Notes to Consolidated Financial Statements

Index Company Profile Financial Highlights Dear Fellow Shareholders Question and Answer with the CEO ASP Solutions HealtheWare HealthWeb Complementary Business Milestones Form 10-K Report of Independent Accountants Balance Sheets Statements of Operations Statements of Comprehensive Loss Statement of Stockholders' Equity (Deficit) Statements of Cash Flows Notes to Consolidated Financial Statements Valuation and Qualifying Accounts Corporate Information

NOTE 2 Summary of Significant Accounting Policies   Basis of consolidation    The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All intercompany transactions have been eliminated in consolidation.   Liquidity and capital resources    The Company has incurred net losses of $42.2 million and $7.9 million for the years ended December 31, 2000 and 1999, respectively, has an accumulated deficit of $51.4 million at December 31, 2000 and has used cash in operating activities of $12.6 million and $344,000 for the years ended December 31, 2000 and 1999, respectively. The Company has funded its financial needs primarily through the net proceeds received through its initial public offering in 1999 as well as other equity (Note 9) and debt financing (Note 6). Also, in connection with the Company's acquisition of Erisco Managed Care Technologies, Inc. in October 2000 (Note 12), the Company acquired a cash balance of approximately $32.0 million. The Company has total cash and cash equivalents, short-term investments, and restricted cash of $28.4 million and a net working capital deficiency of $7.8 million at December 31, 2000. Based on the Company's current operating plan, management believes existing cash, cash equivalents and short-term investments balances, cash forecasted by management to be generated by operations and borrowings from existing credit facilities will be sufficient to meet the Company's working capital and capital requirements for at least the next twelve months. However, if events or circumstances occur such that the Company does not meet its operating plan as expected, the Company may be required to seek additional capital and/or to reduce certain discretionary spending, which could have a material adverse effect on the Company's ability to achieve its intended business objectives. The Company may seek additional financing, which may include debt and/or equity financing or funding through third party agreements. There can be no assurance that any additional financing will be available on acceptable terms, if at all. Any equity financing may result in dilution to existing stockholders and any debt financing may include restrictive covenants.  Use of estimates    The preparation of consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.  Concentration of credit risk    Financial instruments that potentially subject the Company to a concentration of credit risk consist of cash and cash equivalents and accounts receivable. Cash and cash equivalents are deposited in demand and money market accounts in three financial institutions. Deposits held with banks may exceed the amount of insurance provided on such deposits. The Company has not experienced any losses on its deposits of cash and cash equivalents. The Company's accounts receivable are derived from revenue earned from customers located in the United States. The Company performs ongoing credit evaluations of its customers' financial condition and, generally, requires no collateral from its customers. The Company maintains an allowance for doubtful accounts receivable based upon the expected collectibility of individual accounts.    The following tables summarize the revenues and accounts receivable balances from customers in excess of 10% of total revenues and total accounts receivable balances, respectively: YEAR ENDED DECEMBER 31, -------------------- 2000 1999 1998 ---- ---- ---- REVENUES: Company A................................................. 15% -- -- Company B................................................. 15% -- -- Company C................................................. -- 16% 42% Company D................................................. -- -- 11% Company E................................................. -- 19% -- Company F................................................. -- -- -- Company G................................................. -- -- -- DECEMBER 31, -------------------- 2000 1999 1998 ---- ---- ---- ACCOUNTS RECEIVABLE: Company A................................................. -- -- -- Company B................................................. -- -- -- Company C................................................. -- -- 56% Company D................................................. -- -- -- Company E................................................. -- -- -- Company F................................................. -- 13% -- Company G................................................. 10% -- --  Fair value of financial instruments    Carrying amounts of certain of the Company's financial instruments including cash and cash equivalents, short-term investments, accounts receivable and accounts payable approximate fair value due to their short maturities. Based on borrowing rates currently available to the Company for loans with similar terms, the carrying value of its debt obligations approximates fair value.  Cash and cash equivalents    The Company considers all highly liquid investments purchased with an original maturity of three months or less to be cash equivalents. Cash and cash equivalents include money market funds, commercial paper and various deposit accounts.  Investments    The Company has classified its investments as available-for-sale. Such investments are recorded at fair value and unrealized gains and losses, if material, are recorded as a separate component of stockholders' equity, net of tax, until realized. Interest income is recorded using the effective interest rate with the associated premium or discount amortized to interest income. The cost of securities sold is based upon the specific identification method. As of the balance sheet date, investments with maturity dates of one year or less are classified as short-term. At December 31, 2000 and 1999, the carrying value approximated fair value. Investments consist of corporate bonds and debt securities.  Property and equipment    Property and equipment are stated at cost and are depreciated on a straight-line basis over their estimated useful lives: computer equipment, equipment and software are depreciated over five years and furniture and fixtures are depreciated over seven years. Leasehold improvements are amortized over their estimated useful lives or the lease term, if shorter. Upon retirement or sale, the cost and related accumulated depreciation are removed from the balance sheet and the resulting gain or loss is reflected in operations. Maintenance and repairs are charged to operations as incurred.  Goodwill and other intangible assets    Goodwill arising from the Company's acquisitions is being amortized on a straight-line basis over their estimated lives of three to seven years. Other intangible assets arising from the Company's acquisitions consist of acquired work force, customer lists, core technology and trade names which are being amortized on a straight-line basis over their estimated useful lives of two to five, five, three to four and five years, respectively. Software technology rights are amortized on a straight-line basis over the lesser of the contract term or five years.  Long-lived assets    Long-lived assets and intangible assets are reviewed for impairment when events or changes in circumstances indicate the carrying amount of an asset may not be recoverable. Recoverability is measured by comparison of the asset's carrying amount to future net undiscounted cash flows the assets are expected to generate. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the projected discounted future net cash flows arising from the asset.  Revenue recognition    The Company has adopted the provisions of the Securities and Exchange Commission ("SEC") Staff Accounting Bulletin No. 101 ("SAB 101") "Revenue Recognition", which outlines the basic criteria that must be met to recognize revenue and provides guidance for presentation of revenue and for disclosure related to revenue recognition policies in the financial statements filed with the SEC. The adoption of SAB 101 had no material impact on the financial statements.    The Company's revenue is classified into two categories: (i) recurring or multi-year contractually-based revenue and (ii) revenue generated from non-recurring agreements. Revenue is recognized when persuasive evidence of an arrangement exists, the product or service has been delivered, fees are fixed and determinable, collectibility is probable and when all other significant obligations have been fulfilled.    The Company generates recurring revenue from several sources, including the sale of maintenance and support on its software products, and from the hosting of application services. Recurring software maintenance revenue is typically based on one-year renewable contracts. Software maintenance and support revenues are recognized ratably over the contract period. Cash received in advance is recorded as deferred revenue. Recurring revenue from application services is subscription-based and billed monthly over a contract term of typically three to seven years. The amount billed monthly is based on units of volume, such as numbers of physicians, members or desktops covered by each contract. Recurring revenue from application services is recognized ratably over the term of the contract.    The Company generates non-recurring revenue from the licensing of its software. The Company follows the provisions of AICPA Statements of Position ("SOP") 97-2 "Software Revenue Recognition," SOP 98-4 "Deferral of the Effective Date of Certain Provisions of SOP 97-2", and SOP 98-9 "Modification of SOP 97-2, Software Revenue Recognition, With Respect of Certain Transactions". Software license revenue is recognized upon the execution of a license agreement, when the licensed product has been delivered, fees are fixed and determinable, collectibility is probable and when all other significant obligations have been fulfilled. For software license agreements in which customer acceptance is a condition of earning the license fees, revenue is not recognized until acceptance occurs. For arrangements containing multiple elements, such as software license fees, consulting services and maintenance, and where vendor-specific objective evidence ("VSOE") of fair value exists for all undelivered elements, the Company accounts for the delivered elements in accordance with the "residual method" prescribed by SOP 98-9. For arrangements in which VSOE does not exist for each element, including specified upgrades, revenue is deferred and not recognized until delivery of the element without VSOE has occurred. The Company also generates non-recurring revenue from consulting fees for implementation, installation, data conversion, and training related to the use of the Company's proprietary and third-party licensed products. The Company recognizes revenues for these services as they are performed, as they are principally contracted for on a time and material basis.  Research and development   Research and development costs are charged to operations as incurred.  Software development costs    Software development costs for new software and for enhancements to existing software are expensed as incurred until the establishment of technological feasibility. Software development costs incurred subsequent to the establishment of technological feasibility and prior to general release of the product are capitalized as capitalized software products and amortized to cost of revenues on a straight-line basis over the estimated useful life of the related products, generally five years. Amortization expense for the years ended December 31, 2000, 1999 and 1998 was $9,000, zero and zero, respectively, and is included in cost of revenues.  Income taxes    The Company accounts for income taxes under the liability method. Under this method, deferred tax assets and liabilities are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to affect taxable income. A valuation allowance is established when necessary to reduce deferred tax assets to the amounts expected to be realized.  Computation of income (loss) per share    Basic earnings per share ("EPS") is computed by dividing net income (loss) by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur from common shares issuable through stock options, warrants and other convertible securities. The following is a reconciliation of the numerator (net income (loss)) and the denominator (number of shares) used in the basic and diluted EPS calculations (in thousands, except per share data): YEAR ENDED DECEMBER 31, ------------------------------ 2000 1999 1998 -------- ------- ------- BASIC: Net income (loss)........................................ $(42,258) $(7,927) $ 60 -------- ------- ------- Weighted average common shares outstanding............... 23,444 9,376 4,937 -------- ------- ------- Net income (loss) per share.............................. $ (1.80) $ (0.85) $ 0.01 ======== ======= ======= DILUTED: Net income (loss)........................................ $(42,258) $(7,927) $ 60 -------- ------- ------- Weighted average common shares outstanding............... 23,444 9,376 4,937 Preferred stock.......................................... -- -- 2,888 Options to purchase common stock......................... -- -- 305 Common stock subject to repurchase....................... -- -- 4,640 Warrants................................................. -- -- 13 -------- ------- ------- Total weighted common stock and common stock equivalents........................................... 23,444 9,376 12,783 -------- ------- ------- Net income (loss) per share.............................. $ (1.80) $ (0.85) $ 0.00 ======== ======= ======= ANTIDILUTIVE SECURITIES: Shares held in escrow.................................... 686 518 -- Options to purchase common stock......................... 5,170 3,479 -- Unvested portion of restricted stock..................... 325 -- -- Common stock subject to repurchase....................... -- 1,698 -- Warrants................................................. 300 -- -- -------- ------- ------- 6,481 5,695 -- ======== ======= =======  Comprehensive income    The Company has adopted the provisions of Statement of Financial Accounting Standards ("SFAS") No. 130, "Comprehensive Income." SFAS 130 establishes standards for reporting and display of comprehensive income and its components for general-purpose financial statements. Comprehensive income (loss) is defined as net income (loss) plus all revenues, expenses, gains and losses from non-owner sources that are excluded from net income (loss) in accordance with generally accepted accounting principles.  Recent accounting pronouncements    In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133 ("SFAS 133"), "Accounting for Derivative Instruments and Hedging Activities." SFAS 133, as amended by SFAS 137 and SFAS 138, establishes methods of accounting and reporting for derivative instruments and hedging activities and is effective for all fiscal quarters for all fiscal years beginning after June 15, 2000. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. The implementation of SFAS 133 will not have a material impact on the Company's financial statements.  Reclassifications    Certain prior year amounts have been reclassified to conform with the 2000 presentation.