<PAGE>
 
                      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, 1998

            [   ] Quarterly report pursuant to Section 13 or 15(d)
                  of the Securities Exchange Act of 1934

                  For the transition period from _________  to  ____



                        Commission File Number 0-21758

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

                        DIAGNOSTIC HEALTH SERVICES, INC.
                                        
            (Exact name of registrant as specified in its charter)



       Delaware                                             22-2960048
       (State or other jurisdiction of                (I.R.S. Employer
       incorporation or organization)              Identification No.)



            2777 Stemmons Freeway, Suite 1525, Dallas, Texas 75207
         (Address of principal executive offices, including zip code)



                                 (214)634-0403
              (Registrant's telephone number, including area code)
            -------------------------------------------------------
              (Former name, former address and former fiscal year
                         if changed since last report)


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


         Applicable only to issuers involved in bankruptcy proceedings

                          During the past five years.


Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Sections 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court.

                             Yes        No
                                 ------    ------ 

As of June 30, 1998, there were 11,637,492 issued and 11,404,233 shares
outstanding of Registrant's common stock,  $.001 par value.
<PAGE>
 
                DIAGNOSTIC HEALTH SERVICES, INC. AND SUBSIDIARIES

                          Quarterly Report on Form 10-Q

                                      INDEX



PART I.  Financial Information                                          Page No.

Item 1.  Financial Statements

Consolidated Balance Sheets                                                  2-3
June 30, 1998 and December 31, 1997

Consolidated Statements of Operations
Six months ended June 30, 1998 and 1997                                        4

Consolidated Statements of Operations
Three months ended June 30, 1998 and 1997                                      5

Consolidated Statement of Stockholders' Equity
June 30, 1998                                                                  6

Consolidated Statements of Cash Flows
Six months ended June 30, 1998 and 1997                                        7

Consolidated Statements of Cash Flows
Three months ended June 30, 1998 and 1997                                      8

Notes to Consolidated Financial Statements                                  9-13

Item 2.  Management's Discussion and Analysis or
Plan of Operation                                                          14-18


PART II.  Other Information                                                   19

Signatures                                                                    20

Item 6. Exhibits and Reports on Form 8-K                                      21

Exhibit 11 - Statement re:  computation of per share earnings                 22

Exhibit 27 - Financial Data Schedule (EDGAR filing only)
<PAGE>
 
PART I.  FINANCIAL INFORMATION
ITEM 1.  FINANCIAL STATEMENTS


                 DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES
                           Consolidated Balance Sheets


                                     ASSETS
<TABLE>
<CAPTION>
                                                     (Unaudited)        (Audited)
                                                    June 30, 1998    December 31, 1997
                                                    -------------    -----------------
<S>                                                  <C>              <C> 
CURRENT ASSETS:
   Cash and cash equivalents                         $   5,731,972    $   5,126,114
   Accounts receivable:  Trade, net of
       allowance for doubtful accounts                  14,878,931       17,294,128
   Accrued interest and other                              768,353          793,369
   Contract receivables - current                        4,332,271        2,167,265
   Federal income tax receivable                           301,156               --
   Deferred federal income taxes                           138,592           87,876
   Prepaid expenses and other                            1,195,339        1,528,931
                                                     -------------    -------------

   Total Current Assets                                 27,346,614       26,997,683
                                                     -------------    -------------

PROPERTY & EQUIPMENT:
   Office furniture & equipment                          2,184,385        2,015,749
   Machinery & service equipment                        31,048,415       35,286,844
   Leasehold improvements                                1,639,898          273,968
   Less: Accumulated depreciation and amortization     (10,214,699)      (8,876,887)
                                                     -------------    -------------

      TOTAL PROPERTY & EQUIPMENT                        24,657,999       28,699,674
                                                     -------------    -------------

OTHER ASSETS:
   Deposits and other assets                             3,026,772        2,999,701
   Deferred acquisition costs                                3,671          122,536
   Contract receivables - long-term                     13,065,823       10,058,674
   Equity in unconsolidated partnership                  1,428,069               --
   Goodwill                                             41,055,505       38,793,903
   Noncompete agreements                                 3,450,270        3,428,270
   Less: Accumulated amortization                       (4,529,405)      (3,240,266)
                                                     -------------    -------------

   Total Other Assets                                   57,500,705       52,156,818
                                                     -------------    -------------


TOTAL ASSETS                                         $ 109,505,318    $ 107,854,175
                                                     =============    =============

</TABLE>
                                                                               2
<PAGE>
 
                       LIABILITIES & STOCKHOLDERS' EQUITY

<TABLE>
<CAPTION>
                                                     (Unaudited)       (Audited)
                                                    June 30, 1998  December 31, 1997
                                                    -------------  -----------------
<S>                                                 <C>              <C> 
CURRENT LIABILITIES:
   Accounts payable                                 $   1,840,628    $   2,626,978
   Accrued liabilities                                  3,349,080        3,774,969
   Current lease obligations                            4,327,492        4,663,279
   Current portion of long-term debt                    1,530,522        1,485,113
   Deferred liability                                          --        2,362,554
   Notes payable                                               --        1,500,000
   Current income taxes                                        --        1,363,543
                                                    -------------    -------------

Total Current Liabilities                              11,047,722       17,776,436

Long-term lease obligations                             8,953,397       10,348,496
Long-term debt                                          6,582,756        4,961,570
Senior subordinated debt                               20,000,000       20,000,000
Deferred rent                                             145,880          149,253
Other liabilities                                       5,253,769        2,647,277
Deferred income taxes                                   2,018,480        2,018,480
                                                    -------------    -------------

   Total Liabilities                                   54,002,004       57,901,512
                                                    -------------    -------------

Stockholders' Equity:
   Common stock, $.001 par value, authorized
     15,000,000 shares; issued 11,637,492 and
     10,718,867 shares and outstanding 11,404,233
     and 10,485,608 shares at June 30, 1998 and
     December 31, 1997, respectively                       11,637           10,719
   Preferred stock, $.001 par value; authorized
     3,000,000 shares; issued and outstanding
     695,593 shares at June 30, 1998 and at
     December 31, 1997; $4,869,154
     liquidation preference                                   696              696
   Additional paid-in capital                          48,369,215       42,151,656
   Retained earnings                                    7,332,917        8,000,743
   Stockholder receivable                                (103,500)        (103,500)
   Treasury stock (at cost)                              (107,651)        (107,651)
                                                    -------------    -------------

Total Stockholders' Equity                             55,503,314       49,952,663
                                                    -------------    -------------

TOTAL LIABILITIES &
STOCKHOLDERS' EQUITY                                $ 109,505,318    $ 107,854,175
                                                    =============    =============
</TABLE>
                                                                               3
<PAGE>
 
                 DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES
                Consolidated Statements of Operations (Unaudited)

<TABLE>
<CAPTION>
                                                Six Months Ended June 30,
                                               ----------------------------
                                                   1998            1997
                                               ------------    ------------
<S>                                            <C>             <C> 
REVENUES:
   Gross revenues                              $ 29,568,383    $ 23,042,652
                                               ------------    ------------

EXPENSES:
   General & administrative                       1,680,392         986,890
   Salaries & employee benefits                  13,024,569      10,493,117
   Legal & professional                             193,815         113,154
   Rent & utilities                                 755,296         515,108
   Taxes & insurance                                593,475         215,986
   Technical operating expenses                   3,129,276       3,062,121
   Provision for doubtful accounts                  257,775         275,519
   Depreciation and amortization                  3,494,443       2,590,231
   Restructuring and impairment expense           5,518,489              --
                                               ------------    ------------
     TOTAL OPERATING EXPENSES                    28,647,530      18,252,126
                                               ------------    ------------

   Equity in earnings of
      unconsolidated partnership                    179,843              --
                                               ------------    ------------

INCOME FROM OPERATIONS                            1,100,696       4,790,526

OTHER INCOME (EXPENSE):
   Other income                                      92,292         224,333
   Interest expense                              (2,175,206)     (1,404,206)
                                               ------------    ------------
     TOTAL OTHER INCOME (EXPENSE)                (2,082,914)     (1,179,873)
                                               ------------    ------------

INCOME (LOSS) BEFORE INCOME TAXES                  (982,218)      3,610,653

PROVISION (BENEFIT) FOR FEDERAL INCOME TAXES       (314,392)      1,227,622
                                               ------------    ------------

NET INCOME (LOSS)                              $   (667,826)   $  2,383,031
                                               ============    ============

EARNINGS (LOSS) PER SHARE :
   Basic                                       $      (0.19)   $       0.26
                                               ============    ============
   Diluted                                     $         --    $       0.22
                                               ============    ============

Weighted average common shares outstanding:
   Basic                                         11,056,601       9,178,834
                                               ============    ============
   Diluted                                       12,605,891      11,044,017
                                               ============    ============

</TABLE>
                                                                               4
<PAGE>
 
                 DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES
                Consolidated Statements of Operations (Unaudited)
<TABLE>
<CAPTION>

                                               Three Months Ended June 30,
                                               ----------------------------
                                                   1998            1997
                                               ------------    ------------
<S>                                            <C>             <C>  
REVENUES:
   Gross revenues                              $ 15,153,993    $ 12,532,676
                                               ------------    ------------

EXPENSES:
   General & administrative                         870,147         439,616
   Salaries & employee benefits                   6,533,712       5,444,905
   Legal & professional                             133,725          62,147
   Rent & utilities                                 387,388         315,836
   Taxes & insurance                                322,403         109,725
   Technical operating expenses                   1,818,406       1,632,034
   Provision for doubtful accounts                  113,631         173,778
   Depreciation and amortization                  1,570,266       1,428,099
   Restructuring and impairment expense           5,518,489              --
                                               ------------    ------------
     TOTAL OPERATING EXPENSES                    17,268,167       9,606,140
                                               ------------    ------------

   Equity in earnings of
      unconsolidated partnership                     94,168              --
                                               ------------    ------------

INCOME (LOSS) FROM OPERATIONS                    (2,020,006)      2,926,536

OTHER INCOME (EXPENSE):
   Other income                                      39,159         150,455
   Interest expense                              (1,160,868)     (1,012,750)
                                               ------------    ------------
     TOTAL OTHER INCOME (EXPENSE)                (1,121,709)       (862,295)
                                               ------------    ------------

INCOME (LOSS) BEFORE INCOME TAXES                (3,141,715)      2,064,241

PROVISION (BENEFIT) FOR FEDERAL INCOME TAXES     (1,005,430)        701,842
                                               ------------    ------------

NET INCOME (LOSS)                              $ (2,136,285)   $  1,362,399
                                               ============    ============

EARNINGS (LOSS) PER SHARE :
   Basic                                       $      (0.19)   $       0.14
                                               ============    ============
   Diluted                                     $         --    $       0.12
                                               ============    ============

Weighted average common shares outstanding:
   Basic                                         10,761,768       9,647,231
                                               ============    ============
   Diluted                                       12,366,956      11,512,414
                                               ============    ============
</TABLE>
                                                                               5
<PAGE>
 
                 DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES
           Consolidated Statement of Stockholders' Equity (Unaudited)
                     For the Six Months Ended June 30, 1998
<TABLE>
<CAPTION>
                                                              Additional
                                     Common       Preferred      Paid-in      Retained     Stockholder     Treasury
                                      Stock         Stock        Capital      Earnings     Receivable        Stock          Total
                                    -----------------------------------------------------------------------------------------------
<S>                                 <C>             <C>       <C>           <C>           <C>             <C>           <C>   
Balance, January 1, 1998            $10,719         $696      $42,151,656    $8,000,743     ($103,500)     ($107,651)   $49,952,663

Net income                                                                     (667,826)                                   (667,826)

Warrants exercised                      251                     2,189,480                                                 2,189,731

Conversion of deferred liability        200                     1,499,800                                                 1,500,000

Shares issued in connection
with the following acquisitions:
    ICM                                  36                       289,178                                                   289,214
    Sonomed                              15                       169,985                                                   170,000
    Chula Vista Partnership             127                     1,606,404                                                 1,606,531
    DRMU                                 13                       124,987                                                   125,000

Stock options exercised                 276                       337,725                                                   338,001

                                    -----------------------------------------------------------------------------------------------
Balance, June 30, 1998              $11,637         $696      $48,369,215    $7,332,917     ($103,500)     ($107,651)   $55,503,314
                                    ===============================================================================================
</TABLE>
                                                                               6
<PAGE>
 
                 DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES
                Consolidated Statements of Cash Flows (Unaudited)
<TABLE>
<CAPTION>
                                                         Six Months Ended June 30,
                                                       ----------------------------
                                                            1998            1997
                                                       ------------    ------------
<S>                                                    <C>             <C>  
CASH FLOWS FROM OPERATIONS:
    Net income (loss)                                  $   (667,826)   $  2,383,031
Adjustments to Reconcile Net Income to
    Net Cash Provided by Operations:
    Depreciation and amortization                         3,494,443       2,590,231
    Deferred federal income taxes                           (50,716)             --
    Decrease in deferred rent expense                        (3,373)         (2,799)
    Foreign currency translation adjustments                     --           2,333
    Restructuring and impairment expense                  4,593,808              --
    (Increase) decrease in trade receivable               1,601,800      (3,904,982)
    Increase in contracts receivable                     (5,172,155)     (1,034,505)
    Increase in prepaid expenses                           (237,110)       (624,779)
    Increase in other assets                               (128,336)     (1,775,515)
    Increase in equity in unconsolidated partnership        (55,493)             --
    Increase (decrease) in accounts payable                (829,040)        127,294
    Increase (decrease) in accrued liabilities             (427,993)        108,334
    Increase (decrease) in income taxes payable          (1,664,699)      1,227,622
    Increase in other liabilities                         1,722,124       1,623,556
                                                       ------------    ------------
NET CASH PROVIDED BY OPERATIONS                           2,175,434         719,821
                                                       ------------    ------------

CASH FLOWS USED IN INVESTING ACTIVITIES:
    Decrease in cash investments                                 --       5,000,000
    Cash payments for the purchase of property             (990,254)       (910,015)
    Acquisition of businesses net of cash acquired          (11,352)    (14,357,147)
    Additional subsidiary acquisition costs                (175,166)       (828,667)
    (Increase) decrease in other receivables                (30,901)         92,175
    (Increase) decrease in employee receivables              58,482        (119,209)
    Increase in stockholder receivable                       (2,565)         (3,105)
                                                       ------------    ------------
    NET CASH  (USED IN) PROVIDED BY INVESTING
       ACTIVITIES                                        (1,151,756)    (11,125,968)
                                                       ------------    ------------

CASH FLOWS FROM FINANCING ACTIVITIES:
    Proceeds from issuance of common stock                2,527,732       8,665,394
    Proceeds from issuance of sr. subordinated debt              --      20,000,000
    Deferred financing costs                                     --        (745,060)
    Net borrowings (payments) on line of credit             137,446      (1,572,000)
    Principal payments on long-term debt                 (1,047,512)     (4,712,664)
    Principal payments on capital lease obligations      (2,035,486)     (1,367,552)
                                                       ------------    ------------
NET CASH  (USED IN) PROVIDED BY FINANCING
    ACTIVITIES                                             (417,820)     20,268,118
                                                       ------------    ------------

NET INCREASE IN CASH                                        605,858       9,861,971
CASH AND CASH EQUIVALENTS BALANCE,
    BEGINNING OF PERIOD                                   5,126,114         229,547
                                                       ------------    ------------
CASH AND CASH EQUIVALENTS BALANCE,
    END OF PERIOD                                      $  5,731,972    $ 10,091,518
                                                       ============    ============
</TABLE>
                                                                               7
<PAGE>
 
                 DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES
                Consolidated Statements of Cash Flows (Unaudited)
<TABLE>
<CAPTION>
                                                       Three Months Ended June 30,
                                                       ------------    ------------
                                                            1998            1997
                                                       ------------    ------------
<S>                                                    <C>             <C> 
CASH FLOWS FROM OPERATIONS:
    Net income (loss)                                  $ (2,136,285)   $  1,362,399
Adjustments to Reconcile Net Income to
    Net Cash Provided by Operations:
    Depreciation and amortization                         1,570,265       1,428,099
    Deferred federal income taxes                           (50,716)             --
    Decrease in deferred rent expense                        (1,687)         (1,687)
    Gain on disposal of assets                                  186              --
    Foreign currency translation adjustments                     --             (17)
    Restructuring and impairment expense                  4,593,808              --
    (Increase) decrease in trade receivable                 346,922      (3,639,038)
    Increase in contracts receivable                     (4,186,671)       (623,072)
    (Increase) decrease in prepaid expenses                (329,869)         56,634
    (Increase)  decrease in other assets                    315,671        (669,463)
    Decrease in equity in unconsolidated partnership         30,182              --
    Increase (decrease) in accounts payable                 405,263         (37,546)
    Increase (decrease) in accrued liabilities            1,397,603      (4,980,004)
    Increase (decrease) in income taxes payable          (1,955,738)        701,842
    Increase in other liabilities                         1,626,901       1,008,786
                                                       ------------    ------------
NET CASH PROVIDED BY (USED IN) OPERATIONS                 1,625,835      (5,393,067)
                                                       ------------    ------------

CASH FLOWS USED IN INVESTING ACTIVITIES:
    Cash payments for the purchase of property             (473,346)       (560,229)
    Acquisition of businesses net of cash acquired           (6,880)             --
    Additional subsidiary acquisition costs                 (83,425)       (679,715)
    Increase in other receivables                           (68,116)        (45,681)
    Increase in employee receivables                         (6,476)        (80,092)
    Increase in stockholder receivable                         (472)         (1,553)
                                                       ------------    ------------
    NET CASH  (USED IN) PROVIDED BY INVESTING
       ACTIVITIES                                          (638,715)     (1,367,270)
                                                       ------------    ------------

CASH FLOWS FROM FINANCING ACTIVITIES:
    Proceeds from issuance of common stock                  338,001           2,825
    Net payments on line of credit                               --      (2,287,000)
    Proceeds from issuance of sr. subordinated debt              --      20,000,000
    Deferred finance costs                                       --        (745,060)
    Principal payments on long-term debt                   (423,285)     (8,110,504)
    Principal payments on capital lease obligations        (833,878)       (876,397)
                                                       ------------    ------------
NET CASH  (USED IN) PROVIDED BY FINANCING
    ACTIVITIES                                             (919,162)      7,983,864
                                                       ------------    ------------

NET INCREASE IN CASH                                         67,958       1,223,527
CASH AND CASH EQUIVALENTS BALANCE,
    BEGINNING OF PERIOD                                   5,664,014       8,867,991
                                                       ------------    ------------
CASH AND CASH EQUIVALENTS BALANCE,
    END OF PERIOD                                      $  5,731,972    $ 10,091,518
                                                       ============    ============
</TABLE>
                                                                               8
<PAGE>
 
                DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES


NOTE 1. GENERAL


The unaudited consolidated financial statements included herein for Diagnostic
Health Services, Inc. and subsidiaries ("DHS" or the "Company") have been
prepared pursuant to the rules and regulations of the Securities and Exchange
Commission and include all adjustments which are, in the opinion of management,
necessary for a fair presentation. Certain information and footnote disclosures
required by generally accepted accounting principles have been condensed or
omitted pursuant to such rules and regulations. Certain 1997 balances have been
reclassified to conform to the 1998 presentation.  These financial statements
include the accounts of the Company and its subsidiaries, which are set forth in
the following table.


                       [ORGANIZATION CHART APPEARS HERE]


In addition, DHS and DHSMS have two inactive wholly-owned subsidiaries,
Diagnostic Health Services de Mexico, S.A. de  C.V and HomeCare International,
Inc.

The Company is a leading outsource provider of medical services to hospitals,
physicians' offices and other healthcare facilities in the Midwest, West and
South Central United States.  DHS primarily provides radiology and cardiology
diagnostic services and equipment, as well as departmental management services,
to healthcare facilities on an in-house and shared basis.

                                                                               9
<PAGE>
 
                DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES



NOTE 2. WARRANTS


On February 14, 1997, the SEC declared effective the Company's Form S-3
Registration Statement relating to an offering of 1,791,150 Warrant Shares,
which are issuable upon exercise, at prices ranging from $5.48 to $7.50 per
share, of (i) 1,375,000 Redeemable Common Stock Purchase Warrants (the "Public
Warrants") issued in connection with the company's 1993 initial public offering
(the "IPO"), (ii) 316,150 underwriter warrants issued in connection with the IPO
(the "Underwriters' Warrants"), and (iii) 100,000 warrants issued in connection
with DHS's equity private placement in April 1996 (the "Bridge Warrants") of
which 2,500 had been exercised prior to the effectiveness of the registration.
On February 18, 1997, the Company called all of the Public Warrants for
redemption.


On April 17, 1997, the Company issued 60,000 common stock purchase warrants to
Prudential Insurance Company of America in connection with the sale of
$20,000,000 in principal amount of senior subordinated promissory notes.  As of
June 30, 1998, no warrants under this agreement had been exercised.  At June 30,
1998, stock warrants outstanding amounted to 108,514 at exercise prices ranging
from $5.48 to $12.25 per common share.



NOTE 3. ACQUISITIONS


In January 1997, the Company, through its Heart Institute of Tulsa, Inc.
subsidiary ("HIT"), acquired Ultrasound Diagnostic Services, Ltd. ("UDS"), an
Arizona-based provider of non-invasive diagnostic ultrasound testing services.
The consideration paid for UDS consisted of 86,520 shares of DHS's common stock
and a $400,000 cash payment to the former stockholders of UDS.


On March 21, 1997 (effective as of March 1, 1997), the Company, through its
second-tier wholly-owned subsidiary, SoCal Diagnostic Services, Inc. ("SoCal"),
purchased substantially all of the operating assets (exclusive of cash) of the
ultrasound division of Diagnostic Imaging Services, Inc. ("DIS"), which business
consists primarily of providing hospital-based and mobile non-invasive
ultrasound and other diagnostic testing services to the acute and post-acute
care industry and primary care physicians in the greater Los Angeles and San
Diego, California metropolitan areas and in counties adjacent thereto.  The
purchase included $6,519,475 of various assets (including goodwill), including
approximately $2,579,158 of equipment, furniture and fixtures, $8,590 of
security deposits, and $3,931,721 of goodwill.  The purchase price paid to DIS
was $6,519,475 (subject to post-closing adjustment), which was paid entirely in
cash.  In addition, SoCal assumed capital lease obligations, financing
agreements and other commitments in respect of fixed assets in the aggregate
principal amount of $1,519,261.  The Company also agreed that it would,
subsequent to the closing, in the event of certain business developments, issue
certain common stock purchase warrants to DIS, and the Company and SoCal
obtained a 10-year non-competition agreement from DIS in consideration of the
cash sum of $1,000,000 paid to DIS and its ultimate corporate parent at the time
of closing.


On April 17,1997 (effective March 1, 1997), SoCal acquired all of the issued and
outstanding capital stock of DIS (which, together with its wholly-owned
subsidiaries, Diagnostic Imaging Services, Inc. I and Santa Monica Imaging
Center Limited Partnership, are collectively referred to herein as the "DIS
Companies"), whose business consists primarily of the ownership and operation of
four (4) hospital-based magnetic resonance imaging (MRI) centers located in
southern California.  The purchase price for the stock of DIS was $9,083,865
(subject to post-closing adjustment), of which $7,583,865 was paid in cash, and
the remaining $1,500,000 was payable either in cash or (at the seller's
option) in common stock of the Company (valued at $7.615 per share) in three
equal annual installments of $500,000 each on April 17 of each of 1998, 1999 and
2000. On April 8, 1998, all three of the annual installments were paid by the
issuance of a total of 200,000 DHS common shares. In addition, the DIS Companies
were acquired subject to capital lease obligations, financing agreements and
other commitments in respect of fixed assets of the business in the aggregate
principal amount of $6,046,755.

                                                                              10
<PAGE>
 
                DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES


NOTE 3 - ACQUISITIONS (Continued)


The funds utilized to pay the cash portion of the purchase price in the second
DIS transaction were obtained through the simultaneous issuance and sale by the
Company to The Prudential Insurance Company of America ("Prudential") of
$20,000,000 in principal amount of senior subordinated promissory notes of the
Company (the "Notes").  The Notes bear interest at a fixed rate of 10.5% per
annum (payable quarterly), and mature as to principal in equal one-third
installments on April 17 of each of 2003, 2004 and 2005.  The Notes may be
prepaid at the Company's option (subject to certain "make-whole" prepayment
premiums in respect of the remaining stated term of the Notes), and the Company
may be required (at the Noteholders' option) to purchase the Notes in the event
of a change in control of the Company.  In addition to application to the
payment of the cash portion of the purchase price for the stock of DIS, the net
proceeds from the issuance and sale of the Notes were utilized to repay
$5,500,000 in borrowings obtained under the Company's senior credit facilities
with Texas Commerce Bank National Association (the "Bank") (utilized in
connection with the Company's March 1997 acquisition of the ultrasound business
of DIS), and for short-term investments pending other use of such net proceeds.


In connection with the issuance of the Notes, the Company paid Prudential a fee
in the amount of $54,590, and issued to Prudential a five-year redeemable common
stock purchase warrant (with piggyback registration rights) for 60,000 shares of
common stock of the Company at an exercise price of $12.25 per share.  In
addition, the Company paid to Prudential Securities, Inc. (as placement agent) a
fee in the amount of $690,470.


Effective as of October 17, 1997, HIT acquired CardioVision, Inc. ("CVI"), a Las
Vegas, Nevada-based provider of non-invasive diagnostic ultrasound testing
services.  The consideration paid for CVI consisted of 29,728 shares of DHS
common stock and a $340,000 cash payment to the former stockholders of CVI.


On November 19, 1997, SoCal acquired the assets and business of Valley
Diagnostic Services ("Valley"), a proprietorship providing mobile diagnostic
ultrasound testing services in southern California.  The consideration paid by
SoCal in this transaction consisted of 13,309 shares of DHS common stock and a
$100,000 cash payment to the former owner of Valley.


Effective as of December 2, 1997, HIT acquired Medical Diagnostic Imaging, Inc.
("MDII"), a Huntsville, Alabama-based provider of non-invasive diagnostic
ultrasound testing services.  The consideration for MDII consisted of 100,524
shares of DHS common stock and a $900,000 cash payment to the former
stockholders of MDII.


Effective as of December 9, 1997, SoCal acquired Mobil Diagnostics, Inc.
("Mobil"), a southern California-based provider of mobile non-invasive
diagnostic ultrasound testing services.  The consideration for Mobil consisted
of 39,720 shares of DHS common stock and a cash payment of $150,000 to the
former stockholder of Mobil.  In addition, SoCal agreed to cause DHS to issue
certain additional shares of DHS common stock to the former stockholder within
15 days after the first anniversary of the closing date, and to make cash
payments to the former stockholder of $50,000 and $28,000, respectively, within
15 days after the first and second anniversaries of the closing date.

                                                                              11
<PAGE>
 
                DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES



NOTE 3 - ACQUISITIONS (Continued)


Effective as of December 30, 1997, the Company's second-tier wholly-owned
subsidiary Mobile Diagnostic Systems, Inc. ("MDS") acquired Medical Ancillary
Services, Inc. ("MASI"), a Fort Worth-based provider of non-invasive diagnostic
ultrasound and nuclear imaging testing services.  The consideration paid for
MASI consisted of 53,582 shares of DHS common stock and a cash payment of
$384,000 to the former stockholders of MASI.


Effective as of January 30, 1998, MDS acquired International Cardiac Monitoring,
Inc. ("ICM"), a Houston-based provider of medical testing and monitoring
services.  The consideration paid for ICM consisted of 26,946 shares of DHS
common stock.


On February 26, 1998, SoCal acquired from Diagnostic Imaging Services, Inc., a
Delaware corporation ("DIS-Delaware"), one-half of the outstanding general
partnership interests and one-half of the outstanding limited partnership
interests in Scripps Chula Vista Imaging Center, L.P. ("SCVIC"), whose business
consists of the operations of a magnetic resonance imaging center on the campus
of Scripps Hospital in Chula Vista, California.  The consideration paid for such
partnership interests consisted of 127,250 shares of DHS common stock, which, 
together with certain additional shares issued in satisfaction of the 
post-closing payment obligations under the April 17, 1997 transaction relating 
to DIS, were subsequently registered pursuant to a registration statement on 
Form S-3.


Effective as of March 2, 1998, the Company acquired Sonomed, Inc. ("Sonomed"), a
Birmingham, Alabama-based provider of non-invasive diagnostic ultrasound testing
services.  The consideration paid for Sonomed consisted of 14,571 shares of DHS
common stock and a cash payment of $30,000 to the former stockholder of Sonomed.


On May 11, 1998, the Company acquired Diagnostic Radiology Mobile Ultrasound,
Inc. ("DRMU"), an Edmond, Oklahoma-based provider of non-invasive diagnostic
ultrasound testing services.  The consideration paid to the former owners of
DRMU consisted of 13,484 shares of DHS common stock.


On May 22, 1998, the Company purchased the assets of the ultrasound business
segment of Advanced Respiratory Care Services, Inc. ("ARCS"), which provides
non-invasive diagnostic ultrasound testing services in Abilene, Texas and
Nashville, Tennessee.  The consideration paid to ARCS consisted of a cash
payment of $13,556.


In May 1998, the Company announced the execution of a letter of intent to
acquire the southwestern operations of WorldCare Imaging, Inc. ("WCI"), for
which closing was subject to the completion of the Company's due diligence
review and definitive documents.  Upon conclusion of due diligence, the Company
elected not to go forward with the transaction.

                                                                              12
<PAGE>
 
                DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES



NOTE 4. SUPPLEMENTAL CASH FLOW INFORMATION


Cash paid for the six months ended June 30, 1998 and 1997 for interest was
approximately $1,748,000 and $977,000, respectively.


The Company paid $400,000 in cash for income tax payments for the six months
ended June 30, 1998.  No cash payments for income taxes were made for the six
months ended June 30, 1997.


The Company acquired assets in exchange for the issuance of common stock and the
assumption of various liabilities in connection with the acquired businesses.
Cash and noncash investing and financing activities related to the acquisitions
through June 30, consisted of the following:

                                   1998           1997
                              ------------    ------------
        
        Assets acquired       $    960,768    $ 24,536,692
        Liabilities assumed       (332,997)     (9,343,352)
        Common stock issued       (584,214)       (690,000)
                              ------------    ------------
        Total cash paid             43,577      14,503,340
        Fees and expenses                -               -
        Less cash acquired         (32,205)       (146,192)
                              ------------    ------------
        Net cash paid         $     11,352    $ 14,357,148
                              ============    ============


The Company also recognized assets and obligations under noncompete agreements
of approximately $22,000 and approximately $2,160,000 for the six months ended
June 30, 1998 and 1997, respectively.

The Company acquired property and equipment under capital leases, excluding
leases in connection with business acquisitions, of approximately $212,000 and
approximately $2,866,000 for the six months ended June 30, 1998 and 1997,
respectively.

During the six months ended June 30, 1998, the Company made an adjustment of
approximately $1,753,000 to goodwill, related with the SoCal and ICM
acquisitions, due to the revaluation of property and equipment acquired. No
material adjustments to goodwill were made during the six months ended June 30,
1997.

During the six months ended June 30, 1998, the Company converted $1,500,000 of
deferred liabilities related to the DIS acquisition by the issuance of 200,000
DHS common shares.  No conversion of liabilities to DHS common shares occurred
during the six months ended June 30, 1997.


NOTE 5. RESTRUCTURING AND IMPAIRMENT OF ASSETS

During the second quarter of 1998, the Company commenced a restructuring of
certain of its operations and recorded a restructuring and impairment charge of
approximately $5,518,000.  The restructuring and impairment charge relates to a
reduction in staff ($684,000), the write-down of partially impaired assets
(principally acquired equipment) to their fair market value ($3,246,000), the
write-off of accounts receivable acquired through acquisition ($982,000); and
divisional office closings and other ($606,000).  After the related income tax
benefit of approximately $1,766,000, this charge reduced fiscal year 1998
earnings by approximately $3,752,000.


                                                                              13
<PAGE>
 
                DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES



Item 2.  Management's Discussion and Analysis or Plan of Operations


RESULTS OF OPERATIONS


The following table sets forth operating data of the Company as a percentage of
net sales for the periods indicated:

                                                          Three Months Ended
                                                                June 30,
                                                           -----------------
                                                            1998      1997
                                                           ------    -------
        Gross revenues                                      100.0 %    100.0 %
        Operating expenses                                  113.9      76.6
        Equity in earnings of unconsolidated partnership      0.6       -
                                                           ------    ------
        Income (loss) from operations                       (13.3)     23.4
        Interest expense                                      7.7       8.1
        Other expense (income)                               (0.3)     (1.2)
                                                           ------    ------
        Income (loss) before provision for income taxes     (20.7)     16.5
        Provision (benefit) for federal income taxes         (6.6)      5.6
                                                           ------    ------
        Net income (loss)                                   (14.1)%    10.9 %
                                                           ======    ======


Three Months Ended June 30, 1998 Compared with Three Months Ended June 30, 1997


Gross revenues increased by 20.9% to approximately $15,154,000 for the three
months ended June 30, 1998 from approximately $12,533,000 for the three months
ended June 30, 1997.  Excluding revenues attributable to acquired businesses,
gross revenues increased by 8.3% to approximately $13,576,000 for the three
months ended June 30, 1998 from approximately $12,533,000 for the three months
ended June 30, 1997.


Operating expenses increased by 79.7% to approximately $17,268,000 for the three
months ended June 30, 1998 from approximately $9,606,000 for the three months
ended June 30, 1997, due primarily to a restructuring and impairment charge of
approximately $5,518,000, and to the Company's expanded operations through its
acquisitions.  The restructuring and impairment charge relates to a reduction in
staff ($684,000), the write-down of partially impaired assets (principally
acquired equipment) to their fair market value ($3,246,000), the write-off of
accounts receivable acquired through acquisition ($982,000); and divisional
office closings and other ($606,000).  As a percentage of gross revenues, total
operating expenses increased to 113.9% for the three months ended June 30, 1998
from 76.6% for the three months ended June 30, 1997.  This increase is
attributable primarily to the restructuring and impairment charge and to an
increase in general and administrative expenses associated with additional
travel expenses as a direct result of an increase in sales personnel in the last
quarter of 1997.  Operating expenses, excluding the restructuring and impairment
expense, increased by 22.3% to approximately 11,750,000 for the three months
ended June 30, 1998.  As a percentage of gross revenues, operating expenses,
excluding the restructuring and impairment expense, increased to 77.5% for the
three months ended June 30, 1998.


Income from operations decreased by 169.0% to a loss of approximately $2,020,000
for the three months ended June 30, 1998 from income of approximately $2,926,000
for the three months ended June 30, 1997. This decrease is due primarily to the
restructuring and impairment expense. As a percentage of gross revenues, income
from operations decreased to (13.3)% for the three months ended June 30, 1998
from 23.3% in the comparable prior year period. Income from operations,
excluding the restructuring and impairment expense, increased by 19.5% to
approximately 3,498,000 for the three months ended June 30, 1998. As a
percentage of gross revenues, income from operations, excluding the
restructuring and impairment expense, decreased to 23.1% for the three months
ended June 30, 1998.

                                                                              14
<PAGE>
 
                DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES



Interest expense increased by 14.6% to approximately $1,161,000 for the three
months ended June 30, 1998 from approximately $1,013,000 for the three months
ended June 30, 1997. This increase was attributable primarily to the $20,000,000
in subordinated debt obligations incurred in connection with the Company's 1997
acquisitions from DIS, and new debt obligations acquired in connection with
those and other business acquisitions.  As a percentage of gross revenues,
interest expense decreased to 7.7% for the three months ended June 30, 1998 from
8.1% for the three months ended June 30, 1997.


Other income is primarily gain realized upon disposition of equipment at the end
of its lease term, and interest earned on liquid investments.


Net income decreased by 256.8% to a net loss of approximately $2,136,000 for the
three months ended June 30, 1998 from net income of approximately $1,362,000 for
the comparable prior year period. This decrease is due primarily to the
restructuring and impairment expense, net of the related income tax benefit. Net
income, excluding the restructuring and impairment expense (net of the related
tax effect) of approximately $3,753,000, increased by 18.7% to approximately
$1,617,000.


Six Months Ended June 30, 1998 Compared with Six Months Ended June 30, 1997


The following table sets forth operating data of the Company as a percentage of
net sales for the periods indicated:

                                                            Six Months Ended
                                                                 June 30,
                                                            ------------------
                                                             1998       1997
                                                            ------     ------
        Gross revenues                                      100.0 %    100.0 %
        Operating expenses                                   96.9       79.2
        Equity in earnings of unconsolidated partnership      0.6        -
                                                            ------     ------
        Income from operations                                3.7       20.8
        Interest expense                                      7.3        6.1
        Other expense (income)                               (0.3)      (0.9)
                                                            ------     ------
        Income (loss) before provision for income taxes      (3.3)      15.6
        Provision (benefit) for federal income taxes         (1.1)       5.3
                                                            ------     ------
        Net income (loss)                                    (2.2)%     10.3 %
                                                            ======     ======


Gross revenues increased by 28.3% to approximately $29,568,000 for the six
months ended June 30, 1998 from approximately $23,043,000 for the six months
ended June 30, 1997.  Excluding revenues attributable to acquired businesses,
gross revenues increased by 8.0% to approximately $24,884,000 for the six months
ended June 30, 1998 from approximately $23,043,000 for the six months ended June
30, 1997.


Operating expenses increased by 56.9% to approximately $28,648,000 for the six
months ended June 30, 1998 from approximately $18,252,000 for the six months
ended June 30, 1997, due primarily to a restructuring and impairment charge of
approximately $5,518,000, and to the Company's expanded operations through its
acquisitions.  The restructuring and impairment charge relates to a reduction in
staff ($684,000), the write-down of partially impaired assets (principally
acquired equipment) to their fair market value ($3,246,000), the write-off of
accounts receivable acquired through acquisition ($982,000); and divisional
office closings and other ($606,000).  As a percentage of gross revenues, total
operating expenses increased to 96.9% for the six months ended June 30, 1998
from 79.2% for the six months ended June 30, 1997.  This increase is
attributable primarily to the restructuring and impairment expense and by
additional general and administrative expenses in the second quarter as
described above, offset in part by the efficient utilization of personnel and
resources, and absorption of fixed costs over a broader revenue base, resulting
from the Company's integration of acquired businesses, and by an increase in the
number of in-house contracts for the provision of radiology and cardiology
services.  These contracts typically generate higher profit margins than the
other services provided by the Company.


<PAGE>
 
                DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES



Income from operations decreased by 77.0% to approximately $1,101,000 for the
six months ended June 30, 1998 from approximately $4,791,000 for the six months
ended June 30, 1997. This decrease is due primarily to the restructuring and 
impairment expense. As a percentage of gross revenues, income from operations
decreased to 3.7% for the six months ended June 30, 1998 from 20.8% in the
comparable prior year period. This decrease is due primarily to the
restructuring and impairment expense. Income from operations, excluding the
restructuring and impairment expense, increased by 38.2% to approximately
6,619,000 for the six months ended June 30, 1998. As a percentage of gross
revenues, income from operations, excluding the restructuring and impairment
expense, increased to 22.4% for the six months ended June 30, 1998.


Interest expense increased by 54.9% to approximately $2,175,000 for the six
months ended June 30, 1998 from approximately $1,404,000 for the six months
ended June 30, 1997. This increase was attributable primarily to the $20,000,000
in subordinated debt obligations incurred in connection with the Company's 1997
acquisitions from DIS, and new debt obligations acquired in connection with
those and other business acquisitions.  As a percentage of gross revenues,
interest expense increased to 7.3% for the six months ended June 30, 1998 from
6.1% for the six months ended June 30, 1997.


Other income is primarily gain realized upon disposition of equipment at the end
of its lease term, and interest earned on liquid investments.


Net income decreased by 128.0% to a loss of approximately $668,000 for the six
months ended June 30, 1998 from income of approximately $2,383,000 for the
comparable prior year period. This decrease is due primarily to the
restructuring and impairment expense, net of the related income tax benefit. Net
income, excluding the restructuring and impairment expense (net of the related
tax effect) of approximately $3,753,000, increased by 29.4% to approximately
$3,085,000.

                                                                              16
<PAGE>
 
                DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES



LIQUIDITY AND CAPITAL RESOURCES


In May 1998, the Company and its subsidiaries entered in to an amendment of the
revolving credit and term loan facility with Chase, providing for up to
$2,500,000 in available revolving credit (or, if less, 75% of the Company's and
its subsidiaries' eligible accounts receivable from time to time), and an
acquisition term loan facility of up to $17,500,000 in maximum principal amount.
Pursuant to the amendment, the Company rolled over the outstanding borrowings of
$2,500,000 on the revolving credit facility into the term loan facility. At June
30, 1998, the Company had no outstanding borrowings under the revolving credit
facility and $5,815,039 outstanding borrowings under the term loan facility.
These loans bear interest at varying rates, depending on the Company's relative
leverage from time to time. The Company's right to make additional borrowings
under the acquisition term loan facility will terminate on December 31, 1998. In
June 1998, the Company and its subsidiaries entered into a further amendment of
the revolving credit and term loan facility with Chase, whereby the revolving
credit facility was extended and will currently expire on June 30, 1999. At June
30, 1998, the Company had approximately $5,732,000 in cash and cash equivalents.
In connection with the amendment, Chase waived certain prior financial covenant
defaults.


On April 17, 1998, the Company filed an S-3 Registration Statement (which was
declared effective on April 24) of 501,163 shares of common stock in connection
with the proposed WCI transaction, the SCVIC transaction described in Note 3,
and the debt conversion associated with the DIS-Delaware transaction, as
described in the following paragraph.  Of the 501,163 shares registered, 327,250
of these shares have been issued to DIS-Delaware, and the remaining 173,913
shares are being held in reserve. 


In March 1998, DIS-Delaware agreed to convert into DHS common stock certain
deferred liabilities owed in accordance with the DIS transactions described in
Note 3; therefore, $1,500,000 of deferred liabilities were recorded as current
liabilities at March 31, 1998 and December 31, 1997.  On April 8, 1998, the
deferred liabilities were converted to 200,000 DHS common shares.


In April 1997, the Company issued and sold to Prudential $20,000,000 in
principal amount of senior subordinated promissory notes (the "Subordinated
Notes").  The Subordinated Notes bear interest at a fixed rate of 10.5% per
annum, and mature as to principal in equal one-third installments on April 17 of
each of 2003, 2004 and 2005.  The Subordinated Notes may be prepaid by the
Company under certain circumstances (including the requirement of certain
"make-whole" prepayment premiums), and the Company may be required (at the
option of the holders of the Subordinated Notes) to purchase the Subordinated
Notes in the event of a change in control of the Company. The Subordinated Notes
also require the Company and its subsidiaries to comply with certain financial
covenants, including limitations on certain other indebtedness.


The Company and its subsidiaries have also entered into various financing
arrangements with commercial leasing companies and equipment suppliers, bearing
interest ranging from 6% to 11% per annum.


The Company received net proceeds of approximately $1,298,000 in the three
months ended March 31, 1998 from the excise of underwriter's warrants,
approximately $8,424,000 in fiscal year 1997 from the exercise of its previously
outstanding publicly traded warrants (which were called for redemption in the
first quarter of 1997), $562,500 in fiscal year 1997 from the exercise of other
warrants, and $891,731 in the six months ended June 30, 1998 and $1,492,801
in fiscal year 1997 from the exercise of options under the Company's various
stock option plans.


Based on the Company's operating plan, management believes that available
resources and funds generated from operations will be sufficient to meet the
Company's operating requirements through the close of the Company's fiscal year
ending December 31, 1998.

                                                                              17
<PAGE>
 
                DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES



EFFECTS OF INFLATION


Inflation is not a material factor affecting the Company's business.  General
operating expenses such as salaries and employee benefits are, however, subject
to normal inflationary pressures.


SEASONALITY


The Company's results of operations, have, in some years, varied significantly
from quarter to quarter, for reasons particular to each quarter.  For instance,
hospital admissions and doctor visits (and, therefore, the Company's imaging
revenues) are typically lower during holiday periods, and at other times when
physicians traditionally take their own vacations.  Conversely, prior to the
sale of such business in the fourth quarter of 1997, revenues from the Company's
allied healthcare services business have generally increased in holiday periods,
due to increased demand for temporary personnel when regular staff is away.


TRENDS AND UNCERTAINTIES


The Company's future revenues and results of operations may be substantially
affected by proposed reforms of the nation's healthcare system and by potential
reductions in reimbursement rates and policies imposed by Medicare and other
third-party reimbursement programs (from which the Company derives a material
portion of its receipts).  Continuing pressures on pricing structures applicable
to the Company's services, or inability to renew existing contracts, could have
the effect of reducing the Company's revenues and operating profit margins.  The
Company is unable to predict the nature or extent of any such changes and/or the
effects thereof on the Company.

                                                                              18
<PAGE>
 
                DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES
                                    Part II
                               OTHER INFORMATION



Items 1-5. Not Applicable


Item 6.  Exhibits and Reports on Form 8-K.


(a) Exhibits to this report:


Exhibit 11:  Computation re: Computation of Earnings Per Share

Exhibit 27:  Financial Data Schedule (EDGAR filing only)

(b) The Company did not file any reports on Form 8-K during the quarterly period
    ended June 30, 1998.

                                                                              19
<PAGE>
 
                DIAGNOSTIC HEALTH SERVICES, INC. & SUBSIDIARIES



                                   SIGNATURES


Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.


                        DIAGNOSTIC HEALTH SERVICES, INC.





                     /S/ MAX W. BATZER
--------------------------------------
                         Max W. Batzer
     Chairman, Chief Executive Officer
                          and Director



                    /S/ BRAD A. HUMMEL
--------------------------------------
                        Brad A. Hummel
    President, Chief Operating Officer
                          and Director



             /S/ CHRISTOPHER L. TURNER
--------------------------------------
                 Christopher L. Turner
               Chief Financial Officer
      and Principal Accounting Officer



                       /S/ BO W. LYCKE
--------------------------------------
                           Bo W. Lycke
                              Director



                Date:  August 14, 1998

                                                                              20