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, 1997                                 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.)

                   2445 CADES WAY, VISTA, CA                92083
           (Address of principal executive offices)       (Zip Code)

               Registrant's telephone number, including area code:
                                 (760) 598-4333

           SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
                                      None

           SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
                          Common Stock, $.07 par value

      Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12
months and (2) has been subject to such filing requirements for the past 90
days.
                           Yes __X__             No ____

      Check if there is no disclosure of delinquent filers in response to Item
405 of Regulation S-B contained herein, and no disclosure will be contained, to
the best of Registrant's knowledge, in 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 fiscal year ended June 30, 1997: $2,089,325.

      Aggregate market value of voting stock held by non-affiliates of
registrant as of September 30, 1997: Approximately $2,025,000.

      Number of shares outstanding as of September 30, 1997: 3,718,685 shares of
Common Stock, $.07 par value.

      Documents incorporated by reference: Items 9-12 of Part III are
incorporated by reference to the Company's Proxy Statement for the 1997 Annual
Meeting of Stockholders.

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                                     PART I

ITEM 1. BUSINESS.

INTRODUCTION

         HealthWatch develops, manufactures and markets medical products,
including the PACER, a new infusion therapy ("IV") device, and Life Sciences
vascular diagnostic systems. During the first four months of fiscal 1998, the
Company implemented actions to expand its products and services to include
medical equipment and services for monitoring, capturing and managing medical
information. This business is expected to include both the development and sale
of medical equipment which captures information at the point of care and
transmits the information automatically to other application processing systems
such as registration, medical records and billing systems and the acquisition of
healthcare system integrators in major metropolitan areas throughout the United
States. The Company expects to begin marketing its new systems integration
product during fiscal 1998.

         During October 1997, the Company expects to complete a series of
transactions with HALIS, Inc., a Georgia corporation ("HALIS"), two officers and
directors of HALIS; MERAD Corporation, a Georgia corporation ("MERAD"), which is
a wholly-owned subsidiary of Paul Harrison Enterprises, Inc. ("PHE"), an
affiliate of HALIS, and several shareholders of HALIS.

         These transactions follow the execution during August 1997, by
HealthWatch and HALIS of a letter of intent which contemplated a merger of the
two companies. HALIS, based in Atlanta, Georgia, is a publicly-traded company
(Nasdaq Bulletin Board Symbol: "HLIS"), which supplies information technology
services focused on the healthcare industry. Utilizing advanced healthcare
models and information technology, HALIS has developed the HALIS Health Care
Enterprise System, a single program which integrates all of the major functions
needed by clinics, hospitals, healthcare practices, payers, long-term care
facilities, laboratories, pharmacies and home healthcare facilities. HALIS is
implementing a corporate strategy which combines external acquisitions and
internal sales growth.

         HALIS and HealthWatch had originally planned to merge. Following
discussions, HALIS and HealthWatch determined that it would be preferable for
the two companies to adopt a shared business development strategy, but for
HealthWatch to remain a separate company. To implement this strategy,
HealthWatch and HALIS have agreed to enter into a joint venture and co-marketing
arrangement whereby HealthWatch and HALIS will share sales prospects and
HealthWatch will develop technology and an integration database engine designed
to monitor, capture and manage medical information at the point of care.

         In addition, the Company is to obtain a license from MERAD to certain
artificial intelligence computer software and a multimedia database utility and
will retain MERAD to develop proprietary software technology which will be used
to expand HealthWatch's product offerings to include products and services
specifically focused on monitoring, capturing and managing medical information
at the point of care. Further, Paul Harrison, Chairman of the Board, Chief
Executive Officer, and President of HALIS, has joined the HealthWatch Board of
Directors; and Larry Fisher, a Director and Executive Vice-President, Chief
Administrative Officer and Secretary of HALIS has agreed to join the HealthWatch
Board of Directors. PHE (an investment firm controlled by Mr. Harrison), Mr.
Fisher and two non-affiliated shareholders of HALIS are exchanging 1,100,000 of
their shares of HALIS common stock for 4,400,000 shares of the Company's common
stock, the exchange ratio being based on the market value for each company's
common stock at the time that the transaction was negotiated.

         References herein to "HealthWatch" or the "Company" include HealthWatch
and its consolidated subsidiaries and their predecessors unless the context
indicates otherwise. HealthWatch was incorporated in the state of Minnesota in
1983. Except for historical information contained in this report and in the
documents incorporated by reference, the matters discussed herein and therein
contain forward-looking statements that involve risks and uncertainties that
could cause actual results to differ materially from those suggested in the
forward-looking statements, including, without limitation, the effect of
economic conditions, product demand, competitive products and other risks
detailed herein and in the Company's other filings with the Securities and
Exchange Commission.

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BUSINESS SEGMENTS

         During the three years ended June 30, 1997, HealthWatch's business
consisted of one business segment: medical products. Revenues for the Company's
medical products for the past three fiscal years are as follows:

                                          Year Ended June 30,
                           ----------------------------------------------
                                1997             1996             1995
                                ----             ----             ----
Revenues:
Medical Products
  Cardiology               $    521,858     $    564,993     $    610,623
  Peripheral Vascular           453,926          472,497        1,206,772
  IV                             94,080             --               --
  Supplies & Technical
    Services                  1,019,461        1,003,974        1,698,857
                           ------------     ------------     ------------
      TOTAL                $  2,089,325     $  2,041,464     $  3,516,252


         For the year ended June 30, 1997, the Company reported a decline in
revenues of $43,135 for cardiology products, $18,571 for peripheral vascular
products and increases of $94,080 in IV products and increases of $15,487 in
supplies and technical services. For the year ended June 30, 1996, the Company
reported a decline in revenues of $45,630 for cardiology products, $734,275 for
peripheral vascular products and $694,883 for supplies and technical services
when compared with fiscal 1995. For the year ended June 30, 1995, the Company
reported a decline in revenues of $253,281 for cardiology products, $202,756 for
peripheral vascular products and $97,857 for supplies and technical services
when compared with fiscal 1994. The Company attributes the reduction in revenues
for its cardiology and peripheral vascular products primarily to a general
slowdown in the purchases of capital medical devices due to the uncertainty in
the market for such products caused by proposed health-care reforms and efforts
to reduce health-care costs. In addition the Company's revenues have been
adversely affected by the lack of adequate working capital, changes in sales
personnel, as well as the need to reduce prices for its products to meet price
reductions by competitors, again , the Company believes, due to the softness in
the markets for its products. Revenues from supplies and technical services are
related to the placement of new cardiology and peripheral vascular products.

         Foreign sales accounted for $566,009, $566,427 and $1,318,233 of the
Company's medical product revenues during fiscal 1997, 1996 and 1995,
respectively. The revenues from the international market are generated by
distributor sales and a wholly owned subsidiary, Cambridge Medical Equipments
LTD., in England. Cambridge Medical Equipments LTD. accounted for revenues of
$456,397, $381,739 and $561,364 for the three years ended June 30, 1997, 1996
and 1995, respectively. International product sales are primarily through
distributors. For additional information regarding the Company's business
segments see Note 14 of the Notes to the Consolidated Financial Statements.

BUSINESS DEVELOPMENT

         HealthWatch's goal since 1989 has been to build a medical products
business. In October 1990, HealthWatch acquired Life Sciences, a 16-year old
company engaged in the design, manufacture and marketing of Doppler and
ultrasound imaging systems for the noninvasive assessment of peripheral vascular
diseases. Life Sciences has an installed base in excess of 2,850 systems.
HealthWatch considered Life Sciences' primary value to be its established
product line and customer base.

         In December 1990, HealthWatch acquired Cambridge Medical Instruments
(located in the United States) and Cambridge Medical Equipments (located in the
United Kingdom). Cambridge, founded in 1911 by Sir Horace Darwin, son of the
naturalist Charles Darwin, was the first company to manufacture
electrocardiograph diagnostic equipment. HealthWatch considered the primary
value of the Cambridge acquisition to be the Cambridge name and the Cambridge
exercise stress test product line.

         In September 1993, HealthWatch acquired Metamed, a company formed in
1992 to develop a line of IV therapy and drug delivery devices. HealthWatch
considered Metamed's primary value to be its proprietary technology.

<PAGE>


         In October 1997, HealthWatch expects to complete a joint venture and
co-marketing arrangement with HALIS and acquire certain technology rights from
MERAD which will be used to develop a healthcare product based on advanced
multimedia database and artificial intelligence software designed to capture
medical information at the point of care and to transfer the information
automatically to healthcare applications processing systems, such as
registration, medical records and billing systems, including the HALIS Health
Care Enterprise System. In addition, HealthWatch is acquiring 1,100,000 shares
of the common stock of HALIS. HealthWatch considers the primary value of the
transactions to be a substantial increase in HealthWatch's working capital and
net worth which the Company believes is important for the Company to be able to
attract qualified persons and to be able to expand its business through external
acquisitions, the potential increase in the value of the HALIS shares over the
long-term as HALIS continues to expand and develop its business, the development
of shared economic interests with HALIS which HealthWatch believes will result
in a stronger and more beneficial working relationship with HALIS and the
potential value of the software technology license which should enable the
Company to expand its product offerings to markets which have significant growth
potential.

         HealthWatch's plan for fiscal 1998 is to aggressively seek to expand
its business by the introduction of the new integration software technology, the
acquisition of independent companies engaged in providing system integration
services to the healthcare industry and the acquisition of products which can be
used to digitize healthcare information, such as patient records and the results
of diagnostic tests and images.

CURRENT PRODUCTS

         GLOSSARY OF TERMS.

         DOPPLER - Measurement by sound or light wave length.

         ELECTROCARDIOGRAPH (ECG) - A method of recording the magnitude and
direction of electrical activity of heart cells during each cardiac cycle. Data
is gathered by leads from up to 12 different locations on the patient's body.

         EXERCISE STRESS TESTING - Also called Graded Exercise Testing (GXT), is
the recording of a patient's ECG under a controlled exercise environment.

         EXTREMITIES or limbs - Upper extremities include the arms, forearms,
wrists and hands and the lower extremities include the thighs, legs, ankles and
feet.

         INFRARED - Invisible heat or light rays having wavelengths longer than
those of red light.

         IV - Intravenous delivery of fluids and pharmaceuticals.

         OPHTHALMIC ARTERY - Artery supplying blood to the eyes and adjacent
structures.

         OCULAR - Pertaining to the eye.

         PERIPHERAL VASCULAR - All blood vessels other than those of the heart.

         PULMONARY EMBOLI - Blood clots in blood vessels in the lungs.

         THROMBOSIS - Development or presence of a blood crust, clot or plug in
one of the cavities of the heart or in a blood vessel.

         ULTRASOUND - A form of energy consisting of sound-like vibrations or
waves of high frequency.

         VASCULAR - Pertaining to or involving blood vessels (arteries and
veins).

         IV PRODUCTS. The concept of automated intravenous delivery was
developed in the early 1970s with the introduction of drop counting IV delivery
systems which relied on counting drops of assumed volume for system accuracy. IV
delivery systems have evolved into sophisticated computer controlled controller
and pump systems. Controller systems 

<PAGE>


rely on gravity to provide the delivery force whereas pump systems use either a
syringe pump or peristaltic mechanism to force the fluid to the patient.

         The Company has adopted the concept of drop counting systems and
applied computer technology to develop a system which determines the flow rate
and volume based on the input through a flow sensor. The Company's measurement
system requires substantially less power than competing systems, which enables
the required electronics and controls to be incorporated into the flow sensor
itself, resulting in smaller and lighter systems as well as systems that the
Company believes will be easier to use and less costly than controller and pump
systems currently being marketed. In addition, the Company's devices are
designed to be used with a variety of IV sets, including most 10, 15, 20 and 60
drop sets, the standard drop sizes for IV tubing used in the United States,
compared to other devices which generally can be used only with proprietary IV
sets designed for the particular controller or pump being used. The ability to
be used with a variety of sets is also expected to make the Company's system
easier to use and to lower total costs incurred in providing IV therapy to
patients.

         The PACER, the Company's first IV product, a controller, which was
approved for marketing by the FDA in April 1994, has recently been introduced
and initial marketing efforts commenced. The PACER'S list price is $1,200,
compared to competing single channel products, normally IV pumps, which sell for
in excess of $2,000 for products with features similar to those for the PACER to
up to $6,500 or more for more complicated pump products with specialized
operating features. The PACER may be used with a variety of IV sets, including
generic sets which generally sell for significantly less than proprietary sets
which often must be used with competing IV pump products. The use of generic IV
sets can save users from $1.25 to $9.25 per IV set used. It is not unusual for
hospitals to annually use from 140 to 200 sets per IV instrument.

         PERIPHERAL VASCULAR PRODUCTS. While peripheral vascular disease is
generally less likely to produce catastrophic consequences than is cardiac
disease, it may cause significant disability and lifestyle restrictions as well
as death. Vascular disease diagnosis and management has historically been done
by vascular surgeons. With the aging of the U.S. population, a greater awareness
of vascular disease in general, and better surgical and medical management
options, more medical specialists are becoming involved in the diagnosis and
treatment of vascular disease. The capability and sophistication of the
equipment needed to diagnose peripheral vascular disease varies greatly from the
needs of the primary-care physician who may only be attempting to determine
whether or not a patient has symptoms of peripheral vascular disease to the
needs of the vascular laboratory which may be trying to establish the exact
location and severity of the disease.

         HealthWatch currently markets two products under the "Life Sciences"
brand name. First, the Modular Vascular Lab (MVL), a computer-controlled
instrument which, through the use of various plug-in modules, can perform a wide
range of vascular diagnostic studies. During fiscal 1992, the Company
re-designed the MVL to simplify the options available and to reduce the cost of
this equipment. The re-designed MVL is referred to as the "MVL Classic."

         The MVL produces detailed color reports and is easily operated with a
remote hand controller which allows the vascular technician to concentrate on
the patient rather than on operation of the MVL. The modular concept permits the
customer to purchase only the diagnostic testing modalities desired and to add
new modalities at any time. The MVL includes:

          *    MVL BASE UNIT. Includes the Modulab with space for ten plug-in
               modules, a high resolution color graphics monitor, color printer,
               keyboard, strip-chart recorder, remote hand-controller, foot
               switch and storage cart.

          *    PVR MODULE. Calibrated Pulse Volume Recorder, used in the
               diagnosis of arterial and venous disease in both the upper and
               lower extremities.

          *    CWD/PPG MODULE. Continuous wave Doppler and photoplethysmograph.
               The Doppler is used to measure blood velocity in both arteries
               and veins by using high frequency ultrasound. The
               photoplethysmograph measures blood flow using an infrared sensing
               device.

<PAGE>


          *    SFA-11 MODULE. Spectrum frequency analysis is used in conjunction
               with the CWD/PPG module, Imager module or external input source.
               The SFA-11 performs real-time analysis of Doppler frequency
               shifts using computerized analysis which transforms audio or
               visual images into a quantifiable frequency or velocity.

          *    OPG MODULE. Ocular pneumoplethysmograph, used to measure pressure
               changes of the ophthalmic artery, which in turn reflects the
               absence or presence of disease in blood vessels that supply
               oxygen to the brain.

          *    IPG-II MODULE. Impedance plethysmograph, used for the detection
               of deep venous thrombosis (DVT) by measuring the change in
               electrical impedance (resistance) of a limb as blood flow is
               occluded (obstructed) and then restored. DVT is a major source of
               pulmonary emboli which can be fatal.

          *    PAG MODULE. Phonoangiograph, used as a sensitive quantitative
               stethoscope to "listen" to the vascular system.

         There is currently an installed base of over 350 MVL'S. The price for a
basic system, consisting of the MVL base unit, PVR module and CWD/PPG module, is
approximately $23,500.

         The second product is the Pulse Volume Recorder (PVR-IV) with
calibrated PVR (records height and width of wave length, volume of air in cuff
and pressure), bi-directional Doppler (measures blood velocity using
ultrasound), photoplethysmograph (measures blood flow using an infrared sensing
device) and optional ocular pneumo-plethysmograph (measures pressure changes in
certain arteries). The basic unit is used to diagnose blood vessel disease in
both the upper and lower extremities. There is an installed base of over 2,500
PVR'S, of which over 1,000 are PVR-IV's. The PVR-IV is priced at $15,000. The
PVR is suitable for busy vascular labs, where high patient volume is a major
consideration, foreign markets, smaller U.S. hospitals, and physician offices
which cannot cost-justify the MVL.

         CARDIOLOGY PRODUCTS. ECG equipment provides a method of recording the
magnitude and direction of the electrical activity of the heart cells during
each cardiac cycle. By measuring and identifying electrical activity intervals,
axes and amplitudes of the wave forms, detailed information about cardiac
disease and the functional process of the heart can be derived.

         ECG equipment is found in hospitals, clinics and physicians' offices,
as well as ambulances. Recordings are routinely taken by nurses, technicians and
physicians. In most situations, final ECG interpretations must be performed by
physicians.

         ECG tests conducted while patients are resting are augmented in certain
situations by other tests, including exercise stress testing. Under induced
stress, a patient may unmask abnormalities not detected at rest with a standard
ECG. However, the ready availability of the ECG and its ease of use and low cost
make it part of most diagnostic workups for cardiac patients. The ECG is one of
the most frequently performed tests in medicine.

         HealthWatch's cardiology products include the Cambridge 6600 series and
6900 series lines of ECG and cardiac stress test systems which include
proprietary systems developed by Cambridge and systems manufactured by other
companies. The Cambridge 6900 is a stand-alone ECG stress test system with an
available treadmill or ergometer for cardiac stress test analysis. The Telemed
software has been migrated to the Cambridge MC6000 series to complete this
product line. Cambridge ECG equipment sells from $4,500 to $13,500.

         HealthWatch sold the Telemed interpretive software in January 1995.
HealthWatch retained a license to use the Telemed software with its Cambridge
products. The Company is seeking to sell its Cambridge service and supply
business and expects to discontinue offering the Cambridge line of products.

         SUPPLIES AND TECHNICAL SERVICES. In addition to the sale of medical
instruments, HealthWatch sells disposable supplies, such as ECG recording paper
and electrodes and electrasound gels and cuffs, to purchasers of its cardiology
and peripheral vascular equipment and provides technical service/maintenance for
such equipment. During fiscal 1997, 1996 and 1995 sales of supplies and revenues
from service and maintenance activities accounted for approximately 49, 49 and
48 percent, respectively, of HealthWatch's revenues from its medical products
business segment.

<PAGE>


SALES AND MARKETING

         The Company has a Vice President of Marketing, one field sales
representative and one customer service representative. The Company markets
internationally through selected independent manufacturers' representatives and
distributors who have appropriately trained staff capable of providing sales and
service for the Company's products.

         Initially, HealthWatch intends to distribute the PACER, its first IV
product, through independent dealers or manufacturers' representatives. The
Company believes that the long-term success of any marketing program for its IV
instruments may require that the Company enter into a marketing and sales
relationship with an independent company that is currently distributing IV
products. The Company intends to market its IV instruments based on their ease
of use and potentially significant cost savings which users may recognize, both
due to the instrument's lower cost and the ability to use lower-priced IV sets.

MANUFACTURING

         The Company's manufacturing operations consist primarily of what is
referred to in the industry as "FAT" (final assembly and testing). The Company
has utilized outside consultants to assist in the design of its products. The
Company attempts to maintain a limited inventory of finished products and
normally attempts to fill orders within a month of their receipt. The Company
generally does not have any significant backlog of orders.

         HealthWatch is in the beginning stages of producing the PACER, its
first IV product. Since the Company's primary activities relating to the
production of this product are the assembly, testing and shipping of the final
product, the Company believes that if it has adequate working capital to fund
the purchase of raw materials and component parts it will be able to increase
production levels rapidly. Several of the key components for the PACER must be
ordered 60 or more days in advance of their anticipated need in order to assure
their availability on a timely basis. This need substantially increases the
Company's working capital requirements and may limit its ability to rapidly
increase production capabilities for the PACER should this be required in order
to meet increasing order rates for this product.

         Certain raw materials for the Company's products, particularly its new
IV product, are available from only one or a limited number of suppliers and may
be available to the Company only if it places significant orders which represent
several months or more of the Company's projected needs for such materials. The
need to purchase significant quantities of these materials in advance of their
use, substantially increases the Company's working capital requirements. There
can be no assurance that the Company's current suppliers for these products will
continue to supply them to the Company. While alternative sources for such items
are generally available, the Company could be required to re-design its products
in order to be able to use the alternative materials provided by these
additional suppliers. Any such re-design of the Company's products could be
expensive and time-consuming and could require six or more months to complete.

RESEARCH AND DEVELOPMENT

         The Company expects to incur additional expenses for the completion of
the design-related work and initial product builds for the IV controller system.
In addition, subject to available capital resources, the Company may make
certain enhancements to its Modular Vascular Laboratory, a product sold under
the Life Sciences name. During the years ended June 30, 1997, 1996 and 1995, the
Company spent $423,762, $345,240 and $499,099, respectively, on research and
development activities.

PROPRIETARY INFORMATION

         The Company seeks protection of its proprietary interest in software
products and trade secrets. The Company historically has not relied on patents
to protect the proprietary aspects of its products. While the Company's licensed
IV technology includes a U.S. patent, the patent may not provide significant
protection with respect to development of a competing product with capabilities
similar to the Company's initial IV product. HealthWatch maintains nondisclosure
and confidentiality agreements with its employees. While the enforceability of
such agreements cannot be assured, the Company believes that they provide a
deterrent to the use of information which may be proprietary to the Company. The
Company licenses certain technology for its IV products from Howard R. Everhart,
a former officer and director of the Company, and licenses the technology for
certain components of its other products from unrelated persons for which it
pays license or royalty fees.

<PAGE>


PRODUCT WARRANTY AND SERVICE

         The Company warrants its products against defects in material and
workmanship generally for one year. Warranty service is ordinarily provided by
the Company. If a product defect cannot be easily fixed at the customer's
office, the Company's policy is to replace the defective component and return it
to the Company's office for repairs.

COMPETITION

         There are many companies that produce equipment which competes with the
Company's current and planned products. While there is significant competition
for each of the Company's peripheral vascular products, the number of
competitors, particularly ones that offer as broad a range of products as does
HealthWatch, is significantly less in the peripheral vascular markets than in
the cardiology markets. Many of the Company's competitors, particularly in the
cardiology markets, have substantially greater financial and marketing resources
than the Company. Hewlett-Packard Corporation, Marquette Electronics, Inc. and
Quinton Instruments Co., all of which are substantially larger than HealthWatch,
account for a substantial portion of the market for ECG products similar to
those sold by HealthWatch. For the products to be sold in the IV instrumentation
business there are a number of competitors which provide mostly "high end" IV
controllers and pumps. Over 80% of the domestic market for IV instruments is
dominated by four companies, including, Baxter Healthcare Corporation and Abbott
Laboratories. All of these companies are substantially larger than HealthWatch.
The international market for IV products is largely fragmented with local
manufacturers.

         Competition for medical products generally is on the basis of product
performance and cost. The Company's cardiology and vascular products generally
are priced in the mid-range of competing products with the Life Sciences fully
configured MVL product priced at the high-end of the peripheral vascular market.
In the IV instrumentation market, competition has historically been based on
product performance and reputation. With the implementation of the Health Care
Reform Act in 1986, competition in these markets has become more focused on the
cost per use of the IV instruments. HealthWatch IV instruments are believed to
be substantially lower in cost per use than currently marketed products in both
the hospital and home-care markets. The Company expects to encounter intense
competition in the market for its IV products. This could require that the
Company commit significantly greater resources to the introduction of its IV
products than would otherwise be required.

GOVERNMENT REGULATION

         The medical devices manufactured and marketed by the Company are
subject to regulation by the Federal Food and Drug Administration (the "FDA")
and, in some instances, by state and foreign authorities. Pursuant to the
Federal Food, Drug, and Cosmetic Act (the "FFDCA") and the regulations
promulgated thereunder, the FDA regulates the clinical testing, manufacture,
packaging, labeling, distribution and promotion of medical devices.

         Pursuant to the FFDCA, medical devices intended for human use are
classified into three categories, Classes I, II and III, on the basis of the
controls deemed necessary by the FDA to reasonably assure their safety and
effectiveness. Class I devices are subject to general controls (for example,
labeling, premarket notification and adherence to good manufacturing practice
regulations) and Class II devices are subject to general and special controls
(for example, performance standards, postmarket surveillance, patient
registries, and FDA guidelines). Generally, Class III devices are those which
must receive premarket approval from the FDA to ensure their safety and
effectiveness (for example, life-sustaining, life-supporting and implantable
devices, or new devices which have not been found substantially equivalent to
legally marketed devices). Electronic infusion devices are classified by the FDA
as Class II medical devices.

         If a new Class II medical device is substantially equivalent in terms
of safety and effectiveness to a medical device already legally marketed in the
United States, the FDA requirements may be satisfied through a procedure known
as a "510(k) Submission," in which the applicant provides product information
supporting its claim of substantial equivalency. "Substantial equivalence" means
that a device has the same intended use and the same technological
characteristics as the legally marketed device, or the same intended use and
different technological characteristics, provided that it can be demonstrated
that the device is as safe and effective as the legally marketed device, and
does not raise different questions regarding safety and effectiveness. A
"legally marketed device" to which a new device may be compared for a
determination regarding substantial equivalence is a device that was legally
marketed prior to May 28, 1976, when the Medical Device Amendments were added to
the FFDCA, or a device which has been reclassified from 

<PAGE>


Class III to Class II or I, or a device which has been found to be substantially
equivalent through the 510(k) premarket notification process.

         Commercial distribution of a device for which a 510(k) Submission is
required can begin only after the FDA issues an order finding the device to be
"substantially equivalent" to a legally marketed device. The FDA has recently
been requiring a more rigorous demonstration of substantial equivalence than in
the past. This may include a requirement for clinical testing of the device. It
generally takes from four to twelve months from submission of a 510(k) to obtain
a 510(k) clearance, but it may take longer. The FDA may determine that a
proposed device is not substantially equivalent to a legally marketed device, in
which case a PMA may be required, or that additional information is needed
before a substantial equivalence determination can be made, in which case data
from safety and effectiveness tests, including clinical tests, may be required.
A "not substantially equivalent" determination or a request for additional
information could delay the market introduction of new products that fall into
this category.

         The Company received 510(k) clearance to begin marketing the PACER in
the United States in April 1994.

         The FFDCA requires the filing of a new 510(k) Submission when, among
other things, there is a major change or modification in the intended use of the
device or a change or modification, including product enhancements, to a legally
marketed device that could significantly affect its safety or effectiveness. A
device manufacturer is responsible for making the initial determination as to
whether a proposed change to a cleared device or to its intended use
necessitates the filing of a new 510(k) Submission.

         The Company does not believe that changes made to the PACER since the
original 510(k) Submission require a new 510(k) Submission for the PACER.
However, there can be no assurance that the FDA would agree with the Company's
determination. If in the future the FDA concluded that the changes required a
new 510(k) Submission, the FDA could prohibit the Company from marketing the
PACER until the Company files a new 510(k) Submission and obtains clearance from
the FDA. The FDA could also take regulatory action against the Company for any
prior distribution of the PACER which incorporated changes. Alternatively, the
FDA could use its discretion not to take any regulatory steps with regard to
this issue.

         The Company has filed a new 510(k) Submission for the PACER in order to
incorporate an increased rate range for infusions. Additional product
modifications, including new software features, that the Company may develop in
the future will likely require 510(k) clearance if the modifications could
affect the safety or efficacy of the Company's products. If the Company
determines that any modifications that it may make to its cleared devices do not
require a new 510(k) Submission, there can be no assurance that the FDA would
agree with the Company's determinations and would not require a new 510(k)
Submission for any modifications made to the devices. If the FDA requires the
Company to file a new 510(k) Submission for any modification to the device, the
Company may be prohibited from marketing the device as modified until it obtains
clearance from the FDA. There can be no assurance that the Company will obtain
510(k) clearance on a timely basis, if at all, for any device modification for
which it files a future 510(k) Submission. If 510(k) clearance is granted, there
can be no assurance that it will not contain significant limitations in the form
of warnings, precautions or contraindications with respect to conditions of use.

         Any products manufactured or distributed by the Company pursuant to FDA
clearances or approvals are subject to pervasive and continuing regulation by
the FDA. Device manufacturers are required to register their establishments and
list their devices with the FDA, and are subject to periodic inspections by the
FDA and certain state agencies. The FFDCA requires devices to be manufactured in
accordance with Good Manufacturing Procedure ("GMP") regulations which impose
certain process, procedure and documentation requirements upon the Company with
respect to manufacturing and quality assurance activities. The Company believes
that its manufacturing and quality control procedures substantially conform to
the requirements of FDA regulations.

         In addition, the Medical Device Reporting regulation obligates the
Company to inform the FDA whenever there is reasonable evidence to suggest that
one of its devices may have caused or contributed to death or serious injury, or
where one of its devices malfunctions and, if the malfunction were to recur, the
device would be likely to cause or contribute to a death or serious injury.

         Labeling and promotion activities are also subject to scrutiny by the
FDA and, in certain instances, by the Federal Trade Commission. The FDA actively
enforces regulations prohibiting marketing of products for unapproved uses.

<PAGE>


         If, as a result of FDA inspections, MDR reports or information derived
from any other source, the FDA believes the Company is not in compliance with
the law, the FDA can refuse to clear pending 510(k) Submissions; withdraw
previously cleared 510(k) Submissions; require notification to users regarding
newly found unreasonable risks; request repair, refund or replacement of faulty
devices; request corrective advertisements, formal recalls or temporary
marketing suspension; impose civil penalties; or institute legal proceedings to
detain or seize products, enjoin future violations, or seek criminal penalties
against the Company, its officers or employees. Civil penalties for FFDCA
violations may be assessed by the FDA in lieu of or in addition to instituting
legal action. Civil penalties may range up to $15,000 per violation for
violations of the FFDCA, and a maximum of $1,000,000 per proceeding. Civil
penalties may not be imposed for GMP violations, unless the violations involve a
significant or knowing departure from the requirements of the FFDCA or a risk to
public health. The FDA provides manufacturers with an opportunity to be heard
prior to the assessment of civil penalties. If civil penalties are assessed,
judicial review is available.

         The Company may export its products to Europe, Japan and other foreign
countries. Exports of products that have market clearance from the FDA in the
United States do not require FDA authorization for export. However, foreign
countries often require, among other things, an FDA certificate for products for
export ("CPE"). To obtain a CPE the device manufacturer must certify to the FDA
that the product has been granted clearance in the United States and that the
manufacturing facilities appeared to be in compliance with GMPs at the time of
the last FDA inspection. The FDA will refuse to issue a CPE if significant
outstanding GMP violations exist.

         International sales of medical devices are subject to the regulatory
requirements of each country. The regulatory review process varies from country
to country. Many countries also impose product standards, packaging and labeling
requirements, and import restrictions on devices. In addition, each country has
its own tariff regulations, duties and tax requirements. The Company plans to
use its distributors to assist in obtaining any necessary foreign governmental
and regulatory approvals. The Company does not currently have its products
registered or approved in any countries requiring an extensive registration or
approval process and has, therefore, not sold any products in such countries.

         The Company has received Underwriters Laboratory, Inc. product
recognition under UL 544, Standard for Medical and Dental Equipment for the
PACER. To maintain "UL" status, the Company will be subject to quarterly
inspections by Underwriters Laboratory, Inc.

         The Company and its products are also subject to a variety of state and
local laws and regulations in those states or localities where its products are
or will be marketed. Use of the Company's products is subject to inspection,
quality control, quality assurance, proficiency testing, documentation and
safety reporting standards promulgated by JCAHO. Various states and
municipalities may also have similar regulations.

         Manufacturers are also subject to numerous federal, state and local
laws relating to such matters as safe working conditions, manufacturing
practices, environmental protection, fire hazard control and disposal of
hazardous or potentially hazardous substances. There can be no assurance that
the Company will not be required to incur significant costs to comply with such
laws and regulations.

EMPLOYEES

         At September 30, 1997, the Company had 18 employees. In order to reduce
expenses, the Company has taken actions to reduce its number of employees which
have resulted in a reduction of 19 positions during the six-month period ended
September 30, 1997.

INVESTMENT CONSIDERATIONS

         In addition to the factors set forth elsewhere herein, investors should
consider the following factors regarding HealthWatch:

         HALIS INVESTMENT. As part of HealthWatch's decision to expand its
business to include medical products and services for monitoring, capturing and
managing medical information, the Company is entering into a joint venture and
co-marketing arrangement with HALIS, will obtain a license to certain software
technology and is making a significant investment in HALIS through the exchange
with certain HALIS shareholders of shares of the Company's common stock

<PAGE>


for a portion of their shares of HALIS common stock. As a result of this
exchange, HealthWatch will own 1,100,000 shares of HALIS' common stock which had
a market value of approximately $2,000,000 at October 10, 1997, and HALIS and
officers and directors and affiliates of HALIS will own 3,016,667 shares of
HealthWatch's common stock representing approximately 35% of the 8,635,351
shares of HealthWatch's common stock which will be outstanding following such
investment. For information regarding HALIS' business and certain investment
considerations regarding HALIS, see "HALIS, Inc." below. In addition, HALIS is
subject to certain informational requirements of the Securities Exchange Act of
1934 and, in accordance therewith, files reports and other information with the
Securities and Exchange Commission (the "Commission"). Such reports and other
information can be inspected and copied at the public reference facilities
maintained by the Commission at Room 1024, 450 Fifth Street, N.W., Washington,
D.C. 20549 and at the Commission's regional offices located at Seven World Trade
Center, 13th Floor, New York, New York 10048 and Citicorp Center, 500 West
Madison Street, Suite 1400, Chicago, Illinois 60661. Copies of such material can
also be obtained at prescribed rates by writing to the Securities and Exchange
Commission, Public Reference Section, 450 Fifth Street, N.W., Washington, D.C.
20549. In addition, the Commission maintains a web site that contains reports,
proxy and information statements and other information regarding HALIS at
http://www.sec.gov.

         HALIS' common stock is traded on the NASDAQ Bulletin Board, under the
symbol "HLIS." While the Company's investment in HALIS represents less than 3%
of HALIS' outstanding shares of common stock, the Company's ability to sell its
shares of HALIS could be adversely affected by the limited trading volume for
HALIS' stock and by the requirement that the Company sell its HALIS shares in
accordance with Rule 144 promulgated by the Commission, since Paul W. Harrison,
a member of the Company's Board of Directors, is also Chairman of the Board of
Directors of HALIS and is the beneficial owner of approximately 35% of HALIS'
outstanding shares of common stock. Rule 144 could limit the amount of HALIS'
shares which HealthWatch could sell during any three-month period to
approximately 400,000 shares. Further, there is no assurance that a public
market for HALIS' securities will continue to be made or that the Company will
be able to avail itself of a public trading market for the HALIS common stock in
the future. Moreover, sales and potential sales of substantial amounts of HALIS'
common stock in the public market pursuant to Rule 144 and pursuant to a
recently-declared effective Registration Statement for certain selling
shareholders of HALIS could adversely effect the prevailing market prices for
the HALIS common stock and impair HealthWatch's ability to raise additional
capital through the sale of the HALIS common stock should it be necessary to do
so to raise additional working capital. While HealthWatch intends its investment
in HALIS to be for the long-term, HealthWatch will need to raise significant
additional working capital to fund its operations and it may, therefore, be
necessary or advantageous for HealthWatch to sell the HALIS shares to raise
required working capital if HealthWatch is unable to raise working capital from
other sources.

         NEW BUSINESS VENTURES; UNPROVEN PRODUCTS. In October 1997, the Company
will acquire certain software technology required to expand its business to
include the monitoring, capturing and managing of medical information and in
September 1993, completed the acquisition of Metamed, Inc., a development-stage
company. Both of these businesses represent significant new business ventures
for HealthWatch, and the Company's ability to successfully develop these
businesses is subject to all of the risks inherent in the establishment of a new
business. HealthWatch had not previously been engaged in either the healthcare
information or infusion therapy businesses.

         ACQUISITIONS AND INTEGRATION. An important element of HealthWatch's
business strategy for fiscal 1998 is to expand through acquisitions.
HealthWatch's future success may be dependent upon its ability to finance
acquisitions and effectively integrate acquired businesses with HealthWatch's
operations. Although HealthWatch believes that it will be able to affect such
integration, there can be no assurance that HealthWatch will be able to affect
any such acquisitions, or that such acquisitions will be successfully integrated
or that they will otherwise be successful.

         DEPENDENCE ON NEW OR IMPROVED PRODUCTS; TECHNOLOGICAL CHANGES. In
general, the medical products industry is subject to rapid and significant
technological changes and frequent introduction of new competitive products. To
respond to these expected changes and to improve or sustain the marketability of
its products, the Company will be required to commit substantial investments in
product improvement and development in order to periodically enhance its
existing products and successfully introduce new products. There can be no
assurance that the Company will either have the resources required to make such
investments or, assuming it has the required resources, be able to respond
adequately to changes in technology or changes in the markets for its products.
The development of new products or technologies by other firms could have a
material adverse effect on the Company's business. In addition, to the extent
that the Company

<PAGE>


seeks to develop new products, there can be no assurance that such products will
be successfully developed or, if developed, that such products will be
successfully introduced to the marketplace.

         LENGTH OF SALES CYCLE; LIMITED SALES AND MARKETING EXPERIENCE. The
decision to purchase IV equipment is often an enterprise-wide decision by
prospective hospitals or other health-care customers and may require the Company
to engage in a lengthy evaluation/purchase-sales cycle. The sales cycle for IV
instruments can range from three to nine months or more. The sales cycle may
also be subject to a prospective customer's budgetary constraints and internal
acceptance reviews, over which the Company has little or no control.
Consequently, if sales forecasted from a specific customer for a particular
quarter are not realized in that quarter, the Company is unlikely to be able to
generate revenue from alternate sources in time to compensate for the shortfall.
If a larger order is delayed or lost to a competitor, the Company's revenues for
that quarter could be materially diminished.

         The Company has limited experience in the areas of sales, marketing and
distribution. The Company's sales and marketing staff will require additional
personnel in the future. There can be no assurance that the Company will be able
to build an adequate sales and marketing staff, that establishing such a sales
and marketing staff will be cost-effective, or that the Company's sales and
marketing efforts will be successful.

         LIMITED AVAILABILITY OF PROPRIETARY PROTECTION. The Company
historically has relied upon a combination of copyright, trade secret and
nondisclosure and other contractual provisions to protect its proprietary
rights. While the Company's licensed IV technology includes a U.S. patent, this
patent may not provide significant protection with respect to the development of
a competing product with capabilities similar to the Company's initial IV
product. Notwithstanding the Company's efforts to protect its proprietary
rights, it may be possible for competitors of the Company to imitate the
Company's products or develop independently competing products.

         Disputes regarding the Company's intellectual property could force the
Company into expensive and protracted litigation or costly agreements with third
parties. An adverse determination in a judicial or administrative proceeding or
failure to reach an agreement with a third party regarding intellectual property
rights could prevent the Company from manufacturing and selling certain of its
products, which could have a material adverse effect on the Company's business,
financial condition and results of operations.

         LIMITED ASSEMBLY EXPERIENCE. The Company's products are currently
assembled by the Company at its facility. To be successful, the Company must
assemble its products in compliance with regulatory requirements, in sufficient
quantities and on a timely basis, while maintaining product quality and
acceptable assembly costs. The Company has limited experience assembling its
products in large commercial quantities. There can be no assurance that the
Company will be able to assemble products in large commercial quantities on a
timely basis and at an acceptable cost. If the Company becomes unable to
assemble the PACER at its facility in a timely and efficient manner, the
Company's ability to supply product to its customers may be adversely affected
until such time as the Company is able to establish alternative assembly
arrangements.

         DEPENDENCE ON THIRD-PARTY REIMBURSEMENT. The Company's products are
generally purchased by health-care providers, which then seek reimbursement from
various public and private third-party payors, such as Medicare, Medicaid and
indemnity insurers, for health-care services provided to patients. Government
and private third-party payors are increasingly attempting to contain healthcare
costs by limiting both the extent of coverage and the reimbursement rate for new
diagnostic and therapeutic products and services. The Health Care Financing
Administration of the United States Department of Health and Human Services
("HCFA"), which administers Medicare, and most private insurance companies do
not provide reimbursement for services that they determine to be experimental in
nature or that are not considered "reasonable and necessary" for diagnosis or
treatment. Many private insurers are influenced by HCFA actions in making their
own coverage decisions on new products or services. There can be no assurance
that third-party reimbursement for the services provided using the Company's
products will continue to be available to its customers or that any such
reimbursement will be adequate. Disapproval of, or limitations in, coverage by
HCFA or other third-party payors could materially and adversely affect market
acceptance of the Company's products which could, in turn, have a material
adverse affect on the Company's business, financial condition and results of
operations.

         PRODUCT LIABILITY EXPOSURE. Manufacturers of medical devices face the
possibility of substantial liability for damages in the event that the use of
their products is alleged to have resulted in adverse effects to a patient. The
Company

<PAGE>


maintains product liability insurance with coverage limits of $1.0 million per
occurrence with an annual aggregate policy limit of $1.0 million. The Company's
product liability insurance provides coverage only for products currently
manufactured and distributed. There can be no assurance that liability claims
will not exceed the limits of such coverage or that such insurance will continue
to be available on commercially reasonable terms or at all. Furthermore, the
Company does not maintain insurance that would provide coverage for any costs or
losses resulting from any required recall of its products due to alleged
defects, whether instituted by the Company or a regulatory agency.

         CHANGES IN HEALTH-CARE INDUSTRY. The health-care industry is
experiencing significant pressure to reduce costs. While the Company cannot
predict what effect any proposals to contain health-care costs may have on its
business, such proposals, if enacted, could have a material adverse effect on
portions of its business, particularly its diagnostic instruments business. In
order to reduce costs and to improve utilization of facilities, many health-care
organizations have consolidated or merged or are considering consolidating or
merging their operations or portions of their operations with the operations of
other health-care organizations. The consolidation and merging of health-care
organizations has reduced and can be expected to continue to reduce the number
of potential purchasers for the Company's products, particularly its diagnostic
instruments.

         LIMITATIONS ON BROKER-DEALER SALES OF COMPANY AND HALIS COMMON STOCK;
APPLICABILITY OF "PENNY STOCK RULES". Federal regulations under the Securities
and Exchange Act of 1934, as amended, (the "Exchange Act") regulate the trading
of so-called "penny stocks" (the "Penny Stock Rules"), which are generally
defined as any security not listed on a national securities exchange or Nasdaq,
priced at less than $5.00 per share and offered by an issuer with limited net
tangible assets and revenues. In addition, equity securities listed on Nasdaq
which are priced at less than $5.00 are deemed penny stocks for the limited
purpose of Section 15(b)(6) of the Exchange Act. Therefore, during the time in
which the Common Stock is quoted on the Nasdaq SmallCap Market and is priced
below $5.00 per share, trading of the Common Stock is subject to the provisions
of Section 15(b)(6) of the Exchange Act which make it unlawful for any
broker-dealer to participate in a distribution of any penny stock without the
consent of the Commission if, in the exercise of reasonable care, the
broker-dealer is aware of or should have been aware of the participation of a
previously sanctioned person. In such event, it may be more difficult for
broker-dealers to sell the Company's Common Stock and purchasers of the shares
of Common Stock may have difficulty in selling their shares in the future in the
secondary trading market.

         In the event that the Company's Common Stock is delisted from the
Nasdaq SmallCap Market and the Company fails other relevant criteria, trading of
the Common Stock would be subject to the full range of the Penny Stock Rules.
HALIS' common stock is currently traded on the Nasdaq Bulletin Board and is
subject to the Penny Stock Rules. Under these rules, broker-dealers must take
certain steps prior to selling a "penny stock," which steps include: (i)
obtaining financial and investment information from the investor; (ii) obtaining
a written suitability questionnaire and purchase agreement signed by the
investor; and (iii) providing the investor a written identification of the
shares being offered and in what quantity. If the Penny Stock Rules are not
followed by the broker-dealer, the investor has no obligation to purchase the
shares. Accordingly, delisting from the Nasdaq SmallCap Market and the
application of the comprehensive Penny Stock Rules may make it more difficult
for broker-dealers to sell the Company's Common Stock and purchasers of the
shares of Common Stock may have difficulty in selling their shares in the future
in the secondary trading market.

HALIS, INC.

         INTRODUCTION. During October 1997, the Company expects to complete a
series of transactions with HALIS, a Georgia corporation, two officers and
directors of HALIS, MERAD Corporation, a wholly-owned subsidiary of Paul
Harrison Enterprises, Inc., an affiliate of HALIS, and several shareholders of
HALIS.

         These transactions follow the execution by HealthWatch and HALIS of a
letter of intent which contemplated a merger of the two companies. HALIS, based
in Atlanta, Georgia, supplies information technology services focused on the
healthcare industry. Utilizing advanced healthcare models and information
technology, HALIS has developed the HALIS Health Care Enterprise System, a
single program which integrates all of the major functions needed by clinics,
hospitals, healthcare practices, payers, long-term care facilities,
laboratories, pharmacies and home healthcare facilities. HALIS is implementing a
corporate strategy which combines external acquisitions and internal sales
growth.

         HALIS and HealthWatch had originally planned to merge. Following
discussions, HALIS and HealthWatch determined that it would be preferable for
the two companies to adopt a shared business development strategy, but for

<PAGE>


HealthWatch to remain a separate company. To implement this strategy,
HealthWatch and HALIS have agreed to enter into a joint venture and co-marketing
arrangement whereby HealthWatch and HALIS will share sales prospects and
HealthWatch will develop technology and an integration database engine designed
to monitor, capture and manage medical information at the point of care.

         In addition, the Company is to obtain a license from MERAD to certain
artificial intelligence computer software and a multimedia database utility, and
will retain MERAD to develop proprietary software technology which will be used
to expand HealthWatch's product offerings to include products and services
specifically focused on monitoring, capturing and managing medical information
at the point of care. Further, Paul Harrison, Chairman of the Board, Chief
Executive Officer, and President of HALIS, has joined the HealthWatch Board of
Directors; and Larry Fisher, a Director and Executive Vice-President, Chief
Administrative Officer and Secretary of HALIS has agreed to join the HealthWatch
Board of Directors. Paul Harrison Enterprises, Inc., Mr. Fisher and two
non-affiliated shareholders of HALIS are exchanging 1,100,000 of their shares of
HALIS common stock for 4,400,000 shares of the Company's common stock, the
exchange ratio being based on the market value for each company's common stock
at the time that the transaction was negotiated.

         SELECTED FINANCIAL DATA. The following financial information is derived
from financial statements provided by HALIS.

STATEMENT OF OPERATIONS DATA:

<TABLE>
<CAPTION>
                                                Year ended December 31,             Six Months Ended June 30,
                                            ------------------------------       ------------------------------
                                                1995              1996               1996              1997
                                            -----------       ------------       -----------       ------------
                                           (Predecessor)                        (Predecessor)
<S>                                         <C>               <C>                <C>               <C>         
Revenues                                    $ 3,582,896       $  1,925,412       $ 1,302,224       $  3,605,926
Cost and Expenses                             3,863,049          3,498,384         1,599,733          5,487,171
Operating Loss                                 (280,153)        (1,572,972)         (297,509)        (1,881,245)
Net Loss                                       (372,938)        (1,989,696)         (339,003)        (1,956,636)
Net Loss Per Common 
  Share                                            --         $       (.12)             --         $       (.07)
Weighted Average 
  Shares Outstanding                               --           15,956,824              --           29,822,386

BALANCE SHEET DATA (AT END OF PERIOD):

Current Assets                                     --         $    798,341              --         $  2,266,307
Total Assets                                       --            1,138,129              --           12,627,053
Current Liabilities                                --            1,723,955              --            4,918,569
Total Liabilities                                  --            3,229,955              --            5,114,389
Stockholders Equity
  (Deficit)                                        --         $ (2,091,826)             --         $  7,512,664

</TABLE>

         BUSINESS. The following is based upon information included in a HALIS
Registration Statement filed with the Commission on Form S-2 dated August 22,
1997.

         HALIS is a supplier of information technology and services, focusing on
the healthcare industry. HALIS currently is implementing a corporate strategy
which combines external acquisitions and internal sales growth, including the
development of business partner relationships.

         HALIS has offices in Atlanta, Chicago and Tampa and intends to expand
its geographic presence to Texas, California and the Northeast. The Atlanta
operation includes sales, service, and consulting functions, and currently
serves as the HALIS national Customer Service Center. The Chicago facility
performs healthcare technology-driven services and may serve as HALIS'
outsourcing center for customers who wish to take advantage of the HALIS
technology, but do not wish to operate their own internal systems. The Tampa
office provides management, billing and related administrative services to
healthcare providers.

<PAGE>


         Utilizing advanced healthcare models and information technology, HALIS
has developed the HALIS Healthcare Enterprise System, a single system for the
healthcare industry. This Healthcare Enterprise System integrates all of the
major functions needed by clinics, hospitals, practices, payers, long-term care
facilities, laboratories, pharmacies and home healthcare facilities, the eight
major markets into which HALIS competes. HALIS is currently building out the
specific features required by each of these eight markets. Subsets of or all of
the Healthcare Enterprise System can be used by each of these markets and can be
combined to provide a complete solution for Integrated Healthcare Delivery
Networks. These Networks are being formed by hospitals, clinics, payers,
practice management companies, individual practices, and other entities which
are involved in the delivery and management of healthcare services.

         HALIS' systems business will be targeted to healthcare industry
participants such as physician practices, HMO's, home healthcare providers and
hospitals. HALIS expects to capitalize on the healthcare industry's demand for
more software variety, updates, convenience, lower pricing, and better support
services. In addition, HALIS will provide information management systems to
management companies to help manage their point-of-care systems information. For
example, in the healthcare industry, HALIS will provide an information
management system to managed care organizations that will aid in managing the
networks of medical practices.

         HALIS' executive offices are located at 9040 Roswell Road, Suite 470,
Atlanta, Georgia 30350 and its telephone number is (770) 641-5555.

         An investment in the HALIS common stock involves significant risks,
including the following:

         UNCERTAINTY OF MARKET ACCEPTANCE: RELIANCE ON A LIMITED NUMBER OF
PRODUCTS. HALIS' Healthcare Enterprise System is a new technology. Achieving
market acceptance for HALIS' products will require substantial marketing efforts
and expenditure to inform potential customers of the distinctive characteristics
and benefits of these products. Since HALIS has limited marketing experience,
financial and other resources to undertake extensive independent marketing
activities, there can be no assurance that HALIS will be able to market its
products successfully. Furthermore, HALIS is dependent on a limited number of
products and on one technology for most of its revenues. There can be no
assurance that HALIS will be able to commercialize its healthcare information
technology profitably.

         ACQUISITIONS AND INTEGRATION. An important element of HALIS' business
strategy is to expand through acquisitions. HALIS' future success is dependent
upon its ability to finance acquisitions and effectively integrate acquired
businesses with HALIS' operations. Although HALIS believes that it will be able
to effect such integration, there can be no assurance that past or future
acquisitions will be successfully integrated or that any such acquisition will
otherwise be successful. In addition, the financial performance of HALIS is now
and will continue to be subject to various risks associated with the acquisition
of businesses, including the financial effects associated with the integration
of such businesses. Although HALIS has made a number of acquisitions over the
past six months, there can be no assurance that HALIS' acquisition strategy will
be successful. Without a successful acquisition strategy, HALIS believes that
its prospects for revenue growth are significantly reduced.

         LIMITED HISTORY OF PROFITABILITY. HALIS has not reported any profits
for a full year of operations since fiscal 1991. In addition, each of the
companies which HALIS has recently acquired has a limited operating history.
There can be no certainty regarding HALIS' ability to achieve or sustain
profitability in the future. Whether or not HALIS is able to operate profitably,
HALIS may require additional capital to finance its operations. There is no
assurance that any financing, if required, can be obtained when needed or on
terms acceptable to HALIS.

         CONTROL BY PAUL HARRISON. Paul Harrison, the Chairman of the Board,
Chief Executive Officer and President of HALIS [and as significant shareholder
and a director of the HealthWatch], exercises voting control over approximately
35% of the outstanding shares of common stock of HALIS. As a result of such
concentration of ownership, Mr. Harrison has the ability to exert significant
influence on the policies and affairs of HALIS and corporate actions requiring
shareholder approval, including the election of the members of the Board of
Directors. This concentration of ownership could have the effect of delaying,
deferring or preventing a change of control of HALIS, including any business
combination with an unaffiliated party, and could also affect the price that
investors might be willing to pay in the future for shares of HALIS common
stock.

<PAGE>


         DEPENDENCE ON MANAGEMENT AND KEY PERSONNEL. The success of HALIS
depends to a large degree upon the personal efforts and ability of its Chief
Executive Officer and President, Paul Harrison, and its Executive Vice
President, Chief Administrative Officer and Secretary, Larry Fisher [both of
whom will also be directors of HealthWatch]. The loss of the services of either
Mr. Harrison or Mr. Fisher would have a materially adverse effect on HALIS.
HALIS has entered into employment agreements with Messrs. Harrison and Fisher.
HALIS does not maintain key man life insurance on any of its executives.

         HALIS' future operating results also depend in significant part upon
the continued service of its key technical, consulting and senior management
personnel and its continuing ability to attract and retain highly qualified
technical and managerial personnel. Competition for such personnel is intense,
and there can be no assurance that HALIS will retain its key managerial or
technical personnel or attract such personnel in the future. HALIS has at times
experienced difficulty recruiting qualified personnel, and there can be no
assurance that HALIS will not experience such difficulties in the future. HALIS
actively recruits qualified product development, consulting and sales and
marketing personnel. If HALIS is unable to hire and retain qualified personnel
in the future, such inability could have a material adverse effect on HALIS'
business, operating results and financial condition.

         TECHNOLOGICAL CHANGE: PROPRIETARY TECHNOLOGY. Future advances in the
healthcare information systems industry could lead to new technologies, products
or services that are competitive with the products and services offered by
HALIS. HALIS' success will depend, in part, on its ability to be responsive to
technological developments and challenges. Such technological advances could
also lower the cost of such products and services or otherwise result in
competitive pricing pressures, which could have an adverse effect on HALIS. To
remain competitive in the evolving healthcare information systems marketplace,
HALIS must develop new products on a timely basis. The failure to develop
competitive products or to introduce new products on a timely basis could have
an adverse effect on HALIS' future financial performance.

         PROTECTION OF PROPRIETARY INFORMATION. HALIS does not have any patents
or registered copyrights and does not anticipate obtaining any patents or
registered copyrights in the near future. HALIS treats its software and related
technical data as confidential and relies on internal nondisclosure safeguards,
including confidentiality agreements with employees, and on laws protecting
trade secrets, to protect what it regards as proprietary information.
Competitors and customers may nevertheless be able to copy certain functional
aspects of HALIS' products. In addition, under the terms of certain agreements
by which HALIS licenses its software for inclusion in software systems marketed
by other manufacturers, HALIS has been required to place in escrow the source
code for the licensed software. In the event of a default by HALIS in its
performance under such agreements, the licensee would be entitled to receive and
retain such source code for its own use.

         COMPETITIVE. The industry in which HALIS operates is highly competitive
and subject to continuing change in the manner in which products and services
are marketed and vendors are selected by customers. The primary competitive
factors are scope and quality of products and service and support capabilities.
Certain current and potential competitors have greater resources than HALIS.

         LIMITED TRADING VOLUME FOR COMMON STOCK; NO DIVIDENDS. On October 30,
1992, HALIS' common stock ceased quotation on the Nasdaq Small Cap Market. Price
information on HALIS' common stock is now available on the Nasdaq Bulletin
Board. HALIS has experienced limited trading volume in its stock historically.
There is no assurance that a public market for HALIS' securities will continue
to be made or that shareholders will be able to avail themselves of a public
trading market for the HALIS common stock in the future.

         Moreover, sales and potential sales of substantial amounts of HALIS'
common stock in the public market pursuant to a Registration Statement declared
effective by the Commission on August 22, 1997, Rule 144 or otherwise could
adversely affect the prevailing market prices for the HALIS common stock and
impair HALIS' ability to raise additional capital through the sale of equity
securities.

         HALIS has never paid cash dividends on its common stock and has no
plans to pay cash dividends in the foreseeable future. The policy of HALIS'
Board of Directors its to retain all available earnings for use in the operation
and expansion of HALIS' business.

<PAGE>


         POSSIBLE ISSUANCE OF PREFERRED STOCK. HALIS is authorized to issue up
to 5,000,000 shares of Preferred Stock, $.10 par value. Preferred Stock may be
issued in one or more series, the terms of which may be determined at the time
of issuance by the HALIS Board of Directors, without further action by
shareholders, and may include voting rights (including the right to vote as a
series on particular matters), preferences as to dividends and liquidation,
conversion and redemption rights and sinking fund provisions. No Preferred Stock
is currently outstanding, and HALIS has no present plans for the issuance
thereof. The issuance of any series of Preferred Stock could affect the rights
of the holders of HALIS common stock, and therefore, reduce the value of the
common stock and make it less likely that holders of HALIS common stock
[including HealthWatch] would receive a premium for the sale of their shares of
common stock. In particular, specific rights granted to future holders of
Preferred Stock could be issued to restrict HALIS' ability to merge with or sell
its assets to a third party.

         POSSIBLE VOLATILITY OF STOCK PRICE. The market price of the HALIS
common stock may be subject to significant fluctuations in response to HALIS'
operating results and other factors, and there can be no assurance that the
market price of the HALIS common stock will not decline. In addition, the stock
market has from time to time experienced extreme price and volume fluctuations,
particularly in the high technology sector, which have often been unrelated to
the operating performance of particular companies. Such fluctuations and factors
such as announcements of technological innovations or new products by HALIS or
its competitors or third parties, as well as market conditions in the computer
software or hardware industries and healthcare reform measures, may have a
significant effect on the market price of HALIS' common stock.

         FLUCTUATIONS IN QUARTERLY PERFORMANCE. HALIS' product sales will be
derived primarily from the sale of software systems and related services in the
healthcare industry, the market for which is still developing.

         Accordingly, HALIS' quarterly results of operations are difficult to
predict, and delays in the closing of sales near the end of the quarter could
cause quarterly revenues and, to a greater degree, operating and net income to
fall substantially short of anticipated levels. HALIS' total revenues and net
income levels could also be adversely affected by cancellations or delays of
orders, interruptions or delays in the supply of key components, changes in
customer base or product mix, seasonal patterns of capital spending by
customers, delays in purchase decisions due to new product announcements by
HALIS or its competitors, increased competition and reductions in average
selling prices.

         WORKING CAPITAL REQUIREMENTS: NEED FOR ADDITIONAL FINANCING. HALIS will
require additional capital or other financing to finance its operations and
continued growth. There can be no assurance that HALIS will be able to obtain
such financing if and when needed, or that if obtained, it will be sufficient or
on terms and conditions acceptable to HALIS. Any such future equity financing
could be dilutive to HALIS shareholders.

         PENDING LITIGATION. In February 1997, a complaint was filed in the
State Court of Fulton County, Georgia alleging, among other things, breach of
contract in connection with the termination by HALIS of its merger agreement
with Advanced Custom Computer Solutions, Inc. ("ACCS"), which HALIS advised ACCS
was terminated in November 1996 due to the impossibility of ACCS' fulfilling
certain conditions to closing. 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. The complaint seeks
damages in the amount of at least $2.0 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 has answered denying the allegations of liability in
the complaint and intends to vigorously contest the lawsuit. There can be no
assurance, however, that HALIS 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 HALIS.

         In August 1995, HALIS entered into a Finders Fee Agreement with Penny
Sellers, pursuant to which HALIS agreed to pay Ms. Sellers 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 Ms. Sellers. The
compensation payable to Ms. Sellers pursuant to the Finders Fee Agreement is
limited to $500,000. In late August 1995, Ms. Sellers introduced HALIS to the
principals of AUBIS, L.L.C. ("AUBIS"). To date, HALIS has paid $19,350 to Ms.
Sellers, which represents 10% of the investment made by the principals of 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.

<PAGE>


         Ms. Sellers has claimed that the entirety of a convertible notes
offering completed in 1996 (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 future capital funding raised by HALIS (up
to the $500,000 maximum compensation). In this regard HALIS has recently
completed a private placement which raised gross proceeds of approximately
$2,000,000. Finally, Ms. Sellers has made a claim for 10% of the value of AHS,
ASI, and HSI, which were acquired by HALIS in November, 1996. Ms. Sellers filed
suit with respect to these claims against HALIS, Larry Fisher and Paul W.
Harrison on July 13, 1997, in the State Court of Fulton County, Georgia seeking
actual damages from HALIS and Messrs. Fisher and Harrison in the amount of
$480,534.70 and punitive damages from Messrs. Fisher and Harrison in the amount
of $1,000,000. HALIS' management believes that these claims are outside the
scope of the Finders' Fee Agreement and intends vigorously to contest them.
There can be no assurance, however, that HALIS 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 HALIS.

         HISTORY. HALIS was organized in 1979 by Larry Fisher to provide
vertical software applications for potential business users of IBM
minicomputers. The initial applications provided by HALIS consisted principally
of business management software directed at a variety of different businesses,
including pharmacies, supermarkets and general retail, as well as restaurants.
Spurred by the introduction of the IBM Personal Computer, or "PC", HALIS
developed its own proprietary PC-based business applications software in 1984.
At the same time, HALIS' previously diffuse marketing approach was restructured
to focus on its most successful market niche - the restaurant industry.

         Due to a downturn in its business in 1994, HALIS was unable to commit
sufficient resources to continue research and development of its products to
keep pace in the hospitality market place. As a result, the market was not
receptive to its products because HALIS' competitors were able to provide
enhancements that were being demanded by hospitality customers. In 1995, HALIS'
Board of Directors concluded that HALIS needed a significant shift in its
strategic plan to continue in operation. As a consequence, HALIS developed a
strategy to grow its business through the acquisition of select software
companies in the hospitality and healthcare markets. Pursuant to this strategy,
HALIS merged with AUBIS Hospitality Systems, Inc. ("AHS"), AUBIS Systems
Integration, Inc. ("ASI") and HALIS Software, Inc. ("HSI") in November 1996.
HALIS made three additional acquisitions in January 1997, one additional
acquisition in May 1997, and two additional acquisitions in July 1997.

         INDUSTRY. The healthcare industry is undergoing change at an
unprecedented rate. As a user of healthcare services, most people have direct
experience with some of these changes. Hospitals are buying physician practices;
individual practices are combining their efforts and forming independent
practice associations; physician practice management companies are either buying
or managing groups of practices and clinics; and insurance companies are
entering many of these markets.

         The implications of these changes are numerous, but one of the key
factors in the success of each of these organizations is the availability of
information throughout the organization, beginning at the point of service. It
is estimated that as many as 90 manual steps are required to service a patient
and process a claim generated by an office visit. The process is fraught with
error; the physician often does not know all of the patient's history, and if
and how much he or she will be paid for the performance of a given service due
to the complexities in the benefit plans and management contracts under which
the practice operates.

         As a result of the new healthcare environment, management expects
significant increases in spending on healthcare technology and related services
over the next several years. Historically, the industry has spent approximately
two to three percent of its revenues on information technology and services,
compared to six to ten percent of revenues for companies in other industries,
according to published research reports. HALIS management believes that, over
the next several years, spending on healthcare technology and related services
will approach the levels experienced by other industries. This trend, combined
with the overall growth of the health care industry, is expected by HALIS
management to yield significant opportunities for companies who deliver
information technology products and services to the healthcare market.

         Healthcare delivery costs have increased dramatically in recent years.
The growing influence of managed care has resulted in increasing pressure on
participants in the healthcare system to contain costs. Accordingly, healthcare

<PAGE>


systems are migrating toward more managed care reimbursement, including
discounted fee for service and capitation. Under capitation, providers are paid
a predetermined fee per individual to provide all healthcare services, thereby
assuming the potential financial risks of escalating healthcare costs.

         To deliver care in a more cost-effective manner, providers are forming
integrated health delivery networks that may include acute-care hospitals,
physicians' offices, outpatient clinics, homecare and long-term care facilities.
The success of these comprehensive delivery networks is dependent on, among
other things, effectively managing and delivering information to caregivers and
managers across multiple points of care.

         Traditionally, the hospital information systems market has been the
largest segment of healthcare information services. According to industry
analysts, in 1995 the healthcare industry spent approximately $10 billion for
products and services to support automated information systems, and the growth
rate is expected to continue to rise, reaching an expected $28 billion by the
year 2000.

         The current market of healthcare and related businesses in the United
States is estimated to be more than $1 trillion. International markets provide
even greater opportunity. The immediate domestic market potential for HALIS'
software products and technology services is estimated to be a universe of 3.4
million businesses representing more than $15 billion in annual revenue.

         In addition to this expanding market opportunity, the demand for
healthcare information systems is also increasing as hospitals and other
providers come under increased pressure to quantify and control their costs. As
a result, many providers are spending more on systems which enable them to
access such information. According to the 1995 Annual HIMSSIHP Leadership
Survey, an industry survey conducted by Hewlett Packard at the Healthcare
Information and Management Systems Society conference, 75% of the respondents
stated that their information system investments will increase at a rate of 20%
or more over the next two years.

         Healthcare information systems are evolving to meet the needs of a
changing marketplace. Initially, these systems were financially oriented,
focusing on the ability to capture charges and generate patient bills. However,
as reimbursement has shifted more toward risk sharing and capitation, providers
and payers are seeking to better manage risk by controlling costs, demonstrating
quality, measuring outcomes and influencing utilization. Each of these goals
requires the collection, analysis and interpretation of clinical and financial
information related to the delivery of healthcare.

         HALIS management believes that the availability of a complete, timely
and cost-effective patient focused information system is essential to
controlling costs while providing high quality patient care. Sources of patient
information usually include a number of different sites; therefore, current and
historical paper records must be made available by computer to all
points-of-care. All participants in the delivery network need information
systems that can capture data at the point-of-care, communicate data across the
continuum of care and process and store large volumes of data necessary for the
development of the computer-based longitudinal patient record.

         Information technology in healthcare has historically had a bottoms up"
approach. Software applications such as billing, admissions, claims processing,
patient registration, medical records, contract management, and others were
developed individually using rigid programming techniques. Over time, many of
these systems were "interfaced" to each other in order to provide a more
complete solution. The piecing together of these disparate applications,
however, has caused significant problems in the development, implementation, and
enhancement of any or all of these systems. Each time a change is made to one
area of the system, many other different programs, normally written by different
groups of people, have to be changed to match each other. This process results
in long lead times and high costs of both acquisition and on-going utilization
and upgrading of the system.

         It is not uncommon for a hospital to have more than 10 different
application systems (up to 50 different systems in larger hospitals) installed
to perform the functions of admissions, billing, patient registration, insurance
processing, internal reporting, laboratory information, pharmacy records,
contract management, and eligibility. A typical software application (including
integration testing and conversion) can cost in excess of $200,000, and the
total expenditure for the hospital can be over $5.0 million for software alone.
Annual software support can run as much as $600,000 or more, and changes to the
software programs create additional charges to the hospital. Physician practices
have the same situation on

<PAGE>


a smaller cost scale, and can spend up to $10,000 or more for the initial
software license fees, plus support and customization.

         There are estimated to be approximately 120 million combinations of
computer instructions required to perform today's healthcare industry and
enterprise-wide applications. Using traditional "hard coding" of computer
instructions, this simply cannot practically be done. Therefore, most systems in
the market today have difficulty producing the total solution that the changing
healthcare environment demands. Traditional programming techniques do not offer
a quality, cost effective path to the future for today's customers.

         THE HALIS HEALTHCARE ENTERPRISE SYSTEM. HALIS has developed an advanced
and modern healthcare information model and a single program for the healthcare
industry, the HALIS Healthcare Enterprise System. Using superior healthcare
information models and advanced database techniques, HALIS offers a totally
integrated, not interfaced, top down approach to healthcare information systems.
The HALIS Healthcare Enterprise System can be used in its entirety for an
Integrated Healthcare Delivery Network, or subsets can be used for clinics,
hospitals, practices, payers, long term care facilities, laboratories,
pharmacies, and home healthcare.

         HALIS has eliminated more than 90% of the programming effort and
duplicity that other systems have required by placing most of the program logic
into its multi-media object database. Instead of literally thousands of
"if/then" programming statements for each healthcare event, which require
significant personnel and computer time to execute, the HALIS system directly
locates the relevant mathematical and decision operations and relationships in
the database. In addition, the HALIS system is designed to allow the user to
update most items in the database directly, virtually eliminating the user's
dependence on the software supplier to make such changes. The single HALIS
system also eliminates the need for redundant data found in all other systems.
It is estimated that more than half, and possibly up to 80% of the information
used by each individual software application is the same as required by every
other application in the system. The HALIS philosophy utilizes the relational
data-base concept to eliminate this redundancy and streamline the development,
enhancement and operational process dramatically.

         The HALIS technology provides a new level of economies in the
production and maintenance of healthcare systems. HALIS systems are being sold
at over 50% less than competitive systems, with a huge corresponding reduction
in maintenance and support costs. HALIS' cost to continue to provide new
features and functions to its system will be substantially below today's market
costs, since there is only one system to modify, not up to 10 or more disparate
systems. HALIS will use state of-the-art technology such as video conferencing
and the Internet to deliver training and product support, sales support and
customer service. Each of these techniques is designed to improve user
satisfaction while lowering costs.

         In 1997, HALIS will focus on four of the eight primary markets it
expects to penetrate: physician practices, including individual, group and
combinations; hospitals; clinics; and payers. The HALIS Practice Management
System is installed in the field as pilot sights, and is available for sale
today to practices, practice management organizations, clinics and hospitals.
The HALIS Payer System is installed in a pilot site and is expected to be ready
for general release near the end of 1997. The HALIS Hospital and Clinic Systems
are both currently being sold as pilots and are expected to be ready for general
release during 1998. A pilot site is a customer who acknowledges that while the
particular HALIS system being offered is theoretically complete, it must be
field tested in an operational environment, where additional features may be
added to further enhance its usability.

         The HALIS Healthcare Enterprise System was developed by HALIS through
the healthcare prototype licensed from Paul Harrison Enterprises, Inc. ("PHE").
In November 1996, HALIS entered into a perpetual, non-exclusive transferable
license to utilize proprietary technology known as MERAD ("MERAD") owned by PHE
for a license fee of 10% of gross revenues generated from MERAD and any
derivatives thereof by HALIS or any of its affiliates. In July 1995, PHE
acquired from Paul Harrison, the Chairman of the Board, Chief Executive Officer
and President of HALIS, certain algorithms and concepts for the creation of an
advanced artificially intelligent software tool called "MERAD." MERAD is a tool
that is utilized to develop application software. Through the use of artificial
intelligence, MERAD can substantially decrease the development time necessary to
create and debug application software. HALIS uses MERAD to develop its medical
practice software and Healthcare Enterprise System.

<PAGE>


         The HALIS Medical Practice System is multimedia-ready and open database
compliant (ODBC-SQL Relational), which enables users to add day-to-day changes
in patient data, billing criteria, and quality management in one system. HALIS
management believes that the principal benefits of the medical practice system
include (i) centralization of patient data, (ii) coverage verification, and
(iii) increased collections and lower billing costs. Applications provided
include registration, medical records, patient encounters, billing, managed
care, reports and system support.

         HALIS' Healthcare Enterprise System uses a fifth generation database
system that manages data through its integrated multimedia-object and
SQL-relational databases. The Healthcare Enterprise System technology platform
consists of five major integrated parts: the graphical end-user interface; the
program object processor; the multimedia object database; the SQL relational and
open database driver', and the communications network manager.

         The Healthcare Enterprise System provides a direct connection between
the consumer or end-user and the ready-to-use database driven system. Program
data and instruction can be added in an automated manner without traditional
programming knowledge. Currently, competing software technology and the
healthcare industry requires technical expertise to connect data and processing
instructions to a running program. The System's ability to respond to conditions
and changes makes it appealing to healthcare industry participants. Programmer
coded instructions or computer generated coded instructions often exceed the
computer workstation capacity. Therefore, HALIS management believes that in
industries such as healthcare, many of the conditions and processing needs are
not included in the currently available commercial systems, and most of the
processing must be handled manually. Alternatively, Healthcare Enterprise System
is expected to handle all the processing conditions and needs of healthcare and
other database information intensive industries.

         HALIS STRATEGY. HALIS has focused on the point of-service system
business in the healthcare industry (physician practices, MSO's and other
managed care organizations) and is expanding to larger markets such as
hospitals.

         HALIS Management believes that HALIS is well positioned to produce new
software products for special segments of the healthcare market using Healthcare
Enterprise System and its industry knowledge obtained from HALIS Services, Inc.
personnel. HALIS management believes that the cost to produce and support all of
HALIS' products will be less than other companies in the marketplace due to the
flexibility of HALIS' technology and the fact that HALIS has no "legacy" systems
to maintain, enhance, or otherwise invest in. HALIS management believes that the
flexibility of HALIS' healthcare software will allow HALIS to keep up with the
user's demands for updates to health plan changes, management contract
revisions, availability of new pharmaceutical products, and changes in managed
caredriven plans and practices.

         HALIS' strategy is to use its software technology to produce lower cost
applications software without compromising margins, to provide full service to
augment its software products, and to build superior distribution channels,
consolidating healthcare information systems distribution and service companies
into HALIS, and through supplying distribution companies with HALIS' superior
healthcare software products. HALIS will manage its operations through its
corporate headquarters in Atlanta, Georgia and strategically located regional
offices that can be managed as profit and loss centers and that can focus on
sales and service in different geographical areas.

         HALIS' strategic plan is a significant shift in HALIS' past business
direction. As a result of the acquisitions of AHS, ASI and HSI in November 1996,
HALIS anticipates positioning itself to capture a portion of the healthcare
information systems network and integration markets. There can be no assurance,
however, that HALIS will be successful in this endeavor or that it will be able
to achieve or sustain profitability in the future.

         HALIS will offer customers a complete solution to their healthcare
information needs. HALIS will be able to deliver integrated software to
virtually every healthcare market segment including medical practices, home
health agencies, hospitals, clinics, long-term care, labs, pharmacies and
payers.

         HALIS will be able to offer a wide array of healthcare software through
its advanced database technology. The advanced database technology of the
Healthcare Enterprise System will enable HALIS to market new software by adding
a new market-specific healthcare database to the reusable advanced database
technology. Most companies have had to build or buy each system separately for
each market segment, which has created a mass of fragmented systems for the
healthcare industry.

<PAGE>


         HALIS will address the healthcare systems industry's needs by
automating the production and maintenance of software for all healthcare market
segments through its own version of an automated factory based on the advanced
database technology. Several competitors have attempted to create one technology
to build software for multiple healthcare segments but have had limited success.
HALIS believes that the advanced database technology will be instrumental in
automating and integrating the healthcare industry's information cycle.

         In addition to providing a set of integrated software products, HALIS
will deliver a complete solution to healthcare organizations through its ability
to implement customized computer hardware, networks, and other complimentary
services through its systems integration and outsourcing resources.

         HALIS believes that it will have an advantage over its competitors
because its products' "engines" the integrated health software products and its
information technology core are expected to be effective in keeping pace with
the ongoing changes in healthcare. Many competitors currently have fragmented,
inflexible healthcare software. HALIS believes that a systems integration
project can succeed only if the core software foundation meets the needs of the
healthcare customer and the ongoing market changes. HALIS believes that the
advanced database technology addresses the information needs of healthcare
companies.

         In addition to providing an improved healthcare systems solution, HALIS
plans to use an aggressive acquisition strategy. HALIS generally focuses on
acquisitions that expand its distribution and service capabilities, and will be
able to market internally generated software products based on one common
advanced database technology. This strategy will assist HALIS in delivering
integrated systems to the healthcare markets.

         HALIS will utilize business partners, in addition to its acquired
units, to facilitate entry into certain markets and to increase its geographic
presence in key areas of the United States. Through its acquisition of The
Compass Group, Inc., an Atlanta based consulting firm, HALIS is a Global
Alliance Partner with Geac (formerly Dun & Bradstreet Software). HALIS is
currently pursuing the expansion of its relationship with Geac at a corporate
and regional level. HALIS has recently been selected as a Geac global alliance
partner for healthcare, and is working with Geac sales and marketing management
to identify Geac customers who are prospects for HALIS' software and services.
HALIS is also negotiating with other prospective HALIS business partners.

         HALIS acquisitions will typically be healthcare technology service
companies (as opposed to product producing companies). HALIS will convert the
"service only" oriented companies to technology-driven companies to increase
market share and value. These companies must project a positive cash flow within
the first year following acquisition in order to be candidates for acquisition.
HALIS intends to use its stock for these acquisitions and infuse cash only when
growing the companies. This model has been followed for the initial
acquisitions. HALIS typically pays between one and two times annual revenues for
an acquisition, deducting from the purchase price any debt.

         HALIS will endeavor to keep its corporate overhead costs low, while
maintaining sufficient staff to implement the business plan and manage holding
company activities such as research and development and customer services.
During 1997, HALIS intends to implement several pilot sites for its Hospital,
Clinic, and Payer systems, while selling its Practice Management System product
to individual and group practices, practice management companies, hospital,
clinics, and other entities which own or manage practices.

         While HALIS believes the strategic plan that it is undertaking will be
successful and in the best interest of HALIS, no assurances can be given that
HALIS indeed will be successful and that shareholder value will be enhanced.

         RECENT ACQUISITIONS. In November 1996, HALIS merged AHS and ASI, each a
wholly-owned subsidiary of AUBIS, L.L.C. ("AUBIS"), with and into two
wholly-owned subsidiaries of HALIS. In connection therewith, AUBIS received
10,000,000 shares of Common Stock of HALIS. AHS and ASI are suppliers of network
integration products and services to the healthcare and other industries.

         ASI has provided value added computer services, network solutions,
connectivity solutions and system integration, principally to Atlanta area
businesses, since 1985. Its trained technical staff has experience in computer
system integration, network configuration and network implementation. ASI has
certified network engineers on staff for

<PAGE>


LAN and WAN network services. ASI sells, services and supports many major brands
of computers, peripherals and networks. ASI support services include onsite
hardware maintenance as well as network support programs. ASI offers a local
area network design and installation, wide area network design and installation,
cable plant design, installation and management, network management systems and
network trouble shooting, protocol debugging and performance analysis.

         In November 1996, HALIS also acquired HSI, a wholly-owned subsidiary of
Healthcare Technology Investments, L.L.C. (formerly, HALIS, L.L.C.). In
connection therewith, Healthcare Technology Investments, L.L.C. received
5,000,000 shares of Common Stock of HALIS. HSI is a supplier of healthcare
systems to managed healthcare markets and to medical practices and related point
of service markets. HSI represents an alternative information system for today's
dynamic healthcare environment. The HSI application software provides a
comprehensive system solution to two primary groups, medical practices and
managed care organizations

         In January 1997, HALIS acquired The Compass Group, Inc., a software
consulting company ("Compass"). In connection therewith, Debra York, the sole
shareholder of Compass, was issued an aggregate of 350,000 shares of HALIS'
Common Stock and Compass became a wholly-owned subsidiary of HALIS (the "Compass
Subsidiary"). In addition, as consideration for the waiver by Ms. York of her
rights under a provision in the Merger Agreement providing for the issuance of
additional shares of HALIS' Common Stock at a future date if certain financial
targets were achieved for the year ending December 31, 1997. On June 30, 1997,
HALIS agreed to issue 688,000 shares of HALIS' Common Stock to Ms. York.

         In connection with the Compass merger, the Compass Subsidiary entered
into an employment agreement with Ms. York providing for the employment of Ms.
York as President of the Compass Subsidiary for a term of two years at an annual
base salary of $120,000. In addition, in connection with the consummation of the
Merger, HALIS granted to Ms. York non-qualified options to purchase 85,000
shares of HALIS' Common Stock at an option price of $2.00 per share. The options
granted to Ms. York are fully exercisable and expire January 10, 2007.

         In January 1997, HALIS also acquired Software Manufacturing Group,
Inc., a developer and seller of practice management systems for orthodontists
("SMG"). In connection therewith, the SMG shareholders were issued an aggregate
of 3,072,000 shares of HALIS' Common Stock and SMG became a wholly-owned
subsidiary of HALIS (the SMG Subsidiary"). In addition, as consideration for the
waiver by the SMG shareholders of their rights under a provision in the Merger
Agreement providing for the issuance of additional shares of HALIS' Common Stock
at a future date if certain financial targets were achieved for the year ending
December 31, 1997. On June 30, 1997, HALIS agreed to issue 960,000 shares of
HALIS' Common Stock to the SMG shareholders.

         In connection with the SMG merger, the SMG Subsidiary entered into an
employment agreement with Charles Cone, Jr. providing for the employment of Mr.
Cone as President of the SMG Subsidiary for a term of two years at an annual
base salary of $192,000 plus incentive compensation determined in accordance
with the provisions of his Employment Agreement.

         In January 1997, HALIS also acquired American Benefit Administrative
Services, Inc. ("ABAS") and Third Party Administrators, Inc. ("TPA"), which
provide third party administrative services for healthcare plans of large and
small companies throughout the United States. In connection therewith, the ABAS
and TPA shareholders were issued an aggregate of 1,875,000 shares of HALIS'
Common Stock and ABAS and TPA became a wholly-owned subsidiary of HALIS (the
"ABASITPA Subsidiary").

         Upon consummation of the ABAS and TPA mergers, the ABAS/TPA Subsidiary
entered into an Employment Agreement with Philip E. Spicer providing for the
employment of Mr. Spicer as President and a director of the ABAS/TPA Subsidiary
for a term of three years following the consummation of the mergers (subject to
extension in accordance with the terms of the Employment Agreement). The
Employment Agreement provides for Mr. Spicer to receive an annual base salary of
$200,000 plus incentive compensation determined in accordance with the terms of
Mr. Spicer's Employment Agreement.

         In addition, Mr. Spicer will receive a $100,000 signing bonus. In
addition, HALIS granted to Mr. Spicer non-qualified options to purchase
1,250,000 shares of HALIS' Common Stock at an option price of $2.00 per share.
The options granted to Mr. Spicer are fully exercisable and expire on the tenth
anniversary of the date of issuance. Mr.

<PAGE>


Spicer's Employment Agreement also provides for certain payments to be made to
Mr. Spicer in the event he is terminated without cause or in the event of a
change in control of the ABAS/TPA Subsidiary. The Merger Agreement also provides
that Mr. Spicer may repay a loan from ABAS/TPA, which had a balance of $547,790
as of August 15, 1997, in the form of HALIS Common Stock if certain specified
conditions are met.

         Upon consummation of the ABAS and TPA mergers, the ABASITPA Subsidiary
also entered into an Employment Agreement with Patricia M. Toledano providing
for the employment of Ms. Toledano as Vice President and a director of the
ABASITPA Subsidiary for a term of three years following the consummation of the
mergers (subject to extension in accordance with the terms of the Employment
Agreement). The Employment Agreement provides for Ms. Toledano to receive an
annual base salary of $77,000 plus incentive compensation determined in
accordance with the terms of Ms. Toledano's Employment Agreement.

         In addition, HALIS granted to Ms. Toledano non-qualified options to
purchase 100,000 shares of HALIS' Common Stock at an option price of $2.00 per
share. The options granted to Ms. Toledano are fully exercisable and expire on
the tenth anniversary of the date of issuance. Ms. Toledano's Employment
Agreement also provides for certain payments to be made to Ms. Toledano in the
event she is terminated without cause or in the event of a change in control of
the ABASITPA Subsidiary

         In May 1997 HALIS acquired TG Marketing Systems, Inc., a Georgia
corporation ("TGM") which became a subsidiary of HALIS (the "TGM Subsidiary").
Upon consummation of the TGM merger, Joseph M. Neely, in his capacity as the
sole shareholder of TGM, was issued an aggregate of 2,388,060 shares of HALIS'
Common Stock.

         In connection with the TGM merger, the TGM Subsidiary entered into an
employment agreement with Mr. Neely providing for the employment of Mr. Neely as
President of the TGM Subsidiary for a term of two years at an annual base salary
of $150,000. In addition, in connection with the consummation of the TGM merger,
HALIS granted options to purchase an aggregate of 500,000 shares of HALIS'
Common Stock to certain employees of TGM at an option price of $1.50 per share.
Mr. Neely also serves as the Chief Operating Officer of HALIS.

         In July 1997 HALIS acquired Physicians Resource Network, Inc., a
Florida corporation ("PRN") which became a subsidiary of HALIS (the "PRN
Subsidiary"). Upon consummation of the PRN merger, Anthony F. Maniscalco, in his
capacity as the sole shareholder of PRN, was issued an aggregate of 3,733,333
shares of HALIS' Common Stock.

         In connection with the PRN merger, the PRN Subsidiary entered into an
employment agreement with Mr. Maniscalco providing for the employment of Mr.
Maniscalco as President of the PRN Subsidiary for a term of two years at an
initial base salary of $125,000.

         Also in connection with the PRN merger, HALIS retired approximately
$80,000 of existing indebtedness of PRN and agreed to cause all personal
guaranties with respect to the indebtedness of PRN in the principal amount of
$520,000 to a financial institution to be terminated by refinancing, payment in
full or otherwise on or before December 31, 1997.

         In July 1997 HALIS acquired PhySource Ltd., an Illinois corporation
("PhySource") which became a subsidiary of HALIS (the "PhySource Subsidiary").
Upon consummation of the PhySource merger, the shareholders of PhySource were
issued an aggregate of 2,632,611 shares of HALIS' Common Stock, including
payment of certain deferred compensation and expense advances to certain
shareholders, payments to certain shareholders for termination of employment
agreements, and payment in retirement of certain existing indebtedness of
PhySource.

         In connection with the PhySource merger, the PhySource Subsidiary
entered into an employment agreement with Theodore M. Homa, M.D. providing for
the employment of Dr. Homa as the Medical Director for the medical practice that
previously constituted the business of Theodore M. Homa, M.D., S.C. (the "Homa
Practice"), which was acquired by PhySource immediately prior to the
consummation of the PhySource merger. The employment agreement provides for the
employment of Dr. Homa for a term of two years and for the payment of an annual
base salary for the initial 12 months of the employment agreement of $144,000.
In addition, as incentive compensation Dr. Homa will be paid an amount equal to
50% of the EBITDA (as defined in the employment agreement) for the Homa Practice
for the immediately preceding month; provided, however, that in no event shall
the total compensation (base salary plus incentive compensation) for Dr.

<PAGE>


Homa in any month exceed $35,000 during the initial 12-month period or $40,000
during the remainder of the term of employment.

         CONSOLIDATION OF ATLANTA OPERATIONS. In June 30, 1997, the following
subsidiaries of HALIS were merged into HALIS Services, Inc., a newly-organized,
wholly-owned Georgia subsidiary of HALIS: Software Manufacturing Group, Inc.; TG
Marketing Systems, Inc.; HALIS Software, Inc.; AUBIS Hospitality Systems, Inc.;
AUBIS Systems Integration, Inc. and The Compass Group, Inc. The purpose of the
merger was to simplify HALIS' corporate structure and facilitate the
consolidation of accounting and treasury functions.

         HALIS EMPLOYEES. As of August 1, 1997, HALIS had approximately 225
full-time employees, including five in senior management. HALIS also utilizes
contract personnel for support services, installations of HALIS systems and
programming. None of HALIS' employees is subject to a collective bargaining
agreement, and HALIS considers its employee relations to be good.

HEALTHWATCH KEY EMPLOYEES; DIRECTORS

         The directors and executive officers of HealthWatch are as follows:

<TABLE>
<CAPTION>
                                     Director
                  Name                 Since        Age         Positions With The Company
                  ----                 -----        ---         --------------------------
<S>                                    <C>          <C>   <C>
          Daniel J. Kelly               --           46    President and Chief Executive Officer

          Stephen R. Hessel             --           52    Executive Vice President of Operations

          George T. Mier                --           45    Vice President of Marketing

          Annette D. Agner              --           39    Treasurer/Controller

          Lindley S. Branson           1997          55    Director

          Richard T. Case              1997          46    Director

          Paul W. Harrison             1997          42    Director

          Sanford L. Schwartz          1983          45    Chairman of the Board of Directors

</TABLE>

         Daniel J. Kelly has been President of the Company since December 1996.
From 1994 to 1996, Mr. Kelly was an officer of Block Medical (President and
Chief Executive Officer 1995 to 1996 and Executive Vice President--Sales
1994-1995), a manufacturer of intravenous infusion devices; and from 1980 to
1994 was employed by IMED Corporation, a manufacturer of infusion devices and
disposable administration sets. From 1991 to 1994, Mr. Kelly was Vice President
Worldwide Sales IMED Corporation.

         Stephen R. Hessel has been employed by the Company since January 1997
and has been Vice President of Operations since March 1997. From 1990 to 1994,
Mr. Hessel was Vice President, Operations of O.B. Tech, Inc., a manufacturer of
surgical products; and 1994 to present, he has been an independent inventor and
consultant, most recently providing consulting services to Block Medical, Inc.
(from 1995 to 1997), a manufacturer of intravenous infusion devices.

         George T. Mier was Director of Sales and Marketing of the Company from
March 1996 to November 1996 when he became Vice President of Marketing. Prior to
joining the Company, he was Vice President--Sales and Customer Care and Senior
Consultant for Innotech, Inc., a manufacturer of ophthalmic equipment and
disposables, from 1993 to 1995; National Sales Director, World Learning, Inc.,
an educational company from 1992 to 1993; and National Sales Manager or Regional
Manager for American Optical Corp., a medical products company, from 1988 to
1992.

<PAGE>


         Annette D. Agner has been Treasurer/Controller of the Company since
1993 and has been employed by the Company for more than ten years.

         Lindley S. Branson has been a Principal with the law firm of Gray,
Plant, Mooty, Mooty & Bennett, P.A., for more than five years. From October of
1995 to April 1997, Mr. Branson served as interim Chief Executive and Chief
Financial Officer of the Company.

         Richard T. Case has been President of Benchmark Associates, a business
consulting firm since 1985. Mr. Case was President of Polymedica Industries,
Inc., a medical products company from May 1990 to July 1992. Mr. Case also
served as a Director of the Company from 1990 to 1994.

         Paul W. Harrison has served as Chairman of the Board and Chief
Executive Officer of HALIS since November of 1996. In addition, Mr. Harrison has
been the managing member of AUBIS since February 1995, Chief Executive Officer
and a Director of AHS since June 1994 and Chief Executive Officer and a Director
of ASI since January 1995. Mr. Harrison has over 20 years of professional
experience in the United States and internationally in investments, managing
consulting, and information technology. Mr. Harrison has created and sold
various software technology companies over his career that specialized in the
healthcare and information technology markets. In 1994, Mr. Harris acquired
Wiporwil Systems and Peripheral Design to form AUBIS, LLC. Prior to founding
AUBIS, Mr. Harrison started, and later sold, Bivin Software Incorporated, a
technology company, to HBO & Company. Mr. Harrison served as an executive of and
advisor to HBO & Company through the end of 1994. Prior to Bivin Software
Incorporated, Mr. Harrison owned and operated several technology development
companies.

         Sanford L. Schwartz has been a consultant with Creative Business
Strategies, Inc., a business/development consulting firm, since July 1992. He
served as Chief Executive Officer of the Company from June 1983 to September
1993. Mr. Schwartz is a director of Renaissance Entertainment Corporation.

FORWARD-LOOKING STATEMENTS

         This report contains certain forward-looking statements within the
meaning of Section 27A of the Securities Act and Section 21E of the Securities
and Exchange Act of 1934, as amended, which are intended to be covered by the
safe harbors created thereby. These statements include the plans and objectives
of HealthWatch and HALIS for future operations. The forward-looking statements
included herein are based on current expectations that involve numerous risks
and uncertainties. HealthWatch and HALIS' plans and objectives are based on the
assumption that their respective businesses will be successful, that competitive
conditions within the healthcare industry will not change materially or
adversely and that there will be no material adverse change in either company's
operations or business. Assumptions relating to the foregoing involve judgments
with respect to, among other things, future economic, competitive and market
conditions and future business decisions, all of which are difficult or
impossible to predict accurately and many of which are beyond the control of
HealthWatch or HALIS. Although the Company 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 the
Company, or any other person, that the objectives and plans of the Company or
HALIS will be achieved.

ITEM 2.  PROPERTIES.

         The Company's principal offices are located in 24,535 square feet of
space in Vista California, leased for a 65-month term ending May 31, 1999
with a two-year renewal option, The incremental rate for this space is $14,400
per month.

         The Company leases 2,500 square feet of office space in Cambridge,
England on a month-to-month basis for $1,530 per month.

ITEM 3.  LEGAL PROCEEDINGS.

         See Note 8 of Notes to Consolidated Financial Statements.

<PAGE>


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

         A special meeting of the shareholders of the Company was held on April
15, 1997. The following individuals were elected to serve as directors of the
Company until the 1997 annual meeting of shareholders or until their successors
are duly elected and qualified: Lindley Branson, Richard Case, Sanford Schwartz
and Kenneth Selzer, M.D. In addition, the shareholders ratified the granting of
incentive options for an aggregate of 500,000 shares under the Company's 1995
Stock Option Plan. A total of 500,409 shares were voted with respect to the
grant of incentive stock options, with 374,590 of such shares voting for its
adoption, 118,151 shares voting against its adoption and 7,568 shares abstaining
with respect thereto. In addition, there were 1,844,232 broker non-votes with
respect to this matter.


                                     PART II

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

         The number of record holders of the Company's Common Stock on September
30,1997 was 739. The high and low sale prices as reported on the Nasdaq Small
Cap Market are shown in the table below (adjusted to reflect the seven-for-one
reverse stock split effective May 13, 1996). These quotations represent prices
between dealers, and do not include retail markups, markdowns or commissions.

                      QUARTER ENDED            HIGH              LOW
                      -------------            ----              ---

                      1995
                      ----
                      March 31               $2.84375         $   2.625
                      June 30                 3.28125           1.96875
                      September 30             4.8125            2.1875
                      December 31               4.375            2.1875

                      1996
                      ----
                      March 31                 3.9375            2.1875
                      June 30                   4.188              2.00
                      September 30               4.50            3.1875
                      December 31                3.50              1.75

                      1997
                      ----
                      March 31                3.21875            2.0625
                      June 30                 3.03125          1.015625
                      September 30            1.21875           0.34375

         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.

         During fiscal 1997, in previously-reported transactions, the Company
issued pursuant to Section 4(2) of the Securities Act and Regulation D
promulgated thereunder, 500,000 Units of its securities for $1,125,000, the
Units consisting of shares of Series B Preferred Stock convertible into
1,500,000 of common stock and warrants representing the right to acquire
1,500,000 shares of common stock; and issued 157,192 of common stock upon
conversion of Series A Preferred Stock issued during fiscal 1996. In addition,
an aggregate of 80,428 shares were issued pursuant to such exemptions upon
exercise of warrants, including 51,428 shares issued for $107,501 in July 1996
and March 1997 upon exercise of warrants granted in fiscal 1996 and 29,000
shares issued for $92,300 in August, September and October 1996 upon exercise of
warrants granted in fiscal 1997.

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

GENERAL

         In recent years, the markets in which the Company participates have
experienced significant changes and a period of uncertainty due to proposed
changes in health-care administration in the United States and efforts by
health-care organizations to reduce their operating costs and the cost of
health-care in general. As a result, the Company has focused its products in the
hospital marketplace in anticipation of lower sales directly to physicians. The
Company believes that the major changes which have been introduced to the
health-care industry will place greater emphasis on lower-cost

<PAGE>


products. While medical standards for safety and effectiveness are expected to
remain strong, costs are expected to be a deciding factor on health-care
purchases.

         HealthWatch has incurred losses from operations in each of its last
three fiscal years. The Company is seeking to sell its Cambridge service and
supply business and expects to discontinue offering the Cambridge line of
products. During the quarter ended March 31, 1997, the Company reported the
first sales of the PACER, its new IV product. During October 1997, the Company
initiated efforts to expand its product and service offerings to include the
monitoring, capturing and management of medical information.

RESULTS OF OPERATIONS

         1997 COMPARED TO 1996. The following table compares the results of
operations for fiscal 1997 and fiscal 1996 to present a comparative basis for
the analysis of the differences in operating results for those periods.

<TABLE>
<CAPTION>
                                          -------------------------------               1997 vs 1996
                                               1997                1996              Increase (Decrease)
                                          -------------------------------         ------------------------
<S>                                      <C>                   <C>               <C>               <C> 
Product sales                             $ 2,089,325           2,041,464           47,861            2.3%
Product cost of sales                       1,839,475           1,603,454          236,021           14.7
                                          -----------          ----------
  Gross profit                                249,850             438,010         (188,160)         (43.0)

Selling, general & administrative           1,657,018           1,685,445          (28,427)          (1.7)
Research & development                        423,762             345,240           78,522           22.7
Depreciation & amortization                   286,831             325,872          (39,041)         (12.0)
                                          -----------          ----------
  Total operating costs & expenses          2,367,611           2,356,557           11,054            0.5
                                          -----------          ----------
  Loss from continuing operations          (2,117,761)         (1,918,547)         199,214           10.4
Other income (expenses):
  Interest income                                   0               8,030           (8,030)        (100.0)
  Interest expense                            (64,081)            (66,196)          (2,115)          (3.2)
  Miscellaneous                                (7,418)                  0            7,418         100.00
                                          -----------          ----------
     Total other income (expenses)            (71,499)            (58,166)          13,333           22.9
  Extraordinary item                                0               7,974           (7,974)        (100.0)
                                          -----------          ----------
  Net (loss)                              ($2,189,260)        ($1,968,739)         220,521           11.2
                                          ===========          ==========
</TABLE>

         Revenues for the 1997 period increased 2.3% compared to the similar
period in 1996. The increased revenues were primarily due to sales of the
Company's first IV product, the PACER. The Company believes that sales of its
Life Sciences and Cambridge products continue to be depressed as a result of the
Company's lack of adequate working capital which has adversely affected its
level of sales as the Company has not been able to support both the development
of its new IV product and selling efforts and enhancements to its existing
products. In addition, the Company believes that uncertainty in the medical
community regarding the reimbursement effects of health-care reforms;
consolidations of hospital and other health-care institutions resulting in fewer
customers for the Company's diagnostic products and delays in making purchase
commitments by institutions engaged in merger or consolidation discussions; and
competitive pressure on product prices also contribute to depressed sales.

         Cost of products sold were 14.7% higher in 1997 due primarily to
increased equipment sales and an increase in inventory allowance. Gross margins
were 12% for 1997 compared to 21.5% for 1996. The lower gross margins in 1997
were due primarily to increased cost of parts and materials and increased salary
expenses.

         Selling, general and administrative expenses as a percent of sales were
79.3% for the 1997 period compared to 82.6% for 1996. The decrease in the 1997
period was due primarily to reduced selling expenses and higher sales revenue.
Research and development expenses increased 22.7% in 1997. This increase was due
primarily to research relating to expanding the Company's IV product line and
the expense of tooling which had previously been capitalized.

<PAGE>


         Interest expense decreased 3.2% in 1997. Miscellaneous expense
increased in 1997 due to the retirement or disposal of certain fixed assets. The
decrease in net loss per share in 1997 is due to the increase in the number of
outstanding shares.

         1996 COMPARED TO 1995. The following table compares the results of
operations for fiscal 1996 fiscal 1995 to present a comparative basis for the
analysis of the differences in operating results for those periods.

<TABLE>
<CAPTION>
                                            -------------------------------                 1996 vs 1995
                                                1996                1995                 Increase (Decrease)
                                            -------------------------------         ---------------------------
<S>                                        <C>                 <C>                 <C>                 <C>    
Product sales ......................        $ 2,041,464         $ 3,516,252         ($1,474,788)        (41.9%)
Product cost of sales ..............          1,603,454           2,399,543            (796,089)        (33.2)
                                            -----------         -----------
  Gross profit .....................            438,010           1,116,709            (678,699)        (60.8)

Selling, general & administrative ..          1,685,445           2,105,148            (419,703)        (19.9)
Research & development .............            345,240             499,099            (153,859)        (30.8)
Depreciation & amortization ........            325,872             355,701             (29,829)         (8.4)
                                            -----------         -----------
  Total operating costs & expenses .          2,356,557           2,959,948            (603,391)        (20.4)
                                            -----------         -----------
  Loss from continuing operations ..         (1,918,547)         (1,843,239)            (75,308)         (4.1)
Other income (expenses):

  Interest income ..................              8,030               4,546               3,484          76.6
  Interest expense .................            (66,196)            (76,943)            (10,747)        (14.0)
  Miscellaneous ....................                  0              85,182              85,182           100
                                            -----------         -----------
    Total other income (expenses) ..            (58,166)             12,785             (70,951)        (555.0)
                                            -----------         -----------
  Extraordinary Item ...............              7,974              61,603             (53,629)        (87.1)
                                            -----------         -----------
 Net Loss ..........................        ($1,968,739)        ($1,768,851)        $   199,888          11.3%
                                            ===========         ===========
</TABLE>

         Revenues declined 41.9% during 1996, compared to 1995, due primarily to
a decline in product sales. The Company believes that product sales continue to
be depressed as a result of the Company's lack of adequate working capital which
has adversely affected its level of sales as the Company has not been able to
support both the development of its new IV product and selling efforts and
enhancements to its existing products. In addition, the Company believes that
uncertainty in the medical community regarding the reimbursement effects of
health-care reforms; consolidations of hospital and other health-care
institutions resulting in fewer customers for the Company's diagnostic products
and delays in making purchase commitments by institutions engaged in merger or
consolidation discussions; and competitive pressure on product prices also
contribute to depressed sales.

         Cost of products sold were 33.2% lower in 1996, compared to 1995, due
primarily to lower sales and to reduced operating costs. Gross margin was 21.5%
in 1996, compared to 31.8% for 1995. The lower gross margin in 1996 was due
primarily to the decreased sales revenues during the period.

         Selling, general and administrative expenses as a percent of sales were
82.6% in 1996, compared to 59.9% in the prior year. This increase was due
primarily to the lower sales level and to planned expenditures associated with
the introduction of the new IV product and increased promotional expenses.

         Research and development expenses decreased 30.8% in 1996, compared to
1995, as development efforts on the Company's IV controller have declined as the
Company's efforts with the new IV product shift to production of the initial
units.

         Interest expenses decreased 14% in 1996, compared to 1995, due to a
lower level of borrowing. Miscellaneous income decreased 100% in 1996, compared
to 1995, due primarily to the sale in 1995 of the Telemed interpretive software.

<PAGE>


LIQUIDITY AND CAPITAL RESOURCES

         At June 30, 1997, the Company had $334,451 of cash and accounts
receivable. Due to the Company's operating losses, it has been required to raise
additional debt and equity capital to fund its operations. Capital expenditures
during this period have been limited to routine capital purchases. During fiscal
1997, the Company raised $1,468,787 of additional working capital, primarily
through the issuance of 500,000 Units of its securities, each Unit consisting of
one share of Preferred Stock and three warrants. The Preferred Stock has been
converted into an aggregate of 1,500,000 shares of common stock. Since the
beginning of fiscal 1998, the Company has raised and obtained commitments for an
additional $620,433 through the sale or agreement to sell of 1,985,334 shares of
its common stock, including shares issuable upon conversion of securities
convertible into common stock. In addition, the Company is acquiring 1,100,000
shares of the common stock of HALIS, Inc. with a market value of approximately
$2,000,000 in exchange for 4,400,000 shares of the Company's common stock. This
investment was made in connection with the Company's decision to expand its
product and service offerings to focus on the monitoring, capturing and
management of medical information and the development of a joint venture and
co-marketing arrangement with HALIS. While the HALIS common stock was acquired
for investment purposes, the shares are marketable and could be sold if required
to provide working capital to the Company.

         Since the beginning of the fourth quarter of fiscal 1997, the Company
has reduced its number of employees by approximately 19, in order to reduce
operating expenses. The Company's 10% Convertible Secured Debentures in the
principal amount of $580,000 were due and payable on September 1, 1997. As of
October 13, 1997, the Company had obtained extensions of the due date for the
payment of such Debentures to March 1, 1998, from debenture holders who held in
the aggregate $530,000 principal amount of the Debentures. The Company believes
it should raise approximately $1,100,000 of working capital in addition to that
already raised and committed in fiscal 1998 to sustain operations during the
next twelve months and to pay the Debentures when due. While not required to
sustain operations, the Company believes it should raise an additional $600,000
- $1,000,000 of such capital to better fund product development, potential
business acquisitions, sales and marketing expenses and for general working
capital purposes during the next twelve months.

         In the event that the Company is unable to raise additional capital, it
may be required to sell shares of the HALIS common stock. The HALIS common stock
is traded in the over-the-counter market on the NASDAQ Bulletin Board. While the
1,100,000 shares of HALIS common stock owned by the Company represents less than
3% of the total outstanding shares of HALIS' common stock, the Company's ability
to sell its HALIS shares could be adversely affected by the limited trading
volume for HALIS' stock and the requirement that the Company sell its HALIS
shares in accordance with Rule 144 promulgated by the Commission which could
limit the number of HALIS shares which could be sold in any three-month period
to approximately 400,000 shares. There can be no assurance as to the price the
Company could receive for the HALIS common stock if it were required to sell the
stock to raise additional working capital.

ITEM 7.  FINANCIAL STATEMENTS.

         The Financial Statements are attached at the end of this report.

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

         Not applicable.

<PAGE>


                                    PART III

ITEM 9.  DIRECTORS AND EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
         COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT.

         Incorporated herein by reference to the Company's Proxy Statement for
the 1997 Annual Meeting of Stockholders.

ITEM 10. EXECUTIVE COMPENSATION.

         Incorporated herein by reference to the Company's Proxy Statement for
the 1997 Annual Meeting of Stockholders.

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

         Incorporated herein by reference to the Company's Proxy Statement for
the 1997 Annual Meeting of Stockholders.

ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

         Incorporated herein by reference to the Company's Proxy Statement for
the 1997 Annual Meeting of Stockholders.

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

(a)      Listing of Exhibits:

            3.1   Articles of Incorporation, as amended, of the Company (1).
            3.2   Bylaws, as amended, of the Company (2).
            4.1   Specimen form of the Company's Common Stock certificate (2).
            4.2   HealthWatch, Inc. Stock Option Plan of 1989 (3).
            4.3   Form of Incentive Stock Option Agreement (3).
            4.4   Form of Nonstatutory Stock Option Agreement (3).
            4.5   HealthWatch, Inc. Stock Option Plan of 1993 (4).
            4.6   HealthWatch, Inc. Stock Option Plan of 1995 (5).
            4.7   HealthWatch, Inc. 1995 Stock Grant and Salary Deferral Plan
                  (5).
            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) (6).
            4.9   Exchange Agreement for Preferred Stock and Stock Purchase
                  Warrant (7).
            4.10  Form of Subscription and Purchase Agreement, including form of
                  Warrant (8)
            4.11  Form of Preferred Stock Subscription and Purchase Agreement
                  dated November 13, 1996, including exhibits thereto (9).
            4.12  Subscription and Purchase Agreement between HealthWatch, Inc.
                  and HALIS, Inc. -- filed herewith.
            10.1  Lease Agreement dated November 19, 1993, between Steven P.
                  Cade and Wyeth W. Cade and the Company (6).
            10.2  License Agreement dated February 27, 1992, as amended
                  September 13, 1993, between Howard R. Everhart and Metamed,
                  Inc. (6).
            10.3  Second Amendment to License Agreement dated May 9, 1995
                  between Howard R. Everhart and HealthWatch Technologies, Inc.
                  (7).

<PAGE>


            11    Computation of Earnings Per Share - filed herewith.
            21    Subsidiaries of the Company (6).
            23.1  Consent of Silverman Olson Thorvilson & Kaufmann, Ltd. --
                  filed herewith.
            27.1  Financial Data Schedule - filed herewith.

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

(1)   Incorporated herein by reference to Registration Statement, Form 10-K for
      the year ended June 30, 1990 (File No. 0-11476).

(2)   Incorporated herein by reference to Registration Statement, Form S-18
      (File No. 2-85688D).

(3)   Incorporated herein by reference to Registration Statement, Form S-2 (File
      No. 33-42831).

(4)   Incorporated herein by reference to Registration Statement, Form 10-KSB,
      for the year ended June 30, 1994 (File No. 0-11476).

(5)   Incorporated herein by reference to the Company's Annual Report (Form
      10-KSB) for the year ended June 30, 1996.

(6)   Incorporated herein by reference to Registration Statement, Form SB-2
      (File No. 33-73462).

(7)   Incorporated herein by reference to Registration Statement, Form SB-2
      (File No. 33-88126).

(8)   Incorporated herein by reference to Registration Statement, Form SB-2
      (File No. 333-09107).

(9)   Incorporated herein by reference to Registration Statement, Form SB-2
      (File No. 333-09107).

(b)   During the quarter ended June 30, 1997, Registrant did not file a report
      on Form 8-K.

<PAGE>


                                   SIGNATURES

         In accordance with Section 13 or 15(d) of the Securities Exchange Act
of 1934, the registrant has caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.

                                    HEALTHWATCH, INC.

Date: October 11, 1997              By /s/  Daniel J. Kelly
                                       -----------------------------------------
                                       Daniel J. Kelly, (President and Chief
                                       Executive Officer)


         In accordance with the Securities Exchange Act of 1934, this report has
been signed below by the following persons on behalf of the registrant and in
the capacities and on the dates indicated.


/s/  Daniel J. Kelly                                  October 11, 1997
---------------------------------------------
Daniel J. Kelly, (President, Chief
Executive Officer) (Principal Executive
Officer)


/s/  Annette D. Agner                                 October 11, 1997
---------------------------------------------
Annette D. Agner
Controller (Principal Financial and
Accounting Officer)


/s/  Lindley S. Branson                               October 11, 1997
---------------------------------------------
Lindley S. Branson
(Director)\


/s/  Richard T. Case                                  October 11, 1997
---------------------------------------------
Richard T. Case
(Director)


/s/  Paul W. Harrison                                 October 11, 1997
---------------------------------------------
Paul W. Harrison
(Director)


/s/  Sanford L. Schwartz                              October 11, 1997
---------------------------------------------
Sanford L. Schwartz
(Director)

<PAGE>


                                HEALTHWATCH, INC.

                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996






Independent Auditors' Report                                              F-2

Consolidated Balance Sheet                                                F-3

Consolidated Statement of Operations                                      F-4

Consolidated Statement of Shareholders' Equity                            F-5

Consolidated Statement of Cash Flows                                F-6 - F-7


Notes to Consolidated Financial Statements                         F-8 - F-22


                                      F-1

<PAGE>


                          INDEPENDENT AUDITORS' REPORT



Board of Directors and Shareholders
HealthWatch, Inc.
Vista, California

We have audited the accompanying consolidated balance sheet of HealthWatch, Inc.
and its subsidiaries, as of June 30, 1997 and 1996, and the related consolidated
statements of operations, shareholders' equity and cash flows for the years then
ended. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated 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 HealthWatch, Inc.
and its subsidiaries as of June 30, 1997 and 1996, and the results of their
operations and their cash flows for the years then ended in conformity with
generally accepted accounting principles.




SILVERMAN OLSON THORVILSON & KAUFMANN LTD
CERTIFIED PUBLIC ACCOUNTANTS
Minneapolis, Minnesota

August 22, 1997, except Note 8 which is dated September 30, 1997 and
 Notes 7 and 16 which are dated October 13, 1997


                                      F-2

<PAGE>


                                HEALTHWATCH, INC.

                           CONSOLIDATED BALANCE SHEET

                             JUNE 30, 1997 AND 1996

<TABLE>
<CAPTION>
            ASSETS                                               1997             1996
                                                             ------------     ------------
<S>                                                         <C>              <C>         
Current assets:
    Cash                                                     $     44,634     $     79,083
    Accounts receivable, net of allowance for doubtful
         accounts of $21,125 and $11,567, respectively            289,817          229,543
    Inventory (Note 3)                                            676,467          818,935
    Subscription receivable (Note 4)                                 --            104,568
    Other current assets                                           46,827           27,134
                                                             ------------     ------------
               Total current assets                             1,057,745        1,259,263

Property and equipment, net (Note 5)                               64,329           72,086
Intangible assets, net (Note 6)                                   922,392        1,169,232
Other assets                                                       44,283          117,971
                                                             ------------     ------------
               Total assets                                  $  2,088,749     $  2,618,552
                                                             ============     ============

            LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
    Accounts payable                                         $    266,932     $    215,804
    Accrued compensation and payroll taxes                        229,685          235,241
    Other accrued liabilities - related parties                    44,318           34,154
    Other accrued liabilities - unrelated parties                 275,248          298,304
    Deferred revenue                                               65,255          171,202
    Current portion of debentures payable -
         related parties (Note 7)                                  30,000             --
    Current portion of debentures payable -
         unrelated parties (Note 7)                               550,000             --
                                                             ------------     ------------
               Total current liabilities                        1,461,438          954,705

Debentures payable - related parties (Note 7)                        --             30,000
Debentures payable - unrelated parties (Note 7)                      --            550,000
                                                             ------------     ------------
               Total liabilities                                1,461,438        1,534,705
                                                             ------------     ------------

Contingencies and commitments (Note 8)                               --               --

Shareholders' equity:
    Cumulative preferred stock, $.07 par value; 1,428,571
         shares authorized, 0 and 200,000 shares issued
         and outstanding, respectively (Notes 9 and 15)              --             14,000
    Common stock, $.07 par value; 14,285,715
         shares authorized, 3,510,089 and 1,624,581
         issued and outstanding, respectively (Note 15)           245,706          113,720
    Additional paid-in capital                                 14,584,414       12,958,348
    Accumulated deficit                                       (14,152,922)     (11,963,662)
    Equity adjustment from foreign currency translation           (49,887)         (38,559)
                                                             ------------     ------------

               Total shareholders' equity                         627,311        1,083,847
                                                             ------------     ------------

               Total liabilities and shareholders' equity    $  2,088,749     $  2,618,552
                                                             ============     ============
</TABLE>

                   The accompanying notes are an intregal part
                    of the consolidated financial statements.


                                      F-3

<PAGE>


                                HEALTHWATCH, INC.

                      CONSOLIDATED STATEMENT OF OPERATIONS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996

<TABLE>
<CAPTION>
                                                                   1997            1996
                                                               -----------     -----------
<S>                                                           <C>             <C>        
Product sales                                                  $ 2,089,325     $ 2,041,464
Product cost of sales                                            1,839,475       1,603,454
                                                               -----------     -----------

         Gross profit                                              249,850         438,010

Operating costs and expenses:
    Selling, general and administrative - related parties          108,303         173,413
    Selling, general and administrative - unrelated parties      1,548,715       1,512,032
    Depreciation and amortization                                  286,831         325,872
    Research and development                                       423,762         345,240
                                                               -----------     -----------

         Total operating costs and expenses                      2,367,611       2,356,557
                                                               -----------     -----------

               Loss from continuing operations                  (2,117,761)     (1,918,547)

Other income (expense):
    Interest income                                                   --             8,030
    Interest expense - unrelated parties                           (58,856)        (64,621)
    Interest expense - related parties                              (5,225)         (1,575)
    Loss on disposal of equipment                                   (7,418)           --
                                                               -----------     -----------

               Total other income (expense)                        (71,499)        (58,166)
                                                               -----------     -----------

               Loss from continuing operations before
                 extraordinary item                             (2,189,260)     (1,976,713)

Extraordinary item - gain from
  extinguishment of debt (Note 13)                                    --             7,974
                                                               -----------     -----------

               Net loss                                        $(2,189,260)    $(1,968,739)
                                                               ===========     ===========

Income (loss) per share of common stock:
         Continuing operations                                 $      (.90)    $     (1.68)

         Extraordinary item                                           --               .01
                                                               -----------     -----------

Net loss per share                                             $      (.90)    $     (1.67)
                                                               -----------     ===========

Weighted average number of shares outstanding                    2,440,570       1,175,434
                                                               ===========     ===========
</TABLE>

                   The accompanying notes are an intregal part
                    of the consolidated financial statements.


                                      F-4

<PAGE>

                                HEALTHWATCH, INC.

                 CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996
<TABLE>
<CAPTION>
                                                       PREFERRED STOCK (NOTE 9)      COMMON STOCK (NOTE 10)        ADDITIONAL    
                                                       ------------------------     ------------------------        PAID-IN      
                                                        SHARES         AMOUNT         SHARES        AMOUNT          CAPITAL      
                                                       --------     -----------     ----------     ---------     ------------    
<S>                                                   <C>          <C>               <C>          <C>           <C>             
Balance at June 30, 1995                                   --       $      --          720,060     $  50,404     $ 11,442,003    

Common stock issued in public offering (Note 10)           --              --          218,372        15,286          226,532    
Common stock bonuses                                       --              --            8,844           619           32,786    
Common stock issued for accrued stock bonuses              --              --           47,856         3,350          106,450    
Series A preferred stock issued for conversion of
   common stock (Note 9)                                400,000          28,000        (57,143)       (4,000)         (24,000)   
Common stock issued for conversion of series A of
   Preferred stock (Note 9)                            (200,000)        (14,000)       171,428        12,000            2,000    
Common stock issued for services                           --              --           55,127         3,859          178,267    
Common stock issued in settlement of liabilities           --              --           93,648         6,555          301,540    
Common stock warrants exercised                            --              --          303,532        21,247          587,170    
Common stock issued for conversion of notes
   payable                                                 --              --           62,857         4,400          105,600    
Contractual dividend (Note 9)                              --              --             --            --               --      
Equity adjustment from foreign currency translation        --              --             --            --               --      
Net loss                                                   --              --             --            --               --      
                                                       --------     -----------     ----------     ---------     ------------    
Balance at June 30, 1996                                200,000          14,000      1,624,581       113,720       12,958,348    

Series B preferred stock issued in private offering
   (Note 10)                                            500,000       1,109,496           --            --               --      
Common stock issued for conversion of series B
   preferred stock (Note 9)                            (500,000)     (1,109,496)     1,500,000       105,000        1,004,496    
Common stock issued for conversion of series A
   preferred stock (Note 9)                            (200,000)        (14,000)       157,192        11,003            2,997    
Common stock issued for services                           --              --           83,850         5,870          273,299    
Common stock options exercised                             --              --           58,238         4,077          118,223    
Common stock warrants exercised                            --              --           80,428         5,630          215,857    
Common stock bonuses                                       --              --            5,800           406           11,194    

Equity adjustment from foreign currency translation        --              --             --            --               --      

Net loss                                                   --              --             --            --               --      

                                                       --------     -----------     ----------     ---------     ------------    
Balance at June 30, 1997                                   --       $      --        3,510,089     $ 245,706     $ 14,584,414    
                                                       ========     ===========     ==========     =========     ============    
</TABLE>
                       [WIDE TABLE CONTINUED FROM ABOVE]
<TABLE>
<CAPTION>
                                                                                         TOTAL     
                                                        ACCUMULATED      EQUITY      SHAREHOLDERS' 
                                                          DEFICIT      ADJUSTMENT       EQUITY     
                                                       ------------     --------     -----------   

<S>                                                   <C>              <C>          <C>           
Balance at June 30, 1995                               $ (9,942,423)    $(36,949)    $ 1,513,035   
                                                                                                   
Common stock issued in public offering (Note 10)               --           --           241,818   
Common stock bonuses                                           --           --            33,405   
Common stock issued for accrued stock bonuses                  --           --           109,800   
Series A preferred stock issued for conversion of                                                  
   common stock (Note 9)                                       --           --              --     
Common stock issued for conversion of series A of                                                  
   Preferred stock (Note 9)                                    --           --              --     
Common stock issued for services                               --           --           182,126   
Common stock issued in settlement of liabilities               --           --           308,095   
Common stock warrants exercised                                --           --           608,417   
Common stock issued for conversion of notes                                                        
   payable                                                     --           --           110,000   
Contractual dividend (Note 9)                               (52,500)        --           (52,500)  
Equity adjustment from foreign currency translation            --         (1,610)         (1,610)  
Net loss                                                 (1,968,739)        --        (1,968,739)  
                                                       ------------     --------     -----------   
Balance at June 30, 1996                                (11,963,662)     (38,559)      1,083,847   
                                                                                                   
Series B preferred stock issued in private offering                                                 
   (Note 10)                                                   --           --         1,109,496   
Common stock issued for conversion of series B                                                     
   preferred stock (Note 9)                                    --           --              --     
Common stock issued for conversion of series A                                                     
   preferred stock (Note 9)                                    --           --              --     
Common stock issued for services                               --           --           279,169   
Common stock options exercised                                 --           --           122,300   
Common stock warrants exercised                                --           --           221,487   
Common stock bonuses                                           --           --            11,600   
                                                                                                   
Equity adjustment from foreign currency translation            --        (11,328)        (11,328)  
                                                                                                   
Net loss                                                 (2,189,260)        --        (2,189,260)  
                                                       ------------     --------     -----------   
Balance at June 30, 1997                               $(14,152,922)    $(49,887)    $   627,311   
                                                       ============     ========     ===========   
</TABLE>
                   The accompanying notes are an intregal part
                      of the combined financial statements.

                                      F-5
<PAGE>


                                HEALTHWATCH, INC.

                      CONSOLIDATED STATEMENT OF CASH FLOWS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996

<TABLE>
<CAPTION>
                                                                  1997            1996
                                                              -----------     -----------
<S>                                                          <C>             <C>         
CASH FLOWS FROM OPERATING ACTIVITIES:
    Net loss                                                  $(2,189,260)    $(1,968,739)
    Adjustments to reconcile net loss to net cash
       used in operating activities:
         Depreciation and amortization                            286,831         325,872
         Common stock issued for payment of expenses              290,769         215,531
         Extraordinary gain on extinguishment of debt                --            (7,974)
         Loss on disposal of equipment                              7,576            --
       (Increase) decrease in assets:
         Accounts receivable                                      (60,274)         56,413
         Inventory                                                142,468         108,266
         Other current assets                                     (19,693)         77,453
         Other assets                                              73,688          20,582
       Increase (decrease) in liabilities:
         Accounts payable                                          51,128          12,560
         Accrued liabilities - related parties                     10,164          36,842
         Accrued liabilities - unrelated parties                  (28,612)          2,840
         Deferred revenue                                        (105,947)         (6,304)
                                                              -----------     -----------

               Net cash used in operating activities          $(1,541,162)     (1,126,658)
                                                              -----------     -----------

CASH FLOWS FROM INVESTING ACTIVITIES:
    Purchase of property and equipment                            (40,910)        (12,349)
    Proceeds from sale of equipment                                 1,100            --
                                                              -----------     -----------

               Net cash used in investing activities              (39,810)        (12,349)
                                                              -----------     -----------

CASH FLOWS FROM FINANCING ACTIVITIES:
    Net proceeds from issuance of series B preferred stock      1,109,496            --
    Net proceeds from exercise of
         common stock options and warrants                        343,787         745,667
    Proceeds from subscriptions receivable                        104,568            --
    Repayment of note payable - related party                        --           (15,000)
    Repayment of note payable - unrelated party                      --          (160,000)
    Repayment of long-term debt                                      --            (3,948)
    Dividends to preferred stockholders                              --           (90,000)
                                                              -----------     -----------

               Net cash provided by financing activities        1,557,851         476,719
                                                              -----------     -----------

Effect of exchange rate changes on cash                           (11,328)         (1,610)
                                                              -----------     -----------

Decrease in cash                                                  (34,449)       (663,898)

Cash - beginning of year                                           79,083         742,981
                                                              -----------     -----------

Cash - end of year                                            $    44,634     $    79,083
                                                              ===========     ===========
</TABLE>

                   The accompanying notes are an intregal part
                    of the consolidated financial statements.


                                      F-6

<PAGE>


                                HEALTHWATCH, INC.

                      CONSOLIDATED STATEMENT OF CASH FLOWS
                                   (CONTINUED)

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:

                                                        1997           1996
                                                    ----------     ----------

     Cash paid during the year for interest         $   51,649     $   64,986
                                                    ==========     ==========

SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
During the year ended June 30, 1997:
     Shareholders converted 500,000 shares of series B preferred stock valued at
     $1,109,496 to 1,500,000 shares of common stock (Note 9).

     Shareholders converted 200,000 shares of series A preferred stock valued at
     $300,000 to 157,192 shares of common stock (Note 9).

     The Company issued 83,850 shares of common stock valued at $279,169 in
     exchange for services.

     The Company issued 5,800 shares of common stock valued at $11,600 for
     employee bonuses.

During the year ended June 30, 1996:
     The Company had $7,974 of accounts payable forgiven (Note 13), resulting in
     an extraordinary gain.

     Notes payable holders converted $110,000 of notes to 62,857 shares of
     common stock valued at $110,000.

     Shareholders converted 57,143 shares of common stock valued at $600,000 to
     400,000 shares of preferred stock (Note 9).

     Shareholders converted 200,000 shares of preferred stock valued at $300,000
     to 171,428 shares of common stock (Note 9).

     The Company paid $270,250 of accounts payable and $37,845 of accrued
     liabilities - related parties by issuing 93,648 shares of common stock.

     The Company issued 55,127 shares of common stock valued at $182,126 in
     exchange for services.

     The Company issued 40,713 shares of common stock valued at $97,400 as
     payment of accrued related party stock grants and 7,143 shares of common
     stock valued at $12,400 as payment of accrued unrelated party stock grants.

     The Company issued 8,844 shares of common stock valued at $33,405 as
     payment of employee bonuses.

     In June 1996, warrants to purchase 46,461 shares of common stock were
     exercised and the corresponding shares were issued in exchange for a
     receivable aggregating $104,568 (Note 4).

                   The accompanying notes are an intregal part
                   of the consolidated financial statements.


                                      F-7

<PAGE>


                                HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 1:   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

          Nature of Organization:

            HealthWatch, Inc. (HealthWatch or the Company) has developed a
            proprietary device used to monitor and control intravenous ("IV")
            drug infusion. The Company began selling this device during fiscal
            year 1997 to hospitals and medical clinics throughout the United
            States. In addition, the Company manufactures and distributes
            noninvasive vascular diagnostic medical instruments to hospitals and
            medical clinics worldwide with the majority of sales occurring in
            the United States and Great Britain. The Company grants credit to
            its customers in the normal course of business.

          Principles of Consolidation:

            The consolidated financial statements include the accounts of
            HealthWatch and HealthWatch Technologies, Inc., a wholly-owned
            subsidiary of the Company, and its wholly-owned subsidiaries Life
            Sciences, Inc. and Cambridge Medical Equipments Limited. All
            significant intercompany accounts and transactions have been
            eliminated.

          Inventory:

            Inventory is recorded at the lower of cost (determined on a
            first-in, first-out basis) or market.

          Property and Equipment:

            Property and equipment is stated at cost. Depreciation is computed
            using straight-line methods and is expensed based upon the estimated
            useful lives of the assets.

            Expenditures for additions and improvements are capitalized, while
            repairs and maintenance are expensed as incurred.

          New Pronouncements:

            Effective July 1, 1996, the Company adopted SFAS No. 121,
            "Accounting for the Impairment of Long-lived Assets and for
            Long-lived Assets to be Disposed of". The new standard establishes
            new guidelines regarding when impairment losses on long-lived
            assets, which include property and equipment, certain identifiable
            intangible assets and goodwill, should be recognized and how
            impairment losses should be measured. The adoption of this standard
            did not have an impact on the Company's financial position or
            results of operations.

            Effective July 1, 1996, the Company adopted the disclosure
            requirements of SFAS No. 123, "Accounting for Stock-Based
            Compensation". SFAS No. 123 establishes a new, fair value-based
            method of measuring stock-based compensation, but does not require
            an entity to adopt the new method for preparing its basic financial
            statements. For entities not adopting the new method for preparing
            basic financial statements, SFAS No. 123 requires disclosures in the
            footnotes of pro forma net earnings and earnings per share
            information as if the fair value-based method had been adopted.


                                      F-8

<PAGE>


                                HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 1:   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

          Deferred Revenue:

            Deferred revenue represents amounts received on service contracts
            but not yet earned. Revenue is recognized on a straight-line basis
            over the life of the contract.

          Equity Adjustment From Foreign Currency Translation:

            The equity adjustment from foreign currency translation arises upon
            translating Cambridge Medical Equipment Limited's activity from
            British pounds to U.S. dollars.

          Revenue Recognition:

            The Company recognizes revenue from product sales at the time
            ownership transfers to the customer, principally, at shipment.

          Income Taxes:

            Income taxes are provided for the tax effects of transactions
            reported in the financial statements and consist of taxes currently
            due plus deferred taxes, if any. Deferred taxes represent the net
            tax effects of temporary differences between the carrying amounts of
            assets and liabilities for financial reporting purposes and the
            amounts used for income tax purposes.

          Income (Loss) Per Share of Common Stock:

            Income (loss) per share is calculated based on the weighted average
            number of shares actually outstanding as the effect of including the
            common stock equivalents would be anti-dilutive.

          Concentrations of Credit:

            Financial instruments that potentially subject the Company to
            concentrations of credit risk consist principally of trade accounts
            receivable. Accounts receivable arise from the sale of medical
            products to hospitals and medical clinics worldwide. The Company
            performs ongoing credit evaluations of its customers' financial
            condition, and generally requires no collateral from its customers.
            The Company's credit losses are subject to general economic
            conditions of the medical industry.

          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.


                                      F-9

<PAGE>


                                HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 1:   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

          Reclassifications:

            Certain reclassifications have been made in the 1996 financial
            statements in order to conform with 1997 financial statement
            presentation. These reclassifications have no effect on accumulated
            deficit or net loss, as originally reported.

NOTE 2:   MANAGEMENT'S OPERATING PLANS

            As a result of recurring losses and negative cash flow from
            operations, management has reviewed the Company's ability to
            continue in existence.

            Management's plans in this regard, include a continued emphasis on
            introducing and selling the Company's new proprietary IV infusion
            device. In addition, management is investing in the redesign and
            various functional improvements of its noninvasive vascular
            diagnostic medical instruments and plans to increase the marketing
            efforts for this product line once such improvements have been
            completed. In addition, management has continued efforts to trim
            general and administrative expenses, and sell or discontinue any
            non-performing operating lines.

            Additionally, the Company is completing a series of transactions
            with HALIS, Inc. ("HALIS") and certain shareholders of HALIS (Note
            16). As part of these transactions and related discussions, HALIS
            and the Company have agreed to enter into a joint venture and
            co-marketing arrangement, whereby HealthWatch and HALIS will share
            sales prospects, and HealthWatch will develop technology and an
            integration database designed to monitor, capture, and manage
            medical information at the point of care. In addition to the joint
            venture and co-marketing arrangement, it's planned that the Company
            is to obtain a license from an affiliate of HALIS to certain
            healthcare and medical practice computer programs and software, and
            will be retaining this affiliate to develop certain proprietary
            software technology, which is intended to expand HealthWatch's
            medical industry product offerings. Management believes the
            relationship with HALIS and its affiliates will contribute greatly
            toward future operations of the Company, although no assurance
            regarding the success of these arrangements can be provided at this
            time.

            Furthermore, the Company has recently completed a series of
            financing transactions, including certain investment agreements and
            stock exchange agreements with HALIS, other affiliates of HALIS and
            private investors (Note 16). Management believes that the working
            capital provided from such transactions will be adequate to allow
            the Company to fund its planned activities through fiscal 1998.


                                      F-10

<PAGE>


                                HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 3:   INVENTORY

          Inventory consisted of the following at June 30:

                                                     1997         1996
                                                  ----------   ----------

              Raw materials                       $  508,147   $  728,852
              Work in process                         83,551        1,894
              Finished goods                          84,769        8,189
                                                  ----------   ----------

                    Total inventory               $  676,467   $  818,935
                                                  ==========   ==========

NOTE 4:   SUBSCRIPTION RECEIVABLE

          In June 1996, warrants to purchase 46,461 shares of common stock were
          exercised and the corresponding shares issued in exchange for a
          $104,568 receivable. The receivable was paid to the Company in July
          1996.

NOTE 5:   PROPERTY AND EQUIPMENT

          Property and equipment consisted of the following at June 30:

<TABLE>
<CAPTION>
                                                                                 Estimated
                                                                                Useful Life
                                                       1997           1996       In Years
                                                   -----------    -----------   -----------
<S>                                               <C>            <C>               <C>
              Furniture and equipment              $  633,979     $  859,120          5
              Leasehold improvements                   29,197         29,197        5-6
                                                   ----------     ----------
                Total property and equipment          663,176        888,317
              Less accumulated depreciation          (598,847)      (816,231)
                                                   ----------     ----------

                    Property and equipment, net    $   64,329     $   72,086
                                                   ==========     ==========
</TABLE>

          Depreciation expense was $39,991 and $79,032 for 1997 and 1996,
          respectively.

NOTE 6:   INTANGIBLE ASSETS

          Intangible assets arose in the acquisition of Life Sciences, Inc. and
          consisted of the following at June 30:

<TABLE>
<CAPTION>
                                                                                     Estimated
                                                                                    Useful Life
                                                         1997           1996         In Years
                                                    ------------    ------------    -----------
<S>                                                <C>             <C>                 <C>
              Technology                            $  1,594,838    $  1,594,838        10
              Drawings and documentation                 347,149         347,149        10
              Life Sciences name                         300,000         300,000        10
              Applications                               250,000         250,000        10
              Customer base                              225,000         225,000        10
                                                    ------------    ------------
                                                       2,716,987       2,716,987

              Less accumulated amortization           (1,794,595)     (1,547,755)
                                                    ------------    ------------

                  Intangible assets, net            $    922,392    $  1,169,232
                                                    ============    ============
</TABLE>

            Amortization expense was $246,840 and $246,840 for 1997 and 1996,
            respectively.


                                      F-11

<PAGE>


                                HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 7:   DEBENTURES PAYABLE

          Debentures payable accrue interest at an annual rate of 10%, payable
          quarterly. The debentures mature September 1997 and are secured by
          substantially all corporate assets. The debentures can be converted
          into common stock at any time prior to maturity at an initial
          conversion rate of one share of common stock for every $14.00 of
          debentures converted. During 1997 and 1996, no debentures were
          converted to common stock.

          Debentures payable to related parties consist of debentures issued to
          director/shareholders of HealthWatch.

          Subsequent to year end, the maturity date for debentures with an
          aggregate value of $530,000 were extended to March 1, 1998.

NOTE 8:   CONTINGENCIES AND COMMITMENTS

          Operating Leases:

            The Company leases its corporate offices and manufacturing
            facilities under non-cancelable operating leases.

            Future minimum lease payments are as follows for the years ended
            June 30:

                            1998        $  210,025
                            1999           193,025
                            2000             4,519
                            2001              -
                            2002              -
                                        ----------

                                        $  407,569
                                        ==========

            Rent expense for 1997 and 1996 was $160,800 and $204,000,
            respectively.

          Warranty Reserve:

            The Company sells the majority of its products with repair or
            replacement warranties. The Company has established an accrued
            warranty reserve of $9,179 and $7,529, at June 30, 1997 and 1996,
            respectively, for estimated future warranty claims. These amounts
            are included in other accrued liabilities - unrelated parties.

          Investment Banking Agreement:

            During June 1996, the Company entered into an investment banking
            service agreement expiring June 1997. Pursuant to the agreement, the
            Company would receive certain investment banking services including
            advice on investment and shareholder matters in exchange for 15,000
            shares of the Company's common stock. In addition, for any
            shareholder transactions introduced by the investment banker, the
            Company agreed to pay fees based on a sliding scale from 1% to 5% of
            the dollar value of the transaction. During 1997 and 1996, no fees
            for the introduction of shareholder transactions were incurred.


                                      F-12

<PAGE>


                                HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 8:   CONTINGENCIES AND COMMITMENTS (CONTINUED)

          401(k) Savings Plan:

            During 1997, the Company established a 401(k) savings plan covering
            all employees meeting certain age and length of service
            requirements. The Company may contribute annually a discretionary
            amount, as determined by the board of directors. Participants vest
            immediately in their contributions and over a five year period for
            any Company contributions. The Company did not make any matching
            contributions during the year ended June 30, 1997.

          Advisory Board:

            In May and July 1996, the Company entered into a thirteen-month
            agreement with four individuals ("the Advisory Board") to provide
            consultation and advice relating to the introduction of the
            Company's proprietary IV infusion device into the health-care
            market. Upon commencement of the agreement, the Company agreed to
            pay the Advisory Board a total of $5,000, issue 1,910 shares of
            common stock and non-statutory stock options to purchase an
            additional 14,440 shares of common stock at a per share price
            ranging from $3.00 to $3.625. In addition, the Company will pay the
            advisors a total of $2,000 and issue common stock totaling $52,500
            over the term of the agreement. During 1997, the Company incurred
            $62,688 of which $13,000 was unpaid and included in accrued expenses
            - unrelated parties on the accompanying balance sheet.

          Litigation:

            On September 30, 1997, the Company was served with a Complaint, by
            an individual who was an employee of the Company's then investment
            banking firm, in the amount of $275,000, alleging that the Company
            had failed to deliver securities to an individual, who had assigned
            her rights to the employer. At the time that the Company was to
            deliver the securities, it was informed by the investment banker
            that the rightful owner of the securities was an individual other
            than the claimant. Prior to the commencement of the litigation, the
            Company issued the securities and placed them in an escrow pending
            the resolution of the ownership. No adjustments have been made to
            the June 30, 1997 financial statements as management intends to
            vigorously defend the claim and as the amount of any potential loss,
            as well as its likelihood of occurrence is not determinable.


                                      F-13

<PAGE>


                                HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 9:   PREFERRED STOCK

          Convertible/Redeemable Series A Preferred Stock:

            In May 1995 as settlement of a dispute with certain common
            stockholders, the Company contractually committed to convert 57,143
            shares of the Company's common stock purchased for $600,000 into
            400,000 shares of the Company's series A $.07 par value, 10% -
            cumulative and convertible preferred stock. At June 30, 1997 and
            1996, accrued and unpaid dividends aggregating $0 and $7,500,
            respectively, are included in accrued liabilities - unrelated
            parties.

            In June 1996, 200,000 shares of series A preferred stock were
            converted to 171,428 shares of common stock and in July 1996, the
            remaining 200,000 shares of series A preferred stock were converted
            to 157,192 shares of common stock in accordance with the agreement's
            conversion option.

          Convertible Series B Preferred Stock:

            During 1997, the Company issued 500,000 shares of non-voting series
            B preferred stock with a par value of $2.25 (Note 10). The series B
            preferred shareholders have the option to convert each share of
            series B preferred stock into three shares of $.07 par value common
            stock. Dividends are payable quarterly, if declared, at a rate of
            $.225 per share. No dividends were declared during the year ended
            June 30, 1997. The series B preferred stock has dividend and
            liquidation preferences over both common stock and series A
            preferred stock.

            During 1997, the series B shareholders converted 500,000 shares of
            series B preferred stock into 1,500,000 shares of common stock in
            accordance with the agreement's conversion option.

NOTE 10:  SHAREHOLDERS' EQUITY

          Securities Offerings:

            During 1997, the Company offered and issued 500,000 units of its
            securities for sale to private investors at $2.25 per unit; each
            unit consisting of one share of series B preferred stock and three
            stock purchase warrants, representing the right to purchase shares
            of common stock. Proceeds to the Company net of commissions and
            other direct expenses (aggregating $15,504) were $1,109,496.

            At June 30, 1995, the Company was offering up to 200,000 units of
            its securities for sale to the public at $7.00 per unit; each unit
            consisting of four shares of common stock and two stock purchase
            warrants, representing the right to purchase additional shares of
            common stock. Through June 30, 1995, the Company had sold 313,627
            shares of common stock and 156,813 warrants to purchase shares of
            common stock, resulting in proceeds net of commission and other
            direct expenses (aggregating $139,244) of $409,604.


                                      F-14

<PAGE>


                                HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 10:  SHAREHOLDERS' EQUITY (CONTINUED)

          Securities Offerings (continued):

            During 1996, the Company completed the offering and sold an
            additional 218,372 shares of common stock and 109,186 warrants to
            purchase shares of common stock resulting in additional proceeds net
            of commissions and other direct expenses (aggregating $140,333) of
            $241,818.

          Stock Options:

            At June 30, 1997, an aggregate of 1,969,381 shares of common stock
            were reserved for issuance under the Company's 1983 Incentive Stock
            Option Plan and 1989, 1994 and 1995 Stock Option Plans. Pursuant to
            the plans, the Board of Directors may grant options to key
            individuals at their discretion. Option prices under the Incentive
            Stock Option Plan 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 one to
            three years.

            A summary of the status of the Company's stock option plans as of
            June 30, 1997 and 1996 and changes during the years ending on those
            dates is presented below:

<TABLE>
<CAPTION>
                                                            1997                           1996
                                                ---------------------------     ---------------------------
                                                               Weighted-                        Weighted-
                                                                Average                          Average
                                                  Shares     Exercise Price       Shares     Exercise Price
                                                  ------     --------------       ------     --------------
<S>                                              <C>           <C>               <C>          <C>     
              Outstanding at beginning
                of year                            280,631      $   3.25            76,866      $   5.37
              Granted                            1,633,893      $   2.05           228,970      $   2.69
              Exercised                            (58,238)     $   2.10           -            $   -
              Forfeited                            (83,288)     $   3.65           (25,205)     $   3.54
                                                ----------      --------        ----------      --------
              Outstanding at end of year         1,772,998      $   2.22           280,631      $   3.45
                                                ==========      ========        ==========      ========

              Options exercisable at end
                of year                            510,622      $   2.30           167,848      $   3.55
                                                ==========      ========        ==========      ========

              Weighted-average fair value
                of options granted during
                the year                          $  .55                          $  .44
                                                  ======                          ======
</TABLE>


                                      F-15

<PAGE>


                                HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 10:  SHAREHOLDERS' EQUITY (CONTINUED)

          Stock Options (continued):

            The following table summarizes information about stock options
            outstanding at June 30, 1997:

<TABLE>
<CAPTION>
                                       Options Outstanding                       Options Exercisable
                       -------------------------------------------------   ------------------------------
                          Number     Weighted-Average                        Number
            Exercise   Outstanding       Remaining      Weighted-Average   Outstanding   Weighted-Average
              Prices   at 6/30/97    Contractual Life    Exercise Price    at 6/30/97     Exercise Price
           ---------   -----------   ----------------   ----------------   -----------   ----------------
<S>       <C>           <C>            <C>                <C>               <C>            <C>
           $    2.66      6,259          .2 Years          $     2.66          6,259        $     2.66
           $   15.76      5,123          .2 Years          $    15.76          5,123        $    15.76
           $   22.75      1,677          .4 Years          $    22.75          1,035        $    22.75
           $    2.66        821          .4 Years          $     2.66            821        $     2.66
           $   15.76        107          .4 Years          $    15.76            107        $    15.76
           $   15.76        179          .5 Years          $    15.76            179        $    15.76
           $    1.35     31,800          .5 Years          $     1.35         31,800        $     1.35
           $    1.35     50,000          .7 Years          $     1.35         50,000        $     1.35
           $    1.35     50,000          .9 Years          $     1.35         50,000        $     1.35
           $    2.66      1,786         1.5 Years          $     2.66          1,786        $     2.66
           $   19.32        536         1.5 Years          $    19.32            536        $    19.32
           $    2.66      1,429         1.7 Years          $     2.66          1,429        $     2.66
           $    3.06     47,142         1.8 Years          $     3.06         17,142        $     3.06
           $    3.00      3,400         2.0 Years          $     3.00          1,700        $     3.00
           $    3.63     11,040         2.1 Years          $     3.63          8,280        $     3.63
           $    7.42      3,571         2.6 Years          $     7.42          2,877        $     7.42
           $    2.66      3,571         2.6 Years          $     2.66          2,877        $     2.66
           $    2.66     28,571         2.9 Years          $     2.66         20,931        $     2.66
           $    3.29     46,429         3.5 Years          $     3.29         32,508        $     3.29
           $    3.29      7,142         3.7 Years          $     3.29          3,174        $     3.29
           $    2.06    624,415         4.5 Years          $     2.06        272,058        $     2.06
           $    2.75     15,000         4.6 Years          $     2.75              -        $     2.75
           $    2.06     99,000         4.6 Years          $     2.06              -        $     2.06
           $    2.41     99,000         4.6 Years          $     2.41              -        $     2.41
           $    2.06    600,000         5.5 Years          $     2.06              -        $     2.06
           $    3.00     35,000         5.7 Years          $     3.00              -        $     3.00
                      ---------                                              -------

                      1,772,998                                              510,622
                      =========                                              =======
</TABLE>

            Various officers and directors have been granted a total of
            1,334,553 options under the Company's Stock Option Plans (Note 11)
            which are included in the above table.


                                      F-16

<PAGE>


                                HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 10:  SHAREHOLDERS' EQUITY (CONTINUED)

          Stock Options (continued):

            SFAS No. 123, "Accounting for Stock-Based Compensation", requires
            the Company to provide pro forma information regarding net income
            and earnings 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 No. 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 1997 and 1996, respectively:
            dividend yield for each year; expected volatility of 106.25% and
            118.63%; respectively, and risk free interest rates of 6.14% and
            5.38%, respectively.

            Under the accounting provisions of SFAS No. 123, the Company's net
            income (loss) and earnings per share would have been reduced to the
            pro forma amounts indicated below:

                                                 1997              1996
                                             ------------      ------------
            Net income (loss):
               As reported                   $(2,189,260)      $(1,968,739)
               Pro forma                     $(2,481,201)      $(2,021,904)

            Net income (loss) per share:
               As reported                   $      (.90)      $     (1.67)
               Pro forma                     $     (1.02)      $     (1.72)

          Stock Warrants:

            At June 30, 1997, the Company had warrants outstanding as follows:

            Common Shares              Exercise                Expiration
            Under Warrant           Price Per Share               Date
            -------------           ---------------           -------------
               600,000                  $  2.00               November 1997
               500,000                  $  2.00               January 1997
               400,000                  $  2.00               March 1997
             ---------

             1,513,392
             =========


                                      F-17

<PAGE>


                                HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 11:  RELATED PARTY TRANSACTIONS

          Officer and Director Optons:

            At June 30, 1997, the Company had outstanding the following
            qualified and nonqualified stock options granted to officers and
            directors:

            Common Shares              Exercise                Expiration
            Under Option            Price Per Share               Date
            ------------            ---------------           -----------
                5,188                   $  2.66               August 1997
                2,625                   $ 15.76               August 1997
                  642                   $  2.66               November 1997
                  321                   $ 15.76               November 1997
                  321                   $ 22.75               November 1997
                  893                   $  2.66               December 1998
                3,571                   $  2.66               January 2000
               28,571                   $  3.29               May 2000
               32,857                   $  3.29               December 2000
                7,142                   $  3.29               February 2001
              553,422                   $  2.06               December 2001
               99,000                   $  2.06               January 2002
              600,000                   $  2.06               December 2003
            ---------

            1,334,553
            =========

            Of the total outstanding options granted to officers and directors
            as discussed above, options to acquire up to an aggregate of 311,143
            shares of common stock are exercisable at June 30, 1997.

          Technology and Patent Licensing Agreement:

            The Company has an agreement with a former officer/director to
            license certain technology and patent rights through April 2000 in
            exchange for a fee. The fee is based on a variable rate based on
            unit sales. The maximum and minimum fees to be paid for each of the
            years are as follows:

              Year Ending             Minimum             Maximum
                 June 30,               Fee                 Fee
              -----------           ----------          ----------
                  1995              $   40,000          $  450,000
                  1996                  40,000             450,000
                  1997                  40,000             325,000
                  1998                  40,000             150,000
                  1999                  40,000              40,000
                                    ----------          ----------

                                    $  200,000          $1,415,000
                                    ==========          ==========

            During 1997 and 1996, licensing fee expense was $45,383 and $40,000,
            respectively of which $11,445 and $10,000, respectively, remains
            unpaid at June 30, 1997 and 1996 and is included in other accrued
            liabilities - related parties.


                                      F-18

<PAGE>


                                HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 11:  RELATED PARTY TRANSACTIONS (CONTINUED)

          Consulting Agreements:

            Creative Business Strategies, Inc. (CBS), a company owned by two
            persons, a current director/shareholder of the Company and a former
            director/shareholder, provides the Company with business development
            consulting services in exchange for a fee. During 1997 and 1996, the
            Company had incurred $32,567 and $37,147, respectively, of fees to
            CBS, of which $9,323 and $15,900, remained unpaid at June 30, 1997
            and 1996, respectively, and are included in other accrued
            liabilities - related parties. In addition, during 1996, the Company
            paid $37,845 of fees by issuing 11,506 shares of common stock.

            For the year ended June 30, 1997 and 1996, the Company incurred
            legal fees aggregating $30,353 and $68,332, respectively, to an
            entity in which one of its principals was an officer of the Company
            from October, 1995 through March 1997 and is a current member of the
            board of directors. As of June 30, 1997 and 1996, $22,023 and
            $7,875, respectively, of the fees remain unpaid and are included in
            other accrued liabilities - related parties.

            During 1996, a former officer/director and current shareholder of
            the Company provided general and current business consulting
            services to the Company. The Company incurred and paid $52,000 of
            fees in 1996, of which $16,000 was paid through the issuance of
            4,286 shares of common stock.

          Employment Agreement:

            During 1997, the Company entered into an employment agreement with
            an officer under which the officer will be entitled to receive a
            maximum severance package of $62,500. In addition, the agreement
            provides for a performance bonus of up to $50,000 if the Company
            achieves certain revenue and operational targets. During 1997, no
            bonus was paid or accrued.

NOTE 12:  INCOME TAXES

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

                                                              1997       1996
                                                              ----       ----
            Tax benefit computed at the maximum
              federal statutory rate                         (34.0)%     (34.0)%
            Increase in taxes resulting from amortization
              of intangible assets                             6.0         6.0
            Loss to be carried forward                        28.0        28.0
                                                            ------      ------
                  Income tax provision                          -  %        -  %
                                                            ======      ======


                                      F-19

<PAGE>


                               HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 12:  INCOME TAXES (CONTINUED)

          Deferred taxes consisted of the following at June 30:

                                                     1997             1996
                                                 ------------     ------------
           Asset:
             Net operating loss carryforward     $  2,206,000     $  1,759,000
             Other                                    137,000          138,000
                                                 ------------     ------------
               Net deferred tax asset               2,343,000        1,897,000
             Less valuation allowance              (2,343,000)      (1,897,000)
                                                 ------------     ------------
                Net deferred tax asset           $       -        $       -
                                                 ============     ============

            For financial statement purposes, no tax benefit has been reported
            in 1997 and 1996 as the Company has had significant losses in recent
            years and realization of the tax benefits is uncertain. Accordingly,
            a valuation allowance has been established for the full amount of
            the deferred tax asset.

            The net change in the deferred tax valuation allowance was an
            increase of $446,000 and $397,000 for the years ended June 30, 1997
            and 1996, respectively.

            At June 30, 1997, the Company had net operating loss carryforwards
            and unused investment tax credits as follows for income tax
            purposes:

                  Carryforward           Net Operating            Investment
                    Expires                  Loss                Tax Credits
                    June 30,             Carryforwards           Carryforward
                  ------------           -------------           ------------
                      2000               $         -             $      9,634
                      2001                         -                    3,798
                      2002                     627,889                 14,560
                      2003                      11,744                     -
                      2004                     122,457                     -
                      2005                       1,371                     -
                      2006                     235,901                     -
                      2007                   1,461,790                     -
                      2008                     281,054                     -
                      2009                   1,644,839                     -
                      2010                   1,666,725                     -
                      2011                   1,815,490                     -
                      2012                   1,721,000                     -
                                         -------------           ------------

                                         $   9,590,260           $     27,992
                                         =============           ============

            The utilization of the carryforwards is dependent upon the ability
            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.


                                      F-20

<PAGE>


                                HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 13:  EXTRAORDINARY ITEM - GAIN FROM EXTINGUISHMENT OF DEBT

            During 1996, the Company negotiated with trade creditors to settle
            $16,684 of past due accounts payable for $8,710. The transactions
            resulted in an extraordinary gain of $7,974.


NOTE 14:  GEOGRAPHICAL SEGMENT INFORMATION

                                                  1997            1996
                                            --------------   -------------
             Revenues:
                 United States              $    1,632,928   $   1,659,725
                 Great Britain                     456,397         381,739
                 Eliminations                         -               -
                                            --------------   -------------

                       Consolidated         $    2,089,325   $   2,041,464
                                            ==============   =============

             Operating profit (loss):
                 United States              $   (2,152,148)  $  (1,933,324)
                 Great Britain                      34,387          14,777
                 Eliminations                         -               -
                                            --------------    ------------

                       Consolidated         $   (2,117,761)  $  (1,918,547)
                                            ==============   =============

             Identifiable Assets:
                 United States              $    1,851,015   $   2,404,559
                 Great Britain                     237,734         213,993
                 Eliminations                         -               -
                                            --------------   -------------

                       Consolidated         $    2,088,749   $   2,618,552
                                            ==============   =============

            Exports of U.S. produced medical products were $109,612 and $184,688
            during 1997 and 1996, respectively.

NOTE 15:  REVERSE STOCK SPLIT

            On May 13, 1996 the Board of Directors approved a one-for-seven
            reverse stock split of the Company's common stock. Accordingly, all
            share, per share, weighted average share, stock option and stock
            warrant information in these financial statements have been restated
            to reflect the split.


                                      F-21

<PAGE>


                                HEALTHWATCH, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                   FOR THE YEARS ENDED JUNE 30, 1997 AND 1996


NOTE 16:  SUBSEQUENT EVENT

            On August 20, 1997, the Company and HALIS, Inc., a publicly traded
            Georgia corporation, executed a letter of intent and a subscription
            and purchase agreement in contemplation of a merger of the two
            companies. Pursuant to these agreements, HALIS agreed to purchase up
            to 50,000 shares of HealthWatch series H preferred stock for a price
            of $6 per share. All such shares purchased, at the sole discretion
            of HALIS, were to be paid for in up to seven installments; one of
            $37,500 and six of $43,750. The series H preferred shares carry a
            liquidation preference over all other preferred and common shares
            and are convertible into HealthWatch common stock at a rate of 20
            shares of common stock for each preferred share. Pursuant to these
            agreements, HALIS purchased 20,834 shares of such series H preferred
            stock for an aggregate purchase price of $125,000. Subsequently,
            HealthWatch and HALIS agreed to abandon the proposed merger between
            the two companies, and instead pursue a joint venture and
            co-marketing agreement.

            In October 1997, the Company completed negotiations and entered into
            a series of additional transactions with HALIS and certain
            affiliates of HALIS. These agreements included a subscription and
            purchase agreement with certain HALIS shareholders whereby the
            Company has authorized the issuance of up to 1,666,667 shares of its
            common stock for a price of $.30 per share. In addition, the Company
            has entered into two other subscription and purchase agreements with
            four HALIS shareholders whereby the Company has authorized the
            issuance of an additional 4,400,000 shares of its common stock in
            exchange for 1,100,000 shares of issued and outstanding HALIS common
            stock. All such shares of HALIS common stock received by HealthWatch
            pursuant to this exchange will be marketable by HealthWatch pursuant
            to Rule 144 promulgated by the Securities and Exchange Commission.
            In addition, HealthWatch has granted an option to exchange an
            additional 400,000 shares of HALIS common stock for 1,600,000 shares
            of HealthWatch common provided that immediately following any such
            exchange HALIS and its affiliates own less than 48% of HealthWatch's
            then outstanding shares of common stock.

            As of October 13, 1997, subscriptions for the purchase of 1,350,000
            shares of HealthWatch common stock for an aggregate consideration of
            $405,000 have been received by the Company. In addition, the Company
            has entered into subscription agreements to exchange 4,400,000
            shares of HealthWatch's common stock for 1,100,000 shares of HALIS
            common stock, marketable pursuant to Rule 144.


                                      F-22