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                         SECURITIES AND EXCHANGE COMMISSION
                               Washington, D.C. 20549
  
                                --------------------
  
                                     FORM 10-Q
                                 ------------------
  
  
       [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
                                EXCHANGE ACT OF 1934
  
  
  
                    For the quarterly period ended June 30, 1995
  
                                         OR
  
      [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
                              EXCHANGE REPORT OF 1934
  
           For the transition period from _____________ to _____________
  
  
  
                           Commission file number 1-10610
                               ----------------------
  
                                  DIAGNOSTEK, INC.
                               ----------------------
               (Exact name of registrant as specified in its charter)
  
  
           DELAWARE                                         85-0312837
  (State or other jurisdiction of                        (I.R.S. Employer
  incorporation or organization)                        Identification No.)
  
  
  4500 Alexander Blvd. NE,                                     87107
  Albuquerque, New Mexico                                   (ZIP  Code)
  (Address of principal executive offices)
  
                 Registrant's telephone number,including area code:
                                   (505)345-8080
                                 -----------------
  
           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  the  number of  shares  outstanding  of each of the  issuer's
  classes of common stock, as of the latest practical date
  
          Common Stock, $.01 par value                24,437,906 shares
          ----------------------------               ------------------
                   Class                         Outstanding at July 27, 1995
  
  
  <PAGE>
  
                         Diagnostek, Inc. and Subsidiaries
                                     Form 10-Q
  
                                       Index
  
                Item                                                         Page
  
  Part I   Financial information
  
           Consolidated Statement of Earnings                                  2
  
           Consolidated Statement of Financial Position                        3
  
           Consolidated Statement of Cash Flows                                4
  
           Notes to Consolidated Financial Statements                          5
  
           Management's Discussion and Analysis of Financial
                Condition and Results of Operations                           10
  
  Part II  Other information
  
           Legal Proceedings                                                  13
  
           Exhibits and Reports on Form 8-K                                   15
  
  Signatures                                                                  16
  
  
  
  
                                         1
  
  <PAGE>
  
  
                           Part I - Financial Information
  
                         Diagnostek, Inc. and Subsidiaries
                         Consolidated Statement of Earnings
  
  Unaudited
  (In thousands, except per share amounts)
  
  <TABLE>
  <CAPTION>
                                                                  Three month period
                                                                     ended June 30
                                                                1995               1994
                                                                ----               ----
  <S>                                                      <C>                 <C>
  Revenue                                                      $182,882           $166,527
  Costs and expenses
           Cost of sales                                        163,618            149,383
           Selling and marketing                                  2,455              2,746
           General and administrative                             8,392              7,816
                                                              ---------          ---------
                Total operating expenses                        174,465            159,945
                                                              ---------          ---------
  
  Operating income                                                8,417              6,582
  
  Other income (expense):
           Interest income                                        1,022              1,042
           Interest expense                                        (447)              (516)
           Other                                                     22               (103)
                                                              ---------          ---------
  
  Earnings before income taxes                                    9,014              7,005
  
  Provision for income taxes                                      3,651              2,818
                                                              ---------          ---------
  
  Net earnings                                                $   5,363          $   4,187
                                                              =========          =========
  
  Weighted average number of common and
       common equivalent shares outstanding                      25,493             25,254
  
  Net earnings per common and common
       equivalent share                                          $ 0.21             $ 0.17
  </TABLE>
  
  
  See accompanying Notes to Consolidated Financial Statements.
  
  
  
                                         2
  
  <PAGE>
  
  
                                           Diagnostek, Inc. and Subsidiaries
                                     Consolidated Statement of Financial Position
  Unaudited
  (Dollars in thousands, except  share amounts)
  
  <TABLE>
  <CAPTION>
                                                                               June 30, 1995           March 31,1995
  <S>                                                                        <C>                      <C>
  Assets
  Current assets
           Cash and cash equivalents                                           $    11,366               $   4,149
           Trade receivables-net (Note 3)                                           56,054                  55,984
           Other receivables                                                        12,106                  13,593
           Inventories                                                              27,223                  28,966
           Deferred income taxes                                                     5,441                   6,514
           Other assets                                                              2,159                   1,787
                                                                                   -------                --------
                Total current assets                                               114,349                 110,993
  Property, plant, and equipment - net (Note 4)                                     22,580                  22,951
  Goodwill - net (Note 5)                                                           61,809                  62,299
  Other intangible assets - net (Note 6)                                             1,754                   1,843
  Marketable securities - net (Note  7 )                                            61,908                  59,176
  Deferred income taxes                                                              2,168                   3,263
  Other assets - not current (Note 8)                                                5,757                   5,925
                                                                                  --------                --------
                Total assets                                                      $270,325                $266,450
                                                                                  ========                ========
  
  Liabilities and Stockholders' Equity
  Current liabilities
           Current portion of long-term debt (Note 9)                              $ 6,022               $  10,337
           Accounts payable                                                         47,376                  42,616
           Employee compensation and benefits                                        2,988                   3,673
           Income taxes payable                                                      1,301                      47
           Accrued contract losses(note 10)                                          6,480                   9,621
           Other liabilities - current                                               2,462                   3,088
                                                                                 ---------                --------
                Total current liabilities                                           66,629                  69,382
  Long-term debt,excluding current portion (Note 9)                                 11,000                  12,000
  Other liabilities -  not current                                                     830                   1,020
                                                                                    ------                --------
                Total liabilities                                                   78,459                  82,402
  
  Stockholders' Equity
           Preferred stock,$1.00 par value, authorized
              5,000,000 shares, none issued or outstanding                           -                       -
           Common stock,$.01 par value, authorized
             45,000,000 shares, with issued shares of
             24,469,442 at June 30, 1995 and 24,389,942
             at March 31, 1995                                                         245                     244
           Paid-in capital in excess of par value                                  138,780                 137,742
           Less: Treasury stock, 132,196 shares at June 30,1995
             and 132,196 shares at March 31, 1995                                   (1,297)                 (1,297)
           Unrealized gain (loss) on marketable securities net of
             deferred tax benefit of ($627) at  June 30, 1995
             and ($1,570) at March 31, 1995                                           (942)                 (2,358)
           Retained earnings                                                        55,080                  49,717
                                                                                  --------                --------
                Total stockholders' equity                                         191,866                 184,048
                                                                                   -------                 -------
           Total liabilities and stockholders' equity                             $270,325                $266,450
                                                                                  ========                ========
  </TABLE>
  
  
  
  See accompanying Notes to Consolidated Financial Statements.
  
  
                                         3
  
  <PAGE>
  
  
                         Diagnostek, Inc. and Subsidiaries
                        Consolidated Statement of Cash Flows
  
  Unaudited (in thousands)
  
  <TABLE>
  <CAPTION>
                                                                                  Three month period ended
                                                                                  1995                1994
  <S>                                                                         <C>                 <C>
  Cash flows from operating activities:
  Net earnings                                                                   $ 5,363           $   4,187
  Adjustments to reconcile net earnings to cash
    provided from (used by) operating activities:
           Depreciation and amortization                                           1,638               1,270
           Provision for doubtful accounts                                           420                 430
           Loss (gain) on sales of marketable securities                             (71)                120
           Deferred income taxes                                                   1,226                 (98)
           Decrease (increase) in trade receivables                                 (490)             (5,049)
           Decrease (increase) in inventories                                      1,743             ( 3,878)
           Decrease (increase) in other assets-current                             1,115             ( 1,318)
           Decrease (increase) in other assets-not current                           168                 246
           Increase (decrease) in accounts payable                                 4,760                 (48)
           Increase (decrease) in income taxes                                     1,254                 933
           Increase (decrease) in employee compensation                             (685)              1,195
           Increase (decrease) in other liabilities-current                       (4,082)            (10,778)
           Increase (decrease) in other liabilities-not current                     (189)               (216)
                                                                              ----------           ----------
             Cash provided from(used by) operating activities                     12,170             (13,004)
                                                                              ----------           ----------
  
  Cash flows from investing activities:
  Purchase of marketable securities                                               (2,606)             (4,929)
  Proceeds from sale of marketable securities                                      2,302               6,442
  Additions to property, plant, and equipment                                       (687)           (  1,688)
                                                                              ----------           ----------
            Cash provided from (used by)  investing activities                      (991)               (175)
                                                                              ----------           ----------
  
  Cash flows from financing activities:
  Proceeds from issuance of common stock                                           1,038                 675
  Proceeds from debt                                                               6,500               8,000
  Repayment of debt                                                              (11,500)             (2,474)
                                                                              ----------           ----------
             Cash provided from (used by) by financing activities                 (3,962)              6,201
                                                                              ----------           ----------
    Increase(decrease) in cash and equivalents                                     7,217              (6,978)
    Cash and cash equivalents at beginning of period                               4,149               8,012
                                                                              ----------           ----------
    Cash and cash equivalents at end of period                                $   11,366           $   1,034
                                                                              ==========           =========
  
  Supplemental disclosure of cash flow information:
           Cash paid during period for interest                                   $  762             $   943
           Cash paid during period for taxes                                      $1,025           $   1,762
  </TABLE>
  
  
  See accompanying Notes to Consolidated Financial Statements.
  
                                         4
  
  <PAGE>
  
  
                         Diagnostek, Inc. and Subsidiaries
                     Notes to Consolidated Financial Statements
                                    (Unaudited)
  
  
  General
  
  Diagnostek,  Inc., a holding company  incorporated under the laws of Delaware on
  August 3, 1983,  together with its subsidiaries  (collectively,  "Diagnostek" or
  the "Company"),  is a leading provider of pharmacy benefit  management  services
  designed  to contain  the costs of  dispensing  pharmaceuticals  with  principal
  business  activities being the providing of prescription  drugs through mail and
  retail  pharmacy  service  plans  and  providing  contract  pharmacy  management
  services to acute care hospitals and HMOs.
  
  Note 1 - Summary of Significant Accounting Policies
  
  The accompanying unaudited financial statements have been prepared in accordance
  with the  instructions  to Article 10 of Regulation S-X and,  therefore,  do not
  include all  information  and  footnotes  necessary for a fair  presentation  of
  financial  position,  results of operations,  and cash flows in conformity  with
  generally accepted  accounting  principles.  The information  furnished,  in the
  opinion of management,  reflects all adjustments, which include normal recurring
  adjustments,  necessary  to present  fairly the  results  of  operations  of the
  Company for the three  month  periods  ended June 30, 1995 and 1994.  Results of
  operations for interim periods are not  necessarily  indicative of results which
  may be expected for the year as a whole.
  
  Consolidation  The  consolidated   financial  statements  represent  the  adding
  together  of all  companies  of which  Diagnostek  directly  or  indirectly  has
  majority ownership or otherwise controls.  Significant intercompany accounts and
  transactions  have  been  eliminated.   The  Company's   consolidated  financial
  statements  include the  accounts of its  wholly-owned  affiliates,  Health Care
  Services,  Inc. ("HCS"),  and HPI Health Care Services,  Inc. ("HPI");  together
  with their subsidiaries, and other controlled affiliates.
  
  Revenue and cost of sales Sales of goods and services are recorded on medication
  dispensing  or passage of title to  customers  in  accordance  with  contractual
  terms. Cost of sales are recorded based on the cost of pharmaceuticals dispensed
  and related direct costs. In addition, the Company accrues costs associated with
  its  risk/reward  contracts  which it estimates  will not be  recovered  through
  projected revenues.
  
  Cash and cash equivalents  Money market accounts and temporary  investments with
  original  maturities  of  ninety  days or less  are  included  in cash  and cash
  equivalents.
  
  Inventories  Inventories,   consisting  primarily  of  prescription  medications
  purchased for resale, are stated at the lower of cost, on a first-in,  first-out
  basis, or market.
  
  Property,  plant,  and equipment  Property,  plant,  and equipment are stated at
  cost.  Provisions for  depreciation  are recorded using both  straight-line  and
  accelerated  methods over the useful lives of the respective  assets.  Leasehold
  improvements are amortized on a straight-line basis over the shorter of economic
  life or terms of the respective leases.
  
  
  
  
                                         5
  
  <PAGE>
  
  
                         Diagnostek, Inc. and Subsidiaries
               Notes to Consolidated Financial Statements(continued)
  
  
  Intangible  assets Goodwill is amortized using the  straight-line  method,  over
  fifteen to forty years.  Other intangible  assets consist  primarily of acquired
  contract   rights  and   covenants  not  to  compete  and  are  amortized  on  a
  straight-line basis over periods ranging from three to twelve years.
  
           The Company evaluates the recoverability of goodwill based on estimated
  undiscounted  operating income over the goodwill  amortization  periods,  giving
  consideration  to  sales  and  cost  benefits  expected  to be  realized  by the
  consolidated  group from the  acquisition of the acquired  company.  The Company
  also evaluates industry trends and historical trends of the acquired  companies,
  the  potential  impact of pending  and  proposed  regulations  and the effect of
  competition.
  
  Marketable  securities The Company accounts for marketable  securities utilizing
  Financial Accounting Standards Board Statement of Financial Accounting Standards
  No.115 "Accounting for Certain Investments in Debt and Equity  Securities".  All
  marketable  securities at June 30, 1995 and 1994 were deemed by management to be
  available for sale and therefore are reported at fair value with net  unrealized
  gains (losses) reported in stockholders' equity.
  
  Income taxes  Diagnostek  utilizes the asset and liability  method for recording
  deferred  income taxes,  which  provides for the  establishment  of deferred tax
  asset or liability  accounts based on the  difference  between tax and financial
  reporting bases of certain assets and liabilities.
  
  Treasury stock  Treasury  stock is carried at acquisition  cost (market price at
  acquisition date).
  
  Earnings  per  common  and  equivalent  share  Earnings  per  common  and common
  equivalent  share is computed on the  weighted  average  number of shares,  less
  treasury  stock and,  if  dilutive,  common  equivalent  shares  (common  shares
  assuming exercise of options and warrants).  For the three-month  periods ending
  June 30,  1995 and  1994,  approximately  1.2  million  and 1.3  million  common
  equivalent  shares  respectively,  were included in the  computation of weighted
  average shares.  Fully diluted  earnings per share are not materially  different
  than primary earnings per share and have not been presented.
  
  Note 2 -  Merger
  
           On March 27, 1995, the Company entered into a definitive  Agreement and
  Plan of Merger (the "Merger  Agreement") with Value Health,  Inc. ("VHI"), a New
  York Stock  Exchange  company that  provides  specialized  managed care programs
  including pharmacy benefit  management  services,  and VHI Merger-Sub.  Corp., a
  wholly-owned   subsidiary  of  VHI  pursuant  to  which  the  Company  became  a
  wholly-owned  subsidiary of VHI (the  "Merger") on July 28, 1995. It is intended
  that the Merger will qualify as a pooling of interests for  accounting  purposes
  and will constitute a tax-free  reorganization  for federal income tax purposes.
  In accordance with the terms and conditions of the Merger Agreement, as amended,
  each share of the Company's common stock ( and outstanding common stock options)
  was converted into common stock (and common stock options) of VHI at an exchange
  ratio of 0.4975. In connection with the Merger Agreement, the Company's Chairman
  of the Board and Chief Executive Officer has entered into a five year consulting
  agreement  and ten year  agreement  not to  compete  with  VHI and the  Company,
  effective  only  upon  the  consummation  of  the  Merger.  At  June  30,  1995,
  approximately  $1.1  million  of  costs  associated  with  the  Merger  has been
  deferred.  As a  result  of the  announcement  of the  execution  of the  Merger
  Agreement,  a number of shareholder lawsuits were filed against the Company, its
  directors and VHI (note11).
  
  
  
                                         6
  
  <PAGE>
  
  
                         Diagnostek, Inc. and subsidiaries
               Notes to Consolidated Financial Statements (continued)
  
  
  Note 3 - Trade receivables
  
           Trade receivables include allowance for doubtful accounts of $3,709,000
  and $3,487,000 at June 30, 1995 and March 31, 1995, respectively.
  
  Note 4 - Property, plant, and equipment
  
           Property,  plant, and equipment  include  accumulated  depreciation and
  amortization of $14,096,000 and $13,070,000 at June 30, 1995 and March 31, 1995,
  respectively.
  
  Note 5 - Goodwill
  
      Goodwill includes  accumulated  amortization of $6,483,000 and $5,993,000 at
  June 30, 1995 and March 31, 1995, respectively.
  
  Note 6 - Other intangible assets
  
      Other intangible assets include  accumulated  amortization of $2,603,000 and
  $2,513,000 at June 30, 1995 and March 31, 1995, respectively.
  
  Note 7 - Marketable securities
  
  Marketable securities at June 30, 1995 and March 31, 1995 are summarized below:
  
  <TABLE>
  <CAPTION>
  (in thousands)                                     At June 30, 1995                 At March 31, 1995
                                                  Cost            Market           Cost               Market
  Marketable securities                          Basis             Value           Basis              Value
  <S>                                       <C>                <C>             <C>                <C>
  Equity securities:
  -Mutual funds                                $    365          $    350         $    361          $    354
  -Other                                          1,300             1,250            1,300             1,050
  Debt securities:
  -Corporate bonds                               27,385            26,680           28,449            26,528
  -U.S. Government and
    agency securities                            24,558            23,938           23,123            21,702
  -Municipal securities                           9,869             9,690            9,871             9,542
                                                  -----             -----            -----             -----
                                                 63,477           $61,908           63,104           $59,176
                                                                  =======                            =======
  Allowance for unrealized
  gains (losses)                                 (1,569)                            (3,928)
                                                 -------                           --------
  Total                                         $61,908                            $59,176
                                                =======                            =======
  </TABLE>
  
  Note 8 - Other assets - not current
  
           Other assets - not current  include notes  receivable from officers and
  directors  totaling  approximately  $2.9  million at June 30, 1995 and March 31,
  1995.
  
  Note 9 - Debt
  
           Amounts  outstanding  under  the  Company's  unsecured  line of  credit
  totaled  $5.0  million  and $10.0  million  at June 30,  1995 and March  31,1995
  respectively.  $5.0  million and $6.0  million of  borrowings  under the line of
  credit have been  classified  as  non-current  liabilities  at June 30, 1995 and
  March 31, 1995, respectively.
  
                                         7
  
  <PAGE>
  
  
                         Diagnostek, Inc. and Subsidiaries
               Notes to Consolidated Financial Statements (continued)
  
  
  Note 10 - Accrued Contract Losses
  
           On February 1, 1995,  the Company's  HPI  subsidiary  began  performing
  under a contract  with the State of New Jersey to provide unit dose  medications
  to the state's  hospital  system.  The Company has estimated  that it will incur
  losses over the three year term of the contract,  and has accrued $6,480,000 and
  $9,621,000  at June 30,  1995 and  March 31,  1995,  respectively.  The  Company
  evaluates the adequacy of this accrual on an ongoing basis.
  
   Note 11 - Legal proceedings
  
           The  Securities   and  Exchange   Commission  is  conducting  a  formal
  investigation into the adequacy of the Company's  financial  disclosures,  books
  and records,  and internal  accounting  controls,  including whether  Diagnostek
  overstated its assets and income in its financial statements for the fiscal year
  ended  March 31,  1992 and the  quarter  ended  June 30,  1992.  Diagnostek  has
  cooperated fully in connection with this  investigation.  Diagnostek has reached
  an  agreement in principle  with the Staff of the  Commission  pursuant to which
  Diagnostek will consent, without admitting or denying the Commission's findings,
  to a Commission  order  directing  Diagnostek to cease and desist from violating
  certain  antifraud  provisions  of  the  federal  securities  laws,   provisions
  requiring accurate periodic filing with the Commission, and provisions requiring
  Diagnostek  to  maintain  accurate  financial  records and  adequate  systems of
  internal accounting  control.  Similar agreements in principle have been reached
  between the Commission  staff and a former officer of Diagnostek and an employee
  of its HCS  subsidiary.  The  agreements  in  principle  are  subject to further
  consideration  by Diagnostek and the Commission  staff of the precise terms of a
  proposed  order.  Any such  order  will be  effective  only if  approved  by the
  Commission,   and  there  can  be  no  assurance  that  such  approval  will  be
  forthcoming.
  
           On July 11,  1994,  a  purported  shareholder  class  action  was filed
  against  Diagnostek  and various of its officers  and  directors.  The action is
  pending in the United States District Court for the District of New Mexico.  The
  plaintiffs  have  asserted  violations  of the  Exchange  Act and common law, on
  account of the alleged  artificial  inflation in the market price of  Diagnostek
  Common Stock by reason of various alleged  misrepresentaions and omissions.  The
  plaintiffs  have also alleged that the defendants  concealed from the public the
  circumstances  leading to the termination of CIGNA's  contractual  relationships
  with  Diagnostek.  The plaintiffs  recently have expanded the allegations in the
  complaint to assert that Diagnostek misrepresented the anticipated revenues from
  a CHAMPUS contract with the Department of Defense and to extend the class period
  from  July 6,  1994 to March  24,  1995.  Although  Diagnostek  has  denied  any
  liability  and is  vigorously  defending  the  litigation,  Diagnostek  has  not
  established  a  reserve  with  respect  to such  litigation  and there can be no
  assurance that the outcome of this litigation will not have a materially adverse
  effect on the Company.
  
           Promptly  after  the  announcement  of  the  execution  of  the  Merger
  Agreement (note 2) 11 stockholder  class action lawsuits were filed in the Court
  of Chancery  of the State of  Delaware  against  Diagnostek,  and its  directors
  asserting  that the value of the  consideration  to be  received  by  Diagnostek
  stockholders  is  unfair  and  grossly  inadequate  and  that the  directors  of
  Diagnostek breached their fiduciary duties to Diagnostek stockholders by failing
  to take steps to maximize stockholder value. The suits seek, among other things,
  to enjoin the Merger,  to compel the directors of  Diagnostek to reconsider  the
  Exchange Ratio and to recover unspecified damages. Diagnostek and the individual
  defendants intend to vigorously defend these claims based upon their belief that
  the  actions of  Diagnostek  and its  directors  in  connection  with the Merger
  Agreement were  appropriately  taken under applicable law and that the Merger is
  fair to and in the best  interests of  Diagnostek's  stockholders.  VHI has been
  named as a  defendant  in  certain of these  actions  for  allegedly  aiding and
  abetting in the alledged breaches of fiduciary duty by the Diagnostek directors.
  The plaintiffs have served a document production request upon the defendants, to
  which the defendants have submitted written  responses.  Diagnostek has filed an
  answer denying the principal allegations of the complaint. As of August 4, 1995,
  no further  action has been taken by either the  plaintiffs  or the  defendants,
  although counsel  representing the plaintiffs have suggested that the actions be
  consolidated and captioned "In Re: Diagnostek, Inc. Shareholders Litigation."
  
  
  
                                         8
  
  <PAGE>
  
  
                         Diagnostek, Inc. and Subsidiaries
               Notes to Consolidated Financial Statements (continued)
  
           There are  extensive  state and Federal  regulations  applicable to the
  practice  of  pharmacy  and,  since  sanctions  may be imposed  for  violations,
  compliance is a significant operational requirement for the Company.  Management
  believes that the Company and its  subsidiaries  are in  substantial  compliance
  with all existing statutes and regulations  materially  affecting the conduct of
  its business. Various federal and state pharmacy associations and some boards of
  pharmacy have attempted to promote laws or  regulations  directed at restricting
  the  activities of mail service  pharmacies,  to the economic  benefit of retail
  pharmacies.  In addition,  a number of states have laws or regulations which, if
  successfully enforced,  would effectively limit some of the financial incentives
  available  to  third-party  payors that offer  managed  care  prescription  drug
  programs.  To the extent such laws or regulations  are found to be applicable to
  the Company,  there is no assurance the Company could comply,  and noncompliance
  could adversely affect the Company's integrated pharmacy service programs.
  
           Diagnostek  and its  subsidiaries  are  subject to  various  claims and
  lawsuits in the ordinary course of business, none of which are material.
  
                                         9
  
  <PAGE>
  
  
                          Diagnostek Inc. and Subsidiaries
            Management's Discussion and Analysis of Financial Condition
                             and Results of Operations
  
  
                           Summary Segment Financial Data
  
  
                                                   Three months ended
  (In Millions)                                         June 30
                                                 1995              1994
  
  Integrated Pharmacy Service
           Revenues                           $   156.8           $ 121.4
           Operating income                         9.3               5.6
  
  Managed Care Pharmacy Service
           Revenue                                 25.1              43.8
           Operating income                         1.7               3.8
  
  Corporate and Other
           Revenues                                 1.0               1.3
           Operating income (loss)                 (2.6)             (2.8)
  
  Total Company
           Revenues                               182.9             166.5
           Operating income                         8.4               6.6
           Net earnings                             5.4               4.2
  
           Net earnings per share               $  0.21           $  0.17
  
  
  Results of Operations
  
  Consolidated Operations
  
  Three months ended June 30, 1995 compared with three months ended June 30, 1994
  
           Consolidated revenues totaled $182.9 million for the three months ended
  June 30, 1995, an increase of $16.4 million,  or 10% from the comparable  period
  last year. Increase was attributable primarily to the expansion of the Company's
  integrated  pharmacy  service  business  ($35.4 million)  partially  offset by a
  decrease in the Company's managed care pharmacy service business ($18.7 million)
  (See Managed Care Pharmacy Management Operations below).
  
           Consolidated operating income totaled $8.4 million for the three months
  ended June 30, 1995, an increase of $1.8 million from the comparable  prior year
  period.  Increase in operating  income was  attributable  primarily to increased
  volume and improved  product  margins  ($2.1  million)  derived  mainly from the
  Company's integrated pharmacy service segment offset by higher selling,  general
  and administrative expenses ($0.3 million).
  
           Consolidated  net earnings  totaled $5.4  million,  an increase of $1.2
  million from the comparable period last year.  Increase was attributable  mainly
  to higher  operating  income ($1.8  million)  offset by increased  tax provision
  ($0.8 million).
  
           Net  earnings of $ 0.21 per share were $ 0.04 higher than last year due
  mainly to higher net earnings.
  
  
  
                                         10
  
  <PAGE>
  
  
                          Diagnostek Inc. and Subsidiaries
            Management's Discussion and Analysis of Financial Condition
                             and Results of Operations
  
  
  Integrated Pharmacy Service Operations
  
  Three months ended June 30, 1995 compared with three months ended  June 30, 1994
  
           Integrated  Pharmacy  Service  revenues  totaled $156.8 million for the
  three  months  ended  June  30,  1995 an  increase  of  $35.4  million  from the
  comparable prior year quarter.
  
           Integrated  Pharmacy Service  operating income totaled $9.3 million for
  the three  months  ended June 30,  1994,  an increase of $3.7  million from last
  year.  Operating income increase was attributable  primarily to increased volume
  and higher  product  margins ($4.6  million)  offset  partly by higher  selling,
  general and administrative costs ($0.9 million).
  
  
  Managed Care Pharmacy Management Operations
  
  Three months ended June 30, 1995 compared with three months ended  June 30, 1994
  
           Managed Care  Pharmacy  revenues  totaled  $25.1  million for the three
  months ended June 30,  1995,  a decrease of $18.7  million from last year due to
  the termination of pharmacy  service  contracts in support of CIGNA managed care
  plans in New Mexico and  Arizona  in  September  of 1994,  offset  partially  by
  revenues  associated  with the  Company's  contract with the State of New Jersey
  ($4.8 million) which began in February 1995.
  
           Managed Care  Pharmacy  operating  income  totaled $1.7 million for the
  three  months  ended June 30,  1995,  a decrease of $2.1  million from last year
  primarily due to the loss of CIGNA contracts and  renewal/renegotiation of other
  contracts,  with no offsetting  operating income being generated by the State of
  New Jersey contract.
  
  
  Impact of Suppliers and Inflation
  
           The Company has contracts with over 51,000 retail pharmacies to provide
  point-of-service  retail  prescription  dispensing  in support of the  Company's
  RxChoice(c)  integrated  product line.  These  contracts  generally  provide for
  reimbursement  to the  contracted  retail  pharmacy  at  prices  specified  as a
  discount to published average wholesale product cost.
  
           The Company  also stocks over 4,500 brand name and generic  medications
  at its mail  pharmacy  service  dispensing  facilities,  in varying  dosages and
  dosage  forms.  Prescription  requests  for  unstocked  items are  obtained,  as
  required, from wholesalers.
  
           Diagnostek  purchases  pharmaceuticals  directly from manufacturers and
  wholesalers,  generally  in high  volume and at a discount,  resulting  in lower
  costs than  available to smaller  purchasers.  The Company is not dependent upon
  any one supplier.
  
           The  Company  in  certain  of its  managed  care  contracts,  purchases
  pharmaceutical  products on behalf of its  customers  utilizing  its  customer's
  purchase agreements with suppliers. Under the terms of its mail service contract
  with the Department of Defense ("DoD") in support of CHAMPUS benefit programs in
  six  states,  the  Company  also  purchases  pharmaceutical  products  for  mail
  distribution to eligible beneficiaries utilizing Government contract prices.
  
  
  
  
                                         11
  
  <PAGE>
  
  
                          Diagnostek Inc. and Subsidiaries
            Management's Discussion and Analysis of Financial Condition
                             and Results of Operations
  
  
           The  Company  receives a  significant  amount of  rebates  based on the
  purchase of pharmaceuticals  from numerous suppliers.  These rebates,  which are
  shared with  customers on a  contractual  basis,  are  generally due the Company
  based  on the  purchase  of  specified  volume  levels  of  various  name  brand
  pharmaceuticals,  changes in relative  market share, or through the placement of
  certain  pharmaceuticals on a drug formulary. At this time, rebate practices are
  being  reviewed  within the  pharmaceutical  industry  as they relate to overall
  pricing  strategies.  The Company  continues to  aggressively  negotiate  rebate
  agreements  and believes  that any change in rebate  practices  would be part of
  changes in overall  pharmaceutical  pricing  methods.  Any such change in rebate
  practices or customer contract sharing arrangements could have an adverse affect
  on the Company's operating margin.
  
           Availability  and  price  of  pharmaceuticals  are  subject  to  market
  conditions.  Cost  increases  can affect the Company's  cost of sales;  however,
  increases  in  purchased  drug costs are,  in the case of certain  managed  care
  pharmacy  contracts  and for the vast majority of  integrated  pharmacy  service
  contracts,  recoverable from clients under periodic rate adjustment  contractual
  clauses.  To the extent the Company has entered into  risk/reward  ("capitated")
  contracts based on the Company's  ability to control  pharmaceutical  dispensing
  patterns,  operating  results could be effected to a greater degree by drug cost
  inflation.  Historically,  inflation  has not  materially  affected the Company.
  During  fiscal  1995  and  future  periods,  a  significant  number  of  patents
  protecting  high volume brand  medications  are  scheduled to expire which could
  result in the  availability  of lower  cost  generic  equivalent  products.  The
  Company has not forecast the impact that might result from the  introduction  of
  these generic products,  however,  pharmaceutical costs might decrease in future
  periods.
  
  
  Financial Resources and Liquidity
  
           Diagnostek's  working  capital  and  liquidity   requirements  for  its
  existing  operations have historically been met mainly from cash flows generated
  from operations.
  
           Cash flows from  operations  for the three  months  ended June 30, 1995
  totaled  approximately  $12.2  million,  an increase of $25.2  million  from the
  comparable  period last year.  Increase was primarily  due to improved  earnings
  ($1.2 million),  lack of counterpart to prior year payment of accrued settlement
  costs($8.0  million) and changes in inventory,  trade receivables,  and accounts
  payable versus prior year amounts.
  
           Diagnostek's  capital  expenditures  totaled $0.7 million for the three
  months ended June 30, 1995 compared with $1.7 million for the  comparable  prior
  year period.
  
            On December 22, 1994, the Company  obtained a $25.0 million  unsecured
  line of credit  with Bank of  America  Illinois  NA  ("Bank  of  America").  The
  agreement has a two year term,  with two one year renewal periods and requires a
  0.25%  annual  facility  fee  as  well  as  compliance  with  certain  financial
  covenants,  all of which the Company complied with at June 30, 1995.  Borrowings
  under the  agreement  require  interest  at rates  equal to prime or 0.375% over
  LIBOR, at the Company's  option. At June 30, 1995, the Company had borrowed $5.0
  million under the agreement .
  
           The Company has a $30 million term loan,  with  outstanding  balance of
  $12.0  million  at June 30,  1995,  from  Metropolitan  Life  Insurance  Company
  ("Metropolitan").  The loan bears interest, payable semi-annually,  at a rate of
  10.02%. Principal repayments of $6.0 million per year are payable each December.
  The Company expects to make these payments from operating cash flows.
  
           In  connection  with the  closing of the  Merger,  Bank of America  and
  Metropolitan  may  require  the Company to prepay the amounts due under the loan
  within sixty days.
  
           The Company has purchased insurance  policies,  customary in the retail
  pharmacy industry,  including product liability  coverage,  of a type and amount
  which  management  deems  adequate.  The  Company is not  licensed  to  practice
  medicine and, as a result, is unable to obtain medical malpractice coverage. The
  Company requires all users (including  radiologists,  hospitals,  or health care
  providers) of its owned medical  imaging  facility to both maintain  malpractice
  liability  coverage and indemnify the Company  against all claims that may arise
  from  the use of its  equipment.  Diagnostek  also  maintains  various  forms of
  traditional business liability coverage.
  
                                         12
  
  <PAGE>
  
  
                          Diagnostek Inc. and Subsidiaries
  
  
                                      Part II
  
  Item 1.  Legal Proceedings
  
           On July 11, 1994, a purported shareholder class action was filed in the
  United States District Court for the District of New Mexico against  Diagnostek,
  its  Chairman  and Chief  Executive  Officer;  General  Counsel,  Secretary  and
  Director;  President;  and a Vice President. The plaintiffs have named two class
  representatives:  Irwin Bash (allegedly  owning 200 shares of Diagnostek  Common
  Stock) and Leykin,  Hyman and Bash Associates  (allegedly owning 1,000 shares of
  Diagnostek Common Stock).
  
           On July 7, 1994,  Diagnostek  announced  that it had agreed  with CIGNA
  that  Diagnostek's  pharmacy  service  contracts  in  support  of CIGNA  managed
  healthcare  plans in New Mexico and Arizona would be  terminated.  The agreement
  was reached after Diagnostek  received  correspondence  dated June 30, 1994 from
  CIGNA  giving  notice of  termination  of the  CIGNA  contracts.  The  notice of
  termination  stated that the contracts were being terminated  because of certain
  instances of  inappropriate  purchases by  Diagnostek  of drugs (under the CIGNA
  contracts)  from  three  manufacturers,  which  were  ultimately  used for other
  Diagnostek  customers.  These  contracts,  which had been awarded to  Diagnostek
  during 1991 and1992,  had  originally  been scheduled to expire at various times
  commencing in July 1995.  Diagnostek's revenues from the CIGNA contracts for the
  fiscal year ended March 31, 1994 were $80.7 million.
  
           In their original Complaint, the plaintiffs have alleged that the named
  defendants  pursued a "scheme  and course of  conduct"  to inflate  Diagnostek's
  reported  earnings  through the  concealment  of specific  facts  underlying the
  termination of the CIGNA  contracts.  On December 30, 1994, the plaintiffs filed
  their  First  Amended  Complaint  which set forth  additional  alleged  facts in
  support of the claims in the original Complaint.  The defendants in their Answer
  to Plaintiffs' First Amended Complaint  asserted that they had taken appropriate
  remedial steps to rectify the situation,  believed in good faith that the matter
  would be resolved  and did not foresee  that the  contract  would be  terminated
  since at no time during the period that Diagnostek was effecting  remedial steps
  did CIGNA  communicate its intention to terminate the contracts.  The defendants
  have raised in their Answer the general  defenses that they did not at any time,
  deceive,  manipulate or defraud the plaintiffs or any other person regarding the
  CIGNA  contract and that all  disclosures  required by law  pertaining  to these
  contracts were made at all appropriate  times by the defendants.  The defendants
  have also  asserted,  among other things,  that the plaintiffs did not rely upon
  any statement, act or omission of the defendants in purchasing Diagnostek Common
  Stock, and that any changes in the market price of Diagnostek  Common Stock were
  due  to  factors  other  than  the  misrepresentations  allegedly  made  by  the
  defendants.
  
           On April 11, 1995,  the  plaintiffs  filed a Second  Amended  Complaint
  alleging that the defendants made further  misrepresentations in a press release
  and certain filings with the SEC regarding the anticipated annual revenues to be
  received in connection with a Department of Defense CHAMPUS  contract awarded in
  July 1994. The Second Amended Complaint also extended the requested class period
  from July 6, 1994 to March 24, 1995.
  
           The Second  Amended  Complaint  asserts  that the  defendants  violated
  federal securities laws (including Section 10(b) of the Securities  Exchange Act
  of 1934, as amended and Rule 10(b)(5) promulgated  thereunder,  and prohibitions
  on insider  trading),  and that the defendants'  actions  constitute  common law
  fraud and/or negligent  misrepresentation.  The plaintiffs seek monetary damages
  for  the  losses  suffered  as  a  result  of  the  alleged  misrepresentations,
  disgorgement  of  alleged  insider  trading  profits  and an award of costs  and
  expenses  incurred in the filing of their actions,  including  attorneys'  fees,
  accountants' fees and experts' fees.
  
           On May 18, 1995, the defendants  filed a Motion to Dismiss  Plaintiffs'
  Second Amended Complaint  asserting that the plaintiffs'  allegations  regarding
  the CHAMPUS  contract are wholly  speculative,  without a factual basis and that
  the additional  claims were filed purely for harassment  purposes.  In the event
  that the defendants'  Motion to Dismiss  Plaintiffs' Second Amended Complaint is
  not successful, the defendants expect to file an Answer raising the same general
  defenses that were raised in response to the First Amended Complaint.
  
  
                                         13
  
  <PAGE>
  
  
                          Diagnostek Inc. and Subsidiaries
  
  
           On May 26, 1995, the plaintiffs filed a motion seeking certification of
  a class consisting of all persons who purchased or otherwise acquired Diagnostek
  Common Stock during the period from April 28, 1994 through  March 24, 1995,  but
  excluding  defendants and certain others associated with defendants.  Defendants
  have sought discovery on class issues, and, on June 12, 1995, defendants filed a
  response in opposition to the motion for class certification.  Both parties also
  have filed motions directed to various discovery issues.
  
           During  July  1995,  a  number  of  depositions  were  taken  from  the
  plaintiffs  and  defendants.  On August 8, 1995,  defendants  filed a motion for
  summary judgement.
  
           Diagnostek  has denied any liability  and is  vigorously  defending the
  litigation.  Diagnostek  has not  established  a reserve  with  respect  to such
  litigation.  There can be no assurance that the outcome of this  litigation will
  not have a materially adverse effect on the Company.
  
           Promptly  after  the  announcement  of  the  execution  of  the  Merger
  Agreement,  11  stockholder  class  action  lawsuits  were filed in the Court of
  Chancery in the State of Delaware against Diagnostek and its directors asserting
  that the value of the consideration to be received by Diagnostek stockholders is
  unfair and grossly  inadequate  and that the  directors of  Diagnostek  breached
  their  fiduciary  duties to Diagnostek  stockholders by failing to take steps to
  maximize  stockholder  value. The suits seek, among other things,  to enjoin the
  Merger,  to compel the directors of Diagnostek to reconsider  the Exchange Ratio
  and to recover  unspecified  damages.  Diagnostek and the individual  defendants
  intend to  vigorously  defend  these  claims  based upon their  belief  that the
  actions of Diagnostek and its directors in connection with the Merger  Agreement
  were appropriately taken under applicable law and that the Merger is fair to and
  in the best  interest  of  Diagnostek's  stockholders.  VHI has been  named as a
  defendant in certain of these actions for  allegedly  aiding and abetting in the
  alleged breaches of fiduciary duty by Diagnostek directors.  The plaintiffs have
  served  a  document  production  request  upon  the  defendants,  to  which  the
  defendants  have  submitted  written  responses.  Diagnostek has filed an Answer
  denying the principal  allegations  of the  Complaint.  As of August 4, 1995, no
  further  action  has been  taken by either  the  plaintiffs  or the  defendants,
  although  counsel  representing the plaintiff have suggested that the actions be
  consolidated and captioned "In Re: Diagnostek, Inc. Shareholders Litigation".
  
           In addition,  the Commission is conducting a formal  investigation into
  the adequacy of  Diagnostek's,  financial  disclosures,  books and records,  and
  internal accounting controls, including whether Diagnostek overstated its assets
  and income in its financial  statements for the fiscal year ended March 31, 1992
  and the  quarter  ended  June  30,  1992.  Diagnostek  has  cooperated  fully in
  connection  with this  investigation.  Diagnostek  has reached an  agreement  in
  principle with the Staff of the  Commission  pursuant to which  Diagnostek  will
  consent, without admitting or denying the Commission's findings, to a Commission
  order directing  Diagnostek to cease and desist from violating certain antifraud
  provisions  of  the  federal  securities  laws,  provisions  requiring  accurate
  periodic  filings with the Commission,  and provisions  requiring  Diagnostek to
  maintain accurate financial records and adequate systems of internal  accounting
  control.   Similar  agreements  in  principle  have  been  reached  between  the
  Commission  staff and a former  officer of Diagnostek and an employee of its HCS
  subsidiary.  The agreements in principle are subject to further consideration by
  Diagnostek  and the Commission  staff of the precise terms of a proposed  order.
  Any such order will be effective only if approved by the  Commission,  and there
  can be no assurance that such approval will be forthcoming.
  
           Diagnostek  and its  subsidiaries  are  subject to  various  claims and
  lawsuits in the ordinary course of business, none of which are material.
  
  
  Item 2. Changes in Securities
           None
  
  Item 3.  Defaults Upon Senior Securities
           None
  
  Item 4. Submission of Matters to a Vote of Security Holders
           No items were submitted to a vote of Security Holders during the period
  ended June 30, 1995.
  
                                         14
  
  <PAGE>
  
  
                          Diagnostek Inc. and Subsidiaries
  
  
  Item 5. Other Items
           None
  
  Item 6a. Exhibits
           None
  
  Item 6b. Reports on Form 8-K
  
           Current Report on Form 8-K filed April 3, 1995  announcing the proposed
  merger of the Company with a subsidiary of Value Health, Inc.
  
           Current Report on Form 8-K filed June 8, 1995  announcing the amendment
  of the proposed merger agreement between the Company and Value Health, Inc.
  
  
  
  
                                         15
  
  <PAGE>
  
  
                                     SIGNATURES
  
  Pursuant  to the  requirements  of the  Securities  Exchange  Act of  1934,  the
  registrant  has duly  caused  this  Report  to be  signed  in its  behalf by the
  undersigned, thereunto duly authorized.
  
  
                                                      DIAGNOSTEK, INC.
  
  
  
  
  
                                     By:   /s/ Andrew P. Masetti   August 14,1995
                                           Andrew P. Masetti            Date
                                           Chief Financial Officer
  
  
                                         16
metadata_documents: [{"type": "10-Q", "sequence": "1", "secsgml_size_bytes": 55201}]
text: ====================================================================
  
                         SECURITIES AND EXCHANGE COMMISSION
                               Washington, D.C. 20549
  
                                --------------------
  
                                     FORM 10-Q
                                 ------------------
  
       [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
                                EXCHANGE ACT OF 1934
  
                    For the quarterly period ended June 30, 1995
  
                                         OR
  
      [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
                              EXCHANGE REPORT OF 1934
  
           For the transition period from _____________ to _____________
  
                           Commission file number 1-10610
                               ----------------------
  
                                  DIAGNOSTEK, INC.
                               ----------------------
               (Exact name of registrant as specified in its charter)
  
           DELAWARE                                         85-0312837
  (State or other jurisdiction of                        (I.R.S. Employer
  incorporation or organization)                        Identification No.)
  
  4500 Alexander Blvd. NE,                                     87107
  Albuquerque, New Mexico                                   (ZIP  Code)
  (Address of principal executive offices)
  
                 Registrant's telephone number,including area code:
                                   (505)345-8080
                                 -----------------
  
           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  the  number of  shares  outstanding  of each of the  issuer's
  classes of common stock, as of the latest practical date
  
          Common Stock, $.01 par value                24,437,906 shares
          ----------------------------               ------------------
                   Class                         Outstanding at July 27, 1995
  Diagnostek, Inc. and Subsidiaries
                                     Form 10-Q
  
                                       Index
  
                Item                                                         Page
  
  Part I   Financial information
  
           Consolidated Statement of Earnings                                  2
  
           Consolidated Statement of Financial Position                        3
  
           Consolidated Statement of Cash Flows                                4
  
           Notes to Consolidated Financial Statements                          5
  
           Management's Discussion and Analysis of Financial
                Condition and Results of Operations                           10
  
  Part II  Other information
  
           Legal Proceedings                                                  13
  
           Exhibits and Reports on Form 8-K                                   15
  
  Signatures                                                                  16
  
                                         1
  Part I - Financial Information
  
                         Diagnostek, Inc. and Subsidiaries
                         Consolidated Statement of Earnings
  
  Unaudited
  (In thousands, except per share amounts)
  Three month period
                                                                     ended June 30
                                                                1995               1994
                                                                ----               ----
  Revenue                                                      $182,882           $166,527
  Costs and expenses
           Cost of sales                                        163,618            149,383
           Selling and marketing                                  2,455              2,746
           General and administrative                             8,392              7,816
                                                              ---------          ---------
                Total operating expenses                        174,465            159,945
                                                              ---------          ---------
  
  Operating income                                                8,417              6,582
  
  Other income (expense):
           Interest income                                        1,022              1,042
           Interest expense                                        (447)              (516)
           Other                                                     22               (103)
                                                              ---------          ---------
  
  Earnings before income taxes                                    9,014              7,005
  
  Provision for income taxes                                      3,651              2,818
                                                              ---------          ---------
  
  Net earnings                                                $   5,363          $   4,187
                                                              =========          =========
  
  Weighted average number of common and
       common equivalent shares outstanding                      25,493             25,254
  
  Net earnings per common and common
       equivalent share                                          $ 0.21             $ 0.17
  See accompanying Notes to Consolidated Financial Statements.
  
                                         2
  Diagnostek, Inc. and Subsidiaries
                                     Consolidated Statement of Financial Position
  Unaudited
  (Dollars in thousands, except  share amounts)
  June 30, 1995           March 31,1995
  Assets
  Current assets
           Cash and cash equivalents                                           $    11,366               $   4,149
           Trade receivables-net (Note 3)                                           56,054                  55,984
           Other receivables                                                        12,106                  13,593
           Inventories                                                              27,223                  28,966
           Deferred income taxes                                                     5,441                   6,514
           Other assets                                                              2,159                   1,787
                                                                                   -------                --------
                Total current assets                                               114,349                 110,993
  Property, plant, and equipment - net (Note 4)                                     22,580                  22,951
  Goodwill - net (Note 5)                                                           61,809                  62,299
  Other intangible assets - net (Note 6)                                             1,754                   1,843
  Marketable securities - net (Note  7 )                                            61,908                  59,176
  Deferred income taxes                                                              2,168                   3,263
  Other assets - not current (Note 8)                                                5,757                   5,925
                                                                                  --------                --------
                Total assets                                                      $270,325                $266,450
                                                                                  ========                ========
  
  Liabilities and Stockholders' Equity
  Current liabilities
           Current portion of long-term debt (Note 9)                              $ 6,022               $  10,337
           Accounts payable                                                         47,376                  42,616
           Employee compensation and benefits                                        2,988                   3,673
           Income taxes payable                                                      1,301                      47
           Accrued contract losses(note 10)                                          6,480                   9,621
           Other liabilities - current                                               2,462                   3,088
                                                                                 ---------                --------
                Total current liabilities                                           66,629                  69,382
  Long-term debt,excluding current portion (Note 9)                                 11,000                  12,000
  Other liabilities -  not current                                                     830                   1,020
                                                                                    ------                --------
                Total liabilities                                                   78,459                  82,402
  
  Stockholders' Equity
           Preferred stock,$1.00 par value, authorized
              5,000,000 shares, none issued or outstanding                           -                       -
           Common stock,$.01 par value, authorized
             45,000,000 shares, with issued shares of
             24,469,442 at June 30, 1995 and 24,389,942
             at March 31, 1995                                                         245                     244
           Paid-in capital in excess of par value                                  138,780                 137,742
           Less: Treasury stock, 132,196 shares at June 30,1995
             and 132,196 shares at March 31, 1995                                   (1,297)                 (1,297)
           Unrealized gain (loss) on marketable securities net of
             deferred tax benefit of ($627) at  June 30, 1995
             and ($1,570) at March 31, 1995                                           (942)                 (2,358)
           Retained earnings                                                        55,080                  49,717
                                                                                  --------                --------
                Total stockholders' equity                                         191,866                 184,048
                                                                                   -------                 -------
           Total liabilities and stockholders' equity                             $270,325                $266,450
                                                                                  ========                ========
  See accompanying Notes to Consolidated Financial Statements.
  
                                         3
  Diagnostek, Inc. and Subsidiaries
                        Consolidated Statement of Cash Flows
  
  Unaudited (in thousands)
  Three month period ended
                                                                                  1995                1994
  Cash flows from operating activities:
  Net earnings                                                                   $ 5,363           $   4,187
  Adjustments to reconcile net earnings to cash
    provided from (used by) operating activities:
           Depreciation and amortization                                           1,638               1,270
           Provision for doubtful accounts                                           420                 430
           Loss (gain) on sales of marketable securities                             (71)                120
           Deferred income taxes                                                   1,226                 (98)
           Decrease (increase) in trade receivables                                 (490)             (5,049)
           Decrease (increase) in inventories                                      1,743             ( 3,878)
           Decrease (increase) in other assets-current                             1,115             ( 1,318)
           Decrease (increase) in other assets-not current                           168                 246
           Increase (decrease) in accounts payable                                 4,760                 (48)
           Increase (decrease) in income taxes                                     1,254                 933
           Increase (decrease) in employee compensation                             (685)              1,195
           Increase (decrease) in other liabilities-current                       (4,082)            (10,778)
           Increase (decrease) in other liabilities-not current                     (189)               (216)
                                                                              ----------           ----------
             Cash provided from(used by) operating activities                     12,170             (13,004)
                                                                              ----------           ----------
  
  Cash flows from investing activities:
  Purchase of marketable securities                                               (2,606)             (4,929)
  Proceeds from sale of marketable securities                                      2,302               6,442
  Additions to property, plant, and equipment                                       (687)           (  1,688)
                                                                              ----------           ----------
            Cash provided from (used by)  investing activities                      (991)               (175)
                                                                              ----------           ----------
  
  Cash flows from financing activities:
  Proceeds from issuance of common stock                                           1,038                 675
  Proceeds from debt                                                               6,500               8,000
  Repayment of debt                                                              (11,500)             (2,474)
                                                                              ----------           ----------
             Cash provided from (used by) by financing activities                 (3,962)              6,201
                                                                              ----------           ----------
    Increase(decrease) in cash and equivalents                                     7,217              (6,978)
    Cash and cash equivalents at beginning of period                               4,149               8,012
                                                                              ----------           ----------
    Cash and cash equivalents at end of period                                $   11,366           $   1,034
                                                                              ==========           =========
  
  Supplemental disclosure of cash flow information:
           Cash paid during period for interest                                   $  762             $   943
           Cash paid during period for taxes                                      $1,025           $   1,762
  See accompanying Notes to Consolidated Financial Statements.
  
                                         4
  Diagnostek, Inc. and Subsidiaries
                     Notes to Consolidated Financial Statements
                                    (Unaudited)
  
  General
  
  Diagnostek,  Inc., a holding company  incorporated under the laws of Delaware on
  August 3, 1983,  together with its subsidiaries  (collectively,  "Diagnostek" or
  the "Company"),  is a leading provider of pharmacy benefit  management  services
  designed  to contain  the costs of  dispensing  pharmaceuticals  with  principal
  business  activities being the providing of prescription  drugs through mail and
  retail  pharmacy  service  plans  and  providing  contract  pharmacy  management
  services to acute care hospitals and HMOs.
  
  Note 1 - Summary of Significant Accounting Policies
  
  The accompanying unaudited financial statements have been prepared in accordance
  with the  instructions  to Article 10 of Regulation S-X and,  therefore,  do not
  include all  information  and  footnotes  necessary for a fair  presentation  of
  financial  position,  results of operations,  and cash flows in conformity  with
  generally accepted  accounting  principles.  The information  furnished,  in the
  opinion of management,  reflects all adjustments, which include normal recurring
  adjustments,  necessary  to present  fairly the  results  of  operations  of the
  Company for the three  month  periods  ended June 30, 1995 and 1994.  Results of
  operations for interim periods are not  necessarily  indicative of results which
  may be expected for the year as a whole.
  
  Consolidation  The  consolidated   financial  statements  represent  the  adding
  together  of all  companies  of which  Diagnostek  directly  or  indirectly  has
  majority ownership or otherwise controls.  Significant intercompany accounts and
  transactions  have  been  eliminated.   The  Company's   consolidated  financial
  statements  include the  accounts of its  wholly-owned  affiliates,  Health Care
  Services,  Inc. ("HCS"),  and HPI Health Care Services,  Inc. ("HPI");  together
  with their subsidiaries, and other controlled affiliates.
  
  Revenue and cost of sales Sales of goods and services are recorded on medication
  dispensing  or passage of title to  customers  in  accordance  with  contractual
  terms. Cost of sales are recorded based on the cost of pharmaceuticals dispensed
  and related direct costs. In addition, the Company accrues costs associated with
  its  risk/reward  contracts  which it estimates  will not be  recovered  through
  projected revenues.
  
  Cash and cash equivalents  Money market accounts and temporary  investments with
  original  maturities  of  ninety  days or less  are  included  in cash  and cash
  equivalents.
  
  Inventories  Inventories,   consisting  primarily  of  prescription  medications
  purchased for resale, are stated at the lower of cost, on a first-in,  first-out
  basis, or market.
  
  Property,  plant,  and equipment  Property,  plant,  and equipment are stated at
  cost.  Provisions for  depreciation  are recorded using both  straight-line  and
  accelerated  methods over the useful lives of the respective  assets.  Leasehold
  improvements are amortized on a straight-line basis over the shorter of economic
  life or terms of the respective leases.
  
                                         5
  Diagnostek, Inc. and Subsidiaries
               Notes to Consolidated Financial Statements(continued)
  
  Intangible  assets Goodwill is amortized using the  straight-line  method,  over
  fifteen to forty years.  Other intangible  assets consist  primarily of acquired
  contract   rights  and   covenants  not  to  compete  and  are  amortized  on  a
  straight-line basis over periods ranging from three to twelve years.
  
           The Company evaluates the recoverability of goodwill based on estimated
  undiscounted  operating income over the goodwill  amortization  periods,  giving
  consideration  to  sales  and  cost  benefits  expected  to be  realized  by the
  consolidated  group from the  acquisition of the acquired  company.  The Company
  also evaluates industry trends and historical trends of the acquired  companies,
  the  potential  impact of pending  and  proposed  regulations  and the effect of
  competition.
  
  Marketable  securities The Company accounts for marketable  securities utilizing
  Financial Accounting Standards Board Statement of Financial Accounting Standards
  No.115 "Accounting for Certain Investments in Debt and Equity  Securities".  All
  marketable  securities at June 30, 1995 and 1994 were deemed by management to be
  available for sale and therefore are reported at fair value with net  unrealized
  gains (losses) reported in stockholders' equity.
  
  Income taxes  Diagnostek  utilizes the asset and liability  method for recording
  deferred  income taxes,  which  provides for the  establishment  of deferred tax
  asset or liability  accounts based on the  difference  between tax and financial
  reporting bases of certain assets and liabilities.
  
  Treasury stock  Treasury  stock is carried at acquisition  cost (market price at
  acquisition date).
  
  Earnings  per  common  and  equivalent  share  Earnings  per  common  and common
  equivalent  share is computed on the  weighted  average  number of shares,  less
  treasury  stock and,  if  dilutive,  common  equivalent  shares  (common  shares
  assuming exercise of options and warrants).  For the three-month  periods ending
  June 30,  1995 and  1994,  approximately  1.2  million  and 1.3  million  common
  equivalent  shares  respectively,  were included in the  computation of weighted
  average shares.  Fully diluted  earnings per share are not materially  different
  than primary earnings per share and have not been presented.
  
  Note 2 -  Merger
  
           On March 27, 1995, the Company entered into a definitive  Agreement and
  Plan of Merger (the "Merger  Agreement") with Value Health,  Inc. ("VHI"), a New
  York Stock  Exchange  company that  provides  specialized  managed care programs
  including pharmacy benefit  management  services,  and VHI Merger-Sub.  Corp., a
  wholly-owned   subsidiary  of  VHI  pursuant  to  which  the  Company  became  a
  wholly-owned  subsidiary of VHI (the  "Merger") on July 28, 1995. It is intended
  that the Merger will qualify as a pooling of interests for  accounting  purposes
  and will constitute a tax-free  reorganization  for federal income tax purposes.
  In accordance with the terms and conditions of the Merger Agreement, as amended,
  each share of the Company's common stock ( and outstanding common stock options)
  was converted into common stock (and common stock options) of VHI at an exchange
  ratio of 0.4975. In connection with the Merger Agreement, the Company's Chairman
  of the Board and Chief Executive Officer has entered into a five year consulting
  agreement  and ten year  agreement  not to  compete  with  VHI and the  Company,
  effective  only  upon  the  consummation  of  the  Merger.  At  June  30,  1995,
  approximately  $1.1  million  of  costs  associated  with  the  Merger  has been
  deferred.  As a  result  of the  announcement  of the  execution  of the  Merger
  Agreement,  a number of shareholder lawsuits were filed against the Company, its
  directors and VHI (note11).
  
                                         6
  Diagnostek, Inc. and subsidiaries
               Notes to Consolidated Financial Statements (continued)
  
  Note 3 - Trade receivables
  
           Trade receivables include allowance for doubtful accounts of $3,709,000
  and $3,487,000 at June 30, 1995 and March 31, 1995, respectively.
  
  Note 4 - Property, plant, and equipment
  
           Property,  plant, and equipment  include  accumulated  depreciation and
  amortization of $14,096,000 and $13,070,000 at June 30, 1995 and March 31, 1995,
  respectively.
  
  Note 5 - Goodwill
  
      Goodwill includes  accumulated  amortization of $6,483,000 and $5,993,000 at
  June 30, 1995 and March 31, 1995, respectively.
  
  Note 6 - Other intangible assets
  
      Other intangible assets include  accumulated  amortization of $2,603,000 and
  $2,513,000 at June 30, 1995 and March 31, 1995, respectively.
  
  Note 7 - Marketable securities
  
  Marketable securities at June 30, 1995 and March 31, 1995 are summarized below:
  (in thousands)                                     At June 30, 1995                 At March 31, 1995
                                                  Cost            Market           Cost               Market
  Marketable securities                          Basis             Value           Basis              Value
  Equity securities:
  -Mutual funds                                $    365          $    350         $    361          $    354
  -Other                                          1,300             1,250            1,300             1,050
  Debt securities:
  -Corporate bonds                               27,385            26,680           28,449            26,528
  -U.S. Government and
    agency securities                            24,558            23,938           23,123            21,702
  -Municipal securities                           9,869             9,690            9,871             9,542
                                                  -----             -----            -----             -----
                                                 63,477           $61,908           63,104           $59,176
                                                                  =======                            =======
  Allowance for unrealized
  gains (losses)                                 (1,569)                            (3,928)
                                                 -------                           --------
  Total                                         $61,908                            $59,176
                                                =======                            =======
  Note 8 - Other assets - not current
  
           Other assets - not current  include notes  receivable from officers and
  directors  totaling  approximately  $2.9  million at June 30, 1995 and March 31,
  1995.
  
  Note 9 - Debt
  
           Amounts  outstanding  under  the  Company's  unsecured  line of  credit
  totaled  $5.0  million  and $10.0  million  at June 30,  1995 and March  31,1995
  respectively.  $5.0  million and $6.0  million of  borrowings  under the line of
  credit have been  classified  as  non-current  liabilities  at June 30, 1995 and
  March 31, 1995, respectively.
  
                                         7
  Diagnostek, Inc. and Subsidiaries
               Notes to Consolidated Financial Statements (continued)
  
  Note 10 - Accrued Contract Losses
  
           On February 1, 1995,  the Company's  HPI  subsidiary  began  performing
  under a contract  with the State of New Jersey to provide unit dose  medications
  to the state's  hospital  system.  The Company has estimated  that it will incur
  losses over the three year term of the contract,  and has accrued $6,480,000 and
  $9,621,000  at June 30,  1995 and  March 31,  1995,  respectively.  The  Company
  evaluates the adequacy of this accrual on an ongoing basis.
  
   Note 11 - Legal proceedings
  
           The  Securities   and  Exchange   Commission  is  conducting  a  formal
  investigation into the adequacy of the Company's  financial  disclosures,  books
  and records,  and internal  accounting  controls,  including whether  Diagnostek
  overstated its assets and income in its financial statements for the fiscal year
  ended  March 31,  1992 and the  quarter  ended  June 30,  1992.  Diagnostek  has
  cooperated fully in connection with this  investigation.  Diagnostek has reached
  an  agreement in principle  with the Staff of the  Commission  pursuant to which
  Diagnostek will consent, without admitting or denying the Commission's findings,
  to a Commission  order  directing  Diagnostek to cease and desist from violating
  certain  antifraud  provisions  of  the  federal  securities  laws,   provisions
  requiring accurate periodic filing with the Commission, and provisions requiring
  Diagnostek  to  maintain  accurate  financial  records and  adequate  systems of
  internal accounting  control.  Similar agreements in principle have been reached
  between the Commission  staff and a former officer of Diagnostek and an employee
  of its HCS  subsidiary.  The  agreements  in  principle  are  subject to further
  consideration  by Diagnostek and the Commission  staff of the precise terms of a
  proposed  order.  Any such  order  will be  effective  only if  approved  by the
  Commission,   and  there  can  be  no  assurance  that  such  approval  will  be
  forthcoming.
  
           On July 11,  1994,  a  purported  shareholder  class  action  was filed
  against  Diagnostek  and various of its officers  and  directors.  The action is
  pending in the United States District Court for the District of New Mexico.  The
  plaintiffs  have  asserted  violations  of the  Exchange  Act and common law, on
  account of the alleged  artificial  inflation in the market price of  Diagnostek
  Common Stock by reason of various alleged  misrepresentaions and omissions.  The
  plaintiffs  have also alleged that the defendants  concealed from the public the
  circumstances  leading to the termination of CIGNA's  contractual  relationships
  with  Diagnostek.  The plaintiffs  recently have expanded the allegations in the
  complaint to assert that Diagnostek misrepresented the anticipated revenues from
  a CHAMPUS contract with the Department of Defense and to extend the class period
  from  July 6,  1994 to March  24,  1995.  Although  Diagnostek  has  denied  any
  liability  and is  vigorously  defending  the  litigation,  Diagnostek  has  not
  established  a  reserve  with  respect  to such  litigation  and there can be no
  assurance that the outcome of this litigation will not have a materially adverse
  effect on the Company.
  
           Promptly  after  the  announcement  of  the  execution  of  the  Merger
  Agreement (note 2) 11 stockholder  class action lawsuits were filed in the Court
  of Chancery  of the State of  Delaware  against  Diagnostek,  and its  directors
  asserting  that the value of the  consideration  to be  received  by  Diagnostek
  stockholders  is  unfair  and  grossly  inadequate  and  that the  directors  of
  Diagnostek breached their fiduciary duties to Diagnostek stockholders by failing
  to take steps to maximize stockholder value. The suits seek, among other things,
  to enjoin the Merger,  to compel the directors of  Diagnostek to reconsider  the
  Exchange Ratio and to recover unspecified damages. Diagnostek and the individual
  defendants intend to vigorously defend these claims based upon their belief that
  the  actions of  Diagnostek  and its  directors  in  connection  with the Merger
  Agreement were  appropriately  taken under applicable law and that the Merger is
  fair to and in the best  interests of  Diagnostek's  stockholders.  VHI has been
  named as a  defendant  in  certain of these  actions  for  allegedly  aiding and
  abetting in the alledged breaches of fiduciary duty by the Diagnostek directors.
  The plaintiffs have served a document production request upon the defendants, to
  which the defendants have submitted written  responses.  Diagnostek has filed an
  answer denying the principal allegations of the complaint. As of August 4, 1995,
  no further  action has been taken by either the  plaintiffs  or the  defendants,
  although counsel  representing the plaintiffs have suggested that the actions be
  consolidated and captioned "In Re: Diagnostek, Inc. Shareholders Litigation."
  
                                         8
  Diagnostek, Inc. and Subsidiaries
               Notes to Consolidated Financial Statements (continued)
  
           There are  extensive  state and Federal  regulations  applicable to the
  practice  of  pharmacy  and,  since  sanctions  may be imposed  for  violations,
  compliance is a significant operational requirement for the Company.  Management
  believes that the Company and its  subsidiaries  are in  substantial  compliance
  with all existing statutes and regulations  materially  affecting the conduct of
  its business. Various federal and state pharmacy associations and some boards of
  pharmacy have attempted to promote laws or  regulations  directed at restricting
  the  activities of mail service  pharmacies,  to the economic  benefit of retail
  pharmacies.  In addition,  a number of states have laws or regulations which, if
  successfully enforced,  would effectively limit some of the financial incentives
  available  to  third-party  payors that offer  managed  care  prescription  drug
  programs.  To the extent such laws or regulations  are found to be applicable to
  the Company,  there is no assurance the Company could comply,  and noncompliance
  could adversely affect the Company's integrated pharmacy service programs.
  
           Diagnostek  and its  subsidiaries  are  subject to  various  claims and
  lawsuits in the ordinary course of business, none of which are material.
  
                                         9
  Diagnostek Inc. and Subsidiaries
            Management's Discussion and Analysis of Financial Condition
                             and Results of Operations
  
                           Summary Segment Financial Data
  
                                                   Three months ended
  (In Millions)                                         June 30
                                                 1995              1994
  
  Integrated Pharmacy Service
           Revenues                           $   156.8           $ 121.4
           Operating income                         9.3               5.6
  
  Managed Care Pharmacy Service
           Revenue                                 25.1              43.8
           Operating income                         1.7               3.8
  
  Corporate and Other
           Revenues                                 1.0               1.3
           Operating income (loss)                 (2.6)             (2.8)
  
  Total Company
           Revenues                               182.9             166.5
           Operating income                         8.4               6.6
           Net earnings                             5.4               4.2
  
           Net earnings per share               $  0.21           $  0.17
  
  Results of Operations
  
  Consolidated Operations
  
  Three months ended June 30, 1995 compared with three months ended June 30, 1994
  
           Consolidated revenues totaled $182.9 million for the three months ended
  June 30, 1995, an increase of $16.4 million,  or 10% from the comparable  period
  last year. Increase was attributable primarily to the expansion of the Company's
  integrated  pharmacy  service  business  ($35.4 million)  partially  offset by a
  decrease in the Company's managed care pharmacy service business ($18.7 million)
  (See Managed Care Pharmacy Management Operations below).
  
           Consolidated operating income totaled $8.4 million for the three months
  ended June 30, 1995, an increase of $1.8 million from the comparable  prior year
  period.  Increase in operating  income was  attributable  primarily to increased
  volume and improved  product  margins  ($2.1  million)  derived  mainly from the
  Company's integrated pharmacy service segment offset by higher selling,  general
  and administrative expenses ($0.3 million).
  
           Consolidated  net earnings  totaled $5.4  million,  an increase of $1.2
  million from the comparable period last year.  Increase was attributable  mainly
  to higher  operating  income ($1.8  million)  offset by increased  tax provision
  ($0.8 million).
  
           Net  earnings of $ 0.21 per share were $ 0.04 higher than last year due
  mainly to higher net earnings.
  
                                         10
  Diagnostek Inc. and Subsidiaries
            Management's Discussion and Analysis of Financial Condition
                             and Results of Operations
  
  Integrated Pharmacy Service Operations
  
  Three months ended June 30, 1995 compared with three months ended  June 30, 1994
  
           Integrated  Pharmacy  Service  revenues  totaled $156.8 million for the
  three  months  ended  June  30,  1995 an  increase  of  $35.4  million  from the
  comparable prior year quarter.
  
           Integrated  Pharmacy Service  operating income totaled $9.3 million for
  the three  months  ended June 30,  1994,  an increase of $3.7  million from last
  year.  Operating income increase was attributable  primarily to increased volume
  and higher  product  margins ($4.6  million)  offset  partly by higher  selling,
  general and administrative costs ($0.9 million).
  
  Managed Care Pharmacy Management Operations
  
  Three months ended June 30, 1995 compared with three months ended  June 30, 1994
  
           Managed Care  Pharmacy  revenues  totaled  $25.1  million for the three
  months ended June 30,  1995,  a decrease of $18.7  million from last year due to
  the termination of pharmacy  service  contracts in support of CIGNA managed care
  plans in New Mexico and  Arizona  in  September  of 1994,  offset  partially  by
  revenues  associated  with the  Company's  contract with the State of New Jersey
  ($4.8 million) which began in February 1995.
  
           Managed Care  Pharmacy  operating  income  totaled $1.7 million for the
  three  months  ended June 30,  1995,  a decrease of $2.1  million from last year
  primarily due to the loss of CIGNA contracts and  renewal/renegotiation of other
  contracts,  with no offsetting  operating income being generated by the State of
  New Jersey contract.
  
  Impact of Suppliers and Inflation
  
           The Company has contracts with over 51,000 retail pharmacies to provide
  point-of-service  retail  prescription  dispensing  in support of the  Company's
  RxChoice(c)  integrated  product line.  These  contracts  generally  provide for
  reimbursement  to the  contracted  retail  pharmacy  at  prices  specified  as a
  discount to published average wholesale product cost.
  
           The Company  also stocks over 4,500 brand name and generic  medications
  at its mail  pharmacy  service  dispensing  facilities,  in varying  dosages and
  dosage  forms.  Prescription  requests  for  unstocked  items are  obtained,  as
  required, from wholesalers.
  
           Diagnostek  purchases  pharmaceuticals  directly from manufacturers and
  wholesalers,  generally  in high  volume and at a discount,  resulting  in lower
  costs than  available to smaller  purchasers.  The Company is not dependent upon
  any one supplier.
  
           The  Company  in  certain  of its  managed  care  contracts,  purchases
  pharmaceutical  products on behalf of its  customers  utilizing  its  customer's
  purchase agreements with suppliers. Under the terms of its mail service contract
  with the Department of Defense ("DoD") in support of CHAMPUS benefit programs in
  six  states,  the  Company  also  purchases  pharmaceutical  products  for  mail
  distribution to eligible beneficiaries utilizing Government contract prices.
  
                                         11
  Diagnostek Inc. and Subsidiaries
            Management's Discussion and Analysis of Financial Condition
                             and Results of Operations
  
           The  Company  receives a  significant  amount of  rebates  based on the
  purchase of pharmaceuticals  from numerous suppliers.  These rebates,  which are
  shared with  customers on a  contractual  basis,  are  generally due the Company
  based  on the  purchase  of  specified  volume  levels  of  various  name  brand
  pharmaceuticals,  changes in relative  market share, or through the placement of
  certain  pharmaceuticals on a drug formulary. At this time, rebate practices are
  being  reviewed  within the  pharmaceutical  industry  as they relate to overall
  pricing  strategies.  The Company  continues to  aggressively  negotiate  rebate
  agreements  and believes  that any change in rebate  practices  would be part of
  changes in overall  pharmaceutical  pricing  methods.  Any such change in rebate
  practices or customer contract sharing arrangements could have an adverse affect
  on the Company's operating margin.
  
           Availability  and  price  of  pharmaceuticals  are  subject  to  market
  conditions.  Cost  increases  can affect the Company's  cost of sales;  however,
  increases  in  purchased  drug costs are,  in the case of certain  managed  care
  pharmacy  contracts  and for the vast majority of  integrated  pharmacy  service
  contracts,  recoverable from clients under periodic rate adjustment  contractual
  clauses.  To the extent the Company has entered into  risk/reward  ("capitated")
  contracts based on the Company's  ability to control  pharmaceutical  dispensing
  patterns,  operating  results could be effected to a greater degree by drug cost
  inflation.  Historically,  inflation  has not  materially  affected the Company.
  During  fiscal  1995  and  future  periods,  a  significant  number  of  patents
  protecting  high volume brand  medications  are  scheduled to expire which could
  result in the  availability  of lower  cost  generic  equivalent  products.  The
  Company has not forecast the impact that might result from the  introduction  of
  these generic products,  however,  pharmaceutical costs might decrease in future
  periods.
  
  Financial Resources and Liquidity
  
           Diagnostek's  working  capital  and  liquidity   requirements  for  its
  existing  operations have historically been met mainly from cash flows generated
  from operations.
  
           Cash flows from  operations  for the three  months  ended June 30, 1995
  totaled  approximately  $12.2  million,  an increase of $25.2  million  from the
  comparable  period last year.  Increase was primarily  due to improved  earnings
  ($1.2 million),  lack of counterpart to prior year payment of accrued settlement
  costs($8.0  million) and changes in inventory,  trade receivables,  and accounts
  payable versus prior year amounts.
  
           Diagnostek's  capital  expenditures  totaled $0.7 million for the three
  months ended June 30, 1995 compared with $1.7 million for the  comparable  prior
  year period.
  
            On December 22, 1994, the Company  obtained a $25.0 million  unsecured
  line of credit  with Bank of  America  Illinois  NA  ("Bank  of  America").  The
  agreement has a two year term,  with two one year renewal periods and requires a
  0.25%  annual  facility  fee  as  well  as  compliance  with  certain  financial
  covenants,  all of which the Company complied with at June 30, 1995.  Borrowings
  under the  agreement  require  interest  at rates  equal to prime or 0.375% over
  LIBOR, at the Company's  option. At June 30, 1995, the Company had borrowed $5.0
  million under the agreement .
  
           The Company has a $30 million term loan,  with  outstanding  balance of
  $12.0  million  at June 30,  1995,  from  Metropolitan  Life  Insurance  Company
  ("Metropolitan").  The loan bears interest, payable semi-annually,  at a rate of
  10.02%. Principal repayments of $6.0 million per year are payable each December.
  The Company expects to make these payments from operating cash flows.
  
           In  connection  with the  closing of the  Merger,  Bank of America  and
  Metropolitan  may  require  the Company to prepay the amounts due under the loan
  within sixty days.
  
           The Company has purchased insurance  policies,  customary in the retail
  pharmacy industry,  including product liability  coverage,  of a type and amount
  which  management  deems  adequate.  The  Company is not  licensed  to  practice
  medicine and, as a result, is unable to obtain medical malpractice coverage. The
  Company requires all users (including  radiologists,  hospitals,  or health care
  providers) of its owned medical  imaging  facility to both maintain  malpractice
  liability  coverage and indemnify the Company  against all claims that may arise
  from  the use of its  equipment.  Diagnostek  also  maintains  various  forms of
  traditional business liability coverage.
  
                                         12
  Diagnostek Inc. and Subsidiaries
  
                                      Part II
  
  Item 1.  Legal Proceedings
  
           On July 11, 1994, a purported shareholder class action was filed in the
  United States District Court for the District of New Mexico against  Diagnostek,
  its  Chairman  and Chief  Executive  Officer;  General  Counsel,  Secretary  and
  Director;  President;  and a Vice President. The plaintiffs have named two class
  representatives:  Irwin Bash (allegedly  owning 200 shares of Diagnostek  Common
  Stock) and Leykin,  Hyman and Bash Associates  (allegedly owning 1,000 shares of
  Diagnostek Common Stock).
  
           On July 7, 1994,  Diagnostek  announced  that it had agreed  with CIGNA
  that  Diagnostek's  pharmacy  service  contracts  in  support  of CIGNA  managed
  healthcare  plans in New Mexico and Arizona would be  terminated.  The agreement
  was reached after Diagnostek  received  correspondence  dated June 30, 1994 from
  CIGNA  giving  notice of  termination  of the  CIGNA  contracts.  The  notice of
  termination  stated that the contracts were being terminated  because of certain
  instances of  inappropriate  purchases by  Diagnostek  of drugs (under the CIGNA
  contracts)  from  three  manufacturers,  which  were  ultimately  used for other
  Diagnostek  customers.  These  contracts,  which had been awarded to  Diagnostek
  during 1991 and1992,  had  originally  been scheduled to expire at various times
  commencing in July 1995.  Diagnostek's revenues from the CIGNA contracts for the
  fiscal year ended March 31, 1994 were $80.7 million.
  
           In their original Complaint, the plaintiffs have alleged that the named
  defendants  pursued a "scheme  and course of  conduct"  to inflate  Diagnostek's
  reported  earnings  through the  concealment  of specific  facts  underlying the
  termination of the CIGNA  contracts.  On December 30, 1994, the plaintiffs filed
  their  First  Amended  Complaint  which set forth  additional  alleged  facts in
  support of the claims in the original Complaint.  The defendants in their Answer
  to Plaintiffs' First Amended Complaint  asserted that they had taken appropriate
  remedial steps to rectify the situation,  believed in good faith that the matter
  would be resolved  and did not foresee  that the  contract  would be  terminated
  since at no time during the period that Diagnostek was effecting  remedial steps
  did CIGNA  communicate its intention to terminate the contracts.  The defendants
  have raised in their Answer the general  defenses that they did not at any time,
  deceive,  manipulate or defraud the plaintiffs or any other person regarding the
  CIGNA  contract and that all  disclosures  required by law  pertaining  to these
  contracts were made at all appropriate  times by the defendants.  The defendants
  have also  asserted,  among other things,  that the plaintiffs did not rely upon
  any statement, act or omission of the defendants in purchasing Diagnostek Common
  Stock, and that any changes in the market price of Diagnostek  Common Stock were
  due  to  factors  other  than  the  misrepresentations  allegedly  made  by  the
  defendants.
  
           On April 11, 1995,  the  plaintiffs  filed a Second  Amended  Complaint
  alleging that the defendants made further  misrepresentations in a press release
  and certain filings with the SEC regarding the anticipated annual revenues to be
  received in connection with a Department of Defense CHAMPUS  contract awarded in
  July 1994. The Second Amended Complaint also extended the requested class period
  from July 6, 1994 to March 24, 1995.
  
           The Second  Amended  Complaint  asserts  that the  defendants  violated
  federal securities laws (including Section 10(b) of the Securities  Exchange Act
  of 1934, as amended and Rule 10(b)(5) promulgated  thereunder,  and prohibitions
  on insider  trading),  and that the defendants'  actions  constitute  common law
  fraud and/or negligent  misrepresentation.  The plaintiffs seek monetary damages
  for  the  losses  suffered  as  a  result  of  the  alleged  misrepresentations,
  disgorgement  of  alleged  insider  trading  profits  and an award of costs  and
  expenses  incurred in the filing of their actions,  including  attorneys'  fees,
  accountants' fees and experts' fees.
  
           On May 18, 1995, the defendants  filed a Motion to Dismiss  Plaintiffs'
  Second Amended Complaint  asserting that the plaintiffs'  allegations  regarding
  the CHAMPUS  contract are wholly  speculative,  without a factual basis and that
  the additional  claims were filed purely for harassment  purposes.  In the event
  that the defendants'  Motion to Dismiss  Plaintiffs' Second Amended Complaint is
  not successful, the defendants expect to file an Answer raising the same general
  defenses that were raised in response to the First Amended Complaint.
  
                                         13
  Diagnostek Inc. and Subsidiaries
  
           On May 26, 1995, the plaintiffs filed a motion seeking certification of
  a class consisting of all persons who purchased or otherwise acquired Diagnostek
  Common Stock during the period from April 28, 1994 through  March 24, 1995,  but
  excluding  defendants and certain others associated with defendants.  Defendants
  have sought discovery on class issues, and, on June 12, 1995, defendants filed a
  response in opposition to the motion for class certification.  Both parties also
  have filed motions directed to various discovery issues.
  
           During  July  1995,  a  number  of  depositions  were  taken  from  the
  plaintiffs  and  defendants.  On August 8, 1995,  defendants  filed a motion for
  summary judgement.
  
           Diagnostek  has denied any liability  and is  vigorously  defending the
  litigation.  Diagnostek  has not  established  a reserve  with  respect  to such
  litigation.  There can be no assurance that the outcome of this  litigation will
  not have a materially adverse effect on the Company.
  
           Promptly  after  the  announcement  of  the  execution  of  the  Merger
  Agreement,  11  stockholder  class  action  lawsuits  were filed in the Court of
  Chancery in the State of Delaware against Diagnostek and its directors asserting
  that the value of the consideration to be received by Diagnostek stockholders is
  unfair and grossly  inadequate  and that the  directors of  Diagnostek  breached
  their  fiduciary  duties to Diagnostek  stockholders by failing to take steps to
  maximize  stockholder  value. The suits seek, among other things,  to enjoin the
  Merger,  to compel the directors of Diagnostek to reconsider  the Exchange Ratio
  and to recover  unspecified  damages.  Diagnostek and the individual  defendants
  intend to  vigorously  defend  these  claims  based upon their  belief  that the
  actions of Diagnostek and its directors in connection with the Merger  Agreement
  were appropriately taken under applicable law and that the Merger is fair to and
  in the best  interest  of  Diagnostek's  stockholders.  VHI has been  named as a
  defendant in certain of these actions for  allegedly  aiding and abetting in the
  alleged breaches of fiduciary duty by Diagnostek directors.  The plaintiffs have
  served  a  document  production  request  upon  the  defendants,  to  which  the
  defendants  have  submitted  written  responses.  Diagnostek has filed an Answer
  denying the principal  allegations  of the  Complaint.  As of August 4, 1995, no
  further  action  has been  taken by either  the  plaintiffs  or the  defendants,
  although  counsel  representing the plaintiff have suggested that the actions be
  consolidated and captioned "In Re: Diagnostek, Inc. Shareholders Litigation".
  
           In addition,  the Commission is conducting a formal  investigation into
  the adequacy of  Diagnostek's,  financial  disclosures,  books and records,  and
  internal accounting controls, including whether Diagnostek overstated its assets
  and income in its financial  statements for the fiscal year ended March 31, 1992
  and the  quarter  ended  June  30,  1992.  Diagnostek  has  cooperated  fully in
  connection  with this  investigation.  Diagnostek  has reached an  agreement  in
  principle with the Staff of the  Commission  pursuant to which  Diagnostek  will
  consent, without admitting or denying the Commission's findings, to a Commission
  order directing  Diagnostek to cease and desist from violating certain antifraud
  provisions  of  the  federal  securities  laws,  provisions  requiring  accurate
  periodic  filings with the Commission,  and provisions  requiring  Diagnostek to
  maintain accurate financial records and adequate systems of internal  accounting
  control.   Similar  agreements  in  principle  have  been  reached  between  the
  Commission  staff and a former  officer of Diagnostek and an employee of its HCS
  subsidiary.  The agreements in principle are subject to further consideration by
  Diagnostek  and the Commission  staff of the precise terms of a proposed  order.
  Any such order will be effective only if approved by the  Commission,  and there
  can be no assurance that such approval will be forthcoming.
  
           Diagnostek  and its  subsidiaries  are  subject to  various  claims and
  lawsuits in the ordinary course of business, none of which are material.
  
  Item 2. Changes in Securities
           None
  
  Item 3.  Defaults Upon Senior Securities
           None
  
  Item 4. Submission of Matters to a Vote of Security Holders
           No items were submitted to a vote of Security Holders during the period
  ended June 30, 1995.
  
                                         14
  Diagnostek Inc. and Subsidiaries
  
  Item 5. Other Items
           None
  
  Item 6a. Exhibits
           None
  
  Item 6b. Reports on Form 8-K
  
           Current Report on Form 8-K filed April 3, 1995  announcing the proposed
  merger of the Company with a subsidiary of Value Health, Inc.
  
           Current Report on Form 8-K filed June 8, 1995  announcing the amendment
  of the proposed merger agreement between the Company and Value Health, Inc.
  
                                         15
  SIGNATURES
  
  Pursuant  to the  requirements  of the  Securities  Exchange  Act of  1934,  the
  registrant  has duly  caused  this  Report  to be  signed  in its  behalf by the
  undersigned, thereunto duly authorized.
  
                                                      DIAGNOSTEK, INC.
  
                                     By:   /s/ Andrew P. Masetti   August 14,1995
                                           Andrew P. Masetti            Date
                                           Chief Financial Officer
  
                                         16