Organization:  CorVel Corporation (CorVel or the Company) provides services and programs nationwide that are designed to enable insurance carriers, third party administrators and employers with self-insured programs to administer, manage and control the cost of workers’ compensation and other healthcare benefits. 

Basis of Presentation:  The consolidated financial statements include the accounts of CorVel and its subsidiaries.  Significant intercompany accounts and transactions have been eliminated in consolidation.  

Use of Estimates:   The preparation of financial statements in conforming with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the amounts reported in the accompanying financial statements.  Actual results could differ from those estimates.

                Cash and Cash Equivalents:  Cash and cash equivalents consists of short-term highly-liquid investments with maturities of 90 days or less when purchased.   The carrying amounts of the Company’s financial instruments approximate their fair values at March 31, 2002 and 2003.

Revenue Recognition: The Company's revenues are recognized primarily as services are rendered based on time and expenses incurred.  A certain portion of the Company's revenues are derived from fee schedule auditing which is based on the number of provider charges audited and, to a limited extent, on a percentage of savings achieved for the Company's clients.  Accounts receivable includes $3,267,000 and $3,808,000 of unbilled receivables at March 31, 2002 and 2003, respectively.  No one customer accounted for more than 10% of consolidated revenues during the years ended March 31, 2001, 2002 and 2003.

Accounts Receivable:  The majority of the Company’s accounts receivable are due from companies in the property and casualty insurance industries.  Credit is extended based on evaluation of a customers’ financial condition and, generally, collateral is not required.  Accounts receivable are due with 30 days and are stated at amounts due from customers net of an allowance for doubtful accounts.   Accounts outstanding longer than the contractual payment terms are consider past due.  The Company determines its allowance by considering a number of factors, including the length of time trade accounts receivable are past due, the Company’s previous loss history, the customers’ current ability to pay its obligation to the Company, and the condition of the general economy and the industry as a whole.  The Company writes-off accounts receivable when they become uncollectible, and payments subsequently received on such receivables are credited to the allowance for doubtful accounts.  

                Property and Equipment:  Additions to property and equipment are recorded at cost.  Depreciation and amortization are provided using the straight-line and accelerated methods over the estimated useful lives of the related assets, which range from three to seven years.

                The Company capitalized software development costs, intended for internal use.   The capitalized software was $8,594,000 (net of $8,264,000 in accumulated amortization) as of March 31, 2002, and was $8,505,000, (net of $12,788,000 in accumulated amortization) as of March 31, 2003. These costs are included in computer software in property and equipment and are amortized over a period of five years.

Long-Lived Assets:   The carrying amount of all long-lived assets is evaluated periodically to determine if adjustment to the depreciation and amortization period or to the unamortized balance is warranted.  Such evaluation is based principally on the expected utilization of the long-lived assets and the projected, undiscounted cash flows of the operations in which the long-lived assets are deployed. 

Goodwill:  In contrast to accounting standards in effect during 2002, Statement of Financial Accounting Standards (SFAS) No. 142, Goodwill and Other Intangible Assets, which became effective beginning in 2003, provides that goodwill, as well as identifiable intangible assets with indefinite lives, should not be amortized.   Accordingly, with the adoption of SFAS 142 on April 1, 2002, the Company discontinued the amortization of goodwill and indefinite-lived intangibles.  In addition, useful lives of intangible assets with finite lives were reevaluated on adoption of SFAS 142.  The information presented below reflects adjustments to information reported in 2001 and 2002 as if SFAS 142 had been applied in each year.  The adjustments include the effects of not amortizing goodwill and indefinite-lived intangible assets and the modification in the estimated useful lives of intangible assets with finite lives.  Goodwill amounted to $5,775,000 (net of accumulated amortization of $2,047,000) at March 31, 2002 and $8,868,000 (net of accumulated amortization of $2,047,000) at March 31, 2003.

The following table reflects the effect of SFAS 142 on net income and earnings per share as if SFAS 142 had been in effect for fiscal years ending March 31, 2001, 2002, and 2003:

Concentrations of Credit Risk:  The Company performs periodic credit evaluations of its customers' financial condition and does not require collateral.  No single customer accounted for more than 10% of accounts receivable in 2002 or 2003.   Receivables are generally due within 30 days.  Credit losses relating to customers in the workers’ compensation insurance industry consistently have been within management's expectations.   

                Income Taxes:   The Company provides for income taxes under the liability method.  Deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities as measured by the enacted tax rates which are expected to be in effect when these differences reverse.   Income tax expense is the tax payable for the period and the change during the period in net deferred tax assets and liabilities.

Earnings Per Share:    Earnings per common share-basic is based on the weighted average number of common shares outstanding during the period.  Earnings per common shares-diluted is based on the weighted average number of common shares and common share equivalents outstanding during the period.  In calculating earnings per share, earnings are the same for the basic and diluted calculations.  Weighted average shares outstanding  increased for diluted earnings due to the effect of stock options.  All common shares outstanding and earnings per shares have been adjusted to reflect the three-for-two stock split in the form of a 50% dividend paid in August 2001.

Stock Based Compensation Plans:  The Company has a stock-based employee compensation plan, which is described more fully in Note E.  The Company applies APB Opinion 25, Accounting for Stock Issued to Employees, and related Interpretations in accounting for its plans.  The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of SFAS 123, Accounting for Stock-Based Compensation, using the assumptions described in Note E, to its stock-based employee plans.

Reclassifications:  Certain amounts in the 2001 and 2002 consolidated financial statements and notes to the consolidated financial statements have been reclassified to conform to the 2003 presentation.  The reclassifications have no effect on total revenues, total expenses, net income or stockholders’ equity, as previously reported.  

Note B – Property and Equipment

                Property and equipment consists of the following at March 31:

Note C – Accrued Liabilities

                Accrued liabilities consists of the following at March 31:

Note D - Income Taxes

                The income tax provision consists of the following for the three years ended March 31:

 Income tax benefits associated with the exercise of stock options are excluded from the provision, credited directly to equity, and totaled $673,000, $606,000 and $1,265,000 for fiscal 2001, 2002, and 2003, respectively.

The following is a reconciliation of the income tax provision from the statutory federal income tax rate to the effective rate for the three years ended March 31:

                Income taxes paid totaled $7,570,000, $7,910,000 and $8,812,000 for the years ended March 31, 2001, 2002, and 2003, respectively.

Deferred taxes at March 31, 2002 and 2003 are:

Note E - Stock Option Plans

                Under the Company's Restated 1988 Executive Stock Option Plan, (“the Plan”) as amended, options for up to 5,955,000 shares (adjusted for the two-for-one stock split in the form of a dividend in May 1999 and the three-for-two stock split in the form of the dividend in August 2001) of the Company's common stock may be granted to key employees, nonemployee directors and consultants at prices not less than 85% of the fair value of the stock at the date of grant as determined by the Board.  Options granted under the Plan may be either incentive stock options or non-statutory stock options and are generally exercisable beginning one year from the date of grant and vest monthly thereafter for three years.

Summarized information for all stock options for the past three fiscal year follows:

The following table summarizes the status of stock options outstanding and exercisable at March 31, 2003:

                The weighted average fair values at date of grant for options granted during fiscal 2001, 2002, and 2003 were $6.39, $6.38, and $7.77, respectively.

The fair value of each grant is estimated on the date of grant using the Black-Scholes option-pricing model.  The following weighted average assumptions were used for fiscal years ending March 31:

The number of shares to be issued, the weighted average exercise price of outstanding options, and the number of securities remaining available for future issuance under all stock option plans, including the 1991 Employee Stock Purchase Plan described in Note F below are as follows:

Note F - Employee Stock Purchase Plan

                The Company maintains an Employee Stock Purchase Plan which allows employees of the Company and its subsidiaries to purchase shares of common stock on the last day of two six-month purchase periods (i.e. March 31 and September 30) at a purchase price which is 85% of the closing sale price of shares as quoted on NASDAQ on the first or last day of such purchase period, whichever is lower. Employees are allowed to participate up to 20% of their gross pay.  A maximum of 750,000 shares has been authorized for issuance under the plan, as amended.  As of March 31, 2003, 627,555 shares had been issued pursuant to the plan. Summarized plan information is as follows:

Note G - Treasury Stock

                The Company’s Board of Directors has approved a plan to repurchase up to 6,100,000 shares of the Company’s outstanding common stock, with an authorization by the Board of Directors in May 2002 to increase the number of shares authorized to repurchase by 1,000,000 shares. Purchases may be made from time to time depending on market conditions and other relevant factors.  The share repurchases for fiscal years ending March 31, 2001, 2002 and 2003 are as follows:

The repurchased shares were recorded as treasury stock, at cost, and are available for general corporate purposes.  The repurchases were financed from cash generated from operations.

Note H - Commitments and Contingencies

                The Company leases office facilities under noncancelable operating leases. Future minimum rental commitments under operating leases at March 31, 2003 are $8,477,000 in fiscal 2004, $7,513,000 in fiscal 2005, $6,296,000 in fiscal 2006, $4,835,000 in fiscal 2007, $2,708,000 in fiscal 2008, and $442,000 thereafter.  Total rental expense of $8,685,000, $9,926,000, and $10,368,000 was charged to operations for the years ended March 31, 2001, 2002, and 2003, respectively.

                The Company is involved in litigation arising in the normal course of business.  The Company believes that resolution of these matters will not result in any payment that, in the aggregate, would be material to the financial position and results of the operations of the Company.

Note I - Savings Plan

                The Company maintains a retirement savings plan for its employees, which is a qualified plan under Section 401(k) of the Internal Revenue Code.  Full-time employees that meet certain requirements are eligible to participate in the plan.   Contributions are made annually, primarily at the discretion of the Company's Board of Directors.  Contributions of $224,000, $247,000, and $283,000, were charged to operations for the years ended March 31, 2001, 2002 and 2003, respectively.

Note J – Business Combination

In May 2002, the Company acquired AnciCare, PPO, Inc., a Florida-based national provider of diagnostic imaging services. The Company paid approximately $3.4 million ($2.9 million during fiscal 2003 and $475,000 during fiscal 2004) and recorded approximately $3.3 million for goodwill.   If the results of the AnciCare operations attain certain revenue during each of the three years after the date of acquisition, the Company will pay an additional amount for the purchase, which is expected to be funded from future earnings of the Company.    Any additional amounts paid will increase the goodwill related to the acquisition.

The following table summarizes the recorded value of the AnciCare assets acquired and liabilities assumed at the date of acquisition:

                The following unaudited pro forma summary presents information as if AnciCare had been acquired as of the beginning of the periods presented.   The pro forma information does not necessarily reflect the actual results that would have occurred nor is it necessarily indicative of future results of operations of the combined companies.

Note K – Shareholder Rights Plan

                During fiscal 1997, the Company’s Board of Directors approved the adoption of a Shareholder Rights Plan.  The Rights Plan, which is similar to rights plans adopted by numerous other public companies, provides for a dividend distribution to CorVel stockholders of one preferred stock purchase “Right” for each outstanding share of CorVel’s common stock.  The Rights are designed to assure that all stockholders receive fair and equal treatment in the event of any proposed takeover of the company and to encourage a potential acquirer to negotiate with the Board of Directors prior to attempting a takeover.  In April 2002, the Board of Directors of the Company approved an amendment to the Company’s existing stockholder rights agreement to extend the expiration date of the rights to February 10, 2012, increase the initial exercise price of each right to $118, and enable Fidelity Management & Research Company and its affiliates to purchase up to 18% of the shares of common stock of the Company without triggering the stockholder rights.   The Rights will not be exercisable until the occurrence of certain takeover-related events.  The issuance of the Rights has no dilutive effect on the Company’s earnings per share.

Note L – Subsequent Event

                In April 2003, the Company entered into a credit agreement with a financial institution to provide borrowing capacity of up to $5 million.  This agreement expires in September 2004.  Borrowings under this agreement bears interest, at the Company’s option, at a fluctuating LIBOR-based rate plus 1.25% or at the financial institution’s prime lending rate.  There have been no borrowings under the line of credit.

Note M - Quarterly Results (Unaudited)

                The following is a summary of unaudited results of operations for the two years ended March 31, 2002 and 2003: