSO, QualNet and OPSU), and the stock of certain
subsidiaries of FPA and Professional Corporations was pledged. The debt is
also guaranteed by the Professional Corporations. In connection with this
agreement, the Company must maintain certain debt and equity ratios and
profitability thresholds. The Company issued to the financial institutions a
warrant to purchase 50,000 shares of Common Stock at $9.125 per share
exercisable prior to February 2, 2001, subject to certain anti-dilution
provisions.

California Acquisitions--Effective January 31, 1996, a Professional
Corporation acquired the stock of three independent practice associations in
new regions in California. All three were stock acquisitions and were financed
through notes payable issued by the Company to the Professional Corporation.
In connection with these transactions, the Company obtained funding from the
Credit Agreement for a cumulative amount of $6,400,000. The purchase price of
the first acquisition, Century IPA, was $7,177,331 ($3,900,000 in cash and the
remainder through a ten-year note payable) and provides the FPA Network access
to the Los Angeles, California, market. The second acquisition, VIP IPA, was
made for $6,159,015 ($500,000 in cash and the remainder through a ten-year
note payable) and provides the FPA Network access to the Ventura County,
California market. The purchase price of the third acquisition, FHIPA, was
$10,063,654 ($7,000,000 in cash and the remainder through a ten-year note
payable) and provides the FPA Network access to the Sacramento, California,
market.

In connection with these acquisitions, the Company opened new administrative
offices in the Los Angeles and Sacramento areas in January, 1996. These
acquisitions will be accounted for using the purchase method of accounting.
The excess of the purchase price over the fair value of tangible assets
acquired will be treated as goodwill and amortized over the expected periods
of future benefit to the Company.

GLHP--On March 7, 1996, FPA made an additional capital contribution of
$3,000,000 to GLHP in connection with the acquisition by GLHP of a clinic
health plan and a number of clinics in Michigan. The acquired plan currently
services approximately 17,000 Medicaid enrollees.

F-18
<PAGE>

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

Not applicable.

F-19
<PAGE>

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.

(a) Directors. The information required under this item is incorporated
herein by reference to the information under the caption "Election of
Directors" in the Registrant's Proxy Statement for the 1996 Annual Meeting of
Stockholders.

(b) Executive Officers of the Registrant. The information with respect to
the executive officers required under this item is set forth in Part I of this
Report.

ITEM 11. EXECUTIVE COMPENSATION.

The information required under this item is incorporated herein by reference
to the information under the caption "Executive Compensation" in the
Registrant's Proxy Statement for the 1996 Annual Meeting of Stockholders.

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

The information required under this item is incorporated herein by reference
to the information under the caption "Security Ownership of Certain Beneficial
Owners and Management" in the Registrant's Proxy Statement for the 1996 Annual
Meeting of Stockholders.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

The information required under this item is incorporated herein by reference
to the information under the caption "Certain Transactions" in the
Registrant's Proxy Statement for the 1996 Annual Meeting of Stockholders.

PART IV

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

(a) Documents filed as part of this Report:

(1) Financial Statements:

Report of Independent Public Accountants

Consolidated Balance Sheets, December 31, 1994 and 1995

Consolidated Statements of Operations for the Years ended December
31, 1993, 1994 and 1995

Consolidated Statements of Stockholders' Equity (Deficit) for the
Years ended December 31, 1993, 1994 and 1995

Consolidated Statements of Cash Flows for the Years Ended December
31, 1993, 1994 and 1995

Notes to Consolidated Financial Statements

(2) Financial Statement Schedules:

All schedules have been omitted because they are inapplicable, not
required, or the information is included elsewhere in the consolidated
Financial Statements or Notes thereto.

III-1
<PAGE>

(3) Exhibits:

<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION OF DOCUMENTS
----------- ------------------------
<C> <S>
3.1 Certificate of Incorporation.*
3.2 Bylaws.*
3.3 Certificate of Amendment of Certificate of Incorporation filed
October 20, 1994 (incorporated by reference to FPA's Annual
Report on Form 10-K for the year ended December 31, 1994 at
Exhibit No. 3.3) .
4.1 Specimen of Common Stock Certificate.*
4.2 Form of Warrant.*
10.1 IPA Medicare Partial Risk Services Agreement between Pacificare of
California and Family Practice Associates of San Diego, Inc.
("FPASD") dated January 1, 1993, including an amendment thereto
effective the date thereof and an amendment thereto date
effective January 1, 1994.***
10.2 [Reserved]
10.3 Medical Services Organization Agreement dated January 21, 1995
between FPANJ and Medigroup, Inc. (HMO Blue).***
10.4 Pacificare IPA Commercial Services Agreement with FPASD dated May
1, 1995.***
10.5 Amendment to IPA Medicare Partial Risk Services Agreement between
Pacificare of California and FPASD dated April 1995.***
10.6 [Reserved]
10.7 Form of Primary Care Physician Agreement/California.***
10.8 Form of Specialty Care Physician Agreement/California.***
10.9 Form of Administrative Services Agreement between FPA and a
Professional Corporation.*
10.10 Form of Administrative Services Agreement between FPA and a
Professional Corporation.*
10.11 Form of Succession Agreement.*
10.12 Employment Agreement between FPA and Dr. Sol Lizerbram effective
as of January 1, 1994, including an amendment thereto effective
as of January 1, 1994 (incorporated by reference to Registration
Statement No. 33-79714 at Exhibit No. 10.13) and amendment
thereto effective as of July 1, 1995.* +
10.13 Employment Agreement between FPA and Dr. Seth Flam effective as of
January 1, 1994, including an amendment thereto effective as of
January 1, 1994 (incorporated by reference to Registration
Statement No. 33-79714 at Exhibit No. 10.14) and amendment
thereto effective as of July 1, 1995.*+
10.14 Employment Agreement between FPA and Dr. Howard Hassman effective
as of January 1, 1994, including an amendment thereto effective
as of January 1, 1994 (incorporated by reference to Registration
Statement No. 33-79714 at Exhibit No. 10.15) and amendment
thereto effective as of July 1, 1995.*+
10.15 Employment Agreement between FPA and Dr. Kevin Ellis effective as
of January 1, 1994, including an amendment thereto effective as
of January 1, 1994 (incorporated by reference to Registration
Statement No. 33-79714 at Exhibit No. 10.16) and amendment
thereto effective as of July 1, 1995.*+
10.16 Amended and Restated Employment Agreement between FPA and Steven
M. Lash effective September 1, 1994 (incorporated by reference to
FPA's Annual Report on Form 10-K for the year ended December 31,
1994 at Exhibit No. 10.26).+
10.17 Employment Agreement between FPA and Robert J. Burg effective
December 1, 1994 (incorporated by reference to FPA's Annual
Report on Form 10-K for the year ended December 31, 1994 at
Exhibit No. 10.27).+
</TABLE>

III-2

<PAGE>

<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION OF DOCUMENTS
----------- ------------------------
<C> <S>
10.18 Employment Agreement between FPA and James A. Lebovitz effective
March 1, 1996.+
10.19 FPA Omnibus Stock Option Plan (incorporated by reference to
Registration Statement
No. 33-79714 at Exhibit 10.19).+
10.20 [Reserved]
10.21 [Reserved]
10.22 [Reserved]
10.23 [Reserved]
10.24 401(K) Salary Savings Plan effective January 1, 1994 (incorporated
by reference to Registration Statement No. 33-79714 at Exhibit
10.20).+
10.25 1995 Directors Stock Option Plan.*+

10.26 1994 Physicians Stock Option Plan.*
10.27 Credit, Security, Guarantee and Pledge Agreement dated as of
January 29, 1996 among FPA and its subsidiaries and certain
guarantors and the lenders named therein and Banque Paribas, as
amended March 15, 1996.
10.28 [Reserved]
10.29 Form of Indemnification Agreement.*
11 Computation of Earnings per share and Common Stock Equivalents.
21 Subsidiaries of the Registrant.
23 Consent of Deloitte & Touche LLP.
</TABLE>
- --------
* Incorporated by reference to the exhibit to the Registrant's Registration
Statement on Form S-1, Reg.No. 33-97456, at the exhibit number set forth
opposite such exhibit's description above.
** Registrant has requested confidential treatment from the Securities and
Exchange Commission for portions of this exhibit, which confidential
portions have been filed separately.
+ Constitutes a management contract or compensatory plan to be filed as an
Exhibit to this Report pursuant to Item 14(c) of Form 10-K.

(b) Reports on Form 8-K. The Registrant filed the following current Reports
on Form 8-K during the quarter ended December 31, 1995 and through March 18,
1995:

<TABLE>
<CAPTION>
DATE OF REPORT ITEMS REPORTED
-------------- --------------
<S> <C>
November 9, 1995........................................... 7
February 1, 1996........................................... 2 and 7
</TABLE>

III-3

<PAGE>

SIGNATURES

PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED
ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED.

FPA Medical Management, Inc.
(Registrant)

/s/ James A. Lebovitz
By___________________________________
James A. Lebovitz
Senior Vice President

October 1, 1996
<PAGE>

EXHIBIT INDEX

<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION OF DOCUMENTS
----------- ------------------------
<C> <S>
3.1 Certificate of Incorporation.*
3.2 Bylaws.*
3.3 Certificate of Amendment of Certificate of Incorporation filed
October 20, 1994 (incorporated by reference to FPA's Annual
Report on Form 10-K for the year ended December 31, 1994 at
Exhibit No. 3.3).
4.1 Specimen of Common Stock Certificate.*
4.2 Form of Warrant.*
10.1 IPA Medicare Partial Risk Services Agreement between Pacificare of
California and Family Practice Associates of San Diego, Inc.
("FPASD") dated January 1, 1993, including an amendment thereto
effective the date thereof and an amendment thereto date
effective January 1, 1994. * **
10.2 [Reserved]
10.3 Medical Services Organization Agreement dated January 21, 1995
between FPANJ and Medigroup, Inc. (HMO Blue).* **
10.4 Pacificare IPA Commercial Services Agreement with FPASD dated May
1, 1995.* **
10.5 Amendment to IPA Medicare Partial Risk Services Agreement between
Pacificare of California and FPASD dated April 1995.* **
10.6 [Reserved]
10.7 Form of Primary Care Physician Agreement/California.* **
10.8 Form of Specialty Care Physician Agreement/California.* **
10.9 Form of Administrative Services Agreement between FPA and a
Professional Corporation.*
10.10 Form of Administrative Services Agreement between FPA and a
Professional Corporation.*
10.11 Form of Succession Agreement.*
10.12 Employment Agreement between FPA and Dr. Sol Lizerbram effective
as of January 1, 1994, including an amendment thereto effective
as of January 1, 1994 (incorporated by reference to Registration
Statement No. 33-79714 at Exhibit No. 10.13) and amendment
thereto effective as of July 1, 1995.*+
10.13 Employment Agreement between FPA and Dr. Seth Flam effective as of
January 1, 1994, including an amendment thereto effective as of
January 1, 1994 (incorporated by reference to Registration
Statement No. 33-79714 at Exhibit No. 10.14) and amendment
thereto effective as of July 1, 1995.*+
10.14 Employment Agreement between FPA and Dr. Howard Hassman effective
as of January 1, 1994, including an amendment thereto effective
as of January 1, 1994 (incorporated by reference to Registration
Statement No. 33-79714 at Exhibit No. 10.15) and amendment
thereto effective as of July 1, 1995.*+
10.15 Employment Agreement between FPA and Dr. Kevin Ellis effective as
of January 1, 1994, including an amendment thereto effective as
of January 1, 1994 (incorporated by reference to Registration
Statement No. 33-79714 at Exhibit No. 10.16) and amendment
thereto effective as of July 1, 1995.*+
10.16 Amended and Restated Employment Agreement between FPA and Steven
M. Lash effective September 1, 1994 (incorporated by reference to
FPA's Annual Report on Form 10-K for the year ended December 31,
1994 at Exhibit No. 10.26).+
10.17 Employment Agreement between FPA and Robert J. Burg effective
December 1, 1994 (incorporated by reference to FPA's Annual
Report on Form 10-K for the year ended December 31, 1994 at
Exhibit No. 10.27).+
10.18 Employment Agreement between FPA and James A. Lebovitz effective
March 1, 1996.+
10.19 FPA Omnibus Stock Option Plan (incorporated by reference to
Registration Statement No. 33-79714 at Exhibit 10.19).+
10.20 [Reserved]
</TABLE>
<PAGE>

<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION OF DOCUMENTS
----------- ------------------------
<C> <S>
10.21 [Reserved]
10.22 [Reserved]
10.23 [Reserved]
10.24 401(K) Salary Savings Plan effective January 1, 1994 (incorporated
by reference to Registration Statement No. 33-79714 at Exhibit
10.20).+
10.25 1995 Directors Stock Option Plan.*+
10.26 1994 Physicians Stock Option Plan.*
10.27 Credit, Security, Guarantee and Pledge Agreement dated as of
January 29, 1996 among FPA and its subsidiaries and certain
guarantors and the lenders named therein and Banque Paribas, as
amended March 15, 1996.
10.28 [Reserved]
10.29 Form of Indemnification Agreement.*
11 Computation of Earnings per share and Common Stock Equivalents.
21 Subsidiaries of the Registrant.
23 Consent of Deloitte & Touche LLP.
</TABLE>
- --------
* Incorporated by reference to the exhibit to the Registrant's Registration
Statement on Form S-1, Reg. No. 33-97456, at the exhibit number set forth
opposite such exhibit's description above.
** Registrant has requested confidential treatment from the Securities and
Exchange Commission for portions of this exhibit, which confidential
portions have been filed separately.
+ Constitutes a management contract or compensatory plan to be filed as an
Exhibit to this Report pursuant to Item 14(c) of Form 10-K.

<PAGE>

EXHIBIT 11
FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES
COMPUTATION OF EARNINGS PER SHARE AND COMMON STOCK EQUIVALENTS

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------
1993 1994 1995
---------- ---------- -----------
<S> <C> <C> <C>
Primary:
Pro forma net income
applicable to primary
earnings per common
share.................... $ 843,795 $ 278,078 $ 1,002,462
========== ========== ===========
Common stock and common
stock equivalents:
Weighted average shares of
common stock outstanding
during the year
(including retroactive
effect of 1995 one-for-
one stock dividend)........ 3,163,000. 3,947,178 7,274,046
Common stock equivalents
(stock options and
warrants)................ 34,435 402,356
---------- ---------- -----------
Total common stock and
common stock
equivalents.............. 3,163,000 3,981,613 7,676,402
========== ========== ===========
Primary pro forma net
income per common share.. $ 0.27 $ 0.07 $ 0.13
========== ========== ===========
Fully Diluted:
Pro forma net income
applicable to primary
earnings per common
share.................... $ 843,795 $ 278,078 $ 1,002,462
Add back interest expense
on convertible
debentures, net of tax
effect................... 9,000 32,400
---------- ---------- -----------
Adjusted pro forma net
income applicable to
fully diluted earnings
per common share......... $ 843,795 $ 287,078 $ 1,034,862
========== ========== ===========
Common stock and common
stock equivalents:
Shares used in calculating
primary earnings per
common share............. 3,163,000 3,981,613 7,676,402
Shares on conversion of
debentures............... 200,000 200,000
Other..................... 31,554 2,666
---------- ---------- -----------
Total common stock and
common stock equivalents
on a fully diluted
basis.................... 3,163,000 4,213,167 7,879,068
========== ========== ===========
Fully diluted pro forma
net income per common
share.................... $ 0.27 $ 0.07 $ 0.13
========== ========== ===========
</TABLE>

Note: Fully diluted pro forma net income per common share is not presented
in FPA's Consolidated Statements of Operations as the difference from primary
pro forma net income per common share is less than 3%.

<PAGE>

EXHIBIT 21
SUBSIDIARIES OF THE REGISTRANT

Arizona Managed Care Services, Inc.
Arizona Managed Care Physicians, IPA, Inc.
Family and Senior Care, Inc.
FPA Medical Management of Michigan, Inc. d/b/a QualNet, Inc.
FPA Medical Management of South Carolina, Inc.
Gonzaba Management Services Organization, Inc.
OPSU, Inc. d/b/a Gonzaba Surgical Center
PrimeCare, Inc.