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                       SECURITIES AND EXCHANGE COMMISSION

                             Washington, D.C. 20549

                                   FORM 10-KSB

                ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF
                       THE SECURITIES EXCHANGE ACT OF 1934

     For the fiscal year ended                       Commission file number
         June 30, 2001                                      0-11476

                                HEALTHWATCH, INC.
             (Exact name of Registrant as specified in its charter)

               MINNESOTA                                    84-0916792
    (State or other jurisdiction of                      (I.R.S. Employer
    incorporation or organization)                     Identification No.)

           1100 Johnson Ferry Road
                  Suite 670
              Atlanta, Georgia                               30342
  (Address of principal executive offices)                 (Zip Code)

       Registrant's telephone number, including area code: (404) 256-0083

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

           Securities registered pursuant to section 12(g) of the Act:
                          Common Stock, $.05 par value

     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 such shorter period that the registrant
was required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]


     Indicate by check mark if disclosure of delinquent filers in response to
Item 405 of Regulation S-B is not contained herein, and no disclosure will be
contained, to the best of Registrant's knowledge, in a definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [ ]

    Registrant's Revenues for the fiscal year ended June 30, 2001: $641,978.

    The aggregate market value of the Common Stock of the Registrant held by
non-affiliates of the Registrant (approximately 3,901,000 shares, excluding
shares of convertible preferred stock, options and warrants) on October 12, 2001
was approximately $1,209,310. The aggregate market value was computed by
reference to the closing price on the Nasdaq SmallCap Market on October 12,
2001.

     The number of shares outstanding of the Registrant's Common Stock as of
October 12, 2001 was 4,457,000 shares.

DOCUMENTS INCORPORATED BY REFERENCE:

     None

Transitional Small Business Disclosure Format (check one):
                    Yes  [ ]   No   [X]


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                                     PART I

ITEM 1.  DESCRIPTION OF BUSINESS

Forward Looking Statements

     In addition to the historical information contained herein, the discussion
in this Form 10-KSB contains certain forward-looking statements, within the
meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934, that involve risks and uncertainties, such as
statements concerning: growth and future operating results; future customer
benefits attributable to the Company's products; developments in the Company's
markets and strategic focus; new products and product enhancements; potential
acquisitions and the integration of acquired businesses, products and
technologies; strategic relationships; and future economic, business and
regulatory conditions. The cautionary statements made in this Form 10-KSB should
be read as being applicable to all related forward-looking statements whenever
they appear in this Form 10-KSB. The Company's actual results could differ
materially from the results discussed in the forward-looking statements. Factors
that could cause or contribute to such differences include, but are not limited
to, those discussed under the section captioned "Risk Factors" in Item 1 of this
Form 10-KSB as well as the cautionary statements and other factors set forth
elsewhere herein.

General Background

     References herein to "HealthWatch" or the "Company" include HealthWatch,
Inc. and its consolidated subsidiaries and their predecessors unless the context
indicates otherwise. HealthWatch, Inc. is primarily a healthcare information
technology company. HealthWatch was incorporated in the state of Minnesota in
1983. Prior to 1998, the Company was primarily in the business of manufacturing
and selling medical devices and related supplies. In 1998, it began to phase out
the medical device business and focus its energies on developing the information
technology business. HealthWatch develops and markets a variety of enterprise
software applications, including the HES Healthcare Enterprise System, the Payer
System, the Physician System, and other derivatives. These are collectively
known as the ("HES Systems"). The HES Systems use proprietary technology known
as the MERAD technology ("MERAD") to help develop and support integrated systems
and applications for the information processing and management of a healthcare
enterprise. The HES Systems are capable of processing and tracking information
for the entire healthcare cycle from the doctor visit, specialty clinic or
hospital stay, to the laboratory tests, pharmacy prescriptions, home healthcare,
insurance payments and more.

Mergers and Acquisitions

     HealthWatch acquired Paul Harrison Enterprises, Inc. ("PHE") on October 1,
1998. PHE owned the MERAD technology, a sophisticated software application
utility. MERAD utilizes an advanced multi-media object and relational database
which creates knowledge objects that can be used and reused in a virtually
unlimited number of combinations to provide efficient applications that can be
accessed and processed in all standard network environments, including the
Internet. MERAD enables information to be organized in a unique way that allows
users to reference and use integrated multiple applications and processes.



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     On May 31, 2001, Halis, Inc., a Georgia corporation ("Halis), OTC symbol
"HLIS", merged into Healthwatch Merger Sub, Inc., a wholly owned subsidiary of
HealthWatch, Inc. whereby the Company issued 2,268,419 registered shares of its
common stock in exchange for all of the outstanding shares of Halis, an exchange
ratio of one share of HealthWatch common stock for twenty shares of Halis common
stock ("Halis merger"). The total consideration has been valued at $5,417,785 as
of May 31, 2001 which is comprised of the fair value of the HealthWatch shares
issued in the transaction, or $3,039,682 (2,268,419 shares at the trading price
at June 30, 2000 of $1.34 per share), plus the book value of HealthWatch's
investment in and advances to Halis at May 31, 2001, or $2,028,277 plus net
liabilities assumed of $349,826. Prior to May 31, 2001, Healthwatch was the
single largest shareholder of Halis, owning 15,763,655 shares (approximately
26%). Halis owned the HES Systems and is engaged in the business of providing
information technology applications and services to the healthcare industry.

     Consolidated Financial Statements for Halis, Inc. for the fiscal year ended
December 31, 2000 are included in Item 7 of this report. In addition, unaudited
pro forma condensed consolidated financial statements are also included in the
HealthWatch financial statements contained in Item 7 of this report. The
unaudited pro forma condensed consolidated financial statements assume that the
merger took place on July 1, 1999 and July 1, 2000.


HealthWatch's Business

     HealthWatch is a healthcare information technology company that develops
and markets software solutions for the healthcare industry including the HES
Healthcare Enterprise System, the Payer System, the Physician System, and other
derivatives, collectively known as the ("HES Systems"). The HES Systems use
proprietary technology known as the MERAD technology ("MERAD") to help develop
and support integrated systems and applications for the information processing
and management of a healthcare enterprise. The HES Systems are capable of
processing and tracking information for the entire healthcare cycle from the
doctor visit, specialty clinic or hospital stay, to the laboratory tests,
pharmacy prescriptions, home healthcare, insurance payments and more.

     HealthWatch is the supplier of the HES Systems to organizations that can
leverage their customer base in healthcare. These organizations can use the
applications in the form of services they provide to their healthcare users as
an Application Service Provider or as an Enterprise Application Provider whereby
they will license the HES Systems for use on the user's own network. Under both
scenarios, Healthwatch charges either a single "up-front" license fee along with
additional monthly or annual maintenance fees to support and service the product
or a smaller up-front payment and a monthly licensing fee. The size and
complexity of the applications to be licensed and other factors dictate how the
license agreement is structured.

     HealthWatch has identified the following major entities within the
healthcare industry as primary users of the HES System:

     Physician Practices                  Long-Term Care Facilities
     Clinics                              Laboratories
     Hospitals                            Pharmacies
     Payers                               Home Health Providers

     In addition, HealthWatch Technologies' office in Vista, California provides
support services for its peripheral vascular products under the name Life
Sciences: a Pulse Wave Volume Recorder and IV Controller. These are medical
device products that HealthWatch has sold in the past, and now continues to
support and service. For the fiscal year ended June 30, 2001, the medical device
support business provided approximately $307,000 in gross revenue. The
Healthwatch Technologies location is expected to expand its business by selling
the HES Systems and related services.


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     The Technology

     The HES Systems consist of applications that create and manage transactions
for the healthcare market. For example, the HES Systems could provide a doctor's
office or medical clinic with a complete package of software applications to
manage its scheduling, registration, medical records, billing, accounts
receivable and financial records. The benefit to the user is that the HES
Systems are an integrated solution that allows each application to share common
data elements, such as the patient's name and address, without repetitive
processing or duplicative data entry.

     The HES Systems incorporate the MERAD technology, which contains advanced
architecture and intelligent information processing algorithms that allow the
healthcare industry's information processes (e.g., patient scheduling, medical
billing, etc.) to be integrated into one program, eliminating the need for
multiple and disparate systems by the various participants and facilities.
HealthWatch believes the MERAD technology is the first to be used for rapidly
building commercially available applications in a compressed data format for all
standard networks, including the Internet. HealthWatch has not granted any other
person or entity exclusive rights to use the MERAD technology, and is only
marketing it on a limited basis. Instead, HealthWatch believes that the benefit
of the MERAD technology is in allowing data intensive applications, such as the
HES Systems, to use the MERAD technology to run more efficiently and thus gain a
competitive advantage over other products.

     The HES Systems are integrated-by-design thereby reducing the need for
outside application integration technology that is often invasive,
time-consuming and requires custom coding, which restricts flexibility and
scalability. The HES Systems' benefits include the elimination of fragmented and
duplicate applications, which often cause information sharing and data integrity
problems. The HES Systems also have the ability to coexist with legacy systems
to share information.

     The HES Systems can be downloaded over the Internet to a customer managed
and operated environment or its applications can run efficiently through the
Internet on an outsourced basis. This technology also permits maintenance of the
applications over the Internet, whether in a customer managed and operated
environment or in an outsourced environment.

     In addition, HealthWatch software systems utilize an integrated approach
where a customer uses one program with integrated applications to process
information. This approach is a shift from the traditional layered approach,
which involves the inefficiencies of multiple separate programs with limited
applications that inherently lead to duplicate information processing. If
applications are designed and built separately, the information used is also
partially or completely duplicated for each application. Therefore, if
applications are acquired or built using different sources, the duplicated,
layered effect applies both to the applications as well as to the data used.
Conversely, if applications are designed and built together in an integrated
manner, the data used, such as patient demographics, is required only once for
all integrated applications.

     Sales and Marketing

     HealthWatch's objective is to become the market share leader for healthcare
enterprise applications to process and manage transactions for physician
offices, hospitals, outpatient clinics and other healthcare providers.
HealthWatch also intends to assist these entities in adapting to evolving
communications and interactive technologies. To accomplish this, HealthWatch is
entering into various business collaboration agreements with companies that are
operating successfully in the healthcare industry to private label, license and
create derivatives of HealthWatch's applications. The Company believes these
partners will serve as strong distribution channels for its products and
services.

     HealthWatch can take advantage of its digital technology architecture that
allows its applications to be easily downloaded and operated by customers. By
using electronic sales and support in addition to traditional methods,
Healthwatch can market, install and service its applications at a lower cost
with fewer resources.

     HealthWatch can produce an actual operating version of its products
available to customers through an Internet download for use on a trial or pilot
basis. In addition, the integrated architecture of its systems allows for
efficient building, distributing and supporting numerous, complex integrated
applications. HealthWatch plans to distribute the HES Systems as an Enterprise
Application Provider, which means that HealthWatch will license its products to
partners or directly to the end user to run on their network. In addition,
HealthWatch may market the HES Systems' Application Service Provider
capabilities to potential partners that provide business services to their
healthcare customers such as billing, scheduling, etc.

     HealthWatch's Enterprise Application Provider marketing strategy is to:

     o  meet or exceed system requirements for availability, scalability,
        security and flexibility;



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     o  accommodate data interfaces and integration;

     o  support transactional integration, minimizing the need for custom
        coding; and

     o  reduce reliance on proprietary, hard-coded business processes and
        workflows usually found in other systems.

     HealthWatch's Application Service Provider marketing strategy is to:

     o  rapidly penetrate markets by offering access to and use of the HES
        System from a centralized offsite location via the Internet;

     o  reduce up-front capital expenditures by employing a subscription
        based billing model (monthly fee based on number of users and number
        of applications accessible);

     o  decrease the complexity and length implementation usually involved with
        new application purchases; and

     o  enable partners to offer system products on a low and predictable
        cost basis that is also easy to use in terms of expenditures and
        information technology personnel.

     Management believes that sales will be driven by a combination of recurring
revenues that are based on periodic fees or fees based on transactions or users.
HealthWatch will also offer integration and customization services to its
partners and end users.

     Product Development

     We believe that our future success will depend in part on our ability to
continue to maintain and enhance our current technologies and services.
HealthWatch continues to spend on research and development activities, and spent
approximately $213,000 in the fiscal year ended June 30, 2001 and $137,000 in
the fiscal year ended June 30, 2000 on product development costs.

     Competition

     The HES Systems target markets are broad-based and cover physicians,
hospitals, clinics, pharmacies, laboratories, long-term care facilities, home
health organizations, health insurance companies and other healthcare entities.
These markets are intensely competitive and characterized by resistance to
change. HealthWatch's competitors are diverse and offer a variety of solutions
directed at various segments of the healthcare industry. HealthWatch believes
there are hundreds of application software vendors whose products compete with
the various applications contained in the HES Systems. HealthWatch believes the
top ten competitors include Healtheon/Web MD Corporation, McKesson HBOC, Synetic
Corporation/Medical Manager/CareInsite, Cerner Corporation, Shared Medical
Systems, Eclipsys Corporation, MedicaLogic, E-MedSoft and Avio. In addition, its
products face competition from:

     o  internal development efforts by a prospective customer's information
        technology departments;

     o  independent healthcare application companies which have developed or
        are attempting to develop software that competes with its software
        solutions; and

     o  other business application software vendors that may broaden their
        product offerings by internally developing, acquiring or partnering
        with independent developers of healthcare applications software.

     HealthWatch believes it can distinguish itself from its competitors in the
healthcare information systems industry. Currently, its competitors are focused
on particular segments of the market, with particular types of technology and,
often with specific applications or a variety of interfaced applications. The
three main traditional market focuses are listed below:

     o  market segments, which include physician practices, clinics,
        pharmacies, laboratories, home healthcare, long-term care, hospitals,
        payers and consumers (patients) and sub-categories of these segments
        (e.g. inpatient radiology);


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     o  technology types, which can be categorized as either traditional
        customer managed/operated or as outsourced; and

     o  specific applications or functionality, including scheduling,
        registration, billing, medical records, etc.

     HealthWatch believes it has dynamic and comprehensive software solutions
that can handle virtually all healthcare participants and market segments and
can be offered in either an outsourced or a customer managed and operated model.
HealthWatch believes its competition has not embraced or been able to obtain a
comprehensive, standardized approach and has remained with fragmented,
duplicated products. It expects that technology competitors will eventually
offer integrated products able to run on all networks, including the Internet.
However, HealthWatch believes that these competitors will create separate web
front-ends (web pages) to serve as an entry point to their aging, legacy
information systems. HealthWatch believes that because its products are designed
to run on all standardized networks, including the Internet, it will be able to
provide its users with faster processing than other products using web
front-ends to access legacy systems. In addition, because our product is
integrated into one comprehensive system designed to also use the Internet, we
believe that the HES Systems will also require less capital investment in
computer hardware and require less ongoing maintenance than legacy systems with
added web front-ends. This distinction should provide HealthWatch with a
marketing advantage over its competitors when selling its products to users who
are looking to update their information technology systems to gain increased
productivity, higher quality data and reporting and reduced processing costs.

     HealthWatch has distinguished itself from competitors by focusing on the
HES Systems' unique architecture process to integrate-by-design all of the
applications needed in a market segment (i.e., physician practices) into one
comprehensive application. The HES Systems were designed with ease of use in
mind, keeping a particular focus on the speed of the processing and the costs to
produce, update and support one application, as compared to multiple
applications required by systems of our competitors.

     To the extent competitors develop or acquire systems with functionality
comparable or superior to HealthWatch's products, if they have a significant
installed customer base, long-standing customer relationships and an ability to
offer a broad array of applications, they could have a significant competitive
advantage over HealthWatch. Increased competition could result in price
reductions, fewer customer orders, reduced gross margins and loss of market
share, any one of which could materially adversely affect our business, results
of operations and financial condition. Many of HealthWatch's competitors and
potential competitors have longer operating histories, significantly greater
financial, technical, marketing and other resources, greater name recognition
and a larger installed customer base. HealthWatch's competitors may be able to
respond more quickly to new or emerging technologies and changes in customer
requirements or devote greater resources to the development, promotion and sale
of their products.

     The principal competitive factors affecting the market include vendor and
product reputation, product architecture, functionality and features, costs,
ease and speed of implementation, return on investment, product quality, price,
performance and level of support. There can be no assurance that HealthWatch
will be able to compete successfully against current and future competitors, and
the failure to do so could have a material adverse effect upon HealthWatch's
business, results of operations and financial condition.

     Proprietary Rights and Licenses

     HealthWatch's success and ability to compete is dependent in part upon its
proprietary technology. To protect its proprietary technology, HealthWatch
relies on a combination of copyright and trade secret laws, confidentiality
procedures and contractual provisions, which may afford only limited protection.
In addition, effective copyright and trade secret protection may be unavailable
or limited in certain foreign countries. HealthWatch presently has no patents or
patent applications pending. The source code for HealthWatch's proprietary
software is protected both as a trade secret and as a copyrighted work.
HealthWatch generally enters into confidentiality, master systems, business
collaboration or license agreements with its employees, consultants and
customers, and generally controls access to and distribution of its software,
documentation and other proprietary information.

     HealthWatch normally provides its software products to customers under
non-exclusive license agreements. As is customary in the software industry, in
order to protect its intellectual property rights, HealthWatch usually does not
sell or transfer title to its products to its customers. Although its license
agreements place restrictions on the use by the customer of HealthWatch's
products, there can be no assurance that unauthorized use of HealthWatch's
products will not occur.

     Despite the measures taken by HealthWatch to protect its proprietary
rights, unauthorized parties may attempt to reverse


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engineer or copy aspects of HealthWatch's products or to obtain and use
information that HealthWatch regards as proprietary. Policing unauthorized use
of the Company's products is difficult. In addition, litigation may be necessary
in the future to enforce the Company's intellectual property rights, to protect
the Company's trade secrets, to determine the validity and scope of the
proprietary rights of others or to defend against claims of infringement or
invalidity. Such litigation could result in substantial costs and diversion of
resources and could have a material adverse effect on the Company's business,
operating results and financial condition.

     In the future, HealthWatch may be subject to claims of intellectual
property infringement as the number of products and competitors in HealthWatch's
industry segment grows and the functionality of products in different industry
segments overlap. Although HealthWatch is not aware that any of its products
infringes upon the proprietary rights of third parties, there can be no
assurance that third parties will not claim infringement by HealthWatch with
respect to current or future products. In addition, HealthWatch may initiate
claims or litigation against third parties for infringement of the Company's
proprietary rights or to establish the validity of HealthWatch's proprietary
rights. Any such claims against HealthWatch, with or without merit, as well as
claims initiated by HealthWatch against third parties, can be time consuming and
expensive to defend, prosecute or resolve. Moreover, an adverse outcome in
litigation or similar adversarial proceedings could subject HealthWatch to
significant liabilities to third parties, require the expenditure of significant
resources to develop non-infringing technology, require a substantial amount of
attention from management, require disputed rights to be licensed from others or
require HealthWatch to cease the marketing or use of certain products, any of
which would have a material adverse effect on HealthWatch's business, operating
results and financial condition. To the extent HealthWatch desires or is
required to obtain licenses to patents or proprietary rights of others, there
can be no assurance that any such licenses will be made available on terms
acceptable to HealthWatch, if at all.

     Employees

     As of June 30, 2001, HealthWatch had 48 full-time employees, 38 of which
are employees of the Company's claims processing subsidiary. None of
HealthWatch's employees is represented by a labor union or is subject to a
collective bargaining agreement. HealthWatch believes its employee relations are
good.

     Recent Developments

     On October 9, 2001, the Company sold its claims processing subsidiary,
American Benefit Administrative Services, Inc. ("ABAS"). The ABAS transaction
terms include: (a) A maximum purchase price of $1,320,000, which includes
certain administrative and financial adjustments totaling $130,000; (b) An
initial payment of $320,000 with $265,000 down at closing and $55,000 on or
before June 1, 2002; (c) A profit sharing formula that could generate $1,000,000
to the Company, of which $465,000 is guaranteed by the purchaser through a
promissory note; (d) A marketing and administrative services agreement to
jointly pursue certain new technology based services [e.g. Application Service
Provider] and share the revenues.

Significant Changes in The Company's Capitalization

     On December 8, 1999, the Company's Board of Directors authorized an
amendment to its articles of incorporation to effect a five-for-one reverse
stock split of the Company's capital stock. Pursuant to the reverse stock split,
each share of the Company's capital stock outstanding on December 21, 1999 was
converted into 0.20 of a share, rounded up or down to the nearest whole share.
Unless otherwise noted, all references to the Company's common stock contained
in this report give effect to the reverse stock split.

     On December 23, 1999, the Company's Board of Directors authorized the
designation of 4,500 shares of its preferred stock as Series C 8% Convertible
Preferred Stock ("Series C Preferred Stock"). In connection therewith, the
Company filed with the Minnesota Secretary of State a Certificate of
Designation, Preferences and Rights of Series C 8% Convertible Preferred Stock
that sets forth the voting powers, designation, preferences, qualifications,
limitations and restrictions of the Series C Preferred Stock. As of June 30,
2001, there were 4,000 shares of the Series C Preferred Stock issued and
outstanding.

     On February 7, 2000, the Company's Board of Directors authorized the
designation of 300,000 shares of its preferred stock as Series D 8% Convertible
Preferred Stock ("Series D Preferred Stock"). In connection therewith, the
Company filed with the Minnesota Secretary of State a Certificate of
Designation, Preferences and Rights of Series D 8% Convertible Preferred Stock
that sets forth the voting powers, designation, preferences, qualifications,
limitations and restrictions of the Series D Preferred Stock. As of June 30,
2001, there were 74,005 shares of the Series D Preferred Stock issued and
outstanding.


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     On May 31, 2001, the Company, in connection with the Halis Merger, issued
2,268,419 registered shares of its common stock in exchange for all of the
outstanding shares of common stock of Halis, Inc., a Georgia corporation
("Halis"). The total consideration has been valued at $5,417,785 as of May 31,
2001 which is comprised of the fair value of the HealthWatch shares issued in
the transaction, or $3,039,682 (2,268,419 shares at the trading price at June
30, 2000 of $1.34 per share), plus the book value of HealthWatch's investment in
and advances to Halis at June 30, 2000, or $2,028,277, plus net liabilities
assumed of $349,826. Prior to May 31, 2001, Healthwatch was the single largest
shareholder of Halis, owning 15,763,655 share (approximately 26%).



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                                  RISK FACTORS

     We have included certain forward-looking statements in the Management's
Discussion and Analysis of Financial Condition and Results of Operations and
elsewhere in this Form 10-KSB. We may also make oral forward-looking statements
from time to time. Actual results may differ materially from those projected in
any such forward-looking statements due to a number of factors, including those
set forth below and elsewhere in this Form 10-KSB.

     We operate in a dynamic and rapidly changing environment that involves
numerous risks and uncertainties. The following sections list some, but not all,
of these risks and uncertainties that may have a material adverse effect on our
business, financial condition or results of operations. This section should be
read in conjunction with the audited Consolidated Financial Statements and Notes
thereto, and Management's Discussion and Analysis of Financial Condition and
Results of Operations for the years ended June 30, 2001 and 2000 contained
elsewhere in this Form 10-KSB.

RISK FACTORS CONCERNING OUR BUSINESS

     We have only a limited operating history that may be used to assess our
future prospects.

     While we have been in business for many years, our entrance into the
healthcare software business was not until 1998. As such, we have generated
virtually no revenues from our information technology businesses. Our revenue
and income potential are unproven and our business model is constantly evolving.

     As a result of our limited operating history, our plan for growth, in
particular through the formation of strategic business relationships, and the
competitive nature of the markets in which we compete, our historical financial
data is of limited value in anticipating future performance.

     We have a history of operating losses and operating results could fluctuate
significantly in the future.

     We have not achieved profitability and we cannot be certain that we will
realize sufficient revenue to achieve profitability in the foreseeable future.
HealthWatch incurred net losses of $2,189,260 in the year ended June 30, 1997,
$4,084,474 in the year ended June 30, 1998, $1,819,839 in the year ended June
30, 1999, $3,575,382 in the year ended June 30, 2000 and $3,937,367 in the year
ended June 30, 2001. As of June 30, 2001, HealthWatch had an accumulated deficit
of $35,002,456.

     Our operating expenses are fixed in the short term; if our forecasted sales
are delayed or do not occur, our operating results will fluctuate, which could
cause our stock price to drop.

     We expect that our operating results will fluctuate significantly in the
future based upon a number of factors, many of which are not within our control.
We have based our operating expenses on anticipated revenue growth and our
operating expenses are relatively fixed in the short term. Accordingly, our
results of operations for a particular period may be adversely affected if the
sales forecasted for that period are delayed or do not occur. If this occurs,
the price of our common stock would likely decrease.

     We are dependent on the healthcare industry's acceptance of our products.

     We cannot guarantee that participants in the healthcare industry will
accept our HES Systems as a replacement for existing record keeping practices.
Market acceptance of our product will depend upon continued growth in the use of
the software products as a source of services for the healthcare industry. The
acceptance of an electronic method of storing, managing and processing
information by healthcare professionals will require a broad acceptance of new
methods of conducting business and exchanging information. Our future financial
success will depend upon our ability to attract and retain healthcare providers
as customers. Our failure to achieve market acceptance would have a material
adverse effect on our business, results of operations and financial condition.

     We are dependent on the revenues derived from a single product.

     Our primary products and services relate to the HES Systems. Our success is
dependent on the healthcare industry's acceptance of the HES Systems. If the
healthcare industry does not accept our HES Systems, our business, results of
operations and financial condition would be adversely affected.

     Our management and major stockholders will retain substantial control,
which could delay or prevent a change of


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control.

     Our executive officers, directors and preferred stockholders have
substantial control over matters requiring approval by our stockholders, such as
the election of directors and approval of significant corporate transactions.
This concentration of ownership might also have the effect of delaying or
preventing a change in control. As of August 31, 2001, HealthWatch's executive
officers and directors together beneficially owned approximately 23% of
HealthWatch's outstanding common stock. As of August 31, 2001, the holders of
our Series C and D 8% Convertible Preferred Stock controlled approximately 34%
of the total voting power of HealthWatch, excluding any unexercised options and
warrants.

     Paul Harrison, CEO and Chairman of the board of directors of HealthWatch
and Halis, exercises control over approximately 1,489,284 shares of HealthWatch
common stock, including currently exercisable options and warrants. Mr.
Harrison, as the designer of our technology and the HES Systems, is critical to
the ongoing development and deployment of products utilizing our technology. As
a result of such concentration of ownership and importance to the development of
related software products, Mr. Harrison will have the ability to exert
significant influence on the policies and affairs of HealthWatch and corporate
actions requiring stockholder approval, including the election of the members of
the board of directors.

     We hope to grow rapidly, and the failure to manage our growth could
adversely affect our business.

     As we continue to increase the scope of our operations, we may not have an
effective planning and management process in place to implement our business
plan successfully. Currently, HealthWatch is in its development stage, however,
our software products are now ready for distribution and we have begun to
increase the marketing and sales activities related to our products. This growth
may strain our management systems and resources, which could adversely affect
our operations. We will need to continue to improve our financial and managerial
controls and our reporting systems in order to manage such growth. Our business,
results of operations and financial condition will be materially and adversely
affected if we are unable to manage and integrate our expanding operations
effectively.

     To grow our business, we may raise capital by issuing shares of our stock,
which will dilute your ownership.

     HealthWatch's business plan contemplates funding our operating cash
requirements through sales. If sales are delayed or are not realized to the
extent planned, we may sell additional shares of our stock to raise money to
meet our operating requirements or to expand our operations which would dilute
the ownership of the current stockholders. We also cannot promise that we will
be able to arrange adequate financing under acceptable terms, if at all.

     We Need to Expand our Sales and Customer Support Infrastructure.

     HealthWatch is a development stage company with relatively small sales and
customer support functions. However, as we begin to market our software
products, we will need to expand these areas of the Company. Competition for
qualified personnel in these areas is significant. We may not be able to
successfully expand our sales force, which would limit our ability to expand our
customer base.

     There is no assurance that a public market for our common stock will
continue to develop.

     There has only been a limited public market for HealthWatch common stock
with regard to trading volume and number of


                                       10

<PAGE>

stockholders, resulting in fluctuations in trading prices during periods of high
or low volume. HealthWatch currently has approximately 2,000 common stockholders
and its daily trading volume averaged 5,553 shares for the month of September
2001. We cannot predict the extent to which investor interest in our common
stock will lead to the development of an effective trading market or how liquid
that market might become, especially if a large number of shares are introduced
into the market upon conversion of the shares of HealthWatch's existing
preferred stock.

     HealthWatch is listed on the Nasdaq SmallCap Market which can be a volatile
market.

     HealthWatch common stock is quoted on the Nasdaq SmallCap Market and
currently has a very low trading volume. Consequently, the trading of only a few
shares may affect the market and may result in wide swings in price and volume.
As of October 10, 2001, the 52-week high for HealthWatch common stock was $1.62
per share and the 52-week low was $0.25 per share. The market price of
HealthWatch's common stock could fluctuate widely in response to the following
particular factors:

     o  actual or anticipated variations in operating results;

     o  announcements by us or our competitors of new products, significant
        contracts, acquisitions, or relationships;

     o  additions or departures of key personnel;

     o  future equity or debt offerings or our announcements of these offerings;
        and

     o  economic conditions in the healthcare industry in particular and the
        economy in general.

     In addition, the stock market as a whole has recently experienced
significant price declines, and the market prices of technology companies,
particularly Internet-related companies, have decreased significantly. These
fluctuations have often been unrelated or disproportionate to the operating
performance of individual companies. These broad market fluctuations may
materially adversely affect our stock price, regardless of our operating
results. HealthWatch stockholders may not be able to sell their shares at or
above the current Nasdaq SmallCap Market price. Our results of operations during
future fiscal periods might fail to meet the expectations of stock market
analysts and investors. This failure could lead the market price of our common
stock to decline.

     HealthWatch has been the subject of delisting proceedings relating to the
Nasdaq SmallCap Market in the past and there can be no assurance that we will be
able to maintain our listing in the future.

     Our failure to continue to meet all of the Nasdaq's requirements for
continued listing, which could depend in part on our ability to improve our
business, increase revenues and improve our earnings, could result in the
delisting of our common stock. In the past, Nasdaq has brought delisting
proceedings against HealthWatch for violation of its continued listing policy
with regard to the $1 minimum bid price per share and the $2 million net
tangible asset requirements. These proceedings were ultimately dismissed because
HealthWatch was able to bring itself back into compliance. However, there can be
no assurance that we will be able to continue to meet Nasdaq's continued listing
requirements. Delisting from the Nasdaq SmallCap Market could impact our stock
price as well as make the development of a public market for our common stock
less likely.

     We do not intend to pay future cash dividends.

     HealthWatch has never paid common stock dividends and we do not anticipate
paying cash dividends on our common stock at any time in the near future. Any
decision to pay dividends will depend upon our profitability at the time, cash
availability and other factors. We may never pay cash dividends or distributions
on our common stock. In addition, we have issued preferred stock with terms and
conditions that restrict our ability to declare and pay common dividends unless
all preferred stock dividends that are due and payable have been paid.

     We have Broad Discretion in the Issuance of Additional Preferred Stock.

     We are authorized to issue additional preferred stock. We may issue
preferred stock in one or more series, the terms of which may be determined at
the time of issuance by the board of directors, without further action by common
stockholders. The issuance of any series of preferred stock could affect the
rights of common stockholders, and therefore, reduce the value of the common
stock and make it less likely that common stockholders would receive a premium
for the sale of their common stock. In certain instances, existing preferred
stockholders must consent to the issuance of new classes of preferred stock
having rights


                                       11

<PAGE>


senior to those of existing preferred stockholders or the rules of the Nasdaq
SmallCap Market may require common stockholder approval for large issuances of
convertible preferred stock. Preferred stock may include voting rights,
preferences as to dividends and liquidation, conversion and redemption rights
and sinking fund provisions. Currently, the HealthWatch Articles of
Incorporation authorize the issuance of 15 million shares of Preferred Stock.
Presently, there are 4,000 shares of Series C 8% Convertible Preferred Stock
outstanding, 74,005 shares of Series D 8% Convertible Preferred Stock
outstanding and 66,886 shares of Series P Preferred Stock outstanding.

     Competition from third parties could reduce or eliminate demand for our
products and services.

     The market for Internet services is highly competitive, and we expect that
competition will intensify in the future. We may not be able to compete
successfully against our current or future competitors and, accordingly, we
cannot be certain that we will be able to expand the number of our customers and
end-users, or retain our current customers or third-party service providers.
Many of our current and potential competitors have longer operating histories
and may be in a better position to produce and market their services due to
their greater financial, technical, marketing and other resources, as well as
their significantly greater name recognition and larger installed customer
bases.

     Security breaches could damage our reputation and business.

     Our networks may be vulnerable to unauthorized access, computer viruses and
other disruptive problems. We transmit confidential healthcare information in
providing our services. Users of Internet and other electronic commerce services
are concerned about the security of transmissions over public networks.
Therefore, it is critical that our facilities and infrastructure remain secure
and that our facilities and infrastructure are perceived by the marketplace to
be secure. A material security breach affecting the Company could damage our
reputation, deter healthcare providers from purchasing our products or result in
liability to us. Further, any material security breach affecting our competitors
could affect the marketplace's perception of Internet services in general and
have the same effects.

     Concerns over security and the privacy of users may inhibit the growth of
the Internet and other online services generally, especially as a means of
conducting healthcare transactions. Any well-publicized compromise of security
could deter people from using the Internet or using us to conduct transactions
that involve transmitting confidential healthcare information. We may need to
expend significant capital or other resources protecting against the threat of
security breaches or alleviating problems caused by security breaches. Although
we intend to continue implementing security measures, the measures that we
implement may be circumvented in the future. Eliminating computer viruses and
alleviating other security problems may result in interruptions, delays or
cessation of service to users accessing web sites that deliver our services, any
of which could harm our business. Our failure to respond to rapid changes in the
market for Internet services could cause us to lose revenue and harm our
business.

     Newly introduced products may contain undetected or unresolved defects.

     Our products are complex, integrated software programs that involve many
different applications that must communicate with each other. As a result, any
new or enhanced products we introduce may contain undetected or unresolved
software or hardware defects when they are first introduced or as new versions
are released. In the past, we have discovered minor errors in our products and
it is possible that design defects will occur in new products. These defects
could result in a loss of sales and additional costs, as well as damage to our
reputation and the loss of relationships with our customers.

     If we Fail to attract and retain experienced personnel and senior
management, our ability to grow could be harmed.

     We believe that our future success will depend in large part upon our
continued ability to identify, hire, retain and motivate highly skilled
employees, who are in great demand. In particular, we believe that the Company
must expand its research and development, marketing, sales and customer support
capabilities in order to effectively serve the evolving needs of our present and
future customers. Competition for these employees is significant and due to our
operating losses in the past and the investment community's concern regarding
the future prospects of Nasdaq technology companies in general, we may not be
able to hire additional qualified personnel in a timely manner and on reasonable
terms. In addition, our success depends on the continuing contributions of our
senior management and technical personnel, all of whom would be difficult to
replace. The loss of any one of them could adversely affect our ability to
execute our business strategy. Most of our employees, including Paul W.
Harrison, are not currently bound by an employment agreement. Furthermore, we do
not have "key person" life insurance policies covering any of our employees.

     Our limited ability to protect our proprietary technology may adversely
affect our ability to compete, and we may


                                       12

<PAGE>

be found to infringe on proprietary rights of others, which could harm our
business.

     Our future success and ability to compete depends in part upon our
proprietary technology. None of our technology is currently patented. Instead,
we rely on a combination of contractual rights and copyright, trademark and
trade secret laws to establish and protect our proprietary technology. We
generally enter into confidentiality agreements with our employees, consultants,
resellers, customers and potential customers, limit access to and distribution
of our source code, and further limit the disclosure and use of other
proprietary information. We cannot assure you that the steps we take in this
regard will be adequate to prevent misappropriation of our technology or that
our competitors will not independently develop technologies that are
substantially equivalent or superior to our technology. Despite our efforts to
protect our proprietary rights, unauthorized parties may attempt to copy or
otherwise obtain or use our products or technology. Monitoring unauthorized use
of our products is difficult, and while we are unable to determine the extent to
which piracy of our software products exists, we expect software piracy to be a
potential problem. In addition, the laws of some foreign countries do not
protect our proprietary rights to the same extent as do the laws of the United
States.

     We are also subject to the risk of claims and litigation alleging
infringement of the intellectual property rights of others. Third parties may
assert infringement claims in the future with respect to our current or future
products. Any assertion, regardless of its merit, could require us to pay
damages or settlement amounts and could require us to develop non-infringing
technology or pay for a license for the technology that is the subject of the
asserted infringement. Any litigation or potential litigation could result in
product delays, increased costs or both. In addition, the cost of litigation and
the resulting distraction of our management resources could adversely affect our
results of operations. There can be no assurance that any licenses for
technology necessary for our business will be available or, if available, that
we can obtain these licenses on commercially reasonable terms.

                      RISK FACTORS CONCERNING OUR INDUSTRY

Governmental regulation of healthcare privacy issues may result in additional
expenditures and adversely affect our business.

     The Federal Trade Commission and state governmental bodies have been
investigating the confidentiality and privacy policies and practices of
healthcare Internet companies and Internet companies in general, and may impose
regulations. In addition, proposed privacy standards for handling individually
identifiable health information that is transmitted or stored electronically
were issued by the Department of Health and Human Services on November 3, 1999
and our platform and applications must comply with these regulations. Finally,
industry groups are also proposing various privacy and ethics standards in an
effort to maintain self-regulation. We will likely incur additional expenses
regarding privacy practices and policies. Any such policies and practices,
whether self-imposed or imposed by government regulation, could affect the way
in which we are allowed to conduct our business, especially those aspects that
involve the collection, use and access to personal information and medical
records, and could have a material adverse effect on our business, results of
operations and financial condition.

     The healthcare industry is subject to extensive government regulation.

     Participants in the healthcare industry are subject to extensive and
frequently changing regulation at the federal, state and local levels. Some of
the laws and regulations relate to payment and other relationships with third
party billing and collection agents as well as regulating computer software
intended for use in the healthcare setting. The impact of regulatory
developments in the healthcare industry is complex and difficult to predict. We
cannot assure you that we will not be materially adversely affected by existing
or new regulatory requirements or interpretations. These requirements or
interpretations could also limit the effectiveness of the use of the Internet
for the methods of healthcare e-commerce we are developing or even prohibit the
sale of our products or services. Healthcare service providers, payors and plans
are also subject to a wide variety of laws and regulations that could affect the
nature and scope of their relationships with us. Laws regulating health
insurance, health maintenance organizations and similar organizations, as well
as employee benefit plans, cover a broad array of subjects, including
confidentiality, financial relationships with vendors, mandated benefits,
grievance and appeal procedures, and others. State and federal laws have also
implemented so-called "fraud and abuse" rules that specifically restrict or
prohibit certain types of financial relationships between us or our customers
and healthcare service providers, including physicians and pharmacies. Laws
governing healthcare providers, payors and plans are often not uniform between
states, and could require us to undertake the expense and difficulty of
tailoring our business procedures, information systems or financial
relationships in order for our customers to be in compliance with applicable
laws and regulations. Compliance with such laws could also interfere with the
scope of our services, or make them less cost-effective for our customers.


                                       13

<PAGE>

ITEM 2.  FACILITIES

     HealthWatch's principal executive offices are located at 1100 Johnson Ferry
Road, Suite 670, Atlanta, Georgia 30342 and its telephone number at that address
is (404) 256-0083. This space includes 6,389 square feet leased under a three
year lease agreement with monthly lease payments of $11,447 which escalate to
$12,144 per month over the term of the lease. In addition, American Benefit
Administrative Services, Inc. leases approximately 11,000 square feet of office
space in Chicago, Illinois. Upon consumation of the ABAS sale transaction, the
Company will not be obligated under the lease. Lease payments are $18,541 per
month and escalate to $23,000 per month by the year 2003. Finally, HealthWatch
Technologies, Inc. leases office and warehouse space in Vista, California, under
a lease that began in January 1999 and continues for a period of three years.
The annual lease payments under this lease are $49,200 and escalate at a rate of
4% each year. We are evaluating our real estate needs at the Vista, California
location.

ITEM 3.  LEGAL PROCEEDINGS

The Registrant is a party to the following pending legal proceedings.

(A)  Penelope Sellers v. Halis, Inc., Larry Fisher and Paul W. Harrison,
     State Court of the State of Georgia, County of Fulton
     Civil Action File No. 97VS1294SD

On July 18, 1997, Halis was sued by Penelope Sellers, in an action seeking
actual damages against Halis in the amount of $480,534.70, unspecified attorneys
fees and punitive damages of not less than $1,000,000. Ms. Sellers contends that
a finder's fee agreement between her and Halis from August 1995, under which she
was to receive a commission equal to 10% of the amount of any equity investments
in Halis or software licensing fees paid to Halis, with respect to transactions
introduced to Halis by her, entitles her to an amount in excess of the
approximately $19,350 which she has been paid to date under that agreement. That
amount represents 10% of the investment made by the principals of Aubis, LLC
("Aubis") in a private placement of convertible notes (in which private
placement other investors besides the Aubis principals participated) and 10% of
the amounts received by Halis from the sale of Fisher Restaurant Management
Systems by Aubis.

Ms. Sellers claims that the entirety of the convertible notes offering described
above (in which an aggregate of $1,470,000 was raised by Halis) would not have
been successful but for her introduction of the Aubis principals to Halis. As a
result, Ms. Sellers has made a claim for 10% of all amounts raised in the notes
offering. Ms. Sellers has also made a claim, based on the same rationale, to 10%
of all capital funding raised by Halis (up to the $500,000 maximum
compensation), including the proceeds of a private placement which raised gross
proceeds of approximately $2 million. Finally, Ms. Sellers has made a claim for
10% of the value of Aubis and Halis Systems, Inc.

Discovery has been completed. Defendants filed a motion for partial summary
judgment, which was granted, the effect of which is to eliminate Larry Fisher
and Paul W. Harrison on claims asserted against them for tortious interference
with contractual relations. Halis continues to vigorously defend this lawsuit.

There can be no assurance, however, that The Company will be successful in its
defense of the plaintiff's complaint, or that the final resolution of this
matter will not have a material adverse effect on Halis' financial condition or
results of operation.

(B) Advanced Custom Computer Solutions, Inc., Wayne W. Surman and
    Charlotte Surman v. Fisher Business Systems, Inc., Halis,  Inc.,
    Larry Fisher, Paul W.
    Harrison and Nathan I. Lipson,
    State Court of the State of Georgia, County of Fulton
    Civil Action File No. 97VS0123082.

In February 1997, Advanced Custom Computer Solutions, Inc. ("ACCS"), Wayne W.
Surman and Charlotte Surman sued Halis alleging, among other things, breach of
contract in connection with the termination by Halis of a merger agreement with
ACCS, which Halis advised ACCS was terminated in November 1996 due to the
impossibility of ACCS's fulfilling certain conditions to closing therein. In
addition, the complaint alleges that the defendants made false and misleading
statements to the plaintiffs for the purpose of inducing plaintiffs to lend
money to Halis, and that Halis, or individuals related to it, tortuously
interfered with the business relationships of ACCS, and fraudulently induced
ACCS management to permit Halis management to take over and "systematically
destroy" the ongoing business of ACCS. The Surmans are the principals of ACCS
and claim personal damages against Halis on certain of the claims, and claim a
right to at least 150,000 shares of Halis common stock, the exact amount to be
determined at trial, based on a claim of a breach of an alleged oral contract to
pay them shares of Halis stock as compensation


                                       14

<PAGE>

for soliciting investors (the "Oral Contract Claim"). The Surmans further claim
that Halis fraudulently induced them to solicit investors for Halis (the
"Investor Solicitation Claim"). The complaint seeks damages in the amount of at
least $2 million (the exact amount of such damages to be proved at trial),
additional damages to be determined by the jury at trial and punitive damages.
Halis answered, denying the allegations of liability in the complaint, and Halis
vigorously defended the lawsuit. On November 19, 1998, the trial court granted
summary judgment in favor of Halis on all but two counts of the plaintiff's
complaint, as amended. The two counts remaining include the Oral Contract Claim
and Investor Solicitation Claim. The plaintiffs have appealed to the Georgia
Court of Appeals from the order granting partial summary judgment to Halis on
all other claims, and Halis has cross-appealed the portions of the order denying
summary judgment on the two surviving counts. The Georgia Court of Appeals has
affirmed the trial court's granting of summary judgment in favor of Halis on
seven of the nine count in the complaint, and affirming the denial of Halis'
cross appeal denying summary judgment on the two surviving counts.

Plaintiff's filed a petition for certiorari to the Georgia Supreme Court
regarding the decision of the Georgia Court of Appeals. The Georgia Supreme
Court, on September 8, 2000, denied that petition for certiorari.

There can be no assurance, however, that The Company will be successful in its
defense of the plaintiff's petition for certiorari, or that the final resolution
of this matter will not have a material adverse effect on Halis' financial
condition or results of operation.

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

     A special meeting of the stockholders of HealthWatch, Inc. ("HealthWatch")
was held on May 30, 2001 at 10:00 a.m. to vote on the following matters:

1.   To approve the issuance of shares of HealthWatch common stock in the merger
     of Halis, Inc. ("Halis") with and into HealthWatch Merger Sub, Inc., a
     wholly-owned subsidiary of HealthWatch ("Merger Sub"), as contemplated by
     the Agreement and Plan of Merger dated as of June 29, 2000, by and among
     Halis, Merger Sub and HealthWatch. In the merger, HealthWatch [issued] one
     twentieth (.05) of a share of fully paid and non-assessable HealthWatch
     common stock for each share of Halis common stock outstanding;

     FOR  2,350,057             AGAINST  48,587           ABSTAIN  50


                                       15

<PAGE>

2.   To consider and vote upon proposed amendments to HealthWatch's Articles of
     Incorporation to:

     A: increase the number of authorized shares of HealthWatch common stock
     from 10,000,000 shares to 50,000,000 shares; and

FOR  3,088,473             AGAINST  78,448           ABSTAIN  4,146


     B: increase the number of authorized shares of HealthWatch preferred stock
     from 1,000,000 shares to 15,000,000 shares;

FOR  2,275,348             AGAINST 118,220           ABSTAIN  5,046


3.   To ratify and approve anti-dilution provisions related to HealthWatch's
     outstanding preferred stock and related warrants contained in:

     A: the Certificate of Designation, Preferences and Rights of Series C 8%
     Convertible  Preferred  Stock  (the  "Series C Preferred");

FOR  2,387,105             AGAINST  9,652            ABSTAIN  1,857


     B: the Certificate of Designation, Preferences and Rights of Series D 8%
     Convertible Preferred Stock (the "Series D Preferred");

FOR  2,382,881             AGAINST  23,983           ABSTAIN  1,795


     C: warrants to purchase HealthWatch common stock issued to purchasers of
     the Series C Preferred in a bridge financing completed in February 2000
     (the "Bridge Warrants");

FOR  2,373,321             AGAINST  23,879           ABSTAIN  1,414


     D: warrants to purchase HealthWatch common stock issued to purchasers of
     the Series D Preferred in a private placement completed in May 2000 (the
     "Offering Warrants"); and

FOR  2,373,244             AGAINST  23,877           ABSTAIN  1,493


     E: warrants to purchase HealthWatch common stock issued to an affiliate of
     Commonwealth Associates, L.P. in connection with a $2 million line of
     credit (the "Line of Credit Warrants"); and

FOR  2,373,249             AGAINST  23,871           ABSTAIN  1,494


4.   To ratify and approve the conversion feature and the issuance of shares of
     HealthWatch common stock upon conversion of HealthWatch's outstanding
     Series P Preferred Stock (the "Series P Preferred").

FOR  2,334,081             AGAINST  63,819           ABSTAIN  1,214



                                       16

<PAGE>


                                     PART II

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


     The number of record holders of HealthWatch's common stock on October 9,
2001 was approximately 700. The high and low sale prices as reported on the
Nasdaq SmallCap Market are shown in the table below (adjusted to reflect the
one-for-five reverse stock split effective December 1999). These quotations
represent prices between dealers, and do not include retail markups, markdowns
or commissions.

              QUARTER ENDED                HIGH         LOW
              -------------                ----         ---
      1999
              September 30               $ 5.15       $1.88
              December 31                  5.90        1.55
      2000
              March 31                     9.06        2.00
              June 30                      4.75        1.31
              September 30                 2.88        1.16
              December 31                  1.50        0.38
      2001
              March 31                     1.63        0.56
              June 30                      0.81        0.40

     The Company has never paid a cash dividend on its common stock. The payment
by the Company of dividends, if any, in the future rests within the discretion
of its Board of Directors and will depend, among other things, upon the
Company's earnings, capital requirements and financial condition. The Company's
outstanding Preferred Stock restrict the Company's ability to pay dividends on
the common stock until all dividends on the preferred stock have been paid.

Fiscal Year 2001 Stock Issuances

     On May 31, 2001, Healthwatch issued 2,268,419 shares of common stock in
exchange for all of the outstanding shares of Halis, an exchange ratio of one
share of HealthWatch common stock for twenty shares of Halis common stock. The
total consideration has been valued at $5,417,785 as of May 31, 2001 which is
comprised of the fair value of the HealthWatch shares issued in the transaction,
or $3,039,682 (2,268,419 shares at the trading price at June 30, 2000 of $1.34
per share), plus the book value of HealthWatch's investment in and advances to
Halis at June 30, 2000, or $2,028,277, plus net liabilities assumed of $349,826.
Prior to May 31, 2001, Healthwatch was the single largest shareholder of Halis,
owning 15,763,655 shares (approximately 26%). Halis owned the HES Systems and is
engaged in the business of providing information technology applications and
services to the healthcare industry.

Fiscal Year 2000 Stock Issuances

     On September 30, 1999 Sanford Schwartz, a then director of the Company, was
issued 17,894 shares of common stock in lieu of consulting fees valued at
$50,326 owed to him or his affiliated company for services provided to the
Company. Also on September 30, 1999, 10,000 shares of common stock was issued to
Richard Case, a then director of the Company, in lieu of consulting fees valued
at $20,300 due to Mr. Case for consulting services provided to the Company.

     In December 1999, HealthWatch retained Commonwealth Associates, LP, an
investment banking firm located in New York, to assist it in raising capital
needed for ongoing working capital and implementation of HealthWatch's business
plan.

     In December 1999 and February 2000, HealthWatch completed a $400,000 equity
bridge financing (the "Bridge Financing") pursuant to which affiliates of the
Commonwealth Associates purchased an aggregate of 4,000 shares of HealthWatch's
Series C Preferred Stock (convertible into HealthWatch common stock at a price
of $1.875 per share) and received five-year warrants (the "Bridge Warrants") to
purchase an aggregate of 666,669 shares of HealthWatch common stock at an
exercise price of $1.875 per share.

     In February 2000, an affiliate of Commonwealth Associates agreed to make a
$2,000,000 line of credit available to HealthWatch through one of its affiliates
(the "Line of Credit"). The Line of Credit was secured by all assets of the
Company. Funds advanced pursuant to the Line of Credit carried an interest rate
of 8% per annum, payable at maturity. The maturity date was set at the earlier
of (i) 12 months from the date of issuance, (ii) upon the Company raising a
minimum of $5,000,000 from any debt or equity placement or (iii) upon a merger
or combination of the Company or the sale of all or substantially all of the
assets of the Company. In February 2000, HealthWatch received advances of
$500,000 under the Line of Credit which were repaid in full in May 2000.
HealthWatch issued the lender five-year warrants to purchase 1,000,000 shares of
HealthWatch common stock (the "Line of Credit Warrants") exercisable at $3.50
per share subject to adjustment upward under certain


                                       17

<PAGE>

circumstances.

     In March 2000, HealthWatch offered its Series D 8% Convertible Preferred
Stock. The offering consisted of units comprised of (i) 1,000 shares of its
Series D 8% Convertible Preferred Stock (the "Series D Preferred Stock") and
(ii) five-year warrants to purchase an amount equal to 25% of the shares of
HealthWatch common stock into which the Series D Preferred Stock are initially
convertible (28,571 shares of common stock per unit). 50 units (the "Minimum
Offering") were offered on a "best efforts, all-or-none" basis and the remaining
50 units (a total of 100 units being the "Maximum Offering") were offered on a
"best efforts" basis. The sale of units in excess of the Maximum Offering was
conditioned upon approval by HealthWatch stockholders of an increase in its
authorized capital stock at its next meeting of stockholders.

     In May 2000, HealthWatch completed the Series D Preferred Stock offering,
selling 74,130 shares of Series D Preferred Stock with related warrants for
approximately $7.4 million. In connection with the above transactions in which
Commonwealth Associates acted as placement agent, HealthWatch paid fees totaling
$722,300 to Commonwealth Associates and issued 529,500 five-year warrants for
the purchase of HealthWatch common stock at an exercise price of $3.50 per
share.

     In addition to the above transactions, during fiscal year ending June 30,
2000, HealthWatch issued 28,572 shares common stock for cash proceeds totaling
$50,000; 311,491 shares of common stock for services and accrued liabilities
valued at $631,766 and 316,990 shares of common stock upon the conversion of
debentures and accrued interest totaling $594,356. HealthWatch also received
$26,178 upon the exercise of warrants for 65,761 shares of the Company's common
stock and issued 734,908 shares of the Company's common stock upon the
conversion of 224,000 shares of its Series A preferred stock.

Fiscal Year 1999 Stock Issuances

     Pursuant to previously executed agreements, during the three-month period
ended December 31, 1998, the Company completed the acquisition of PHE. The
Shareholders of PHE received 334,443 shares (pre December 1999 Reverse Stock
Split) of the Company's Series P Preferred Stock, stated value $10.00 per share,
and other consideration in the merger. PHE was merged into MERAD Software, Inc.,
a Nevada corporation, and a wholly-owned subsidiary of the Company. At the time
of the merger, PHE held 6,177,010 shares of Halis common stock. As a result of
the acquisition of PHE, 888,400 shares of the Company's common stock were
cancelled and retired.

     During the three-month period ended March 31, 1999, the Company issued a
total of 1,000,804 shares of common stock for an aggregate purchase price of
$425,000 pursuant to private placement of its securities, and an equal number of
warrants at exercise prices ranging from $0.49 to $0.86 per share expiring two
years after their issuance.

     During the three-month period ended June 30, 1999, the Company issued a
total of 209,152 shares of common stock for an aggregate

     June 30, 1999, options to purchase a total of 55,000 shares of the
Company's common stock were exercised for a total of $36,300.

Fiscal Year 1998 Stock Issuances

     During February 1998, the Company completed a stock exchange with PHE
whereby the Company issued 448,400 shares of common stock to PHE in exchange for
1,400,000 shares of Halis common stock.

     During June 1998, the Company sold to a limited number of private investors
1,145,000 shares of its 6% Series A Preferred Stock, stated value $1.00 per
share (the "Series A Preferred"). The Series A Preferred Stock is convertible
into common stock of the Company at the lesser of $.52 per share or 70% of the
price of the Company's common stock at the time of conversion. Alexander Wescott
& Co., Inc. served as placement agent for the offering and was paid expenses and
commissions of $151,850 and was granted a warrant representing the right to
acquire 1,145,000 shares of the Company's common stock at a purchase price of
$1.20 per share for placing the Preferred Stock. The shares of common stock
issuable upon conversion of the Preferred Stock have not been registered under
the Securities Act of 1933. As of August 31, 2000, all but 5,000 shares of the
Series A Preferred Stock had been converted into shares of common stock.

     The Company issued all of the securities noted above without registration
under the Securities Act of 1933, as amended, in reliance upon an exemption from
the registration requirements of such Act contained in Section 4(2) thereof.


                                       18

<PAGE>

ITEM 6.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.

Forward Looking Statements

     The following discussion of HealthWatch's financial condition and results
of operations contains forward looking statements within the meaning of Section
27A of the Securities Act of 1933 and Section 21E of the Securities and Exchange
Act of 1934, which are intended to be covered by the safe harbors created
thereby. These statements include the plans and objectives of HealthWatch for
future operations. The forward looking statements included herein are based on
current expectations that involve numerous risks and uncertainties.
HealthWatch's plans and objectives are based on certain assumptions including,
but not limited to, competitive conditions within the healthcare industry will
not change materially or adversely and that there will be no material adverse
change in HealthWatch's operations or business. Assumptions relating to the
foregoing involve judgments with respect to, among other things, future
economic, competitive and market conditions, as well as future business
decisions, all of which are difficult or impossible to predict accurately and
many of which are beyond HealthWatch's control. Although HealthWatch believes
that the assumptions underlying the forward looking statements included herein
are reasonable, the inclusion of such information should not be regarded as a
representation by HealthWatch, or any other person, that the objectives and
plans of HealthWatch will be achieved.

   General

     This discussion and analysis of financial condition and results of
operations as of June 30, 2001, and for the fiscal years ended June 30, 2001 and
2000 should be read in conjunction with the sections of HealthWatch's audited
financial statements and related notes included elsewhere in this Form 10-KSB.

   Financial Condition

     Total assets at June 30, 2001 increased $626,442 to $8,066,388 from
$7,439,946 at June 30, 2000. The Halis merger resulted in an increase in cash,
property and equipment, accounts receivable and intangible assets of $120,365,
$236,529, $313,422 and 6,035,554, respectively. In addition, software costs of
$249,407 were capitalized and equipment of $113,067 was acquired. These
increases were offset by decreases in investments in marketable securities of $
3,935,500, investment in and advances to Halis, Inc. of $2,211,487, and
depreciation and amortization of $380,847.

     Current liabilities at June 30, 2001 increased $1,268,490 to $1,809,024
from $540,534 at June 30, 2000. The Halis merger resulted in an increase in
accounts payable and accrued expenses, accrued payroll, obligations under
capital leases, note payable to a bank and income taxes payable of $756,149,
$97,456, $99,476, $62,248, $218,427 and $43,612, respectively.

     Shareholders' equity decreased $756,096 from $6,899,412 at June 30, 2000 to
$6,143,316 at June 30, 2001. This decrease is primarily due to the net loss for
the year ended June 30, 2001 of $3,937,367 offset by the proceeds from the
issuance of 2,268,419 shares valued at $3,039,681 in connection with the Halis
merger.

     Results of Operations

     Fiscal year 2001 versus 2000

     Revenues increased $90,296, or 16,4% from $551,682 in fiscal year 2000 to
$641,978 in fiscal year 2001. The inrease results from revenue of $295,768 from
Halis subsequent to the effective date of the merger to June 30, 2001 offset by
a decline in revenue from Healthwatch Technologies of $205,472. HealthWatch
continues to reduce its activities related to the product supplies business as
it transforms itself into an information technology company.

     Cost of products sold decreased $134,404 or 69.3% from $193,952 in fiscal
year 2000 to $59,548 in fiscal year 2001. The continued shift from product sales
to service and support at Healthwatch Technologies resulted in a decrease in
cost of sales of $62,167 due to higher margins on service and support and a
decrease of $72,237 due to sales volume.

     Gross margins increased from $357,730, 64.8%, in 2000 to $582,430, 90.7%,
in 2001. Higher gross margins were achieved from the revenue generated from the
claims processing subsidiary, ABAS and the continued shift from product sales to
service and support at Healthwatch Technologies.


                                       19

<PAGE>

     Selling, general and administrative expenses increased $1,701,643 or 86.6%
from $1,964,127 in fiscal 2000 to $3,665,770 in fiscal 2001. This increase was
primarily due to an increase of $751,270 in compensation expense as a result of
building the management team, payments to Halis of $495,195 under a business
collaboration agreement, operating expenses of $301,363 related to Halis
subsequent to the merger and $153,815 related to SEC and NASDAQ compliance and
the implementation of the business plan.

     Research and development expenses increased $76,629 or 56.0% from $136,780
in fiscal 2000 to $213,409 in fiscal 2001 as a result of the Company's
enhancements of its products. Software development costs of $213,077 were
capitalized in fiscal year 2001.

     Depreciation and amortization decreased $61,948 or 14.0% from $442,795 in
fiscal 2000 to $380,847 in fiscal 2001. The decrease primarily is the result of
certain amortization expense in fiscal year 2000, related to Healthwatch
Technologies goodwill reaching full amortization, offset by amortization expense
of $100,054 related to the Halis merger.

     Equity loss from investment in Halis decreased from $523,450 during fiscal
2000 to $356,313 during fiscal 2001. The $523,450 and $356,313 represent the
pro-rata share of Halis' net loss during fiscal year 2000 and the eleven months
ended May 31, 2001, respectively, plus charges totaling $184,532 and $169,154,
respectively, for the amortization of the excess carrying value of the Halis
investment over its underlying net asset value. The other-than temporary decline
in investment in Halis of $472,810 in fiscal 2000 was a write down of the
investment in Halis.

     Interest income of $110,606 in fiscal 2000 and $104,456 in fiscal 2001 are
related to the investment in marketable securities.

     Gain on extinguishment of debt of $165,405 ($99,405 net of tax) in fiscal
2000 is attributable to a liability from the early 1990's related to a
previously acquired, inactive subsidiary, that HealthWatch determined was no
longer required. The Company has received no communication from the creditor and
management believes that HealthWatch never will.

     Loss from impairment of intangible assets of $213,286 during fiscal 2000
relates to the write-off of an intangible asset associated with the Life
Sciences business of HealthWatch Technologies.

     Interest expense decreased $428,495, from $455,875 in fiscal 2000 to
$27,380 in fiscal 2001 primarily due to the beneficial conversion feature of
$419,551 on warrants in connection with a line of credit offset recorded in
fiscal year 2000.

Liquidity and Capital Resources

     At June 30, 2001, HealthWatch had cash of $264,862. During the fiscal year
ended June 30, 2001, operating activities consumed $2,809,673 of cash as
compared to $1,523,796 for the same period in fiscal 2000. The increase in cash
used in operations for fiscal 2001 is primarily the result of increased cost to
build the management team and payments to Halis under a business collaboraion
agreement.

     Investing activities provided $3,115,368 and used $5,520,386 of cash during
fiscal 2001 and 2000, respectively. The increase is primarily attributable to
the proceeds from the sale of $4,000,000 of marketable securities and cash
acquired in the merger of 120,365. Also during fiscal 2001 HealthWatch paid for
certain expenses related to the Halis merger of 520,800. Other investing
activities during fiscal 2001, consisted of $249,407 and $190,089 of capitalized
MERAD technology costs and an increase in "Due from Halis," respectively.




                                       20

<PAGE>


     Due to HealthWatch's success in raising additional capital through the
private placement of its securities, management has begun to implement its
business plan, which includes securing the additional personnel needed to manage
the marketing of its products and additional investment in research and
development. During the quarter ended March 31, 2000, HealthWatch hired a Chief
Operating Officer with an expertise in the healthcare information technology
industry to assist HealthWatch in marketing and developing its products. The
Company has also recently hired a Chief Financial Officer. In addition,
HealthWatch merged with Halis, an information technology company which has
developed transaction processing applications for the healthcare industry.
HealthWatch and Halis have a long history with each other, as HealthWatch is the
largest Halis shareholder. Management believes that securing the business
contacts and application products of Halis, specifically the HES Systems, will
provide HealthWatch with a key element needed to succeed in the development of
its information technology business. Currently, HealthWatch does not have any
material commitments outstanding for capital expenditures and does not
anticipate making any material capital expenditures in the short term. However,
HealthWatch is not currently generating positive cash flow from its operations,
and does not currently have liquid assets necessary to sustain operations over
the next twelve months. Management believes that it will be able to provide the
necessary operating capital from sales of its products and services. However, if
HealthWatch is unable to generate sufficient cash flow from its business it will
be necessary to seek additional equity or debt financing.


                                       21

<PAGE>

ITEM 7.  FINANCIAL STATEMENTS.

     The following financial statements and reports of the Company's independent
auditors are at the end of this report beginning at Page F-1:

HealthWatch, Inc. and Subsidiaries
----------------------------------

(1)   Report of Independent Public Accountants - Tauber & Balser, P.C.
(2)   Consolidated Balance Sheet as of June 30, 2001 and 2000
(3)   Consolidated Statements of Operations For The Years Ended June 30, 2001
      and 2000
(4)   Consolidated Statements of Cash Flows For The Years Ended June 30, 2001
      and 2000
(5)   Consolidated Statements of Stockholders' Equity (Deficit) For The Years
      Ended June 30, 2001 and 2000
(6)   Notes to Consolidated Financial Statements

Halis, Inc. and Subsidiaries
----------------------------

(1)   Report of Independent Public Accountants - Tauber & Balser, P.C.
(2)   Consolidated Balance Sheet as of December 31, 2000
(3)   Consolidated Statements of Operations For The Years Ended December 31,
      2000 and 1999
(4)   Consolidated Statements of Cash Flows For The Year Ended December 31, 2000
      and 1999
(5)   Consolidated Statements of Stockholders' Equity (Deficit) For The Years
      Ended December 31, 2000 and 1999
(6)   Notes to Consolidated Financial Statements

ITEM 8.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.

None

PART III

ITEM 9.  DIRECTORS AND EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS.

Executive Officers and Directors

     The following table sets forth information regarding current executive
officers and directors of HealthWatch:

<TABLE>


                  NAME             AGE                                       POSITION
<S>                               <C>      <C>
Paul W. Harrison                    46      Chairman of the Board of Directors, President and Chief Executive Officer
David M. Engert                     50      Chief Operating Officer and Director
Marilyn May                         38      Vice President - Business Development
A. E. Harrison                      41      Vice President - Research & Development
Thomas C. Ridenour                  40      Chief Financial Officer
Harold Blue (1)                     40      Director
Robert Tucker                       67      Director
John R. Prufeta                     40      Director
</TABLE>


     (1) Mr. Blue is the director representative of the Series D Preferred
stockholders.

Paul W. Harrison has served as Chairman of the board of directors since October
1997 and has acted as CEO since October 1998. Previously, Mr. Harrison was the
CEO of Paul Harrison Enterprises, Inc. ("PHE"), an information technology
management company, from February 1995 until it was merged into HealthWatch in
October 1998. Prior to PHE, Mr. Harrison was Vice President of Managed Care at
the healthcare software firm of HBO & Company, which is now McKesson HBOC


                                       22

<PAGE>

(NYSE: MCK), from June 1993 until December 1994 and was CEO of Biven Software,
Inc., a healthcare software firm, from April 1991 to June 1993 at which time
Biven was acquired by HBOC. Prior to HBOC, Mr. Harrison served as CEO of SOTRISS
from 1981 to 1989. SOTRISS was an information technology company that was sold
to a publicly traded Fortune 500 company in 1989. Mr. Harrison's education
includes a Bachelors Degree from Georgia State University. He is a Chartered
Financial Consultant, a Chartered Life Underwriter and a Fellow of the Life
Management Institute. Paul W. Harrison and A.E. Harrison, HealthWatch's Vice
President--Research & Development, are brothers.

David M. Engert has served as Chief Operating Officer on a limited basis since
February 2000 and on a full time basis since April 24, 2000. On June 1, 2000,
Mr. Engert was appointed to the board of directors. Most recently, Mr. Engert
was a Senior Vice President and General Manager of the Managed Care Group at
McKesson HBOC, Inc., a healthcare software company. He founded that group in
1993 after holding the President and Chief Operating Officer position at Biven
Software, Inc., a healthcare software company. Mr. Engert was also one of the
first Directors of Sales at Sybase, Inc., an information technology company,
where he was employed from 1988 to 1992. He began his career in information
technology at Computer Corporation of America, Boeing Computer Services and
Xerox Computer Services. Mr Engert's education includes a B.S. in Industrial
Engineering from Louisiana State University.

Marilyn May is Vice President of Business Development and has served in that
capacity since January 1999. Ms. May joined HealthWatch in September 1996 and
previously served as Director of Marketing for HealthWatch and Halis. From 1993
until she joined Halis, Ms. May had temporarily left the workforce. Ms. May was
in marketing for Proctor and Gamble, a publicly traded consumer products firm,
from 1990 to 1993. She also worked in operations management for Pepsico, a
publicly traded food and beverage company, from 1985 to 1988. Ms. May's
education includes an MBA from the University of Tennessee.

A.E. Harrison is Vice President of Research and Development. He has been with
HealthWatch since April 1999. From 1995 to March 1999, Mr. Harrison served as
Vice President of R&D for Halis. Previously, Mr. Harrison was in software
development for HBO and Company, which is now McKesson HBOC (NYSE: MCK). Prior
to HBOC, he was in several information technology companies including SOTRISS,
Marcom, a publicly traded telecommunications company, and ITT, a diversified
Fortune 500 communications company. A.E. Harrison and Paul W. Harrison,
HealthWatch's Chairman, President and C.E.O., are brothers.

Thomas C. Ridenour has served as Chief Financial Officer since August 2000.
Prior to joining HealthWatch, Mr. Ridenour served as Senior Vice President and
Chief financial Officer of Nationwide Credit, Inc., a consumer finance company,
from 1998 to 2000. Mr. Ridenour served in various financial management roles at
American Security Group, a financial services company, from 1995 to 1998. In
addition, Mr. Ridenour held other financial management positions at Primerica
Financial Services, a financial services company, and Southmark Corporation, a
real estate service and development company. Mr. Ridenour is a CPA and holds a
B.S. Accounting degree from the University of South Carolina.

Harold Blue has served on the board of directors since September 28, 2000. Mr.
Blue is currently Vice Chairman of ProxyMed, Inc., a publicly-held company
providing physician office software products, Internet application services and
network services to the healthcare community. Most recently, Mr. Blue served as
Chairman of the Board and Chief Executive Officer of ProxyMed, Inc. from 1993 to
August 2000. Prior to ProxyMed, Inc., Mr. Blue founded Best Generics, Inc. which
was later sold to Ivax Corporation, a pharmaceutical manufacturer, where he
served as a member of Ivax's board of directors. From 1990 to 1994, Mr. Blue
served as President and Chief Executive Officer of a physician practice
management company which was acquired by InPhyNet Medical Management, Inc. Mr.
Blue has also served on numerous boards of directors of publicly-held companies.
Mr. Blue serves on the HealthWatch board as the director representative of the
Series D Preferred stockholders.

Robert Tucker has served on the board of directors since June 1, 2000. Mr.
Tucker has been president and chief executive officer of Specialty Surgicenters,
Inc. since 1997. From 1995 to 1997, Mr. Tucker was self-employed as a private
investor. From 1980 to 1995, he was chairman and chief executive officer of
Scherer Healthcare, Inc., a publicly traded healthcare products and services
company and was a member of the board of directors of Marquest Medical Products,
Inc. Mr. Tucker has been involved throughout his business career in the medical
industry, having held executive positions with Johnson and Johnson, Howmedica
and Story Instrument Company, among others. Mr. Tucker, a Korean war veteran, is
a graduate of Georgia State University and serves as an officer and director of
several closely held companies.

John R. Prufeta has served on the board of directors since July 14, 2000. Mr.
Prufeta has served as president and chief executive officer of Medix Resources,
Inc., a publicly held Internet-based healthcare communication, data integration
and transaction processing provider for the healthcare industry, since 2000 and
has been a board member since 1999. Mr. Prufeta served as chairman and CEO of
Onpoint Partners and Creative Management Strategies, a national technology and
services executive search firm, from 1989 to present. Mr. Prufeta serves as a
trustee for Silvercrest Services, a subsidiary of The New York


                                       23

<PAGE>

Hospital of Queens. He is additionally on the Advisory Board of The National
Managed Care Congress. Mr. Prufeta's education includes a B.S. in management
from St. Johns University and the Owner/President Management Program at Harvard
University, Graduate School of Business.

Recent Changes in Management

     On September 24, 2001, John R. Prufeta resigned as a director of
HealthWatch. Mr. Prufeta served as a director of HealthWatch since July 14,
2000. HealthWatch has not received any written communication from Mr. Prufeta
with regard to any disagreements with HealthWatch relating to its operations,
policies or practices.

     On July 2, 2001, David M. Engert resigned as a director of HealthWatch. Mr.
Engert served as a director of HealthWatch since June 1, 2000. HealthWatch has
not received any written communication from Mr. Engert with regard to any
disagreements with HealthWatch relating to its operations, policies or
practices. On September 20, 2001, Mr. Engert resigned as Chief Operating
Officer.

     On June 29, 2001, John Gruber resigned as a director of HealthWatch. Mr.
Gruber served as a director of HealthWatch since September 28, 2000. HealthWatch
has not received any written communication from Mr. Gruber with regard to any
disagreements with HealthWatch relating to its operations, policies or
practices.

     On September 28, 2000, Sheldon Misher and Robert Priddy resigned as
directors of HealthWatch. Messrs. Misher and Priddy had served as a directors of
HealthWatch since April 5, 2000. HealthWatch has not received any written
communication from either Mr. Misher or Mr. Priddy with regard to any
disagreements with HealthWatch relating to its operations, policies or
practices.

     In March 2000, Richard T. Case and Sanford L. Schwartz resigned as
directors of HealthWatch. Mr. Case had served as a director of HealthWatch from
1997 and had also served as a director during the period between 1990 and 1994.
Mr. Schwartz had served as a director of HealthWatch since 1983. At the time of
their respective resignations, neither Mr. Case nor Mr. Schwartz had any
disagreements with HealthWatch relating to its operations, policies or
practices.

     Larry Fisher served as a director of HealthWatch from 1997 until his
resignation effective June 1999. At the time of his resignation, Mr. Fisher and
HealthWatch did not have any disagreements relating to HealthWatch's operations,
policies or practices.

ITEM 10. EXECUTIVE COMPENSATION.

     The following table sets forth information concerning the compensation
earned during the fiscal year ended June 30, 2001 by HealthWatch's Chief
Executive Officer and other officers or directors who received compensation of
$100,000 or more in Fiscal 2001.

                        SUMMARY COMPENSATION TABLE

<TABLE>
<CAPTION>

                                                                 Annual               Bonus or            Long-Term Compensation
            Name and Principal                   Fiscal          Salary      Other Annual Compensation    Awards/Number of Option
                 Position                         Year            ($)                  ($)(a)                 Shares Granted
<S>                                             <C>             <C>             <C>                       <C>

Paul W. Harrison                                  2001        $124,717                   --                         75,000
President and Chief                               2000         176,000(c)                --                        200,000
Executive Officer                                 1999          75,000(d)                --                        116,667

David M. Engert (b)                               2001         168,205                   --                         50,000
Chief Operating Officer                           2000           --                      --                        110,000
                                                  1999           --                      --                             --

Thomas C. Ridenour (e)                            2001         145,102                   --                        100,000
Chief Financial Officer                           2000           --                      --                             --
                                                  1999           --                      --                             --


A. E. Harrison (g)                                2001        $132,982                   --                         25,000
Vice President                                    2000         118,577(f)                --                         50,000
                                                  1999          25,000                   --                             --
</TABLE>


(a)  HealthWatch pays for other perquisites. The aggregate amounts of these
     benefits do not exceed the lesser of $50,000 or 10%


                                       24

<PAGE>

     of the total annual salary and bonus during the past fiscal year for the
     named executive officers.
(b)  Mr. Engert became Chief Operating Officer of the HealthWatch effective
     April 24, 2000.
(c)  Includes 9,333 shares of HealthWatch common stock valued at $17,500 paid in
     lieu of salary on December 14, 1999 and 20,000 shares of HealthWatch common
     stock valued at $37,500 paid in lieu of salary on February 16, 2000.
(d)  Mr. Harrison entered into a consulting agreement in February 1999 whereby
     he was to receive a monthly fee of $12,500 effective as of January 1, 1999.
     As of June 30, 1999, $75,000 of consulting fees had accrued although Mr.
     Harrison received only $12,500 of this amount. The balance of $62,500 was
     paid in fiscal year 2000 on December 14, 1999 in the form of 33,334 shares
     of HealthWatch common stock.
(e)  Mr. Ridenour became Chief Financial Officer of the HealthWatch effective
     August 23, 2000.
(f)  Includes 6,667 shares of HealthWatch common stock valued at $12,501 paid in
     lieu of salary on December 14, 1999.
(g)  A.E. Harrison joined HealthWatch effective April 1, 1999.

Option Grants in Last Fiscal Year

     The following table sets forth stock options and stock purchase rights
granted to each of the named executive officers during the fiscal year ended
June 30, 2001. A total of 517,000 options and stock purchase rights were granted
in fiscal 2001, all under the Company's stock option plans.

     Options and stock purchase rights were granted at an exercise price equal
to the fair market value of HealthWatch's common stock, as determined by the
board of directors, on the date of grant based on its current stock price as
quoted on the Nasdaq SmallCap Market.

                       OPTION GRANTS IN LAST FISCAL YEAR

<TABLE>
<CAPTION>

               Name                       Number of               Percent of Total              Exercise or          Expiration
                                       Options Granted           Options Granted to              Base Price             Date
                                                                    Employees and               (Per Share)
                                                              Directors in Fiscal 2001
<S>                                         <C>                               <C>                <C>              <C>
Paul W. Harrison                            75,000                            14.5%              $ 0.875          11/10/10
David M. Engert                             50,000                             9.7%              $ 0.875          11/10/10
Thomas C. Ridenour                         100,000                            19.3%              $ 0.875          11/10/10
A. E. Harrison                              25,000                             4.8%              $ 0.875          11/10/10
</TABLE>

Option Exercises and Holdings

     The following table sets forth for each of the named executive officers of
HealthWatch certain information concerning the number of shares subject to both
exercisable and unexercisable stock options at June 30, 2001. Also reported are
values realized in respect thereof, by the named executive officers and the
number of stock options and the value of said stock options held by the named
executive officers as of June 30, 2001.

<TABLE>
<CAPTION>

              Name                 Shares Acquired      Value Realized       Number of Unexercised        Value of Unexercised
                                     on Exercise              ($)              Options at 6/30/01        "in-the-money" Options
                                                                                  Exercisable/                Exercisable/
                                                                               Unexercisable                Unexercisable (a)
<S>                                      <C>                <C>               <C>                                <C>
Paul W. Harrison (b)                     None                 --              747,200/49,500                      $0/0
David M. Engert                          None                 --              160,000/33,000                      $0/0
Thomas C. Ridenour                       None                 --              100,000/66,000                      $0/0
A. E. Harrison                           None                 --               75,000/16,500                      $0/0
</TABLE>

(a) The market price of the HealthWatch's common stock on June 30, 2001 was
$0.42 per share. None of these options were "in-the-money" at June 30, 2001.

(b) Mr. Harrison also holds 14,545 warrants exercisable at a price of $2.235 per
share, 3,333 warrants exercisable at a price of $8.60 per share and 15,094
warrants exercisable at a price of $4.306 per share. All of these warrants are
immediately exercisable.

Limitation of Liability and Indemnification Matters

     HealthWatch's Articles of Incorporation limits the liability of directors
to the maximum extent permitted by Minnesota law. The HealthWatch Articles of
Incorporation provide that a director shall not be personally liable to the
corporation or its


                                       25

<PAGE>

stockholders for monetary damages for breach of fiduciary duty as a director,
except for:

     o  liability based on a breach of the duty of loyalty to the corporation or
        its stockholders;
     o  liability for acts or omissions not in good faith or that
        involve intentional misconduct or a knowing violation of law;
     o  liability of directors for improper distributions; or
     o  liability for any transaction in which a director derived an improper
        personal benefit.

ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.

The following table sets forth information with respect to beneficial ownership
of the HealthWatch common stock by each person who beneficially owns more than
5% of the HealthWatch common stock, by each of its executive officers named in
the management section, by each of its directors, and by all executive officers
and directors as a group. The table shows the number of shares and the
percentage of the HealthWatch common stock owned as of August 31, 2001. Unless
otherwise indicated, HealthWatch believes all persons in the table have sole
voting and investment power for all shares beneficially owned by them.

<TABLE>
<CAPTION>

                                                       Number of Shares
                                                        of HealthWatch                     Percentage of
                                                         Common Stock                    Outstanding Shares
                                                         Beneficially                       Beneficially
                  Name of Beneficial Owner                   Owned                           Owned (1)
                  ------------------------                   -----                           ------
<S>                                                    <C>                                <C>

Paul W. Harrison (2)                                      1,489,284                            18.01%
Thomas C. Ridenour                                          108,150                             1.57%
Harold Blue                                                  50,000                               --
David M. Engert (3)                                         251,456                             3.58%
Robert Tucker                                                50,000                               --
John R. Prufeta (4)                                          58,929                               --
J.F. Shea, Inc. (5)                                         285,828                             4.05%
Robert Priddy (5)                                           285,828                             4.05%
Rush and Company (6)                                        214,371                             3.07%
All Directors & Executive Officers as a
Group (10 persons) (7)                                    2,032,819                            23.07%
</TABLE>

(1)  Based on 4,453,377 shares of outstanding HealthWatch common stock as of
     August 31, 2001, plus the shares of common stock currently issuable upon
     the conversion of all outstanding shares of Series C Preferred (213,333)
     and (2) all outstanding shares of the Series D Preferred (2,111,683).
(2)  Includes 422,972 shares subject to warrants and options exercisable within
     60 days.
(3)  Includes 123,333 shares subject to warrants and options exercisable within
     60 days.
(4)  Includes 8,929 shares of common stock issuable upon conversion of Series D
     Preferred and warrants exercisable within 60 days.
(5)  Includes 285,714 shares of common stock issuable upon conversion of Series
     D Preferred and warrants exercisable within 60 days.
(6)  Includes 214,286 shares of common stock issuable upon conversion of Series
     D Preferred and warrants exercisable within 60 days.
(7)  Includes 655,244 shares subject to Series C Preferred, Series D Preferred,
     warrants and options exercisable within 60 days.

     Beneficial ownership is based on information provided to us, and the
beneficial owner has no obligation to inform us of or otherwise report any
changes in beneficial ownership. Except as indicated, the persons named in the
table above have sole voting and investment power with respect to all shares of
HealthWatch common stock shown as beneficially owned by them. Mr. Harrison's,
Mr. Ridenour's and Mr. Engert's address is 1100 Johnson Ferry Road, Suite 670,
Atlanta, Georgia 30342. Mr. Blue's address is 2555 Davie Road, Suite 110, Ft,
Lauderdale, Florida 33317. Mr. Tucker's address is 555 Sun Valley Drive, Suite
P-1, Roswell, Georgia 30076. Mr. Prufeta's address is 305 Madison Avenue, Suite
2033, New York, New York 10165.



                                       26

<PAGE>

     The percentages shown are calculated based upon 4,453,377 shares of
HealthWatch common stock outstanding on August 31, 2001 and 2,111,683 shares
issuable upon conversion of the Series C and D Preferred. In calculating the
percentage of ownership, all shares of HealthWatch common stock that the
identified person or group had the right to acquire within 60 days of August 31,
2001 upon the exercise of options and warrant are deemed to be outstanding for
the purpose of computing the percentage of shares of HealthWatch common stock
owned by such person or group, but are not deemed to be outstanding for the
purpose of computing the percentage of the shares of HealthWatch common stock
owned by any other person.

ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

     The following is a description of transactions since January 1, 1998 to
which HealthWatch has been a party, the amount involved in the transaction
exceeds $60,000 and (a) in which any director, executive officer or holder of
more than 5% of HealthWatch's capital stock had or will have a direct or
indirect material interest other than compensation arrangements or (b) involves
an affiliate of HealthWatch.

     History of Halis, HealthWatch and PHE

     Since August 1997, HealthWatch has entered into a number of transactions
with Halis, and a number of its affiliates and stockholders. As stated earlier,
the HES System was developed by Halis utilizing the MERAD technology. The MERAD
technology was developed by Paul W. Harrison and originally owned by Paul
Harrison Enterprises, Inc., ("PHE") which was controlled by Paul W. Harrison,
prior to HealthWatch's acquisition of PHE in October 1998. PHE was also a
significant stockholder of Halis, at the time of its acquisition by HealthWatch,
owning 6,177,010 shares (or approximately 11%) of Halis common stock. An
additional 990,849 shares (or 2%) of Halis common stock was owned by Mr.
Harrison individually at that time.

     License Agreement Between HealthWatch and PHE

     In October 1997, HealthWatch entered into a software license and
development agreement with MERAD Corporation ("MERAD"), a company then owned by
PHE. Pursuant to the agreement, HealthWatch was to license certain computer
architecture, concepts, algorithms and processes from MERAD which HealthWatch
originally planned to integrate into a line of noninvasive vascular diagnostic
equipment. In addition, MERAD was to develop healthcare software for
HealthWatch. In exchange for these licenses and services, HealthWatch agreed to
pay MERAD a development fee of $15,000 per month during the period January 1998
through June 1998. In addition, HealthWatch was to pay MERAD a fee based on a
variable rate of gross software revenues. HealthWatch believes that the terms of
the license agreement between HealthWatch and PHE were at fair market value and
on no less favorable terms than could have been obtained from unaffiliated third
parties.

     Private Placements between Halis, HealthWatch and PHE

     During the first quarter of fiscal year 1998, HealthWatch entered into an
agreement with Halis pursuant to which Halis acquired 83,333 shares of
HealthWatch common stock for a purchase price of $125,000. During the second
quarter of fiscal year 1998 and prior to its acquisition by HealthWatch, PHE
transferred 500,000 shares of Halis common stock to HealthWatch in exchange for
400,000 shares of HealthWatch common stock. During February 1998, PHE exchanged
an additional 1,400,000 shares of Halis common stock for 488,400 shares of
HealthWatch common stock. The exchange ratio was based upon the market value for
each company's common stock at the time that the transaction was negotiated. For
purposes of the above transactions, the fair market value of each company's
common stock was determined by reference to the then trading price of such
common stock on the over-the-counter market with respect to Halis and on the
Nasdaq SmallCap Market with respect to HealthWatch. Adjustments were then
negotiated to the exchange ratio to reflect that the transactions related to
blocks of Halis common stock larger than would be purchasable in a short period
of time over-the-counter. At that time, there was relatively active trading in
Halis common stock over-the-counter, but relatively low volume per day, making
the acquisition of a large block of stock more difficult in the open market. As
a result of these transactions, at September 30, 1998 PHE held 888,400 shares of
HealthWatch common stock. As a result of the acquisition of PHE by HealthWatch
on October 2, 1998, these shares became treasury shares and are not outstanding.
None of the references to the shares of HealthWatch common stock held or
acquired by PHE above include shares owned directly by Mr. Harrison nor do they
reflect the five-for-one reverse stock split effected by HealthWatch in December
1999. At the time of the PHE acquisition, Mr. Harrison owned 1,203,849 shares of
PHE (approximately 37.5%) and 246,123 shares of HealthWatch (approximately 10%).


                                       27

<PAGE>

                   Summary of Private Placement Transactions

<TABLE>
<CAPTION>
                                                                                                             Fair Market
     Party                        Value Received                             Value Paid                         Value
     -----                        --------------                             ----------                         -----
<S>                   <C>                                          <C>                                         <C>
HealthWatch           (1) $125,000                                 83,333 shares of HealthWatch                $125,000
                                                                   common stock
                      (2) 500,000 shares of Halis                  400,000 shares HealthWatch                   779,759
                      common stock                                 common stock
                      (3) 1,400,000 shares of Halis                488,400 shares of HealthWatch                448,836
                      common stock                                 common stock
Halis                 (1) 83,333 shares of HealthWatch             $125,000                                     125,000
                      common stock
PHE                   (2) 400,000 shares of HealthWatch            500,000 shares of Halis common               779,759
                      common stock                                 stock
                      (3) 488,400 shares of HealthWatch            1,400,000 shares of Halis common             448,836
                      common stock                                 stock
</TABLE>

     HealthWatch believes that the shares issued in these private placement
transactions were sold at fair market value and that the terms of these
transactions were no less favorable than could have been obtained from an
unrelated third party.

     HealthWatch's Acquisition of PHE and Related Transactions

     During October 1998, HealthWatch agreed to acquire PHE and caused its newly
created wholly-owned subsidiary MERAD Software, Inc., a Nevada corporation, to
merge with PHE. In the merger, the 55 stockholders of PHE received a total of
66,886 shares of HealthWatch's Series P Preferred Stock. Paul W. Harrison,
Chairman, President and Chief Executive Officer of HealthWatch, received 25,080
shares of the Series P Preferred in his capacity as a stockholder of PHE. David
M. Engert, Chief Operating Officer and a director of HealthWatch, received 3,177
shares of the Series P Preferred in his capacity as a stockholder of PHE. PHE
stockholders also received options for approximately 125,000 shares of
HealthWatch common stock in exchange for previously outstanding options of PHE.
Of the options issued in the PHE acquisition, 116,667 were issued to Paul W.
Harrison. These options were granted with exercise prices equal to the fair
market value of HealthWatch common stock at that time.

     The purchase price in the PHE acquisition was negotiated by HealthWatch's
then outside directors, Messrs. Richard Case and Sanford Schwartz, after
receiving full disclosure of Mr. Harrison's conflict of interest created by his
ownership interest in, and officer position at, PHE. Given this conflict, Mr.
Harrison did not participate in discussions of HealthWatch's board with respect
to appropriate valuations and other terms of the transaction. Similarly, the PHE
board, including Mr. Harrison, negotiated with HealthWatch's outside directors
with respect to such valuation and other terms of the transaction. No
independent appraisal of PHE was sought in order to set the value. The initial
purchase price of $3.3 million paid by the issuance of Series P Preferred Stock
was set based on the market value of HealthWatch and Halis stock owned by PHE at
the time of the acquisition and the actual cash expended to date by PHE to
develop the MERAD technology. This benchmark was deemed appropriate because PHE
had experienced little or no revenue prior to the date of the acquisition, but
had developed technology believed to be of significant market value. At the time
the Series P Preferred Stock was issued in the PHE acquisition, HealthWatch
common stock was trading at a price of between $0.65 and $1.00 per share.

     In addition to the issuance of the Series P Preferred, the PHE stockholders
are entitled to be paid royalties based on revenues derived by HealthWatch from
the sale of software developed utilizing the MERAD technology. In connection
with HealthWatch's merger with PHE, each PHE stockholder entered into an
Additional Consideration Agreement with HealthWatch which provided that such PHE
stockholder would receive a pro-rata share of the total additional consideration
to be paid to all PHE stockholders based on the his pro-rata ownership of PHE at
the time of the merger. The additional consideration to be paid was a separate
component of the purchase price paid in the merger designed to protect the PHE
stockholders from selling their company at an artificially low valuation if the
MERAD technology achieved the value the parties believed it would at the time.
Originally, the additional consideration was to be paid in equal amounts of cash
and HealthWatch common stock based on sales of MERAD-related products equal to
5% of the first $1,000,000 of gross revenues related to sales of the MERAD
technology and 10% of revenues thereafter in any fiscal year. The additional
consideration was payable quarterly for a period of ten years or


                                       28

<PAGE>

until HealthWatch had paid in the aggregate $7,000,000 in additional
consideration. During fiscal 2000, the former PHE stockholders, as a group,
earned $20,420 as additional consideration. During Fiscal 2001, the former PHE
Stockholders, as a group, earned $1,080 as additional consideration. During
fiscal 2000, HealthWatch paid $53,283 in HealthWatch common stock and $55,334 in
cash to former PHE stockholders in additional consideration, and $7,321 is owed
and unpaid as of June 30, 2001. HealthWatch believes that the terms of the PHE
acquisition were at the fair market value and that the terms were no less
favorable than it could have obtained from unaffiliated third parties.

                     Summary of Consideration Paid/Received
                       in HealthWatch's Acquisition of PHE
<TABLE>
<CAPTION>

                      Party                                        Description                 Fair Market Value
                      -----                                        -----------                 -----------------
<S>                                         <C>                                                    <C>
Paul W. Harrison .......................    25,080 shares of Series P Preferred                    $1,237,389
                                            116,667 HealthWatch common stock options                       (1)
                                            Additional Consideration Agreement                             (2)

David M. Engert ........................    3,117 shares of Series P Preferred                      $ 153,786
                                            Additional Consideration Agreement                             (2)

All PHE Stockholder as a                    66,886 shares of Series P Preferred                  $3.3 Million
  group (55 persons) ...................    116,667 HealthWatch common stock options                       (1)
                                            Additional Consideration Agreement                             (2)
</TABLE>

(1)  The stock options were issued with an exercise price equal to HealthWatch's
     fair market value at the time of issuance.

(2)  Not determinable. The total paid to date under the agreement is $114,857.

     In connection with the closing of a completed private placement in fiscal
2000, Paul W. Harrison, HealthWatch's Chairman, Chief Executive Officer and
President, and David M. Engert, HealthWatch's Chief Operating Officer and a
director (who were both former PHE stockholders), waived any and all future
payments of additional consideration. The remaining PHE stockholders have been
asked to agree to the following amendments to their respective Additional
Consideration Agreements: First, the additional consideration is to be
calculated based on a fixed percentage (3%) of gross revenues each fiscal year
from sales of the MERAD technology. In addition, HealthWatch has the option to
pay the additional consideration in cash, or in a combination comprised of
one-half cash and one- half shares of HealthWatch common stock. Although the
maximum aggregate payment to be made under the Additional Consideration
Agreements is still $7,000,000, the payout period has been extended from ten
years to fifteen years. As of September 30, 2000, all but three of the PHE
stockholders have agreed to these amendments.

     At the time of the PHE acquisition, PHE held 6,177,010 shares of common
stock in Halis, which represented approximately 11% of the then outstanding
Halis common stock, and owned the MERAD technology. As a result of the merger,
HealthWatch increased its ownership interest in Halis to 8,939,010 shares of
Halis' common stock, representing approximately 19% of its outstanding shares.
In January 1999, HealthWatch converted outstanding debt owed by Halis to
HealthWatch into 1,824,645 additional shares of common stock of Halis, bringing
the number of Halis shares held by HealthWatch to 10,763,655, representing
approximately 21% of Halis' outstanding shares.



                                       29

<PAGE>

   Other Transactions

     As a result of the merger of PHE into MERAD Software, Inc., the MERAD
technology is now owned by HealthWatch. Halis is obligated to pay HealthWatch
10% of the gross revenues generated by Halis from products and services
utilizing the MERAD technology under a perpetual license agreement. During
fiscal 2000 and 1999, HealthWatch earned $21,935 and $66,087, respectively, in
royalties from Halis, none of which had been paid to HealthWatch as of year-end.

     Effective October 10, 1997, PHE and Paul W. Harrison entered into a
consulting agreement with HealthWatch which expired on December 31, 1998. The
agreement provided for, among other things, the payment to PHE commencing on
January 1, 1998 of $5,000 per month, Mr. Harrison's continued service on the
board of directors, the granting of a five- year non-statutory stock option to
Mr. Harrison representing the right to acquire up to 50,000 shares of
HealthWatch common stock at the then fair market value for the HealthWatch
common stock. In addition, HealthWatch agreed to make a loan to Mr. Harrison of
up to $200,000 payable in four equal annual installments with interest to accrue
at 7% per annum to cover tax liabilities arising from the stock swaps with PHE.
Despite that loan commitment, Mr. Harrison never requested nor received a loan
from HealthWatch. In May 1998, the exercise price for the stock options were
repriced to $3.30 per share. None of the options have been exercised. In
February 1999, the consulting agreement was modified to remove PHE as a party
and to provide for the payment of $12,500 to Paul W. Harrison on a monthly basis
to manage HealthWatch, effective as of January 1, 1999.

     On January 22, 1998, Paul W. Harrison and two other individuals each loaned
HealthWatch $17,000 for a period of 90 days to enable HealthWatch to meet its
payroll obligations. The loans, which have been repaid, were to bear interest at
7% per annum. As additional compensation for making the loan, Mr. Harrison was
granted a warrant to acquire 3,333 shares of HealthWatch common stock at $8.95
per share, the fair market value for HealthWatch common stock on January 22,
1998.

     On April 29, 2000, HealthWatch exercised a financing option to purchase
5,000,000 shares of Halis common stock for a total purchase price of $1,000,000
in a private placement. This transaction increased HealthWatch's ownership of
Halis common stock to 15,763,655 shares, or approximately 25% of Halis'
outstanding common stock.


                                       30

<PAGE>

     In October 2000, Halis borrowed $250,000 from HealthWatch under an
unsecured note payable. The note accrues interest at 10% and is due on demand.
The note is convertible, at the option of HealthWatch, into 12,500,000 shares of
the Halis common stock, or $.02 per share.


                                       31

<PAGE>

                          Summary of Other Transactions

<TABLE>
<CAPTION>

                  Parties                         Description of Transaction                        Consideration
                  -------                         --------------------------                        -------------
<S>                                          <C>                                    <C>
Halis/HealthWatch                            MERAD License Agreement                10% Royalty on Gross Revenues.

Halis/HealthWatch                            Office/Cost Sharing                    Cost allocated based on actual
                                             Arrangement                            usage.

HealthWatch/PHE/P.W. Harrison                Consulting Agreement                   $5,000 per month to PHE.
                                                                                    $12,000 per month and 50,000
                                                                                    HealthWatch common stock
                                                                                    options to Paul Harrison.

HealthWatch/P.W. Harrison                    Shareholder Loan                       $17,000 note at 7% and 3,333
                                                                                    warrants with an exercise
                                                                                    price of $8.95 per share.

Halis/HealthWatch                            Private Placement                      $1,000,000 for 5,000,000 shares
                                                                                    of Halis common stock.

Halis/HealthWatch                            Unsecured Note                         $250,000 note at 10% that may
                                                                                    be converted into 12,500,000
                                                                                    shares of Halis common stock.
</TABLE>

     HealthWatch believes that all related party transactions described above
were on terms no less favorable than could have been otherwise obtained from
unrelated third parties. All future transactions between HealthWatch and its
principal officers, directors and affiliates will be approved by a majority of
the independent and disinterested members of the board of directors and will be
on terms deemed to be no less favorable than could be obtained from unrelated
third parties.

   HealthWatch/Halis Merger

     On March 8, 2000, HealthWatch executed a letter of intent with Halis to
merge Halis with and into a wholly-owned subsidiary of HealthWatch. As of June
30, 2000, HealthWatch was the single largest shareholder, owning approximately
25% of the outstanding common stock of Halis.

     The letter of intent contains a binding provision providing HealthWatch an
unconditional right to purchase, prior to the closing of the merger, up to
$1,000,000 of Halis' common stock at $.20 per share for a total of 5,000,000
shares, and upon consummation of such financing, HealthWatch shall have a three
month option to purchase up to an additional $5,000,000 of Halis' common stock
at a price of $.20 per share.

     In April 2000, HealthWatch exercised its option to purchase 5,000,000
shares of Halis' common stock for a total investment of $1,000,000. As a result,
HealthWatch received an option to purchase up to an additional 25,000,000 shares
of common stock for a total purchase price of $5,000,000. On July 28, 2000,
without affecting the terms of the merger, HealthWatch and Halis executed an
amendment to the financing option which extended the option period through and
including September 29, 2000. All other terms and conditions to the financing
option, including the exercise price, were unchanged.

     On June 29, 2000, the Company, Halis, Inc. and HealthWatch Merger Sub, Inc.
executed a definitive Agreement and Plan of Merger. Under the terms of the
merger agreement, each outstanding share of Halis common stock would be
converted into one twentieth (.050) of a share of HealthWatch common stock
(i.e., an exchange ratio of 1 share of HealthWatch common stock for 20 shares of
Halis common stock). The merger agreement also provides, under certain
circumstances, for a termination fee of $500,000 to be imposed against a
breaching party that prevents the closing of the merger.


                                       32

<PAGE>

     On May 31, 2001, Halis, Inc. merged into Healthwatch Merger Sub, Inc., a
wholly owned subsidiary of HealthWatch, Inc. whereby the Company issued
2,268,419 registered shares of its common stock in exchange for all of the
outstanding shares of Halis (an exchange ratio of one share of HealthWatch
common stock for twenty shares of Halis common stock). The total consideration
has been valued at $5,417,785 as of May 31, 2001 which is comprised of the fair
market value of the HealthWatch shares issued in the transaction, or $3,039,682
(2,268,419 shares at the trading price at June 30, 2000 of $1.34 per share),
plus the book value of HealthWatch's investment in and advances to Halis at May
31, 2001, or $2,028,277 plus net liabilities assumed of $349,826.

     Under the Agreement and Plan of Merger, the holders of other convertible
securities (i.e. warrants and options) of Halis received convertible securities
of the Company having similar terms and conditions.

ITEM 13. EXHIBITS, LISTS AND REPORTS ON FORM 8-K.

   (a)   Listing of Exhibits:

2.0   Agreement and Plan of Merger dated as of September 30, 1998 among
      HealthWatch,  Inc.,  MERAD  Software,  Inc. and Paul Harrison Enterprises,
      Inc. (10).
2.1   Letter of Intent between HealthWatch, Inc. and Halis, Inc. dated
      March 8th, 2000. (14)
2.2   Agreement and Plan of Merger by and among Halis, Inc., HealthWatch Merger
      Sub, Inc. and HealthWatch, Inc. dated June 29, 2000. (15)
3.1   Articles of Incorporation, as amended, of the Company (2).
3.2   Bylaws, as amended, of the Company (3).
4.1   Specimen form of the Company's Common Stock certificate (3).
4.2   HealthWatch, Inc. Stock Option Plan of 1989 (4).
4.3   Form of Incentive Stock Option Agreement (4).
4.4   Form of Nonstatutory Stock Option Agreement (4).
4.5   HealthWatch, Inc. Stock Option Plan of 1993 (5).
4.6   HealthWatch, Inc. Stock Option Plan of 1995 (6).
4.7   HealthWatch, Inc. 1995 Stock Grant and Salary Deferral Plan (6).
4.8   Subscription and Purchase Agreement dated as of the 14th day of August
      1992 between the Company and the Purchasers of the Company's 10%
      convertible senior debentures due 1997 (including as an appendix thereto
      the form of the debenture certificate) (7).
4.9   Subscription and Purchase Agreement between HealthWatch, Inc. and Halis,
      Inc. (8).
4.10  Certificate of the Designation, Preferences, Rights and Limitations of the
      6% Series A Convertible Preferred Stock of HealthWatch, Inc. (11)
4.11  Certificate of the Designation, Preferences, Rights and Limitations of the
      Series P Preferred Stock of HealthWatch, Inc. (11)
4.12  Certificate of the Designation, Preferences, Rights and Limitations of the
      Series C 8% Convertible Preferred Stock of HealthWatch, Inc. Dated
      March 20th, 2000 and filed with the Minnesota Secretary of State on
      March 20th, 2000. (13)
4.13  Certificate of the Designation, Preferences, Rights and Limitations of the
      Series D 8% Convertible Preferred Stock of HealthWatch, Inc. Dated
      March 20th, 2000 and filed with the Minnesota Secretary of State on
      March 20th, 2000. (13)
10.1  Business Collaboration Agreement dated as of October 10, 1997 between the
      Company and Halis, Inc. (9).
10.2  Consulting Agreement dated as of October 10, 1997 among the Company, Paul
      Harrison Enterprises, Inc. and Paul Harrison (9).
10.3  Consulting Agreement dated as of October 10, 1997 between the Company and
      Larry Fisher (9).
10.4  Amendment to the Business Collaboration Agreement dated as of
      September 20, 2000 between HealthWatch, Inc., and Halis, Inc. (15)
16.1  Letter on Change in Certifying Accountant (12).
21    Subsidiaries of the Company at June 30, 2000 (15).
23.2  Consent of Tauber & Balser, P.C. with regard to HealthWatch, Inc. (1)
23.3  Consent of Tauber & Balser, P.C. with regard to Halis, Inc. (1)
----------


                                       33

<PAGE>

(1)  Filed herewith.

(1)  Incorporated herein by reference to the Company's Annual Report, Form 10-K,
     for the year ended June 30, 1990 (File No. 0-11476).
(3)  Incorporated herein by reference to Registration Statement, Form S-18 (File
     No. 2-85688D).
(4)  Incorporated herein by reference to Registration Statement, Form S-2 (File
     No. 33-42831).
(5)  Incorporated herein by reference to the Company's Annual Report, Form
     10-KSB, for the year ended June 30, 1994 (File No. 0-11476).
(6)  Incorporated herein by reference to the Company's Annual Report, Form
     10-KSB, for the year ended June 30, 1996 (File No. 0-11476).
(7)  Incorporated herein by reference to Registration Statement, Form SB-2 (File
     No. 33-73462).
(8)  Incorporated herein by reference to the Company's Annual Report, Form
     10-KSB, for the year ended June 30, 1997 (File No. 0-11476).
(9)  Incorporated herein by reference to the Company's Quarterly Report, Form
     10-QSB, for the quarter ended December 31, 1997.
(10) Incorporated herein by reference to the Company's Current Report, Form 8-K,
     dated October 1, 1998.
(11) Incorporated herein by reference to the Company's Annual Report on Form
     10-KSB, for the year ended June 30, 1998 (File No. 0-11475).
(12) Incorporated herein by reference to the Company's Current Report on Form
     8-K, dated June 29, 1999.
(13) Incorporated herein by reference to the Company's Current Report, Form 8-K,
     dated March 21, 2000.
(14) Incorporated herein by reference to the Company's Quarterly Report, Form
     10-QSB, for the quarter ended March 31, 2000.
(15) Incorporated herein by reference to the Company's Annual Report, Form
     10-KSB, for the year ended June 30, 2000.

(b)

During the quarter ended June 30, 2001, the Registrant filed no reports on Form
8-K.


                                       34

<PAGE>






                       HEALTHWATCH, INC. AND SUBSIDIARIES

                        CONSOLIDATED FINANCIAL STATEMENTS

                       YEARS ENDED JUNE 30, 2001 AND 2000





<PAGE>


                       HEALTHWATCH, INC. AND SUBSIDIARIES

                                TABLE OF CONTENTS

                                                                   Page
                                                                   ----

Independent Auditors' Report....................................... F-1

Consolidated Balance Sheet......................................... F-2

Consolidated Statements of Operations.............................. F-3

Consolidated Statements of Cash Flows.............................. F-4

Consolidated Statements of Shareholders' Equity.................... F-6

Notes to Consolidated Financial Statements......................... F-7



<PAGE>


                          INDEPENDENT AUDITORS' REPORT

To the Board of Directors and Shareholders
HealthWatch, Inc.

We have audited the accompanying consolidated balance sheet of HealthWatch, Inc.
and subsidiaries as of June 30, 2001, and the related consolidated statements of
operations, shareholders' equity, and cash flows for the years ended June 30,
2001 and 2000. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.

We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audits to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of HealthWatch, Inc.
and subsidiaries as of June 30, 2001, and the results of their operations and
their cash flows for the years ended June 30, 2001 and 2000 in conformity with
accounting principles generally accepted in the United States of America.

The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note B to the
financial statements, the Company's recurring losses from operations and limited
capital resources raise substantial doubt about its ability to continue as a
going concern. Management's plans in regard to these matters are also described
in Note B. The financial statements do not include any adjustments that might
result from the outcome of this uncertainty.

/s/ Tauber and Balser, P.C.
-----------------------------------
Atlanta, Georgia
October 11, 2001


                                      F-1



<PAGE>
                       HEALTHWATCH, INC. AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEET
                                  JUNE 30, 2001

                                     ASSETS
CURRENT ASSETS
     Cash                                                         $     264,862
     Restricted cash                                                      8,487
     Accounts receivable                                                295,041
     Inventory                                                           27,543
     Deferred income taxes                                               45,000
     Other current assets                                               233,540
                                                                  -------------

         TOTAL CURRENT ASSETS                                           874,473
                                                                  -------------


OTHER ASSETS
     Property and equipment, net                                        353,846
     Intangible assets, net                                           6,823,099
     Other assets                                                        14,970
                                                                  -------------

         TOTAL OTHER ASSETS                                           7,191,915
                                                                  -------------

              TOTAL ASSETS                                        $   8,066,388
                                                                  =============

                      LIABILITIES AND SHAREHOLDERS' EQUITY

CURRENT LIABILITIES
     Accounts payable and accrued expenses                        $   1,254,318
     Accrued payroll and payroll taxes                                   97,456
     Deferred revenue and customer deposits                               8,487
     Debentures payable                                                  25,000
     Deferred rent obligation                                            99,476
     Obligations under capital leases - current portion                  62,248
     Note payable to a bank                                             218,427
     Income taxes payable                                                43,612
                                                                  -------------

         TOTAL CURRENT LIABILITIES                                    1,809,024
                                                                  -------------

LONG-TERM DEBT
     Obligations under capital leases - net of current portion          114,048
                                                                  -------------

         TOTAL LIABILITIES                                            1,923,072
                                                                  -------------

SHAREHOLDERS' EQUITY
     Cumulative preferred stock, 15,000,000 shares authorized,
     $.05 par value; $11,144,800 liquidation preference:
         Series P, 66,886 shares issued and outstanding                   3,344
         Series C, 4,000 shares issued and outstanding                      200
         Series D, 74,005 shares issued and outstanding                   3,701
     Common stock, $.05 par value; 50,000,000 shares authorized:
         2,710,313 shares issued and outstanding                        135,516
         1,743,064 shares to be issued                                   87,153
     Additional paid-in capital                                      41,014,520
     Unearned compensation                                              (98,662)
     Accumulated deficit                                            (35,002,456)
                                                                  -------------

         TOTAL SHAREHOLDERS' EQUITY                                   6,143,316
                                                                  -------------

              TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY          $   8,066,388
                                                                  =============

        The accompanying notes are an integral part of these consolidated
                              financial statements.

                                       F-2

<PAGE>
                       HEALTHWATCH, INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                   FOR THE YEARS ENDED JUNE 30, 2001 AND 2000
<TABLE>
<CAPTION>
                                                                                      2001              2000
                                                                                  -------------     ------------
<S>                                                                               <C>               <C>
SALES                                                                             $     641,978     $    551,682
COST OF SALES                                                                            59,548          193,952
                                                                                  -------------     ------------
     GROSS PROFIT                                                                       582,430          357,730
                                                                                  -------------     ------------

OPERATING EXPENSES
     Selling, general and administrative                                              3,665,770        1,964,127
     Depreciation and amortization                                                      380,847          442,795
     Research and development                                                           213,409          136,780
                                                                                  -------------     ------------
                                                                                      4,260,026        2,543,702
                                                                                  -------------     ------------

OPERATING LOSS                                                                       (3,677,596)      (2,185,972)
                                                                                  -------------     ------------

OTHER INCOME (EXPENSE)
     Loss from investment in Halis, Inc.                                               (356,313)        (523,450)
     Other-than-temporary decline in value of investment in Halis, Inc.                       -         (472,810)
     Loss from impairment of intangible assets                                                -         (213,286)
     Realized gain on marketable securities                                              19,466
     Interest income                                                                    104,456          110,606
     Interest expense                                                                   (27,380)        (455,875)
                                                                                  -------------     ------------
                                                                                       (259,771)      (1,554,815)
                                                                                  -------------     ------------

LOSS BEFORE INCOME TAXES AND EXTRAORDINARY ITEM                                      (3,937,367)      (3,740,787)

INCOME TAX BENEFIT                                                                            -           66,000
                                                                                  -------------     ------------

LOSS BEFORE EXTRAORDINARY ITEM                                                       (3,937,367)      (3,674,787)

EXTRAORDINARY ITEM - GAIN ON EXTINGUISHMENT
     OF DEBT (NET OF INCOME TAX OF $66,000)                                                   -           99,405
                                                                                  -------------     ------------

NET LOSS                                                                          $  (3,937,367)     $(3,575,382)
                                                                                  =============      ===========

BASIC AND DILUTED NET LOSS PER COMMON SHARE
     Loss before extraordinary item                                               $  (3,937,367)     $(3,674,787)
     Less preferred stock dividends (undeclared)                                        889,584          425,304
     Less amortization of beneficial conversion option on Series D and
         Series P preferred stock                                                     5,313,002        1,884,700
                                                                                  -------------     ------------
     Loss available to common shareholders before extraordinary item                (10,139,953)      (5,984,791)
     Extraordinary item                                                                       -           99,405
                                                                                  -------------    -------------
NET LOSS AVAILABLE TO COMMON SHAREHOLDERS                                         $ (10,139,953)     $(5,885,386)
                                                                                  =============      ===========

NET LOSS PER COMMON SHARE, BASIC AND DILUTED
     Loss before extraordinary item                                               $       (4.26)    $      (3.89)
     Extraordinary item                                                                       -              .07
                                                                                  -------------     -----------
     Net loss                                                                     $       (4.26)    $      (3.82)
                                                                                  =============     ============

WEIGHTED AVERAGE NUMBER OF COMMON SHARES
     OUTSTANDING                                                                      2,378,687        1,538,924
                                                                                  =============     ============
</TABLE>

        The accompanying notes are an integral part of these consolidated
                              financial statements.

                                       F-3

<PAGE>


                       HEALTHWATCH, INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                   FOR THE YEARS ENDED JUNE 30, 2001 AND 2000

<TABLE>
<CAPTION>
                                                                                       2001             2000
                                                                                   ------------     ------------
<S>                                                                                <C>              <C>
CASH FLOWS FROM OPERATING ACTIVITIES
     Net loss                                                                      $ (3,937,367)    $ (3,575,382)
                                                                                   ------------     ------------
     Adjustments:
        Depreciation                                                                     32,215           18,163
        Amortization                                                                    348,632          424,632
        Loss on disposal of equipment                                                         -            4,757
        Loss from investment in Halis, Inc.                                             356,313          523,450
        Decline in value of investment in Halis, Inc.                                         -          472,810
        Loss from impairment of intangible assets                                             -          213,286
        Gain on sale of marketable securities                                           (19,466)               -
        Common stock issued for services                                                      -          474,987
        Stock options issued for services                                                28,189                -
        Interest expense from issuance of warrants in connection
           with short-term financing                                                          -          419,551
        Gain on extinguishment of debt                                                        -         (165,405)
        Changes in assets and liabilities, net of the effects of the
           Halis, Inc. acquisition in 2001:
               Restricted cash                                                           72,081                -
               Accounts receivable                                                       90,854           63,369
               Inventory                                                                  7,934           48,387
               Other current assets                                                      15,576         (256,362)
               Other assets                                                              26,030           (4,550)
               Accounts payable and accrued expenses                                    249,907         (165,449)
               Deferred revenue and customer deposits                                   (80,571)         (20,040)
                                                                                   ------------     ------------
                  Total adjustments                                                   1,127,694        2,051,586
                                                                                   ------------     ------------
        Net cash used in operating activities                                        (2,809,673)      (1,523,796)
                                                                                   ------------     ------------

CASH FLOWS FROM INVESTING ACTIVITIES
     Purchase of property and equipment                                                (113,067)         (15,178)
     Purchase of Halis, Inc. stock                                                            -       (1,000,000)
     Purchase of marketable securities                                                        -       (4,000,000)
     Proceeds from sale of marketable securities                                      4,068,366                -
     Increase in due from Halis, Inc.                                                  (190,089)        (287,712)
     Cash acquired in merger                                                            120,365                -
     Capitalized merger costs                                                          (520,800)               -
     Purchase of intangible assets, capitalized MERAD
        technology costs and other                                                     (249,407)        (217,496)
                                                                                   ------------     ------------
        Net cash provided (used) in investing activities                              3,115,368       (5,520,386)
                                                                                   ------------     ------------
</TABLE>

       The accompanying notes are an integral part of these consolidated
                              financial statements.

                                       F-4


<PAGE>


                       HEALTHWATCH, INC. AND SUBSIDIARIES
                CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
                   FOR THE YEARS ENDED JUNE 30, 2001 AND 2000

<TABLE>
<CAPTION>
                                                                                       2001              2000
                                                                                   ------------     ------------
<S>                                                                                <C>              <C>
CASH FLOWS FROM FINANCING ACTIVITIES
     Principal payments on obligations under capital leases                        $     (6,087)    $          -
     Principal payments on note payable to a bank                                        (2,110)               -
     Payment of margin loan                                                             (48,900)               -
     Proceeds from issuance of preferred stock, net of
        stock issue costs of $842,353                                                         -        6,962,522
     Proceeds from issuance of common stock                                                   -           50,000
     Proceeds from exercise of warrants                                                       -           26,178
                                                                                   ------------     ------------
        Net cash (used) provided by financing activities                                (57,097)       7,038,700
                                                                                   ------------     ------------

NET INCREASE (DECREASE) IN CASH                                                         248,598           (5,482)

CASH, BEGINNING OF YEAR                                                                  16,264           21,746
                                                                                   ------------     ------------

CASH, END OF YEAR                                                                  $    264,862     $     16,264
                                                                                   ============     ============

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION

     Cash paid for interest                                                        $     16,345     $     20,725
                                                                                   ============     ============
</TABLE>


SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES

During the year ended June 30, 2001, the Company issued and will issue 2,268,419
shares of its common stock valued at $3,039,682 in connection with the Halis,
Inc. merger (see Note C). In conjunction with the acquisition, the fair value of
assets acquired and liabilities assumed was $915,829 and $1,265,655,
respectively.

During the year ended June 30, 2000:

     The debenture holders converted debt of $455,000 and interest of $139,356
     into 316,990 shares of common stock of the Company.

     The Company issued 28,417 shares of common stock valued at $53,283 for
     payment of additional consideration due to PHE shareholders which was
     accrued at June 30, 1999.

     The Company issued 97,334 shares of common stock valued at $182,500 to Paul
     W. Harrison, HealthWatch's Chairman and CEO, for payment of $117,500 of
     current services performed by Mr. Harrison and a $65,000 loan due to Mr.
     Harrison.

     The Company borrowed $48,900 from a financial institution in connection
     with its marketable securities acquisition, and this margin loan is
     included in accounts payable at June 30, 2000.

     The Company accrued liabilities of $20,420 and increased its carrying value
     of the MERAD Technology for additional consideration associated with the
     acquisition of MERAD Software, Inc.

     The Company issued 229,000 shares of its common stock through the cashless
     exercise of warrants, of which 177,200 shares were returned to the Company
     to facilitate the transaction.

       The accompanying notes are an integral part of these consolidated
                              financial statements.

                                       F-5


<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                 CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
                   FOR THE YEARS ENDED JUNE 30, 2001 AND 2000

<TABLE>
<CAPTION>

                                                                   Preferred Stock             Common Stock          Additional
                                                               -----------------------   -----------------------       Paid-in
                                                                  Shares      Amount        Shares      Amount         Capital
                                                               ------------ ----------   ------------ ----------     ----------
<S>                                                            <C>           <C>           <C>         <C>          <C>
Balance at June 30, 1999                                          295,886    $  14,794       657,135   $  32,857    $ 22,077,549
Comprehensive Loss:
    Net loss                                                            -            -             -          -                -
    Unrealized holding loss on marketable securities                    -            -             -          -                -

Total Comprehensive Loss

Conversion of Series A preferred stock                           (224,000)     (11,200)      734,908      36,745         (25,545)
Common stock issued                                                     -            -       367,957      18,398         733,994
Conversion of debentures and related interest payable                   -            -       316,990      15,849         578,507
Common stock warrants issued in connection with
    short-term financing                                                -            -             -           -         419,551
Common stock warrants exercised                                         -            -       242,961      12,148          14,030
Common stock retired in cashless exercise of warrants                   -            -      (177,200)     (8,860)          8,860
Series C preferred stock issued in private offering                 4,000          200             -           -         374,800
Series D preferred stock issued in private offering                74,130        3,707             -           -       6,583,815
Amortization of discount related to beneficial
    conversion option on Series D and Series P
    preferred stock                                                     -            -             -           -       1,884,700
                                                               ----------    ---------    ----------   ---------    ------------
Balance at June 30, 2000                                          150,016        7,501     2,142,751     107,137      32,650,261
Comprehensive Loss:
    Net loss                                                            -            -             -           -               -
    Unrealized holding loss on marketable securities                    -            -             -           -               -

Total Comprehensive Loss

Conversion of Series A preferred stock                             (5,000)        (250)       50,593       2,530          (2,280)
Conversion of Series D preferred stock                               (125)          (6)        3,571         179            (173)
Common stock issued in merger                                           -            -     2,268,419     113,420       2,926,262
Treasury shares retired                                                                      (16,667)       (833)            833
Stock options issued for services                                       -            -             -           -         126,851
Amortization of unearned compensation                                   -            -             -           -               -
Other                                                                   -            -         4,710         236            (236)
Amortization of discount related to beneficial
    conversion option on Series D and Series P
    preferred stock                                                     -            -             -           -       5,313,002
                                                               ----------    ---------    ----------   ---------    ------------
Balance at June 30, 2001                                          144,891    $   7,245     4,453,377   $ 222,669    $ 41,014,520
                                                               ==========    =========    ==========   =========    ============
</TABLE>


<TABLE>
<CAPTION>
                                                                                               Accumulated
                                                                                                  Other            Total
                                                                 Unearned     Accumulated     Comprehensive    Shareholders'
                                                               Compensation     Deficit           Loss            Equity
                                                               ------------   ------------    -------------    ------------
<S>                                                               <C>         <C>             <C>                <C>
Balance at June 30, 1999                                          $       -   $(20,292,005)   $          -       $ 1,833,195
Comprehensive Loss:
    Net loss                                                              -     (3,575,382)              -        (3,575,382)
    Unrealized holding loss on marketable securities                      -              -        (113,400)         (113,400)
                                                                                                                 -----------
Total Comprehensive Loss                                                                                          (3,688,782)
                                                                                                                 -----------
Conversion of Series A preferred stock                                    -              -               -                 -
Common stock issued                                                       -              -               -           752,392
Conversion of debentures and related interest payable                     -              -               -           594,356
Common stock warrants issued in connection with
    short-term financing                                                                 -               -           419,551
Common stock warrants exercised                                           -              -               -            26,178
Common stock retired in cashless exercise of warrants                     -              -               -                 -
Series C preferred stock issued in private offering                       -              -               -           375,000
Series D preferred stock issued in private offering                       -              -               -         6,587,522
Amortization of discount related to beneficial
    conversion option on Series D and Series P
    preferred stock                                                       -     (1,884,700)              -                 -
                                                                  ---------   ------------    ------------       -----------
Balance at June 30, 2000                                                  -    (25,752,087)       (113,400)        6,899,412
Comprehensive Loss:
    Net loss                                                              -     (3,937,367)              -        (3,937,367)
    Unrealized holding loss on marketable securities                      -              -         113,400           113,400
                                                                                                                 -----------
Total Comprehensive Loss                                                                                          (3,823,967)
                                                                                                                 -----------
Conversion of Series A preferred stock                                    -              -               -                 -
Conversion of Series D preferred stock                                    -              -               -                 -
Common stock issued in merger                                             -              -               -         3,039,682
Treasury shares retired                                                   -              -               -                 -
Stock options issued for services                                  (126,851)             -               -                 -
Amortization of unearned compensation                                28,189              -               -            28,189
Other                                                                     -              -               -                 -
Amortization of discount related to beneficial
    conversion option on Series D and Series P
    preferred stock                                                       -     (5,313,002)              -                 -
                                                                  ---------   ------------    ------------       -----------
Balance at June 30, 2001                                          $ (98,662)  $(35,002,456)   $          -       $ 6,143,316
                                                                  =========   ============    ============       ===========
</TABLE>


       The accompanying notes are an integral part of these consolidated
                              financial statements.

                                       F-6


<PAGE>


                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Organization and Nature of Business

HealthWatch, Inc. ("HealthWatch") and subsidiaries (collectively the "Company")
was founded in 1983 and while continuing to be a supplier of parts and services
for noninvasive vascular diagnostic medical instruments to hospitals and medical
clinics throughout the United States, continues to evolve into primarily a
software information technology ("IT") company. The Company's virtual software
application utility (the "MERAD Technology") utilizes an advanced multi-media
object and relational database which creates knowledge objects that can be used
and reused in virtually unlimited numbers of combinations to provide efficient
applications that can be accessed in both an Internet and Intranet environment.
Headquartered in Atlanta, Georgia, HealthWatch has research and development,
marketing, sales and support capabilities in the healthcare IT sector.

The Company's objective is to become a leading provider of enterprise software
applications to process and manage transactions for physician offices,
hospitals, outpatient clinics, and other healthcare providers. As part of this
plan, the Company will offer and market an enterprise software solution, known
as the Healthcare Enterprise System (the "HES System"). The HES System uses
proprietary technology to distribute, in a compressed digital format, one system
that includes over 30 integrated applications for the management of a healthcare
enterprise's resources, patient data, clinical data, and finances. The HES
System was designed and built using the Company's software application utility,
the "MERAD Technology".

Principles of Consolidation and Accounting for Investee

The consolidated financial statements include the accounts of HealthWatch, Inc.
and its wholly-owned subsidiaries MERAD Software, Inc., Healthwatch Merger Sub,
Inc, and HealthWatch Technologies, Inc. and their wholly-owned subsidiaries.
During fiscal 2000 and through May of fiscal 2001, the Company's investment in
Halis, Inc. ("Halis"), a company in which it had the ability to exercise
significant influence over operating and financial policies, was accounted for
under the equity method. Accordingly, HealthWatch's share of the net losses of
Halis is included in consolidated net loss through May 2001. On May 31, 2001,
Halis merged with and into Healthwatch Merger Sub, Inc., a wholly-owned
subsidiary of HealthWatch, Inc. All significant intercompany balances and
transactions have been eliminated in consolidation.

Inventory

Inventory is recorded at the lower of cost (determined on a first-in, first-out
basis) or market. During fiscal 2000, approximately $35,000 of inventory was
charged to operations - cost of sales as the products were determined to be
obsolete.

Marketable Securities

The securities were available-for-sale and were stated at market value.

                                       F-7

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000



NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Property and Equipment

Property and equipment are stated at cost. Depreciation is computed using the
straight-line method over the estimated useful lives of the assets. Expenditures
for additions and improvements are capitalized, while repairs and maintenance
are expensed as incurred.

Long-Lived Assets

HealthWatch evaluates the carrying value of long-lived assets, including
intangibles, whenever events or changes in circumstances indicate that the
carrying value of the asset may be impaired. An impairment loss is recognized
when estimated undiscounted future cash flows expected to result from the use of
the asset, including disposition, is less than the carrying value of the asset.
If such assets are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying value exceeds the fair value of the
assets, as measured by discounted cash flows over the remaining life of the
assets.

Intangible Assets

Intangible assets are being amortized over five years using the straight-line
method.

The Company has capitalized direct costs incurred in the modification of its
MERAD Technology, giving it Internet application ability. In accordance with
SFAS No. 86, "Accounting for the Costs of Computer Software to be Sold, Leased,
or Otherwise Marketed," these costs have been capitalized beginning at the point
that technological feasibility of the modification was established through the
period to when the product was available for general release to customers. These
costs are being amortized over a period of five years on a straight-line basis.

Significant Estimates

Management has estimated the undiscounted future cash flows that are expected to
result from the use of its technology. These estimates are based on current
letters of intent and anticipated future sales. Achieving these estimates
depends on the Company's success in implementing its sales plan and penetrating
the market with its available resources. Management's estimates of projected
cash flows are subject to risks and uncertainties of change affecting the
recoverability of the Company's intangible assets. Although management has made
its best estimate of these factors based on current conditions and information,
it is reasonably possible that changes could occur in the near term which could
adversely affect management's estimate of net cash flows expected to be
generated from its technology and the need for asset impairment write-downs. As
a result, the carrying amount of the Company's intangible assets of
approximately $6.8 million may be reduced materially in the near term.

Stock-Based Compensation

The Company records compensation expense in conjunction with the issuance of its
common stock and stock options and stock warrants to non-employees for various
consulting services in accordance with SFAS No. 123, "Accounting for Stock-Based
Compensation." Under SFAS No. 123, stock-based compensation is recorded at the
fair value of the consideration received or the fair value of the equity
instruments issued, whichever is more reliably measurable. For recording
stock-based compensation to employees, the Company follows Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB 25) and
related interpretations. Under APB 25, compensation expense is measured by the
fair value of the Company's stock at the measurement date less the amount, if
any, that the employee is required to pay.

                                       F-8

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Unearned Compensation

Compensation expense recorded for stock options issued to directors for services
was charged to stockholders' equity and is being amortized over the vesting
period of three years.

Net Loss Per Share

SFAS No. 128, "Earnings Per Share," requires basic and dilutive earnings per
share presentation. Basic loss per share is computed as net loss available to
common shareholders divided by the weighted average number of common shares
outstanding for the period. Diluted earnings per share reflects the potential
dilution that could occur from common shares issuable through stock options,
stock warrants, and convertible debt and stock. The common shares to be issued
at June 30, 2001 have been included in the weighted average share calculation
for one month in fiscal 2001.

As the Company's stock options, stock warrants, and convertible debt and stock
are antidilutive for all periods presented, dilutive loss per share is the same
as basic loss per share. At June 30, 2001 and 2000, outstanding stock options,
stock warrants, and convertible debt and stock to purchase 7,823,956 and
6,954,411 shares, respectively, of the Company's common stock were not included
in the computation of diluted loss per share as their effect would be
antidilutive.

Revenue Recognition

Revenue consists of software licensing fees, product and supply sales,
consulting services, and third party claims processing fees. The Company
recognizes revenue from product sales at the time ownership transfers to the
customer, principally at shipment. Revenues from licensing agreements are
recognized after shipment of the product and fulfillment of acceptance terms,
provided no significant obligations remain and collection of resulting
receivables are deemed probable. Service revenues are recognized when the
services are performed. Claims processing fees are recognized monthly as
services are performed, with fees computed based on a percent premium or a fee
per participant.

Restricted Cash

The Company, through its third party claims administration subsidiary, received
prepayments for the payment of premiums and claims to be paid on behalf of its
customers. As of June 30, 2001, the Company had $8,487 of such prepayments, and
related deferred revenue and customer deposits of $8,487.

                                       F-9

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Cash - Agency Accounts

The Company, through its third party claims administration subsidiary, maintains
custody of cash funds on behalf of some of its customers for the payment of
insurance premiums to carriers and medical claims for covered individuals. The
Company has custody of the funds but no legal right to them. Therefore, the cash
balances and related liabilities are not reflected in the Company's balance
sheet. At June 30, 2001, the Company maintained custody of approximately $1.1
million of customer funds at one bank, which amount exceeded FDIC insurance.

Use of Estimates

The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect certain reported amounts and disclosures. Accordingly, actual results
could differ from those estimates.

Fair Value of Financial Instruments

The carrying amounts reflected in the consolidated balance sheet for cash and
accounts receivable approximate their fair values due to the short maturities of
those instruments. Management believes it is not practicable to estimate the
fair value of its liability financial instruments because of the uncertainty
related to its ability to continue as a going concern and its current liquidity
difficulties.

New Accounting Pronouncements

In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS No.
141, "Business Combinations" and SFAS No. 142, "Goodwill and Other Intangible
Assets." SFAS No. 141 requires all business combinations initiated after June
30, 2001 to be accounted for using the purchase method. Under SFAS No. 142,
goodwill and intangible assets with indefinite lives are no longer amortized,
but are reviewed annually for impairment or more frequently if impairment
indicators arise. Separable intangible assets that have finite lives will
continue to be amortized over their useful lives. The amortization provisions of
SFAS No. 142 apply to goodwill and intangible assets acquired after June 30,
2001. With respect to goodwill and intangible assets acquired prior to July 1,
2001, the Company is required to adopt SFAS No. 142 effective July 1, 2002, but
may adopt the new statement beginning July 1, 2001. The Company is currently
evaluating the effects that adoption of the provisions of SFAS No. 142 will have
on its results of operations and financial position. As of June 30, 2001, the
Company has intangible assets, net of accumulated amortization, of approximately
$6.8 million, which will be subject to the transitional provisions of SFAS No.
142. Amortization expense was $348,632 and $424,632 for the years ended June 30,
2001 and 2000, respectively.

                                      F-10

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE B - OPERATIONS

The accompanying financial statements have been prepared in conformity with
generally accepted accounting principles, which contemplate the continuation of
the Company as a going concern. However, the Company incurred net losses of
$3,937,367 and $3,575,382 for the years ended June 30, 2001 and 2000,
respectively, and had a working capital deficiency of $934,551 at June 30, 2001.
The Company has sustained continuous losses from operations. The Company has
used, rather than provided, cash in its operating activities during the years
ended June 30, 2001 and 2000 and has deferred payment of certain accounts
payable and accrued expenses. Given these results, additional capital and
improved operations will be needed to sustain the Company's operations.

During the fourth quarter of fiscal 2001, the Company completed the merger with
Halis bringing the HES System, owned by Halis, and related technologies, owned
by the Company, together under one corporate structure. In addition, the Company
completed additional upgrades to the HES System. The net loss for the fiscal
year ended June 30, 2001 reflects the Company's preparation for market
penetration of its enterprise software solutions.

Management's operating plan is to fund future operations by licensing the
Company's technology assets to organizations that have significant numbers of
users. Beginning July 2001, the Company entered into certain letters of intent
with these types of organizations. Through these agreements and future
agreements, the Company expects to generate sufficient cash flows to cover its
operating costs and to improve its financial position. In addition, the Company
significantly reduced its operating expenses beginning July 2001.

In view of the matters described, there is substantial doubt about the Company's
ability to continue as a going concern. The recoverability of the recorded
assets and satisfaction of the liabilities reflected in the accompanying balance
sheet is dependent upon continued operation of the Company, which is in turn
dependent upon the Company's ability to meet its financing requirements on a
continuing basis and to succeed in its future operations. There can be no
assurance that management will be successful in implementing its plans. The
financial statements do not include any adjustment that might result from the
outcome of this uncertainty.

NOTE C - MERGER OF HEALTHWATCH AND HALIS

On May 31, 2001, Halis merged with and into Healthwatch Merger Sub, Inc., a
wholly-owned subsidiary of HealthWatch, whereby the Company issued or will issue
2,268,419 registered shares of its common stock in exchange for all of the
outstanding shares of Halis (an exchange ratio of one share of HealthWatch
common stock for twenty shares of Halis common stock). As of June 30, 2001,
1,743,064 of these shares had not yet been issued to Halis shareholders in
accordance with the merger agreement. The total consideration has been valued at
$5,417,785, which is comprised of the fair value of the HealthWatch shares
issued in the transaction, or $3,039,682 (2,268,419 shares at the trading price
at June 30, 2000 (the consummation date) of $1.34 per share), plus the book
value of HealthWatch's investment in and advances to Halis at May 31, 2001, or
$2,028,277, plus the net liabilities assumed of $349,826.

                                      F-11

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE C - MERGER OF HEALTHWATCH AND HALIS (CONTINUED)

Under the Agreement and Plan of Merger, the holders of other convertible
securities (i.e. warrants and options) of Halis received convertible securities
of the Company having similar terms and conditions.

The Company has accounted for the acquisition under the purchase method of
accounting. In accordance with Staff Accounting Bulletin No. 97 ("SAB 97"),
HealthWatch has been identified as the accounting acquirer since its
shareholders will hold the majority of the voting rights (approximately 66%) in
the combined company. The total voting rights include the voting rights of the
common shareholders and the Series C and Series D preferred shareholders (see
Note I).

Under the purchase method of accounting, the assets and liabilities of Halis are
recorded at their fair market value as of the date of the acquisition. The
excess purchase price over the fair market value of the net tangible assets
acquired has been identified as an intangible asset related to the HES
Technology and will be amortized over a five year period. The results of
operations of Halis have been included in the consolidated results from the date
of acquisition.

Summarized below is the unaudited pro forma consolidated statements of
operations as if the acquisition took place on July 1, 2000 for fiscal 2001 and
July 1, 1999 for fiscal 2000.

<TABLE>
<CAPTION>
                                                                              2001               2000
                                                                        ----------------   ----------------

         <S>                                                               <C>                 <C>
         Net sales                                                         $ 4,561,595         $ 4,856,496
         Loss from operations                                              $(5,005,118)        $(3,889,809)
         Loss before extraordinary item                                    $(5,230,022)        $(5,088,341)
         Net loss                                                          $(5,230,022)        $(4,922,936)

         Loss per share:
              Loss available to common shareholders before
                 extraordinary item                                        $     (2.56)        $     (1.95)
              Net loss available to common shareholders                    $     (2.56)        $     (1.91)

         Weighted average number of common shares
              outstanding                                                    4,460,660           3,788,019
</TABLE>



                                      F-12

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE D - PROPERTY AND EQUIPMENT

Property and equipment consisted of the following at June 30, 2001:



         Office furniture and equipment                              $  370,163
         Computers and software                                         291,919
         Leasehold improvements                                          25,396
         Vehicle                                                         23,172
                                                                     ----------
                                                                        710,650

         Accumulated depreciation                                      (356,804)
                                                                     ----------
              Property and equipment, net                            $  353,846
                                                                     ==========


NOTE E - INTANGIBLE ASSETS

Intangible assets arising from the acquisition of MERAD Software, Inc. and
subsidiaries and the modification of its technology consist of technology known
as the MERAD Technology. Intangible assets arising from the acquisition of
Halis, Inc. and subsidiaries consist of the technology known as the HES System.
Intangible assets consist of the following as of June 30, 2001:

         MERAD Technology                                           $ 1,446,674
         HES System                                                   6,035,552
         Other                                                           35,250
         Accumulated amortization                                      (694,377)
                                                                    -----------
              Intangible assets, net                                $ 6,823,099
                                                                    ===========

MERAD Technology includes the technology and virtual software application
utility. During fiscal 2001 and 2000, the Company capitalized direct costs of
$214,157 and $197,076, respectively, incurred in modifying the MERAD Technology,
giving it Internet application ability.

The Company continues to accrue additional consideration relating to the
acquisition of Merad Software, Inc. During fiscal 2001 and 2000, the Company
capitalized additional consideration of $1,080 and $20,420, respectively.
Additional consideration is computed as 5% of the first $1 million in gross
revenues and 10% of gross revenues over $1 million in a fiscal year. The
agreement calls for a maximum aggregate payment of $7 million on revenues earned
through September 2008. Through June 30, 2001, $115,937 of additional
consideration has accrued under this agreement, of which $7,321 remained unpaid
at June 30, 2001.

In June 2000, due to a change in the business focus and the expiration of major
customer contracts of the Company's HealthWatch Technologies, Inc. subsidiary,
the Company reviewed the recoverability of the unamortized technology related to
the subsidiary. The Company determined that the unamortized technology of
$213,286 was not recoverable and should be written off.

                                      F-13

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE F - DEBENTURES PAYABLE

Debentures payable accrue interest at an annual rate of 10%, payable quarterly
and are secured by substantially all assets of the Company. The remaining
debentures matured March 1, 1998 and are presently in default. As of June 30,
2001, the remaining debentures had not been extended and the Company was in
default under the debenture agreements. The debentures are convertible into
common stock at the option of the holder.

NOTE G - NOTE PAYABLE TO A BANK

The Company has a 10.5% note payable to a bank in the amount of $218,427 as of
June 30, 2001. The note is payable in monthly installments of $8,045, including
interest, with a balloon payment of all unpaid principal and interest due on
October 27, 2001. The note was assumed in connection with the merger with Halis
and is secured by substantially all assets of the Company.

NOTE H - COMMITMENTS AND CONTINGENCIES

Leases

The Company leases office space under several operating lease agreements
expiring in fiscal 2004. The Company has recorded a deferred credit to reflect
the excess of rent expense over cash payments since inception of its office
leases. Rent expense for the office space and equipment classified as operating
leases totaled $204,901 and $72,003 for fiscal years ended June 30, 2001 and
2000, respectively. At June 30, 2001, future minimum lease payments under
non-cancelable operating leases having remaining terms in excess of one year are
as follows for the fiscal years ending June 30,

         2002                                                       $   746,734
         2003                                                           755,270
         2004                                                           240,622
         2005                                                            23,115
                                                                    -----------
                                                                    $ 1,765,741
                                                                    ===========

A subsidiary of the Company acquired in the Halis merger subleases one of its
office facilities under an operating lease expiring December 2003. Rental income
from this sublease in fiscal 2001 was $18,531. Minimum future sublease income
anticipated under this agreement for the fiscal years ending June 30 are as
follows:

         2002                                                       $   224,501
         2003                                                           228,867
         2004                                                           115,552
                                                                    -----------
                                                                    $   568,920
                                                                    ===========

                                      F-14

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE H - COMMITMENTS AND CONTINGENCIES (CONTINUED)

During fiscal 2001, the Company recorded capital lease obligations in
conjunction with the Halis merger. Total capitalized property and equipment, net
of depreciation, of $139,413 consisted mainly of computers and software.
Amortization of these capital leases included in depreciation expense for fiscal
2001 and accumulated depreciation at June 30, 2001 was $8,319.

Future payments under these leases for the fiscal years ending June 30 are as
follows:

         2002                                                      $     82,635
         2003                                                            74,143
         2004                                                            45,313
                                                                   ------------
         Total minimum lease payments                                   202,091
         Amount representing interest                                   (25,795)
                                                                   ------------
         Present value of minimum lease payments                   $    176,296
                                                                   ============

Litigation

On July 18, 1997, Halis was sued by Penelope Sellers in an action seeking actual
damages against Halis in the amount of $480,535, unspecified attorneys fees and
punitive damages of not less than $1 million. The complaint contends that under
a 1995 finder's fee agreement Ms. Sellers was to receive from Halis a commission
equal to 10% of the amount of any equity investments in Halis or software
licensing fees paid to Halis in respect of transactions introduced to Halis by
her. She contends that the agreement entitles her to an amount in excess of the
approximately $19,350 she has been paid to date under that agreement.

That amount represents 10% of the investment made by the principals of Aubis,
LLC ("Aubis") in a private placement of convertible notes (in which private
placement other investors in addition to the Aubis principals participated) and
10% of the amounts received by Halis from the sale of Fisher Restaurant
Management Systems by Aubis.

Discovery has been completed. The Company continues to vigorously defend this
lawsuit. There can be no assurance, however, that the Company will be successful
in its defense or that the final resolution of this matter will not have a
material adverse effect on the Company's financial condition or results of
operations.

In February 1997, Halis was sued by Advanced Custom Computer Solutions, Inc.
("ACCS") alleging, among other things, breach of contract in connection with the
termination by Halis of a merger agreement with ACCS. The complaint sought
damages in the amount of at least $2 million, additional damages to be
determined by the jury at trial and punitive damages.

                                      F-15

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE H - COMMITMENTS AND CONTINGENCIES (CONTINUED)

In November 1998, the trial court granted summary judgment in favor of Halis on
all but two counts of the plaintiff's complaint. The Georgia Court of Appeals
has affirmed the trial court's granting of summary judgment in favor of Halis on
all but two counts. There can be no assurance that the Company will be
successful in its defense of the plaintiff's complaint, or that the final
resolution of this matter will not have a material adverse effect on the
Company's financial condition or results of operations.

No provision has been made in these financial statements regarding the above two
complaints due to the uncertainty of their ultimate resolution.

In April 2000, Halis was served a complaint by Carrera-Maximus, Inc. alleging
breach of contract in connection with certain professional service fees, product
support fees, and license fees paid to Halis under a contract between the two
parties. Carrera-Maximus, Inc. was seeking the return of fees in the total
amount of approximately $538,000. The case has been settled by the Company for
$110,000, which is included in selling, general and administrative expenses and
accounts payable and accrued expenses at June 30, 2001.

The Company is also party to litigation that it believes to be immaterial with
respect to amount and is not disclosed herein.

NOTE I - PREFERRED STOCK

Series P Preferred Stock

The Company has outstanding Series P 8% cumulative, non-voting preferred stock,
which has a stated value of $50 per share. Shareholders have the option to
convert each of the Series P preferred stock into ten shares of fully-paid and
non-assessable shares of common stock. Dividends can be paid in cash or stock,
at the Company's option. Dividends are payable semi-annually, if declared. No
dividends have been declared to date. At June 30, 2001, the amount of dividends
in arrears was $735,746. The Series P preferred stock has dividend and
liquidation preferences over all common stock and is subordinate to both the
Series C and Series D preferred stock. The stated liquidation preference value
was $3,344,300 at June 30, 2001.

                                      F-16

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE I - PREFERRED STOCK (CONTINUED)

The issuance of the Series P preferred stock included a beneficial conversion
feature in the total amount of $782,566, which represents the aggregate fair
value at the issue date of the HealthWatch common stock into which the preferred
stock is convertible over the proceeds received in the issuance of the preferred
shares. This amount has been included in additional paid-in capital and was
amortized as a return to the preferred shareholders over the period through the
date of earliest conversion using the effective yield method. Amortization of
the beneficial conversion feature was $234,770 and $313,026 for fiscal 2001 and
2000, respectively. At June 30, 2001, the beneficial conversion feature was
fully amortized.

Series C Preferred Stock

The Company has outstanding Series C 8% cumulative preferred stock, which has a
stated value of $100 per share. Subject to anti-dilution provisions,
shareholders have the option to convert each of the Series C preferred stock
into fully-paid and non-assessable shares of common stock at a conversion rate
equal to the stated value divided by a conversion price of $1.88 per share.
Dividends are payable, at the Company's option, either in cash or in shares of
Series C preferred stock. No dividends have been declared to date. At June 30,
2001, the amount of dividends in arrears was $40,000. Series C preferred
shareholders have voting rights on all matters as to which holders of common
stock are entitled to vote. Holders of Series C preferred stock are entitled to
the same number of votes as if the Series C preferred stock had been converted.
The Series C preferred stock has dividend and liquidation preferences over
Series P preferred stock and common stock, and is on an equal liquidation and
dividend basis with the Series D preferred stock. The stated liquidation
preference value was $400,000 at June 30, 2001.

Series D Preferred Stock

The Company has outstanding Series D 8% cumulative preferred stock, which has a
stated value of $100 per share. Subject to anti-dilution provisions,
shareholders have the option to convert each of the Series D preferred stock
into fully-paid and non-assessable shares of common stock at a conversion rate
equal to the stated value divided by a conversion price of $3.50 per share.
Dividends are payable, at the Company's option, either in cash or in shares of
Series D preferred stock. No dividends have been declared to date. At June 30,
2001, the amount of dividends in arrears was $741,300. Series D preferred
shareholders have voting rights on all matters as to which holders of common
stock are entitled to vote. Holders of Series D preferred stock are entitled to
the same number of votes as if the Series D preferred stock had been converted
to common stock. The Series D preferred stock has dividend and liquidation
preferences over Series P preferred stock and common stock, and is on an equal
liquidation and dividend basis with the Series C preferred stock. The stated
liquidation preference value was $7,400,500 at June 30, 2001.

                                      F-17

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE I - PREFERRED STOCK (CONTINUED)

The issuance of the Series D preferred stock included a beneficial conversion
feature in the total amount of $7,413,000, which represents the aggregate fair
value at the issue date of the HealthWatch common stock into which the preferred
stock is convertible over the proceeds received in the issuance of the preferred
shares. This amount has been included in additional paid-in capital and is being
amortized as a return to the preferred shareholders over the period through the
date of earliest conversion using the effective yield method. For fiscal 2001
and 2000, $5,078,232 and $1,571,674, respectively, of the beneficial conversion
feature has been amortized and $763,094 remains unamortized at June 30, 2001.

NOTE J - SHAREHOLDERS' EQUITY

Private Placement of Common Stock

During fiscal 2000, the Company offered and issued 28,572 shares of common stock
at $1.75 per share. The offering netted the Company proceeds of $50,000.

Stock Options

In May 2000, the Company adopted its 2000 Stock Option Plan. This plan provides
that 2,000,000 shares of the Company's common stock be reserved for issuance
subject to annual adjustment. The 2000 Stock Option Plan provides for the grant
of options that are intended to qualify as incentive stock options to any
employee of the Company or its subsidiaries, and the grant of options that are
considered non-qualified due to certain conditions as to issuance. Option prices
for incentive stock options may not be less than the fair market value on the
date the option is granted, whereas, non-statutory stock option prices may not
be less than 85% of the fair market value on the date the option is granted. The
options vest over a period of up to three years.

                                      F-18

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE J - SHAREHOLDERS' EQUITY (CONTINUED)

A summary of the status of the Company's stock option plans as of June 30, 2001
and 2000 and changes during the years ending on those dates is presented below:

<TABLE>
<CAPTION>
                                                 1995 Plan                2000 Plan           Outside of Plans
                                           ---------------------    --------------------    --------------------
                                                        Weighted                Weighted                Weighted
                                                         Average                 Average                 Average
                                           Number of    Exercise    Number of   Exercise    Number of   Exercise
                                            Options       Price      Options      Price      Options      Price
                                            -------     --------    ---------   --------    ---------   -------
<S>                                        <C>        <C>           <C>         <C>          <C>        <C>
Outstanding at June 30, 1999               252,569    $   4.50             -    $     -            -    $     -
     Granted                               583,333        3.19             -          -            -          -
     Expired                                  (286)      66.50             -          -            -          -
     Cancelled                             (11,473)      11.43             -          -            -          -
                                           -------      ------      --------    -------      -------    -------

Outstanding at June 30, 2000               824,143        3.45             -          -            -          -
     Granted                                     -           -       557,000       0.88            -          -
     Issued in merger                            -           -             -          -      582,515       3.37
     Expired                                     -           -             -          -          (40)     68.75
     Cancelled                                   -           -       (40,000)      0.88            -          -
                                           -------    --------      --------    -------      -------    -------

Outstanding at June 30, 2001               824,143      $ 3.45       517,000    $  0.88      582,475    $  3.37
                                           =======      ======      ========    =======      =======    =======
</TABLE>



                                      F-19

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE J - SHAREHOLDERS' EQUITY (CONTINUED)

The following table summarizes information about stock options outstanding at
June 30, 2001:

<TABLE>
<CAPTION>
                              Options Outstanding                                    Options Exercisable
             ------------------------------------------------------           ----------------------------------
                                    Weighted-             Weighted-                                   Weighted-
               Number                Average               Average               Number                Average
             Outstanding            Remaining             Exercise             Outstanding            Exercise
             at 6/30/01         Contractual Life            Price              at 6/30/01               Price
             -----------        ----------------        -----------           -------------          -----------
             <S>                <C>                      <C>                  <C>                       <C>
                    40                   9.06              $68.75                     40               $68.75
                 1,000                   3.80               42.40                  1,000                42.40
                 6,000                   4.46               40.00                  6,000                40.00
                 3,000                   5.39               29.40                  3,000                29.40
                    40                   8.07               18.12                     40                18.12
                 5,000                   5.79               17.50                  5,000                17.50
                 3,350                   4.07               14.00                  3,350                14.00
                 3,333                   1.56                8.95                  3,333                 8.95
                27,500                   3.33                6.25                 27,500                 6.25
                 2,250                   3.00                5.00                  2,250                 5.00
               124,667                   2.29                4.80                124,667                 4.80
               440,000                   8.61                3.50                440,000                 3.50
               116,143                   1.54                3.30                116,143                 3.30
               459,715                   4.20                2.60                452,376                 2.60
                    40                   7.05                2.50                     40                 2.50
                80,000                   8.56                2.25                 80,000                 2.25
                    40                   6.05                1.88                     40                 1.88
                60,000                   8.44                1.88                 60,000                 1.88
                74,500                   1.57                1.00                 74,500                 1.00
               517,000                   9.36                0.88                172,318                 0.88
             ---------                                                        ----------
             1,923,618                                                         1,571,597
             =========                                                        ==========
</TABLE>

The Company has elected to follow Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" (APB 25), and related interpretations
in accounting for its employee stock options rather than Statement of Financial
Accounting Standards Board Statement No. 123, "Accounting for Stock-Based
Compensation" (SFAS 123). In accordance with APB 25, since the exercise price of
the underlying stock options equaled the fair market value on the date of grant,
no compensation expense was recognized.

                                      F-20

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE J - SHAREHOLDERS' EQUITY (CONTINUED)

SFAS 123 requires the Company to provide pro forma information regarding net
loss and loss per share as if compensation cost for the Company's stock option
plans had been determined in accordance with the fair value based method
prescribed in SFAS 123. The Company estimates the fair value of each stock
option at the grant date by using the Black-Scholes option-pricing model with
the following weighted average assumptions used for grants in 2001 and 2000,
respectively: no dividend yield for each year; expected volatility of 149.9% and
162.5%, respectively; weighted-average risk-free interest rates of 5.0% and
6.66%, respectively; and weighted-average expected option lives of two and three
years, respectively.

<TABLE>
<CAPTION>
                                                                                     2001               2000
                                                                               ----------------   ----------------

         <S>                                                                      <C>               <C>
         Net loss available to common shareholders:

              As reported                                                         $(10,139,953)     $(5,885,386)
              Pro forma                                                           $(10,184,633)     $(6,177,156)

         Net loss per common share:

              As reported                                                         $      (4.26)     $     (3.82)
              Pro forma                                                           $      (4.28)     $     (4.01)

         Weighted average fair value of options granted                           $       0.63      $      0.45
</TABLE>


During fiscal 2000 the Company issued stock warrants in conjunction with the
issuance of preferred and common stock and the conversion of debentures payable
to common stock. Also, during fiscal 2000, the Company issued 1,000,000 stock
warrants, valued at $419,551, as debt costs associated with short term
financing. This amount has been included in interest expense in the Company's
statements of operations. The warrants were valued using the Black-Scholes
option-pricing method under the following assumptions: no dividend yield;
expected volatility of 162.5%; risk free interest of 5.55%; and expected warrant
life of three years. Activity related to stock warrants was as follows:

<TABLE>
<CAPTION>
                                                                                                  Weighted Average
                                                                               Warrants             Exercise Price
                                                                            ------------          ----------------
         <S>                                                                  <C>                     <C>
         Outstanding at June 30, 1999                                           473,161               $ 4.65
              Granted                                                         2,849,284                 3.05
              Exercised                                                        (242,961)                5.76
                                                                             ----------               ------
         Outstanding at June 30, 2000                                         3,079,484                 3.08
              Issued in merger                                                  121,929                21.00
              Expired                                                          (297,690)                2.88
                                                                             ----------               ------
         Outstanding at June 30, 2001                                         2,903,723               $ 3.85
                                                                             ==========               ======
</TABLE>



                                      F-21

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE J - SHAREHOLDERS' EQUITY (CONTINUED)

At June 30, 2001, the Company had stock warrants outstanding as follows:

<TABLE>
<CAPTION>
            Common Shares                        Exercise
            Under Warrant                     Price Per Share                   Expiration Date
          -----------------                   ---------------            ------------------------------
          <S>                                 <C>                        <C>
                  61,405                          $35.00                 November 2001 - September 2002
                  11,899                           27.00                 September 2002 - December 2002
                  10,000                            8.60                 January 2003
               2,058,977                            3.50                 March 2005
                  26,750                            2.20                 June 2004
                   7,143                            1.75                 August 2002
                 705,669                            1.88                 December 2002 - December 2004
                  21,880                            1.00                 December 2004
               ---------
               2,903,723
               =========
</TABLE>


NOTE K - RELATED PARTY TRANSACTIONS

Officer and Director Options

At June 30, 2001, the Company had outstanding the following qualified and
nonqualified stock options granted to officers and directors:

<TABLE>
<CAPTION>
                  Common Shares Under Option
           -----------------------------------------          Exercise
             Outstanding               Exercisable         Price Per Share             Expiration Date
           ---------------           ---------------       ---------------        --------------------------
           <S>                       <C>                   <C>                    <C>
                   3,333                    3,333                $8.95            January 2003
                 124,667                  124,667                 4.80            October 2003
                 400,000                  400,000                 3.50            February 2010
                  50,000                   50,000                 3.30            October 2002 - May 2003
                 283,325                  283,325                 2.60            June 2006 - December 2009
                  50,000                   50,000                 2.25            January 2010
                  20,000                   20,000                 1.88            December 2009
                  37,000                   37,000                 1.00            December 2009
                 497,000                  165,650                 0.88            November 2010
              ----------                ---------
               1,465,325                1,133,975
              ==========                =========
</TABLE>




                                      F-22

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE K - RELATED PARTY TRANSACTIONS (CONTINUED)

Officer and Director Warrants

At June 30, 2001, the Company had outstanding stock warrants held by officers
and directors to purchase 76,548 shares of common stock at prices ranging from
$3.50 per share to $8.60 per share. These warrants expire in March 2005.

Director Compensation

During fiscal 2001, options to purchase 200,000 shares of the Company's common
stock at a price of $0.88 per share were issued to directors for director
services. These options, valued at $126,851, expire November 2010 and vest over
a three year period.

During fiscal 2000, 40,000 shares of the Company's common stock, valued at
$75,000, were issued to two of the Company's directors for consulting services.

Compensation Arrangement

In order to conserve cash resources as the Company markets its products, certain
officers and employees have agreed to forgo salaries beginning July 1, 2001 in
exchange for potential commissions of 30% of gross revenues generated from all
software sales. Termination of this arrangement is anticipated when the Company
has sufficient working capital to pay salaries to these officers and employees.

Business Collaboration Agreement

During fiscal 2001 and 2000, the Company and Halis operated under a Business
Collaboration Agreement which provided for revenue sharing, product support and
enhancement, and the sharing of certain operating expenses. The Company paid
Halis approximately $495,000 and $50,000, in fiscal 2001 and 2000, respectively,
under this agreement. These amounts are included in selling, general and
administrative expenses in the consolidated statements of operations.

NOTE L - INCOME TAXES

The effective tax rate varies from the maximum federal statutory rate as a
result of the following items:

<TABLE>
<CAPTION>
                                                                                       2001             2000
                                                                                    ---------         ---------
         <S>                                                                          <C>               <C>
         Tax benefit computed at the maximum federal statutory rate                   (34.0)%           (34.0)%
         Decrease in tax benefit resulting from:
              Amortization of intangible assets                                         5.0               4.0
              Loss to be carried forward                                               29.0              30.0
                                                                                      -----             -----
                  Income tax provision                                                  0.0%              0.0%
                                                                                      =====             =====
</TABLE>



                                      F-23

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000


NOTE L - INCOME TAXES (CONTINUED)

Deferred income tax assets and the related valuation allowances result
principally from the potential tax benefits of tax carryforwards and also from
the unrealized loss on marketable securities.

The Company has recorded a valuation allowance to reflect the uncertainty of the
ultimate utilization of the deferred tax assets as follows:

                                                       2001             2000
                                                    ----------       ----------

         Deferred tax assets                       $ 8,122,000      $ 5,123,000
         Less valuation allowance                   (8,077,000)      (5,123,000)
                                                   -----------      -----------
              Net deferred tax assets              $    45,000      $         -
                                                   ===========      ===========

A valuation allowance has been established for substantially all of the deferred
tax assets because the Company has had significant losses in recent years and
realization of the tax benefits is uncertain.

The net change in the deferred tax valuation allowance was an increase of
$2,954,000 and $1,207,000 for the years ended June 30, 2001 and 2000,
respectively.

At June 30, 2001, the Company had the following net operating loss and
investment tax credit carryforwards:

        Carryforward                Net Operating                 Investment
           Expires                      Loss                      Tax Credits
           June 30                  Carryforwards                Carryforwards
         -----------               ---------------              ---------------
            2002                      $   240,000                    $ 3,798
            2003                          867,889                     14,560
            2004                          251,744                          -
            2005                          362,457                          -
            2006                          241,371                          -
            2007                          475,901                          -
            2008                        1,701,790                          -
            2009                          521,054                          -
            2010                        1,884,839                          -
            2011                        1,906,725                          -
            2012                        2,055,490                          -
            2013                        2,121,569                          -
            2019                        2,141,851                          -
            2020                        2,429,858                          -
            2021                        2,370,730                          -
                                      -----------                    -------
                                      $19,573,268                    $18,358
                                      ===========                    =======


                                      F-24

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE L - INCOME TAXES (CONTINUED)

Included in the above table is approximately $3,600,000 of net operating losses
which was acquired in the acquisition of Halis. These net operating losses have
been limited in accordance with Section 382 of the Internal Revenue Code for a
change in ownership.

The utilization of the carryforwards is dependent upon the ability of the
Company to generate sufficient taxable income during the carryforward period. In
addition, the availability of these net operating loss carryforwards to offset
future taxable income may be significantly limited due to ownership changes as
defined in the Internal Revenue Code.

NOTE M - INFORMATION CONCERNING BUSINESS SEGMENTS

The Company's three reportable segments are strategic business units that offer
different products and services principally to United States customers. These
segments are MERAD Software, Inc. ("MERAD"), HealthWatch Technologies, Inc.
("Tech"), and American Benefit Administrative Services, Inc. ("ABAS"). MERAD is
a healthcare information technology company that has developed and is in the
initial stages of marketing software capable of processing and tracking
information for a variety of healthcare enterprises. Tech is a supplier of
noninvasive vascular diagnostic medical instruments and related supplies. ABAS
provides claims processing services to managed healthcare markets, medical
practices, and related point of service markets. The accounting policies of the
segments are the same as those described in the summary of significant
accounting policies.

Segment information for fiscal 2001 and fiscal 2000 is as follows:


<TABLE>
<CAPTION>
                                                                                     Corporate
                                        MERAD           Tech           ABAS         Unallocated          Totals
                                     -----------     ----------    ------------     ------------     --------------
<S>                                   <C>             <C>            <C>             <C>               <C>
2001

Revenues from external
    customers                         $   39,335      $ 306,875      $ 295,768       $         -       $   641,978
Segment operating loss                  (215,048)      (118,453)       (42,645)       (3,301,450)       (3,677,596)
Interest income                                -              -              -           104,456           104,456
Interest expense                               -         (3,885)        (1,948)          (21,547)          (27,380)
Total assets                           1,028,904         90,015        716,961         6,230,508         8,066,388
Capital expenditures                           -         17,735              -            95,332           113,067
Depreciation and amortization            217,208          3,521         43,871           116,247           380,847
Loss from investment in Halis                  -              -              -          (356,313)         (356,313)
</TABLE>



                                      F-25

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE M - INFORMATION CONCERNING BUSINESS SEGMENTS (CONTINUED)

<TABLE>
<CAPTION>
                                                                                     Corporate
                                        MERAD           Tech           ABAS         Unallocated          Totals
                                     -----------     ----------    ------------     ------------     --------------
2000
<S>                                  <C>              <C>           <C>              <C>               <C>
Revenues from external
    customers                        $    21,935      $ 529,747     $        -       $         -       $   551,682
Segment operating loss                  (189,398)      (287,359)             -        (1,709,215)       (2,185,972)
Interest income                                -              -              -           110,606           110,606
Interest expense                               -          6,584              -           449,291           455,875
Total assets                             886,772         93,560              -         6,459,614         7,439,946
Capital expenditures                           -              -              -            15,178            15,178
Depreciation and amortization            210,534        230,996              -             1,265           442,795
Loss from investment in Halis                  -              -              -          (523,450)         (523,450)
Other-than-temporary decline
    in investment in Halis                     -              -              -          (472,810)         (472,810)
Loss from impairment of
    intangible assets                          -       (213,286)             -                 -          (213,286)
Extraordinary item - gain on
    extinguishment of debt, net
    of income taxes                            -              -              -            99,405            99,405
</TABLE>

NOTE N - SUBSEQUENT EVENT

On October 9, 2001, the Company sold its claims processing subsidiary, ABAS, to
a company controlled by the President of ABAS. The sales agreement specifies a
maximum purchase price of $1,320,000. This purchase price consists of $265,000
paid at closing, $55,000 to be paid on or before June 1, 2002, and profit
sharing revenues of $1,000,000, of which $465,000 is guaranteed through a
promissory note. The agreement also includes a marketing and administrative
services agreement to jointly pursue certain new technology based services and
share in revenues. The sale resulted in an estimated pre-tax gain of
approximately $585,000 ($351,000 after estimated taxes).

                                      F-26

<PAGE>

                       HEALTHWATCH, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             JUNE 30, 2001 AND 2000




NOTE N - SUBSEQUENT EVENT (CONTINUED)

The following is a summary of operations of ABAS included in the consolidated
financial statements of HealthWatch for fiscal 2001 and 2000:

<TABLE>
<CAPTION>
                                                                                      2001              2000
                                                                                    ---------        ---------
         <S>                                                                        <C>              <C>
         Sales                                                                      $ 295,768        $       -
         Operating expenses                                                           338,413                -
                                                                                    ---------        ---------
              Operating loss                                                        $ (42,645)       $       -
                                                                                    =========        =========
</TABLE>


Assets and liabilities of ABAS at June 30, 2001 are summarized as follows:

<TABLE>
         <S>                                                                        <C>
         Cash                                                                       $ 130,258
         Restricted cash                                                                8,487
         Receivables                                                                  260,182
         Deferred income taxes                                                         45,000
         Other current assets                                                          68,060
                                                                                    ---------
              Total current assets                                                    511,987

         Property and equipment, net                                                  190,004
         Other assets                                                                  14,970
                                                                                    ---------
              Total assets                                                          $ 716,961
                                                                                    =========

         Accounts payable and accrued expenses                                      $ 152,159
         Deferred rent obligation                                                      66,230
         Capital lease obligations - current                                           62,248
         Income taxes payable                                                          43,612
                                                                                    ---------
              Total current liabilities                                               324,249

         Capital lease obligations - long term                                        114,048
                                                                                    ---------
              Total liabilities                                                     $ 438,297
                                                                                    =========
</TABLE>


                                      F-27

<PAGE>

                                   HALIS, INC.

                                AND SUBSIDIARIES

                              FINANCIAL STATEMENTS

                     YEARS ENDED DECEMBER 31, 2000 AND 1999


<PAGE>


                          HALIS, INC. AND SUBSIDIARIES

                               FINANCIAL STATMENTS

                                TABLE OF CONTENTS

Independent Auditors' Report ................................  F2-1

Consolidated Balance Sheet ..................................  F2-2

Consolidated Statements of Operations .......................  F2-3

Consolidated Statements of Cash Flows .......................  F2-4

Consolidated Statements of Stockholders' Deficit ............  F2-5

Notes to Consolidated Financial Statements ..................  F2-6


<PAGE>


                          INDEPENDENT AUDITORS' REPORT

To the Board of Directors and Stockholders
Halis, Inc.

         We have audited the accompanying consolidated balance sheet of Halis,
Inc. and Subsidiaries as of December 31, 2000, and the related consolidated
statements of operations, stockholders' deficit, and cash flows for the years
ended December 31, 2000 and 1999. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.

         We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

         In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Halis, Inc.
and Subsidiaries as of December 31, 2000, and the results of their operations
and their cash flows for the years ended December 31, 2000 and 1999 in
conformity with generally accepted accounting principles.

         The accompanying consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. As discussed in Note
B to the financial statements, the Company's recurring losses from operations
and limited capital resources raise substantial doubt about its ability to
continue as a going concern. Management's plans in regard to these matters are
also described in Note B. The financial statements do not include any
adjustments that might result from the outcome of this uncertainty.

/s/ Tauber & Balser, P.C.
-------------------------

Atlanta, Georgia
March 1, 2001


                                      F2-1

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEET
                               DECEMBER 31, 2000

<TABLE>
<S>                                                                <C>
                                     ASSETS
     CURRENT ASSETS
          Cash                                                     $    327,968
          Restricted cash                                                36,308
          Accounts receivable                                           242,397
          Other current assets                                          102,487
                                                                   ------------
              TOTAL CURRENT ASSETS                                      709,160
                                                                   ------------

     PROPERTY AND EQUIPMENT
          Computers and software                                        477,522
          Vehicle                                                        36,588
          Office furniture and equipment                                 75,844
          Leasehold improvements                                         29,770
                                                                   ------------
                                                                        619,724
          Less accumulated depreciation                                 328,618
                                                                   ------------
              PROPERTY AND EQUIPMENT, NET                               291,106
                                                                   ------------

     OTHER ASSETS
          Deposits                                                      102,840
          Goodwill, net of accumulated amortization of $1,547,105       467,308
          Capitalized software development costs                         58,150
          Investment                                                      9,375
                                                                   ------------
              TOTAL OTHER ASSETS                                        637,673
                                                                   ------------
                   TOTAL ASSETS                                    $  1,637,939
                                                                   ============

                      LIABILITIES AND STOCKHOLDERS' DEFICIT

CURRENT LIABILITIES
     Accounts payable and accrued expenses                         $    777,130
     Deferred revenue and customer deposits                              52,508
     Accrued payroll and payroll taxes                                   67,549
     Due to related party                                               291,976
     Note payable to a bank                                             248,379
     Note payable - related party                                       250,000
     Obligations under capital leases - current portion                  66,121
                                                                   ------------
              TOTAL CURRENT LIABILITIES                               1,753,663
                                                                   ------------
LONG-TERM DEBT
     Obligations under capital leases, net of current portion           142,511
                                                                   ------------
STOCKHOLDERS' DEFICIT
     Preferred stock, $.10 par value; 5,000,000 shares authorized;
         none issued                                                         --
     Common stock, $.01 par value; 100,000,000 shares authorized;
         61,132,037 shares issued and outstanding                       611,320
     Additional paid-in capital                                      38,085,036
     Accumulated other comprehensive loss, unrealized
         loss on investment                                            (115,625)
     Accumulated deficit                                            (38,838,966)
                                                                   ------------
              TOTAL STOCKHOLDERS' DEFICIT                              (258,235)
                                                                   ------------
                   TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT     $  1,637,939
                                                                   ============
</TABLE>

       The accompanying notes are an integral part of these consolidated
                             financial statements.


                                      F2-2

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                 FOR THE YEARS ENDED DECEMBER 31, 2000 AND 1999

<TABLE>
<CAPTION>
                                                                       2000             1999
                                                                  ------------      ------------
<S>                                                               <C>               <C>
REVENUES                                                          $  4,051,434      $  5,082,493
                                                                  ------------      ------------

COST AND EXPENSES
     Cost of goods sold                                                 12,280           848,173
     Selling, general and administrative                             3,960,447         4,056,539
     Depreciation and amortization                                     597,700           620,137
     Research and development                                          184,562           287,254
     Write down of intangibles                                            --              63,996
                                                                  ------------      ------------
         TOTAL COST AND EXPENSES                                     4,754,989         5,876,099
                                                                  ------------      ------------
OPERATING LOSS                                                        (703,555)         (793,606)
                                                                  ------------      ------------
OTHER INCOME (EXPENSE)
     Provision for losses on notes receivable - related party             --            (623,377)
     Gain on sale of property and equipment                             35,000              --
     Interest expense                                                 (337,832)          (63,119)
     Interest income                                                      --              27,131
     Other income                                                         --               8,144
                                                                  ------------      ------------
                                                                      (302,832)         (651,221)
                                                                  ------------      ------------
LOSS BEFORE INCOME TAXES AND
     EXTRAORDINARY ITEM                                             (1,006,387)       (1,444,827)

INCOME TAX BENEFIT                                                      92,000              --
                                                                  ------------      ------------
LOSS BEFORE EXTRAORDINARY ITEM                                        (914,387)       (1,444,827)

EXTRAORDINARY ITEM - GAIN ON EXTINGUISHMENT
     OF ACCOUNTS PAYABLE (NET OF INCOME TAXES OF $92,000)              137,424              --
                                                                  ------------      ------------

NET LOSS                                                          $   (776,963)     $ (1,444,827)
                                                                  ============      ============
BASIC AND DILUTED NET LOSS PER COMMON SHARE
     Loss before extraordinary item                               $       (.01)     $       (.03)
     Extraordinary item                                                   --                --
                                                                  ------------      ------------
     Net loss                                                     $       (.01)     $       (.03)
                                                                  ============      ============
WEIGHTED AVERAGE NUMBER OF COMMON
     SHARES OUTSTANDING                                             59,147,006        51,266,751
                                                                  ============      ============
</TABLE>

       The accompanying notes are an integral part of these consolidated
                             financial statements.


                                      F2-3

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                 FOR THE YEARS ENDED DECEMBER 31, 2000 AND 1999
<TABLE>
<CAPTION>
                                                                      2000            1999
                                                                  -----------      -----------
<S>                                                               <C>              <C>
CASH FLOWS FROM OPERATING ACTIVITIES
     Net loss                                                     $  (776,963)     $(1,444,827)
                                                                  -----------      -----------
     Adjustments:
         Depreciation and amortization:
              Property and equipment                                  145,329          115,772
              Goodwill                                                402,883          402,883
              Other                                                    49,488          101,482
         Gain on sale of property and equipment                       (35,000)            --
         Gain on extinguishment of accounts payable                  (229,424)            --
         Write down of intangibles                                       --             63,996
         Interest related to beneficial conversion feature on
              convertible debt                                        250,000             --
         Interest accrued on note receivable - related party             --            (27,085)
         Provision for losses on note receivable                         --            623,377
         Issuance of common stock for services                         26,000           15,400
         Changes in:
              Restricted cash                                         594,570         (180,648)
              Accounts receivable                                      14,991          105,543
              Other current assets                                    (28,329)          (3,287)
              Deposits                                                 (3,590)          70,137
              Accounts payable and accrued expenses                (1,190,687)          58,556
              Accrued payroll and payroll taxes                      (195,049)          (1,736)
              Deferred revenue and customer deposits                   16,214         (120,752)
                                                                  -----------      -----------
                  Total adjustments                                  (182,604)       1,223,638
                                                                  -----------      -----------
         Net cash used by operating activities                       (959,567)        (221,189)
                                                                  -----------      -----------
CASH FLOWS FROM INVESTING ACTIVITIES
     Proceeds from sale of property and equipment                      35,000             --
     Purchase of property and equipment                               (63,185)         (76,162)
     Purchase of capitalized software development costs               (58,150)            --
     Purchase of capitalized license fees                             (48,271)            --
                                                                  -----------      -----------
         Net cash used by investing activities                       (134,606)         (76,162)
                                                                  -----------      -----------
CASH FLOWS FROM FINANCING ACTIVITIES
     Proceeds from issuance of common stock                         1,070,000          250,000
     Principal payments on obligations under capital leases           (60,139)         (42,216)
     Net increase in due to related party                             219,289           47,722
     Principal payments on note payable to a bank                     (70,512)         (56,635)
     Net proceeds from notes payable - related parties                250,000           59,500
                                                                  -----------      -----------
         Net cash provided by financing activities                  1,408,638          258,371
                                                                  -----------      -----------
NET INCREASE (DECREASE) IN CASH                                       314,465          (38,980)

CASH, BEGINNING OF YEAR                                                13,503           52,483
                                                                  -----------      -----------

CASH, END OF YEAR                                                 $   327,968      $    13,503
                                                                  ===========      ===========
</TABLE>

       The accompanying notes are an integral part of these consolidated
                             financial statements.

                                      F2-4

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                CONSOLIDATED STATEMENTS OF STOCKHOLDERS' DEFICIT
                 FOR THE YEARS ENDED DECEMBER 31, 2000 AND 1999
<TABLE>
<CAPTION>
                                                                                                                   Accumulated
                                                       Common Stock              Common            Additional        Other
                                              -----------------------------       Stock             Paid-In       Comprehensive
                                                  Shares          Amount       To Be Issued          Capital          Loss
                                              --------------   ------------   --------------      -------------    -------------

<S>                                           <C>             <C>              <C>               <C>              <C>
Balances, December 31, 1998                    46,259,763      $    462,597     $       --        $ 36,066,439     $    (88,542)

Comprehensive loss:
     Net loss -                                      --                --               --                --         (1,444,827)
     Change in unrealized loss on
         investment                                  --                --               --                --             12,500

Total comprehensive loss

Issuance of common stock                        2,066,667            20,667             --             189,333             --
Common stock issued to consultants              1,059,055            10,591             --              97,457             --
Common stock issued for conversion
     of convertible debt to equity              1,824,645            18,246             --             139,494             --
Common stock issued to an employee
     in lieu of accrued compensation            1,500,000            15,000             --             195,000             --
Common stock to be issued                            --                --             40,000              --               --
                                             ------------      ------------     ------------      ------------     ------------

Balances, December 31, 1999                    52,710,130           527,101           40,000        36,687,723          (76,042)

Comprehensive loss:
     Net loss -                                      --                --               --                --           (776,963)
     Change in unrealized loss on
         investment                                  --                --               --                --            (39,583)

Total comprehensive loss

Issuance of common stock                        6,834,407            68,344          (40,000)        1,042,188             --
Common stock issued to consultants
     and a director                               400,000             4,000             --              22,000             --
Common stock issued to an employee
     in lieu of accrued compensation and
     for repayment of note payable              1,187,500            11,875             --              83,125             --
Beneficial conversion feature related to
     convertible debt to related party               --                --               --             250,000             --
                                             ------------      ------------     ------------      ------------     ------------

Balances, December 31, 2000                    61,132,037      $    611,320     $       --        $ 38,085,036     $   (115,625)
                                             ============      ============     ============      ============     ============
</TABLE>

<TABLE>
<CAPTION>

                                                                       Total
                                                 Accumulated       Stockholders'
                                                   Deficit            Deficit
                                                 ------------      ---------------

<S>                                              <C>               <C>
Balances, December 31, 1998                      $(36,617,176)     $   (176,682)

Comprehensive loss:
     Net loss -                                    (1,444,827)
     Change in unrealized loss on
         investment                                      --              12,500
                                                                   ------------
Total comprehensive loss                                             (1,432,327)
                                                                   ------------
Issuance of common stock                                 --             210,000
Common stock issued to consultants                       --             108,048
Common stock issued for conversion
     of convertible debt to equity                       --             157,740
Common stock issued to an employee
     in lieu of accrued compensation                     --             210,000
Common stock to be issued                                --              40,000
                                                 ------------      ------------

Balances, December 31, 1999                       (38,062,003)         (883,221)

Comprehensive loss:
     Net loss -                                      (776,963)
     Change in unrealized loss on
         investment                                      --             (39,583)
                                                                   ------------
Total comprehensive loss                                               (816,546)
                                                                   ------------
Issuance of common stock                                 --           1,070,532
Common stock issued to consultants
     and a director                                      --              26,000
Common stock issued to an employee
     in lieu of accrued compensation and
     for repayment of note payable                       --              95,000
Beneficial conversion feature related to
     convertible debt to related party                   --             250,000
                                                 ------------      ------------

Balances, December 31, 2000                      $(38,838,966)     $   (258,235)
                                                 ============      ============

</TABLE>


       The accompanying notes are an integral part of these consolidated
                              financial statements.


                                      F2-5

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999


NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Description and Basis of Presentation

Halis, Inc. ("Halis") and Subsidiaries (collectively, the "Company") develops
and supplies healthcare software systems and provides claims processing services
to managed healthcare markets, medical practices, and related point of service
markets to customers located throughout the United States. The Company also
provides value added computer services, network solutions, and connectivity
solutions and systems integration principally to Atlanta area businesses.
Additionally, the Company provides services support, including onsite hardware
maintenance, as well as network support programs. It grants credit to its
customers without requiring collateral.

Principles of Consolidation

The consolidated financial statements include the accounts of Halis, Inc. and
its wholly owned subsidiaries. All significant intercompany accounts and
transactions have been eliminated.

Revenue Recognition

Revenue consists primarily of third party claims processing fees, consulting
services, software licensing fees, sales of related computer hardware, and post
contract customer support and maintenance. For 2000 and 1999, third party claims
processing fees accounted for approximately 96% and 66%, respectively, of the
Company's sales. Revenues are recognized as follows:

Claims Processing                 Monthly as services are performed.
                                  Fees are computed based on a percent of
                                  premium or a fee per participant.

Consulting Services               When services are performed.

Installation                      When installation is complete.

Training and Education            Upon completion of training or education
                                  session.

Software Licensing Revenue        After shipment of the product and fulfillment
                                  of acceptance terms, provided no
                                  significant obligations remain and collection
                                  of resulting receivable is deemed probable.

Contract Support                  Ratably over the life of the contract from
                                  the effective date.

Hardware                          Upon shipment of computer equipment to the
                                  customer, provided no significant
                                  obligations remain and collection of
                                  resulting receivable is deemed probable.


                                      F2-6

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Restricted Cash

The Company, through its third party claims administration subsidiary, received
prepayments for the payment of premiums and claims to be paid on behalf of its
customers. As of December 31, 2000, the Company had $36,308 of such prepayments,
and related deferred revenue and customer deposits of $36,308.

Cash - Agency Accounts

The Company, through its third party claims administration subsidiary, maintains
custody of cash funds on behalf of some of its customers for the payment of
insurance premiums to carriers and medical claims for covered individuals. The
Company has custody of the funds but no legal right to them. Therefore, the cash
balances and related liabilities are not reflected in the Company's balance
sheet. At December 31, 2000, the Company maintained custody of approximately
$1.1 million of customer funds.

Property and Equipment

Property and equipment are stated at cost. Depreciation is computed using the
straight-line method based on the estimated useful lives of the assets,
generally five to seven years.

Goodwill

Goodwill represents the excess of cost over the fair value of assets acquired
and is amortized using the straight-line method over a period of five years. The
Company assesses the recoverability of its goodwill whenever adverse events or
changes in circumstances or business climate indicate that expected future cash
flows (undiscounted and without interest charges) in individual business units
may not be sufficient to support the recorded asset. An impairment is recognized
by reducing the carrying value of the goodwill based on the expected discounted
cash flows of the business unit.

Software Development Costs

In accordance with Statement of Financial Accounting Standards ("SFAS") No. 86,
"Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise
Marketed," research and development costs incurred prior to the attainment of
technological and marketing feasibility of products are charged to operations.
Thereafter, the Company capitalizes the direct costs and allocated overhead
incurred in the development of products until the point of market release of
such products, wherein costs incurred are again charged to operations.


                                      F2-7

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Capitalized costs are amortized over a period of five years on a straight-line
basis, and amortization commences when the product is available for market
release. In December 1999, due to the Company's plan to no longer sell its
existing "windows" based software product and to convert to an "internet" driven
software product in 2000, the Company reviewed the recoverability of software
development costs and determined that the remaining unamortized software
development costs of $63,996 was not recoverable and should be written off.
During 2000, the Company capitalized development costs incurred in the
development of its Internet software product. Amortization of these costs will
commence in 2001 when the product is available for market release.

Other Intangible

Other intangible consisted of license fees in the amount of $118,771 paid to a
non-related company for the right to use its software technology in the
development of the Company's software product and was amortized over a period of
two years on the straight-line basis. At December 31, 2000 and 1999, accumulated
amortization was $118,771 and $69,283, respectively.

Investment

The investment is in a marketable equity security of a related company,
HealthWatch, Inc., which is classified as available-for-sale, and is carried at
market value (see Note I). The purchase cost and fair value of the investment at
December 31, 2000 was $125,000 and $9,375, respectively. The related unrealized
holding loss of $115,625 is reported as a separate component of stockholders'
deficit at December 31, 2000.

Income Taxes

Deferred income tax assets and liabilities are recognized for the estimated tax
effects of temporary differences between the financial reporting and tax
reporting bases of assets and liabilities and for loss carryforwards based on
enacted tax laws and rates. A valuation allowance is used to eliminate deferred
income tax assets to the amount that is more likely than not to be utilized.

Net Loss Per Share

The Company has adopted SFAS No. 128, "Earnings Per Share," which requires basic
earnings per share and diluted earnings per share presentation. The two
calculations differ as a result of potential common shares included in diluted
earnings per share, but excluded in basic earnings per share. As the Company
experienced net losses for the income statement periods presented, potential
common shares have an antidilutive effect and are excluded for purposes of
calculating diluted earnings per share. The number of shares which have an
antidilutive effect on diluted earnings per share was 26,233,347 and 13,488,067
in 2000 and 1999, respectively.


                                      F2-8

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Use of Estimates

The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of certain assets, liabilities, revenues, expenses
and contingent assets and liabilities. Significant estimates included in these
financial statements relate to useful lives of certain assets, legal
contingencies, and recoverability of long-term assets such as capitalized
software development costs and goodwill. Actual amounts could differ from those
estimates. Any adjustments applied to estimated amounts are recognized in the
year in which such adjustments are determined.

Fair Value of Financial Instruments

The carrying amounts reflected in the consolidated balance sheet for cash and
accounts receivable approximate their fair values due to the short maturities of
those instruments. Available-for-sale marketable securities are recorded at fair
value in the consolidated balance sheet. Management believes it is not
practicable to estimate the fair value of its liability financial instruments
because of the uncertainty related to its ability to continue as a going concern
and its current liquidity difficulties.

Reclassifications

Certain reclassifications have been made to the 1999 consolidated financial
statements to conform to the 2000 consolidated financial statement presentation.

NOTE B - REALIZATION OF ASSETS AND SATISFACTION OF LIABILITIES

The accompanying financial statements have been prepared in conformity with
generally accepted accounting principles, which contemplate the continuation of
the Company as a going concern. However, the Company incurred a net loss of
$776,963 and $1,444,827 for the years ended December 31, 2000 and 1999,
respectively, and had a working capital deficiency of $1,044,503 and an equity
deficiency of $258,235 at December 31, 2000. The Company has sustained
continuous losses from operations. The Company has used, rather than provided,
cash in its operating activities during the years ended December 31, 2000 and
1999 and has deferred payment of certain accounts payable and accrued expenses.
Given these results, additional capital and improved operations will be needed
to sustain the Company's operations.


                                      F2-9

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE B - REALIZATION OF ASSETS AND SATISFACTION OF LIABILITIES
         (CONTINUED)

Management's plans in this regard include merging with HealthWatch, Inc.
("HealthWatch"), a related company which owns approximately 25% of Halis (see
Note I). The Company expects the merger to improve its liquidity by having
access to HealthWatch's cash reserves and increasing the Company's ability to
raise additional growth capital. In addition, the Company is upgrading its HES
software product to an Internet version. This upgrade will restructure the
software into several healthcare software products under a common architecture,
which the Company believes will improve market acceptance. The Company also
plans to expand its business model to include e-commerce services that will
supplement its software sales and value-added business services. The e-commerce
business will focus on technology-based transactions that are paid for on a
monthly or per-transaction basis. This revenue model is expected to generate
recurring, more predictable revenues that can be leveraged to work towards a
positive cash flow. Additionally, the Company will continue its efforts to raise
the additional capital required to fund planned 2001 activities.

In view of the matters described, there is substantial doubt about the Company's
ability to continue as a going concern. The recoverability of the recorded
assets and satisfaction of the liabilities reflected in the accompanying balance
sheet is dependent upon continued operation of the Company, which is in turn
dependent upon the Company's ability to meet its financing requirements on a
continuing basis and to succeed in its future operations. There can be no
assurance that management will be successful in implementing its plans. The
financial statements do not include any adjustments that might result from the
outcome of this uncertainty.

NOTE C - NOTE PAYABLE TO A BANK

The Company has a 10.5% note payable to a bank in the amount of $248,379 as of
December 31, 2000. The note is payable in monthly installments of $8,045,
including interest, with a balloon payment of all unpaid principal and interest
due on October 27, 2001. The note was assumed in connection with the disposal of
a subsidiary of the Company. Certain assets of the former subsidiary act as
collateral for the loan. The Company has guaranteed payment of the loan.

NOTE D - RELATED PARTY NOTES AND ADVANCES

The Company has an unsecured note receivable due from a stockholder of $623,377.
The note accrues interest at 5% per annum and is due October 31, 2001. The
stockholder may repay the note using Halis common stock if certain conditions
are met, including but not limited to the Company's common stock achieving a
traded market price of at least $3 per share for a specified period of time. In
December 1999, the Company reviewed the collectability of this note and
determined that its collection was doubtful. The entire amount of the note was
reserved at December 31, 1999 and the Company ceased accruing interest on the
note.



                                      F2-10

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE D - RELATED PARTY NOTES AND ADVANCES (CONTINUED)

At December 31, 1999, the Company had an unsecured note payable to a stockholder
and director of the Company in the amount of $15,000. This note was non-interest
bearing and due on demand. The note was paid in full in February 2000 with the
issuance of 187,500 of the Company's common stock.

In October 2000, the Company borrowed $250,000 from HealthWatch under an
unsecured note payable. The note accrues interest at 10% and is due on demand.
The note is convertible, at the option of HealthWatch, into 12,500,000 shares of
the Company's common stock, or $.02 per share. This convertible note includes a
beneficial conversion feature of $250,000, which represents the aggregate fair
value at the issue date of the Halis common stock into which the note is
convertible over the proceeds received from the issuance of the note payable.
This beneficial conversion feature has been included in interest expense and
additional paid-in capital in 2000 since the note was convertible at the date of
issue.

At December 31, 2000, the Company owed HealthWatch a total of $291,976, which
consisted of license fees related to a proprietary technology asset owned by
MERAD Software, Inc. (see Note I) and net advances received by the Company for
working capital purposes. These advances are payable on demand and are
non-interest bearing.

NOTE E - COMMITMENTS AND CONTINGENCIES

Leases

The Company leases office space under several operating lease agreements
expiring in 2005. Rent expense for the office space and equipment classified as
operating leases totaled $666,864 and $536,547 for the years ended December 31,
2000 and 1999, respectively. At December 31, 2000, future minimum lease payments
under non-cancelable operating leases having remaining terms in excess of one
year are as follows:

         2001                                                $  599,410
         2002                                                   607,994
         2003                                                   492,134
         2004                                                    27,657
         2005                                                    15,270
                                                             ----------
                                                             $1,742,465
                                                             ==========

                                      F2-11

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE E - COMMITMENTS AND CONTINGENCIES (CONTINUED)

Beginning January 2000, the Company subleased one of its office facilities under
a four-year operating lease expiring December 2003. Rental income from this
sublease in 2000 was $193,392. Minimum future subrental income anticipated under
this agreement is as follows:

         2001                                                  $222,372
         2002                                                   226,630
         2003                                                   231,104
                                                               --------
                                                               $680,106
                                                               ========

During 1998, the Company acquired equipment totaling $44,650 under a five-year
capital lease. During 1999, the Company acquired computers and software and a
vehicle totaling $266,943 under capital leases ranging from three to five years.
Amortization of these capital leases included in depreciation expense totaled
$94,156 and $78,200 for the years ended December 31, 2000 and 1999,
respectively. Accumulated depreciation amounted to $174,589 and $80,436 as of
December 31, 2000 and 1999, respectively.

Future payments under these leases at December 31, 2000 are as follows:

         2001                                                  $ 82,635
         2002                                                    78,775
         2003                                                    71,572
         2004                                                    10,341
                                                               --------
         Total minimum lease payments                           243,323
         Amount representing interest                           (34,691)
                                                               --------
         Present value of minimum lease payments               $208,632
                                                               ========

Litigation

In February 1997, a complaint styled Advanced Custom Computer Solutions, Inc.
("ACCS"), Wayne W. Surman and Charlotte Surman v. Fisher Business Systems, Inc.,
Halis, Inc., Larry Fisher, Paul W. Harrison, and Nathan I. Lipson was filed in
the State Court of Fulton County, Georgia. The complaint alleges, among other
things, breach of contract in connection with the termination by the Company of
its merger agreement with ACCS, which the Company advised ACCS was terminated in
November 1996 due to the impossibility of ACCS's fulfilling certain conditions
to closing therein. In addition, the complaint alleges that the defendants made
false and misleading statements to the plaintiffs for the purpose of inducing
plaintiffs to lend money to the Company. The Surmans are the principals of ACCS
and claim personal damages against the Company on certain of the claims, and
claim a right to at least 150,000 shares of the Company's common stock, the
exact amount to be determined at trial, based on a claim of a breach of an
alleged oral contract to pay them shares of the Company's common stock as
compensation for soliciting investors (the "Oral Contract Claim"). The Surmans
further claim that the Company fraudulently induced them to solicit investors
for the Company (the "Investor Solicitation Claim").


                                      F2-12

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE E - COMMITMENTS AND CONTINGENCIES (CONTINUED)

The complaint seeks damages in the amount of at least $2 million (the exact
amount of such damages to be proved at trial), additional damages to be
determined by the jury at trial and punitive damages. The Company answered,
denying the allegations of liability in the complaint, and the Company
vigorously defended the lawsuit. On November 19, 1998, the trial court granted
summary judgment in favor of the Company on all but two counts of the
plaintiff's complaint, as amended. The two counts remaining include the Oral
Contract Claim and Investor Solicitation Claim. The plaintiffs have appealed to
the Georgia Court of Appeals from the order granting partial summary judgment to
the Company on all other claims, and the Company has cross-appealed the portions
of the order denying summary judgment on the two surviving counts. The Georgia
Court of Appeals has affirmed the trial court's granting of summary judgment in
favor of the Company on seven of the nine counts in the complaint and affirming
the denial of the Company's cross appeal denying summary judgment on the two
surviving counts. The plaintiffs file a petition for certiorari to the Georgia
Supreme Court regarding the decision of the Georgia Court of Appeals. The
Georgia Supreme Court, on September 8, 2000, denied that petition. There can be
no assurance, however, that the Company will be successful in its defense or
that the final resolution of this matter will not have a material adverse effect
on the financial condition or results of operation of the Company.

On July 18, 1997, the Company was sued by Penelope Sellers in an action seeking
actual damages against the Company in the amount of $480,535, unspecified
attorneys fees, and punitive damages of not less than $1,000,000. Ms. Sellers
contends that a Finder's Fee Agreement between her and the Company in August
1995, under which she was to receive a commission equal to 10% of the amount of
any equity investments in the Company or software licensing fees paid to the
Company in respect to transactions introduced to the Company by her, entitles
her to an amount in excess of the approximately $19,350 which she has been paid
to date under that agreement.

That amount represents 10% of the investment made by the principals of AUBIS,
LLC ("AUBIS") in a private placement of convertible notes (in which private
placement other investors besides the AUBIS principals participated) and 10% of
the amounts received by the Company from the sale of Fisher Restaurant
Management Systems by AUBIS.


                                      F2-13

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE E - COMMITMENTS AND CONTINGENCIES (CONTINUED)

Ms. Sellers claims that the entirety of the convertible notes offering described
above (in which an aggregate of $1,470,000 was raised by the Company) would not
have been successful but for her introduction of the AUBIS principals to the
Company. As a result, Ms. Sellers has made a claim for 10% of all amounts raised
in the notes offering. Ms. Sellers has also made a claim, based on the same
rationale, to 10% of all capital funding raised by the Company (up to the
$500,000 maximum compensation), including the proceeds of a private placement
which raised gross proceeds of approximately $2 million. Finally, Ms. Sellers
has made a claim for 10% of the value of AUBIS and Halis Systems, Inc. Discovery
has been completed. The defendants filed a motion for partial summary judgment,
which was granted, effectively eliminating Larry Fisher and Paul Harrison on
claims asserted against them for tortuous interference with contractual
relations. The Company continues to vigorously defend this lawsuit. There can be
no assurance, however, that the Company will be successful in its defense or
that the resolution of this matter will not have a material adverse effect on
the financial condition or results of operation of the Company.

On April 1, 2000, the Company was served a complaint by Carrera-Maximus, Inc.
(previously known as Carrera Consulting Group). The complaint alleges breach of
contract in connection with certain professional service fees, product support
fees, and license fees paid to the Company under a contract between the two
parties. Carrera-Maximus, Inc. is seeking the return of fees in the total amount
of approximately $538,000. The Company denies the allegations of liability in
the complaint and intends to vigorously defend this case. The Company has filed
an answer asserting various defenses and denying liability and has asserted a
counterclaim for breach of contract for unpaid fees and unreimbursed expenses.
This suit is currently in the discovery phase. There can be no assurance,
however, that the Company will be successful in its defense or that the
resolution of this matter will not have a material adverse effect on the
financial condition or results of operation of the Company.

On September 8, 2000, a subsidiary of the Company was served a complaint by
Motivational Marketing, Inc. The complaint alleges breach of contract for
failure to pay commissions and the plaintiff is seeking an amount in excess of
$138,000 for commissions, and damages for fraud in the inducement in an amount
of not less than $100,000, plus unspecified punitive damages and attorney fees.
The contract referenced in the complaint was an agreement between the plaintiff
and TG Marketing, Inc. ("TGM"), a company acquired by Halis in May 1997, for
telemarketing services whereby the plaintiff was supposed to receive commissions
from TGM in consideration for referrals of clients to TGM. The Company denies
the allegations of the complaint and intends to vigorously defend this case.
This suit is in the discovery phase. There can be no assurance, however, that
the Company will be successful in its defense of the complaint or that the final
resolution of this matter will not have a material adverse effect on the
Company's financial condition or results of operations.


                                      F2-14

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE E - COMMITMENTS AND CONTINGENCIES (CONTINUED)

The Company is also party to litigation that it believes to be immaterial with
respect to amount and is not disclosed herein. No provision has been made in
these financial statements regarding these items due to the uncertainty of their
ultimate resolution.

NOTE F - INCOME TAXES

Significant components of the Company's deferred income tax assets as of
December 31, 2000 are as follows:

<TABLE>
<S>                                                         <C>
         Deferred tax assets:
              Net operating loss carryforwards               $ 6,752,511
              Other, net                                         378,379
                                                             -----------
         Net deferred tax asset                                7,130,890
         Valuation allowance                                  (7,130,890)
                                                             -----------
         Net deferred tax asset reported                     $      --
                                                             ===========
</TABLE>

The valuation allowance at December 31, 1999 amounted to $6,877,994.

The reconciliation of the effective income tax rate to the Federal statutory
rate is as follows:

<TABLE>
<CAPTION>
                                                                  2000        1999
                                                                 ------     -------
<S>                                                               <C>         <C>
         Federal income tax rate                                  (34.0)%     (34.0)%
         Effect of valuation allowance on deferred tax assets      34.0        34.0
         State income tax, net of Federal benefit                   0.0         0.0
                                                                 ------     -------
         Effective income tax rate                                  0.0%        0.0%
                                                                 ======     =======
</TABLE>

At December 31, 2000, the Company had available for carryforward a net operating
loss of approximately $17.8 million. Approximately $9 million of the net
operating loss relates to losses prior to 1997, and as a result of an ownership
change on November 19, 1996, and in accordance with Section 382 of the Internal
Revenue Code, the loss carryforward is limited to approximately $841,000 for
each year thereafter. The net operating losses expire between the years 2001 and
2020. Future recognition of these carryforwards will be reflected when it is
more likely than not that they will be utilized.


                                      F2-15

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE F - INCOME TAXES (CONTINUED)

Net operating loss carryforwards expiring in the next five years are
approximately as follows:

         2001                                                $    246,000
         2002                                                   1,225,000
         2003                                                   1,571,000
         2004                                                     782,000
         2005                                                       --


NOTE G - STOCK OPTION PLANS

During 1996, the Company adopted the 1996 Stock Option Plan which provided for
the issuance of both qualified and non-qualified stock options to employees and
non-employee directors pursuant to Section 422 of the Internal Revenue Code. The
number of shares reserved for the plan was 3,000,000. On December 5, 1997 the
shareholders of the Company approved an amendment to increase the number of
shares available for grant from 3,000,000 shares to 8,000,000 shares. Additional
non-qualified options may be granted outside of the plan upon approval of the
Board of Directors.

Options issued to participants are granted with an exercise price of the mean
between the high "bid" and low "ask" price (average market price) as of the
close of business on the date of grant, and are exercisable up to ten years from
the date of grant. Incentive stock options issued to persons who directly or
indirectly own more than ten percent of the outstanding stock of the Company
shall have an exercise price of 110 percent of the average market price on the
date of grant and are exercisable up to five years from the date of grant.


                                      F2-16

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE G - STOCK OPTION PLANS (CONTINUED)

The Company's previous incentive stock option plan, the 1986 Incentive Stock
Option Plan, expired on January 29, 1996. The 1988 Non-qualified Stock Option
Plan was terminated by the Company on April 24, 1996. Activity related to these
plans is as follows:

<TABLE>
<CAPTION>
                                         1986 &       Weighted                  Weighted      Outside     Weighted
                                       1988 Plans:     Average    1996 Plan:     Average     of Plans:     Average
                                        Number of     Exercise     Number of    Exercise     Number of    Exercise
                                         Options        Price       Options       Price       Options       Price
                                       ----------     --------    ----------    --------     ---------    --------
<S>                                     <C>           <C>         <C>           <C>          <C>          <C>
Outstanding at December 31, 1998           71,940       $0.28      1,751,250      $0.25       8,645,090      $0.20

Granted                                        --          --             --         --       2,378,700      $0.08
Expired                                      (220)     $11.88             --         --              --         --
Cancelled                                      --          --       (385,250)     $0.13        (717,000)     $0.13
                                          -------                  ---------                 ----------

Outstanding at December 31, 1999           71,720       $0.24      1,366,000      $0.20      10,306,790      $0.16

Expired                                      (220)     $10.63             --         --              --         --
Cancelled                                      --          --        (94,000)     $0.13              --         --
                                          -------                  ----------                ----------

Outstanding at December 31, 2000           71,500       $0.21      1,272,000      $0.20      10,306,790      $0.16
                                          =======                  =========                 ==========

Options exercisable at
     December 31, 2000                     71,500       $0.21        974,975      $0.22      10,248,290      $0.16
                                          =======                  =========                 ==========
</TABLE>

Exercise prices for options outstanding as of December 31, 2000 under the 1986
and 1988 Plans range from $0.13 to $3.44 per share. The weighted average
remaining life of these options was approximately two years.

Exercise prices for options outstanding as of December 31, 2000 granted under
the 1996 Plan ranged from $0.13 to $2.00 per share. The weighted average
remaining life of these options was approximately seven years.

Exercise prices for options outstanding as of December 31, 2000 granted outside
of the Plans ranged from $0.05 to $2.12 per share. The weighted average
remaining life of these options was approximately seven years.

The Company has elected to follow Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" (APB 25), and related interpretations
in accounting for its employee stock options rather than Statement of Financial
Accounting Standards Board Statement No. 123, "Accounting for Stock-Based
Compensation" (SFAS 123). In accordance with APB 25, since the exercise price of
the underlying stock options equaled the fair market value on the date of grant,
no compensation expense was recognized.


                                      F2-17

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE G - STOCK OPTION PLANS (CONTINUED)

Pro forma information regarding net loss and loss per share is required by SFAS
123 and has been determined as if the Company had accounted for its employee
stock options under the fair value method of that statement. During 2000, no
options were granted by the Company. The fair value of options granted in 1999
was estimated at the date of grant using the Black-Scholes option pricing model
with the following weighted-average assumptions:

         Risk-free interest rate                                    4.55-5.67%

         Dividend yield                                                0.0%

         Expected volatility                                          147.60%

         Weighted average expected life                               4 years

         Forfeiture rate                                               5.0%

For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting period. The Company's pro
forma net loss and loss per share if compensation expense had been recognized
for the options issued would have been as follows:

<TABLE>
<CAPTION>
                                                                      2000                 1999
                                                                   -----------         ------------
<S>                                                                <C>                 <C>
         Net loss - as reported                                    $(776,963)          $(1,444,827)

         Net loss - pro forma                                      $(878,851)          $(1,472,727)

         Reported loss per share - basic & diluted                     $(.01)                $(.03)

         Pro forma loss per share - basic & diluted                    $(.01)                $(.03)

         Weighted average fair value of options granted
              during the year                                             n/a                  $.01
</TABLE>


                                      F2-18

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE H - STOCK WARRANTS

The Company has issued stock warrants in conjunction with the issuance of common
stock. Activity related to stock warrants was as follows:

<TABLE>
<CAPTION>
                                                                                                  Weighted Average
                                                                              Warrants             Exercise Price
                                                                           --------------       --------------------

<S>                                                                        <C>                  <C>
         Outstanding at December 31, 1998                                     1,276,760                  $1.73
              Granted                                                         1,161,822                  $0.29
                                                                              ---------
         Outstanding at December 31, 1999 and 2000                            2,438,582                  $1.05
                                                                              =========
</TABLE>


At December 31, 2000 the Company had warrants outstanding as follows:

<TABLE>
<CAPTION>

            Common Shares                      Exercise                               Range of
            Under Warrant                   Price Per Share                       Expiration Dates
         -------------------                ---------------               --------------------------------

<S>                                        <C>                           <C>
                 437,500                      $ .05                                 December 2004
                 535,000                      $ .11                                   June 2004
                 237,982                         $1.35                     September 2002 - December 2002
               1,228,100                         $1.75                     November 2001 - September 2002
              ----------
               2,438,582
              ==========
</TABLE>

NOTE I - RELATED PARTY TRANSACTIONS

On November 18, 1996, the Company entered into a license agreement for a
proprietary technology asset ("MERAD") from Paul Harrison Enterprises, Inc.
("PHE"), which was controlled by the Chairman and Chief Executive Officer of the
Company. Mr. Harrison served as the President of PHE and at the time
beneficially owned approximately 40% of this company. PHE was acquired by
HealthWatch, Inc. on October 2, 1998. The Company is obligated to pay a license
fee equal to 10% of the gross revenues generated from MERAD and any derivations
thereof by the Company or any of its affiliates to PHE (after the merger now
known as MERAD Software, Inc.). During 2000 and 1999, $1,080 and $62,518,
respectively, of license fees were incurred under this agreement. At December
31, 2000 and 1999, $88,563 and $87,483, respectively, was payable to MERAD
Software, Inc. under this agreement and was included in due to related party.

During 2000, 1,187,500 shares of the Company's common stock were issued to an
officer of the Company for payment of accrued compensation of $80,000 and a note
payable of $15,000.

During 2000, 200,000 shares of the Company's common stock valued at $10,000 was
issued to a director for consulting services.


                                      F2-19

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE I - RELATED PARTY TRANSACTIONS (CONTINUED)

At December 31, 1999 and 2000, the Company had outstanding the following
qualified and nonqualified stock options granted to officers and directors:
<TABLE>
<CAPTION>
            Common Shares                        Exercise                                 Range of
            Under Option                      Price Per Share                         Expiration Dates
         ------------------                   ---------------                   -----------------------------
<S>                                           <C>                               <C>
                 740,000                         $.05                                   December 2009
               5,666,500                         $.13                             June 2006 - December 2009
              ----------
               6,406,500
</TABLE>

Of the total outstanding options granted to officers and directors as discussed
above, options to acquire up to an aggregate of 6,293,250 shares of common stock
are exercisable at December 31, 2000.

During 1999, the Company granted options to an officer/director of the Company
to purchase 540,000 shares of the Company's common stock at a price of $.05 per
share. These options expire December 2009.

During 1999, the Company granted options to a director of the Company to
purchase 100,000 shares of the Company's common stock at a price of $.05 per
share. These options expire December 2009.

During 1999, the Company granted options to a relative of an officer/director of
the Company to purchase 100,000 shares of the Company's common stock at a price
of $.05 per share. These options expire December 2009.

During 1999, 1,500,000 shares of the Company's common stock were issued to an
officer of the Company for payment of accrued compensation of $210,000.

During 1999, an outstanding 6% convertible debenture to HealthWatch in the
amount of $157,741 was converted into 1,824,645 shares of the Company's common
stock.

At December 31, 2000 and 1999, the Company owned 16,667 shares of HealthWatch
common stock.

Paul W. Harrison, the Chairman and Chief Executive Officer of the Company, is
also the Chairman and Chief Executive Officer of HealthWatch. Mr. Harrison is
also a shareholder of both companies.

During 2000 and 1999, the Company and HealthWatch operated under a Business
Collaboration Agreement which allowed HealthWatch to act as a reseller of the
Company's software product and provided for the sharing of certain operating
expenses. The Company received from HealthWatch approximately $89,000 and
$105,000 in 2000 and 1999, respectively, under this agreement, for the sharing
of operating expenses, which is included as selling, general and administrative
expenses in the Company's statements of operations.


                                      F2-20

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE I - RELATED PARTY TRANSACTIONS (CONTINUED)

In September 2000, the Business Collaboration Agreement was amended to provide,
among other things, for revenue sharing based on a 60/40 split (i.e., the
selling company would receive 60% of the sales price and the company that owns
the technology would receive 40% of the sales price). Furthermore, HealthWatch
is obligated to pay Halis a collaboration fee of $50,000 per month beginning in
October 2000, which shall be applied as a credit against any revenue sharing
amount that is due to Halis. The Company is obligated to provide support to
HealthWatch for the Halis software products, provide reasonable product
enhancement as part of product release updates, and cooperate with HealthWatch
in regard to product enhancement requests. HealthWatch may terminate the $50,000
monthly collaboration fee payable to Halis on or after October 1, 2001, under
certain terms and conditions. The Company received $150,000 from HealthWatch
during 2000 under this agreement. This amount is included in revenues in the
Company's statement of operations.

The Company and HealthWatch entered into a non-binding letter of intent, dated
August 8, 1998 (the "Letter of Intent"), providing for the merger of HealthWatch
with the Company. However, due to the market volatility of the two companies'
stock and accounting issues that would be caused as a result of the merger that
may have an adverse effect on HealthWatch, the companies agreed to delay the
consummation of the merger.

In March 2000, the Company and HealthWatch signed a binding letter of intent to
merge. In the merger, each share of common stock of the Company outstanding
immediately prior to the effective time of the merger would be converted into
the right to receive one-twentieth (.05) of a share of HealthWatch common stock
(the "Merger Consideration"). In addition, outstanding stock options and stock
warrants of the Company would be converted into options and warrants to purchase
HealthWatch common stock in accordance with the same conversion ratio.

The Letter of Intent also contains binding provisions providing HealthWatch with
an unconditional right to purchase prior to the closing of the merger, up to
$1,000,000 of the Company's common stock at $.20 per share, and upon any such
financing, HealthWatch shall have a three month option to purchase up to an
additional $5,000,000 of the Company's common stock at $.20 per share. In May
2000, HealthWatch purchased 5,000,000 shares of the Company's common stock at
$.20 per share.

On June 29, 2000, the Company and HealthWatch signed a definitive merger
agreement. The proposed merger is expected to close in the first quarter of
2001. The merger is subject to, among other conditions, the approval of the
shareholders of both companies. No assurance can be given that the parties will
be able to satisfy the conditions to the consummation of the merger.


                                      F2-21

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE J - SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION

Details of non-cash transactions are as follows:

<TABLE>
<CAPTION>
                                                                               2000                    1999
                                                                              -------                --------
<S>                                                                       <C>                        <C>
         Capital lease obligations incurred for the acquisition
            of property and equipment                                         $  --                  $266,943
                                                                              =======                ========


         Debt converted to equity:
              Accrued employee compensation                                   $80,000                $210,000
              Note payable, related party                                      15,000                       -
              6% convertible promissory note, related party                      --                   157,741
              Accounts payable, consultants                                      --                    92,648
                                                                              -------                ---------
                                                                              $95,000                $460,389
                                                                              =======                ========

         Capitalized license fees recorded by increasing
              accounts payable                                                $  --                  $118,771
                                                                              =======                ========

         Cash paid for interest                                               $84,166                $ 61,050
                                                                              =======                =========
</TABLE>


NOTE K - INFORMATION CONCERNING BUSINESS SEGMENTS

The Company's three reportable segments are strategic business units that offer
different products and services to customers located throughout the United
States. These segments are American Benefit Administrative Services ("ABAS"),
Healthcare Enterprise System ("HES"), and Halis Consulting Services ("HCS").
ABAS provides third party claims processing services for healthcare plans of
varying size companies. HES supplies healthcare software systems to various
segments of the medical industry. HCS performs software consulting services and
support to companies in varying industries. The accounting policies of the
segments are the same as those described in the summary of significant
accounting policies.


                                       F2-22

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE K - INFORMATION CONCERNING BUSINESS SEGMENTS (CONTINUED)

Segment information for 2000 and 1999 is as follows:

<TABLE>
<CAPTION>
                                                                                                  Corporate
                                                        ABAS            HES            HCS       Unallocated         Totals
                                                     ----------      ---------      --------    ------------       ----------
<S>                                                 <C>             <C>              <C>         <C>                <C>
2000

Revenues from external customers                    $3,862,105      $   25,309       $14,020     $  150,000         $4,051,434
Segment income (loss)                                 (111,863)       (302,092)          649       (363,657)          (776,963)
Interest income (expense), net                         (26,525)              -          (292)      (311,015)          (337,832)
Total assets                                         1,277,121          73,593        58,328        228,897          1,637,939
Capital expenditures                                    39,402          14,333             -          9,450             63,185
Depreciation and amortization                          518,199           3,996         1,800         73,705            597,700
Gain on extinguishment of accounts payable                   -               -             -        229,424            229,424

1999

Revenues from external customers                     3,371,496         798,077       912,920              -          5,082,493
Segment income (loss)                                 (934,117)        415,615       189,809     (1,116,134)        (1,444,827)
Interest income (expense), net                          (1,867)              -             -        (34,121)           (35,988)
Total assets                                         1,402,261          45,787        67,101        271,037          1,786,186
Capital expenditures                                   335,450               -             -          7,655            343,105
Depreciation and amortization                          497,939             936         1,780        119,482            620,137
Provision for losses on note
     receivable - related party                       (623,377)              -             -              -           (623,377)
</TABLE>


                                      F2-23

<PAGE>

                          HALIS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                           DECEMBER 31, 2000 AND 1999

NOTE L - FOURTH QUARTER ADJUSTMENTS

Significant adjustments made in the fourth quarter of 2000 are as follows:

<TABLE>
<S>                                                                                                     <C>
         Record interest expense related to beneficial conversion
              feature on convertible debt                                                               $250,000
                                                                                                        ========
</TABLE>



                                      F2-24

<PAGE>

                                   SIGNATURES

     Pursuant to the requirements of the Securities Act of 1933, as amended, the
Registrant has duly caused this Report to be signed on its behalf by the
undersigned, thereunto duly authorized, on the 15th day of October 2001.

                              HEALTHWATCH, INC.

                                /s/  Paul Harrison
                              ---------------------------------------
                              By: Paul W. Harrison
                              Chairman, President and Chief Executive
                              Officer

Pursuant to the requirements of the Securities Act of 1933, as amended, this
Report has been signed by the following persons in the capacities and on the
dates indicated:

<TABLE>

Signature                                             Capacity                    Date
<S>                                <C>                                      <C>
/s/ Paul W. Harrison               Chairman, President
Paul W. Harrison                   Chief Executive Officer                  October 15, 2001


/s/ Thomas C. Ridenour
Thomas C.Ridenour                  Chief Financial Officer                  October 15, 2001


/s/ Robert Tucker
Robert Tucker                      Director                                 October 15, 2001


/s/ Harold Blue
Harold Blue                        Director                                 October 15, 2001
</TABLE>