UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                              Washington, DC 20549

                                   FORM 10-K

[X]     ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
        OF 1934
        For the fiscal year ended May 31, 2004

[   ]   TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
        ACT OF 1934
        For the transition period from _____ to _____

                          Commission File No. 0-18105
                          ---------------------------

                               VASOMEDICAL, INC.
                (Name of registrant as specified in its charter)

        Delaware                                         11-2871434
(State or other jurisdiction of                        (IRS Employer
incorporation or organization)                       Identification No.)

180 Linden Avenue, Westbury, New York                     11590
(Address of Principal Executive Offices)                (Zip Code)

       Registrant's telephone number, including area code: (516) 997-4600

           Securities registered under Section 12(b) of the Act: None

             Securities registered under Section 12(g) of the Act:
                          Common Stock, $.001 par value
                                (Title of Class)

     Indicate by a check mark whether the  registrant  (1) has filed all reports
required to be filed by Section 13 or 15(d) of the  Securities  Exchange  Act of
1934  during  the  preceding  12 months  (or for such  shorter  period  that the
registrant was required to file such reports),  and (2) has been subject to such
filing requirements for the past 90 days.
Yes [ X ]       No [    ]

     Indicate by a check mark if  disclosure of  delinquent  filers  pursuant to
Item 405 of Regulation S-K is not contained  herein,  and will not 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-K or any
amendment to this Form 10-K.
                                     [ X ]

     Indicate by check mark whether the registrant is an  accelerated  filer (as
defined in Rule 12b-2 of the Act).

                      Yes [   ]              No [X ]

The  aggregate  market value of the voting and  non-voting  common stock held by
non-affiliates of the registrant (based on the closing sale price of $1.06 as of
November 30, 2003 was approximately $ 57,931,000. Shares of common stock held by
each  officer  and  director  and by  each  person  who  owns  5% of more of the
outstanding  common stock have been  excluded in that such persons may be deemed
to be affiliates.  The  determination of affiliates  status is not necessarily a
conclusive determination for other purposes.

     At August 10, 2004, the number of shares outstanding of the issuer's common
stock was 58,552,688.

                      DOCUMENTS INCORPORATED BY REFERENCE

     Part III (Items 10, 11, 12 and 13) Registrant's  definitive proxy statement
to be filed pursuant to Regulation 14A of the Securities Exchange Act of 1934.

<PAGE>

                               INDEX TO FORM 10-K

                                                                           Page
                                     PART I

Item 1. Business                                                               1
        Risk Factors                                                          13
Item 2. Properties                                                            18
Item 3. Legal Proceedings                                                     18
Item 4. Submission of Matters to a Vote of Security Holders                   18

PART II

Item 5. Market for Registrant's Common Equity, Related Stockholder
        Matters, and Issuer Purchases of Equity Securities                    19
Item 6. Selected Financial Data                                               20
Item 7. Management's Discussion and Analysis of Financial Condition
        and results of Operation                                              21
Item 7A.Quantitative and Qualitative Disclosures about Market Risk            31
Item 8. Financial Statements and Supplementary Data                           32
Item 9. Changes in and Disagreements with Accountants and Accounting
        and Financial Disclosure                                              32
Item 9A.Controls and Procedures                                               32

PART III

Item 10.Directors and Executive Officers of the Registrant                    33
Item 11.Executive Compensation                                                33
Item 12.Security Ownership of Certain Beneficial Owners and Management        33
Item 13.Certain Relationships and Related Transactions                        33
Item 14.Principal Accountant Fees and Services                                33

PART IV

Item 15.Exhibits, Financial Statement Schedules, and Reports on Form 8-K      33
Signatures                                                                    35

                                      -i-
<PAGE>

                                     PART I

ITEM 1 - BUSINESS

     Except for historical  information  contained herein, the matters discussed
are forward looking statements that involve risks and  uncertainties.  When used
herein,  words  such  as  "anticipates",   "believes",  "estimates",  "expects",
"feels",  "plans",  "projects"  and "intends" and similar  expressions,  as they
relate to us, identify  forward-looking  statements.In  addition, any statements
that refer to our plans, expectations,  strategies or other characterizations of
future   events  or   circumstances   are   forward-looking   statements.   Such
forward-looking statements are based on our beliefs, as well as assumptions made
by and information currently available to us. Among the factors that could cause
actual  results  to  differ  materially  are the  following:  the  effect of the
dramatic  changes  taking  place in the  healthcare  environment;  the impact of
competitive  procedures  and  products  and  their  pricing;  medical  insurance
reimbursement   policies;    unexpected   manufacturing   problems;   unforeseen
difficulties  and delays in the  conduct of  clinical  trials and other  product
development  programs;  the actions of regulatory  authorities  and  third-party
payers in the United States and overseas;  uncertainties about the acceptance of
a novel  therapeutic  modality by the medical  community;  and the risk  factors
reported  from time to time in our SEC reports.  We undertake no  obligation  to
update forward-looking statements as a result of future events or developments.

General Overview

     Vasomedical,  Inc. was  incorporated  in Delaware in July 1987.  Unless the
context requires  otherwise,  all references to "we",  "our",  "us",  "Company",
"registrant" or "Vasomedical"  refer to Vasomedical  Inc. and its  subsidiaries.
Since  1995,  we  have  been  primarily  engaged  in  designing,  manufacturing,
marketing and  supporting  EECP external  counterpulsation  systems based on our
proprietary  technology  currently  indicated  for use in  cases  of  stable  or
unstable  angina  (i.e.,  chest  pain),   cardiogenic  shock,  acute  myocardial
infarction  (i.e.,  heart attack,  (MI)) and congestive heart failure (CHF). The
EECP system is a non-invasive,  outpatient therapy for the treatment of diseases
of the  cardiovascular  system.  The therapy  serves to increase  circulation in
areas of the heart with less than adequate blood supply and may restore systemic
vascular  function.  We provide  hospitals and physician  private practices with
EECP equipment, treatment guidance, and a staff training and maintenance program
designed to provide optimal patient outcomes. EECP is a registered trademark for
Vasomedical's enhanced external counterpulsation systems.

 Market Overview

     Cardiovascular disease (CVD) is the leading cause of death in the world and
is among the top three diseases in terms of healthcare  spending in nearly every
country.  CVD claimed  approximately  931,000 lives in the United States in 2001
and was responsible  for 1 of every 2.6 deaths,  according to The American Heart
Association  (AHA) Heart and Stroke  Statistical  2004 Update (2004 Update).  If
high blood pressure is included,  approximately 64 million Americans suffer from
some form of  cardiovascular  disease.  Among these,  13.2 million have coronary
artery disease (CAD).

     We have Food and Drug  Administration  (FDA)  clearance  to market the EECP
therapy for use in the treatment of angina pectoris (angina), cardiogenic shock,
acute myocardial  infarction and CHF, however our current  marketing efforts are
limited to the treatment of refractory angina,  where reimbursement for the EECP
treatment  is  available.  Medicare and numerous  other  commercial  third-party
payers currently  provide  reimbursement  for the treatment of refractory angina
using the EECP therapy.

     We are also  actively  engaged  in  research  to  establish  the  potential
benefits of EECP therapy in the  management of CHF and are  sponsoring a pivotal
study to demonstrate the efficacy of EECP therapy in most types of heart failure
patients.  This  study,  known  as  PEECH  (Prospective  Evaluation  of  EECP in
Congestive Heart Failure),  is intended to provide  additional  clinical data in
order to support a  Medicare  national  coverage  policy for the use of the EECP
therapy in the  treatment of CHF. We expect to be able to release the results of
the PEECH trial by early 2005.

Angina

     Angina  pectoris is the medical term for a recurring  pain or discomfort in
the  chest due to  coronary  heart  disease  (CHD).  Angina  is a  symptom  of a
condition  called  myocardial  ischemia,  which  occurs when the heart muscle or

                                       1
<PAGE>

myocardium  doesn't  receive as much blood,  hence as much oxygen,  as it needs.
This  usually  happens  because  one or more of the hearts  arteries,  the blood
vessels  that  supply  blood  to  the  heart  muscle,   is  narrow  or  blocked.
Insufficient blood supply is called ischemia.

     Typical  angina is  uncomfortable  pressure,  fullness,  squeezing  or pain
usually  occurring  in the  center  of  the  chest  under  the  breastbone.  The
discomfort also may be felt in the neck, jaw, shoulder, back or arm. Episodes of
angina  occur  when the  heart's  need for  oxygen  increases  beyond the oxygen
available  from the blood  nourishing the heart.  Physical  exertion is the most
common trigger for angina.  For example  running to catch a bus could trigger an
attack of angina while  walking might not.  Angina may happen  during  exercise,
periods of  emotional  stress,  exposure to extreme  cold or heat,  heavy meals,
alcohol  consumption  or cigarette  smoking.  Some people,  such as those with a
coronary artery spasm, may have angina when they are resting.

     There are  approximately  6.5 million angina  patients in the United States
and the EECP therapy  currently  competes with other  technologies in the market
for approximately 150,000 angina patients annually who are considered refractory
to medical and/or  surgical  therapy and have the potential to meet the Medicare
guidelines  for  reimbursement  of the EECP  therapy.  Most angina  patients are
treated with medications,  including vasodilators, which are often prescribed to
increase  blood  flow to the  coronary  arteries.  When  drugs  fail or cease to
correct the problem they are considered refractory to medical therapy.  Invasive
revascularization  procedures such as angioplasty and coronary stent  placement,
as well as coronary  artery bypass  grafting  (CABG) are often  employed in both
refractory and non-refractory angina patients.

     In February 1999, the Centers for Medicare and Medicaid Services (CMS), the
federal agency that  administers  the Medicare  program for more than 39 million
beneficiaries, issued a national coverage policy for the use of the EECP system.
Medicare  reimbursement  guidelines have a significant impact in determining the
available market for EECP therapy. We believe that over 65% of the patients that
receive EECP therapy are Medicare  patients and many of the  third-party  payers
follow Medicare  guidelines,  which limits reimbursement for the EECP therapy to
patients who are refractory to medical and/or surgical therapy.  As a result, an
important  element of our  strategy  is to grow the  market for EECP  therapy by
expanding  reimbursement  coverage to include a broader range of angina patients
than the current  coverage  policy  provides  and  enabling  the EECP therapy to
compete more with other technologies.  Please see the heading "Reimbursement" in
the "Item-1  Business of this Form 10-K" section for a more detailed  discussion
of reimbursement issues.

Congestive Heart Failure

     CHF is a complication of many serious diseases in which the heart loses its
full pumping  capacity,  causing blood to back up into other organs,  especially
the lungs and liver.  The  condition  affects  both sexes and is most  common in
people over age 50. Symptoms include shortness of breath,  fatigue,  swelling of
the abdomen,  legs and ankles, rapid or irregular heartbeat,  low blood pressure
and enlargement of the liver. Causes range from high blood pressure, heart-valve
disease, heart attack, coronary artery disease, heartbeat irregularities, severe
lung  disease  such as  emphysema,  congenital  heart  disease,  cardiomyopathy,
hyperthyroidism and severe anemia.

     CHF is treated with medication and,  sometimes,  surgery on heart valves or
the coronary  arteries and, in certain  severe cases,  heart  transplants.  Left
ventricular assist devices (LVADs) and the use of cardiac  resynchronization and
implantable  defibrillators  continue to advance.  Still,  no consensus  therapy
currently  exists for CHF and patients  must  currently  suffer  their  symptoms
chronically and have a reduced life expectancy.

     According to the 2004 Update, in 2001 approximately 2.5 million men and 2.5
million women in the US had CHF and about 550,000 new cases of the disease occur
each year.  Deaths caused by the disease  increased  155% from 1979 to 2001. The
prevalence  of the  disease is  growing  rapidly as a result of the aging of the
population and the improved survival rate of people after heart attacks.  At age
forty the  lifetime  risk of  developing  CHF for both men and women was 1 in 5.
Also, because the condition  frequently entails visits to the emergency room and
in-patient treatment centers, two-thirds of all hospitalizations for people over
age 65 are due to CHF. In addition to careful  outpatient  care and  monitoring,
the economic  burden of  congestive  heart failure is enormous with an estimated
2004 cost to the health care system in the United  States of $28.8  billion.  In
1999,  $3.6  billion (an average of $5,456 per  discharge)  was paid to Medicare
beneficiaries for CHF.

     Given the pressing need to identify new and effective methods to treat CHF,
we have been actively focusing clinical development resources on CHF. Congestive
heart failure offers a good  strategic fit with our current angina  business and
offers a new market  opportunity  for EECP therapy.  Unmet clinical needs in CHF
are  greater  than  those  for  angina,  as there are few  consensus  therapies,
invasive or  otherwise,  beyond  medical  management  for the  condition.  It is
noteworthy that data collected from the  International  EECP Patient  RegistryTM

                                       2
<PAGE>

(IEPR)  at the  University  of  Pittsburgh  Graduate  School  of  Public  Health
currently shows that  approximately  one- third of patients  treated also have a
history of CHF and have demonstrated  positive  outcomes from EECP therapy.

     The PEECH  trial is  intended to provide  additional  clinical  evidence to
demonstrate the potential  benefits of the EECP therapy in the management of CHF
and we plan to submit the results of the PEECH trial to Centers for Medicare and
Medicaid  Services (CMS) to support the adoption of a Medicare national coverage
policy. We expect to be able to submit the results of the PEECH trial to CMS and
release  the  results  of the  PEECH  trial  to the  public  by early  2005.  We
anticipate a coverage decision in late 2005 or early 2006; however, there can be
no assurance  that the results of the PEECH trial will be  sufficient to support
expansion of the Medicare national coverage policy for the EECP treatment.

The EECP Therapy Systems

     The EECP  therapy  systems  marketed by us are advanced  treatment  systems
utilizing fundamental  hemodynamic principles to augment coronary blood flow and
at the same time reduce the  workload of the heart while  improving  the overall
vascular function.  The treatment is completely  noninvasive and is administered
to patients on an outpatient  basis usually in daily one-hour  sessions,  5 days
per week over seven weeks for a total of 35  treatments.  The  procedure is well
tolerated  and most  patients  begin to  experience  relief of chest pain due to
their coronary artery disease after 15 to 20 hours of therapy.  Positive effects
have been shown in most  patients to continue for years  following a full course
of therapy.

     During EECP therapy,  the patient lies on a bed while wearing three sets of
inflatable  pressure  cuffs,  resembling  oversized blood pressure cuffs, on the
calves,  the lower and upper thighs,  including the buttocks.  The cuffs inflate
rapidly and  sequentially  -- via  computer-interpreted  ECG signals -- starting
from the calves and proceeding  upward to the buttocks  during the resting phase
of each  heartbeat  (diastole).  This  has  the  effect  of  creating  a  strong
retrograde  counter pulse in the arterial  system,  forcing  freshly  oxygenated
blood towards the heart and coronary arteries,  while simultaneously  increasing
the volume of venous blood return to the heart under  increased  pressure.  Just
prior to the next  heartbeat when the heart begins to eject blood by contracting
(systole),  all three cuffs simultaneously  deflate,  significantly reducing the
workload of the heart.  This is achieved  because the vascular beds in the lower
extremities  are  relatively  empty when the cuffs are  deflated,  significantly
lowering the  resistance to blood  ejected by the heart,  reducing the amount of
work the heart  must do to pump  oxygenated  blood to the rest of the body.  The
inflation/deflation  activity  is  monitored  constantly  and  coordinated  by a
computerized  console  that  interprets   electrocardiogram   signals  from  the
patient's heart,  monitors heart rhythm and rate  information,  and actuates the
inflation and deflation cycles. The end result of this sequential "squeezing" of
the  legs is to  create  a  pressure  wave  that  significantly  increases  peak
diastolic pressure, benefiting circulation to the heart muscle and other organs,
while also reducing  systolic  pressure,  to the general benefit of the vascular
system.  This surge of circulation  insures that the heart does not have to work
as hard to pump large amounts of blood through the body,  and that more blood is
forced into the coronary  arteries  which  supply  energy to the heart muscle or
myocardium.

     While the precise mechanism of action remains unknown, there is evidence to
suggest that the EECP therapy triggers a neurohormonal response that induces the
production of growth factors and dilates  existing  blood vessels.  This in turn
fosters the  recruitment of collateral  blood  vessels,  which bypass blocked or
narrowed  vessels and increase blood flow to restore ischemic areas of the heart
muscle that are receiving an inadequate  supply of blood. The myocardium  itself
may also develop new vasculature.  There is also evidence to support a mechanism
related to improved  function of the endothelium  (the inner lining of the blood
vessels), reducing constriction of blood vessels that supply oxygenated blood to
the body's organs and tissues and the required workload of the heart.

Clinical Studies
Early History

     Early   experiments   with   counterpulsation   at  Harvard  in  the  1950s
demonstrated that this technique markedly reduces the workload,  and thus oxygen
consumption, of the left ventricle. This basic effect has been demonstrated over
the past forty years in both animal  experiments  and in patients.  The clinical
benefits of external  counterpulsation  were not consistently  achieved in early
studies because the equipment used then lacked some of the features found in the
current EECP systems, such as the computerized electrocardiographic gating, that
makes sequential cuff inflation possible.  As the technology improved,  however,
it became apparent that both internal (i.e.  intra-aortic  balloon  pumping) and
external  forms of  counterpulsation  were  capable  of  improving  survival  in
patients with cardiogenic shock following myocardial  infarction.  Later, in the
1980s, Dr. Zheng and colleagues in China reported on their extensive  experience
in treating angina using the newly developed "enhanced"  sequentially  inflating

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<PAGE>

EECP  device that  incorporated  a third cuff for the  buttocks.  Not only did a
course of treatment  with the EECP system  reduce the  frequency and severity of
anginal  symptoms  during normal daily functions and also during  exercise,  but
also the improvements were sustained for years after therapy.

     These results  prompted a group of investigators at the State University of
New York at Stony Brook (Stony Brook) to undertake a number of open studies with
the EECP system  between 1989 and 1996 to reproduce the Chinese  results,  using
both  subjective and objective  endpoints.  These studies,  though open and non-
randomized,  showed statistical improvement in exercise tolerance by patients as
evidenced  by  thallium-stress  testing and partial or  complete  resolution  of
coronary perfusion defects as evidenced by radionuclide  imaging studies. All of
these  results  have been  reported  in the medical  literature  and support the
assertion  that EECP therapy is an effective and durable  treatment for patients
suffering from chronic angina pectoris.

The MUST-EECP Study

     In  1995,  we  began  a large  randomized,  controlled  and  double-blinded
multicenter  clinical study (MUST- EECP) at four leading university hospitals in
the United States to confirm the patient  benefits  observed in the open studies
conducted at Stony Brook and to provide definitive  scientific  evidence of EECP
therapy's  effectiveness.  MUST-EECP  was completed in July 1997 and the results
presented at the annual  meetings of the American Heart  Association in November
1997 and the American  College of Cardiology in March 1998. The results of MUST-
EECP were published in the Journal of the American College of Cardiology (JACC),
a major peer-review medical journal, in June 1999.

     This 139 patient study,  which included a sham-EECP  control group,  showed
that  EECP  therapy  was a safe and  effective  treatment  option  for  patients
suffering from angina  pectoris,  including those on maximal  medication and for
whom invasive revascularization procedures were no longer an option. The results
of the MUST-EECP study confirmed the clinical benefits described in earlier open
trials,  namely a decline in anginal  frequency,  an  increase in the ability to
exercise and a decrease in exercise-induced  signs of myocardial ischemia.  Data
collected by the IEPR closely mirror the results seen in the MUST-EECP trial.

     In fiscal 1999, we completed a  quality-of-life  study with the EECP system
in the  same  institutions  and  with the same  patients  that  participated  in
MUST-EECP.  Two highly regarded  standardized  means of measurement were used to
gauge changes in patients'  outlook and ability to  participate  in normal daily
living  during  the  treatment  phase and for up to 12 months  after  treatment.
Results of this study,  which have been presented at major  scientific  meetings
and published in the January 2002 Journal of Investigative  Medicine,  show that
the group of patients  receiving  EECP therapy  enjoyed  significantly  improved
aspects of health-related  quality of life compared to those who received a sham
treatment.

The PEECH Study

     As part of its program to expand the therapy's  indications  for use beyond
the treatment of angina,  we applied for and received FDA approval in April 1998
to  study,  under  an  Investigational  Device  Exemption  (IDE)  protocol,  the
application  of EECP therapy in the  treatment of CHF. A 32-patient  feasibility
study  was  conducted  simultaneously  at  the  University  of  Pittsburgh,  the
University  of  California  San  Francisco  and  the  Grant/Riverside  Methodist
Hospitals in  Columbus,  Ohio.  The results of this study were  presented at the
49th Scientific Sessions of the American College of Cardiology in March 2000 and
the Heart Failure Society of America's Annual Meeting in September 2000 and were
published in the July/August 2002 issue of Congestive Heart Failure.  This study
concluded that EECP therapy increased  functional capacity of the patients,  was
beneficial to left  ventricular  function and portends to be a useful adjunct to
current medical therapy in heart failure patients.

     In summer  2000,  an IDE  supplement  to  proceed  with a pivotal  study to
demonstrate the efficacy of EECP therapy in most types of heart failure patients
was  approved.  This study,  known as PEECH  (Prospective  Evaluation of EECP in
Congestive  Heart  Failure),  began patient  enrollment in March 2001. The PEECH
trial  involves  nearly thirty centers  including:  the Cleveland  Clinic,  Mayo
Clinic,  Scripps Clinic, Thomas Jefferson University Hospital, the University of
North Carolina at Chapel Hill, the Minnesota Heart Failure Consortium,  Advocate
Christ Hospital,  Hull Infirmary (UK), the University of California at San Diego
Medical   Center,   the   University  of  Pittsburgh   Medical  Center  and  the
Cardiovascular Research Institute.  The 510(k) clearance for CHF granted in June
2002  obviated  the need to  continue  this  trial for FDA  regulatory  reasons.
However,  we intend  to  complete  the  clinical  trial and use the  anticipated
positive clinical outcomes to establish the clinical  validation of EECP therapy
as  a  treatment  for  CHF  and  to  obtain   Medicare  and  other   third-party
reimbursement for this indication.

     The  PEECH  trial  enrollment  was  completed  in  February  2004  with 187
patients,  The protocol for the study requires  patient  examinations six months
following  treatment and will  evaluate  improvements  in exercise  capacity and

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<PAGE>

quality of life,  as well as the  reduction in the need for certain  medications
that CHF patients are typically  prescribed.  We  anticipate  that the six-month
follow-up  examinations  will be completed by the end of October 2004. We expect
to be able to release the results of the PEECH trial in March 2005 and, provided
results  of the  trial  are  positive,  submit  a  request  to  CMS  to  provide
reimbursement  for use of the EECP  therapy in  treatment  of CHF in early 2005.
Based on the above  timetable we  anticipate a coverage  decision by CMS in late
2005 or early 2006.

     We are  blinded to the  results of the PEECH trial until after the study is
completed and there can be no assurance that the results of the PEECH trial will
be sufficient to  demonstrate  the efficacy of the EECP therapy in the treatment
of congestive heart failure or that the results will provide sufficient evidence
to expand insurance  coverage or the adoption of the EECP therapy for use in the
treatment of congestive heart failure by the medical community.

The IEPR Registry

     The  International  EECP Patient  Registry at the  University of Pittsburgh
Graduate  School of Public Health was  established  in January 1998 to track the
outcomes of patients  who have  undergone  EECP  therapy.  More than one hundred
centers have  participated  in the registry and data from 5,000 patient  records
has been entered. Phase 2 of the IEPR, planned for an additional 2,500 patients,
began enrollment in January 2002 and incorporates sub-studies that are examining
treatment beyond 35 hours of treatment, where needed, the presence of protein in
the  urine of type 2  diabetic  patients  as a  predictor  of  response  to EECP
therapy,  the effects on peripheral vascular disease,  and the effects of sexual
function  in  men.  The  IEPR  is  a  vital  source  of  information  about  the
effectiveness  of EECP  therapy  in a  real-world  environment  for the  medical
community  at large.  For this  reason,  we will  continue to provide an ongoing
grant  to fund the  registry  to  publicize  data  that  assists  clinicians  in
delivering  optimal  care to  patients.  Data from the IEPR  show that  patients
continue to receive dramatic benefit at six, twelve,  twenty-four and thirty-six
months  following  completion  of their  course of EECP  therapy.  Data on 1,097
patients in the IEPR  reported  early in 2004  showed 92% of  patients  remained
alive  (including  41% free of cardiac  events during that period) and sustained
reduction in anginal status and nitrate medication use at 2 years following EECP
therapy.

The following tables illustrate the results:
<TABLE>
<CAPTION>
                              Pre-EECP          Post EECP       At 1 year       At 2 years     At 3 years
                             (N=5,019)          (N=3,982)       (N=2,374)       (N=1,022)        (N=238)
                                 %                  %               %               %               %
<S>               <C>           <C>                <C>             <C>             <C>              <C>
No Angina                       --                 20.7            29.1            33.3            34.9
Class I                          3.5               26.2            21.2            20.7            19.3
Class II                        14.7               36.4            29.4            26.7            24.8
Class III                       58.4               14.0            16.2            15.0            16.0
Class IV                        23.4                2.6             4.1             4.3             5.0
prn Nitro Use                   68.8               31.5            43.4            40.8            44.4

                                                                   Angina Improvement Post
      Patient Demographics            Medical History                      EECP

Mean age         66.8 years     Duration of CAD    10.8 years      > 1 CCSC        82.3%
Age > 65         59.7%          Prior PCI/CABG     85.8%           > 2 CCSC        45.4%
Male gender      75.5%          Prior MI           67.6%
                                CHF                31.7%
                                Diabetes           41.3%
<FN>
N = number of patients reporting at these points
CCSA = Canadian Cardiovascular Society Classification
</FN>
</TABLE>

Other studies and publications

     Over the last  several  years,  our clinical  bibliography  has expanded to
include  over 50  publications  in  peer-  review  journals,  as  well as  other
publications and abstracts presented at major medical conferences. Notable among
these studies are several  discussing the  neurohumoral  effects of EECP therapy
including  increases in the levels of nitric  oxide,  a potent  vasodilator  and
decreases in levels of  endothelin a  vasoconstrictor  as well as the release of
certain growth factors.

                                       5
<PAGE>
Strategic Initiatives

     Our short- and long-term plans are to:

     a)   Increase the domestic reimbursable user base for the EECP therapy by:
          i)   obtaining reimbursement for the treatment of CHF,
          ii)  marketing directly to third-party payers to increase  third-party
               reimbursement, and
          iii) reducing  reimbursement  limitations  in  the  refractory  angina
               market.

     b)   Increase the clinical and scientific understanding of the EECP therapy
          by:
          i)   completing the PEECH clinical trial,  publishing the results in a
               major   peer-review   medical  journal  and  submitting  data  to
               insurers, including Medicare, for favorable coverage policies;
          ii)  continuing to establish and support academic reference centers in
               the United States and overseas in order to accelerate  the growth
               and  prestige  of EECP  therapy  and to  increase  the number and
               diversity of clinical and mode-of-action  studies, as well as the
               number of  presentations,  publications,  speakers and advocates;
               and
          iii) providing an ongoing grant to fund the International EECP Patient
               Registry  at the  University  of  Pittsburgh  Graduate  School of
               Public  Health to publicize key  information  relating to patient
               outcomes.

     c)   Increase  awareness of the benefits of the EECP therapy in the medical
          community by:

          i)   developing  campaigns  to market  the  benefits  of EECP  therapy
               directly to clinicians, third-party payers and patients;
          ii)  engaging  in  educational  campaigns  for  providers  and medical
               directors  of  third-party  insurers  designed to  highlight  the
               cost-effectiveness   and   quality-of-life   advantages  of  EECP
               therapy; and
          iii) continuing  the  development  of  the  EECP  therapy  in  certain
               international markets, principally through the establishment of a
               distribution network.

     d)   Maintain development efforts to improve the EECP system and expand its
          intellectual  property estate by filing for additional  patents in the
          United States and other countries.

     e)   Pursue possible strategic  investments and creative  partnerships with
          others who have distinctive  competencies or delivery capabilities for
          serving the  cardiovascular  and disease  management  marketplace,  as
          opportunities become available.

     These strategic objectives above are forward-looking statements. We review,
modify and change our strategic objectives from time to time based upon changing
business  conditions.  There can be no assurance that we will be able to achieve
our  strategic  objectives  and even if these  results  are  achieved  risks and
uncertainties  could cause actual results to differ  materially from anticipated
results.  Please see the section of this Form 10-K entitled "Risk Factors" for a
description  of certain risks among others that may cause our actual  results to
vary from the forward-looking statements.

Sales and Marketing

Domestic Operations

     We sell EECP systems to treatment  providers in the United States through a
direct sales force directly to hospitals and physician  private  practices.  Our
sales force is currently comprised of over twenty sales representatives, as well
as one  independent  sales  organization  and is supported by a management  team
consisting of a vice president of domestic sales,  three regional sales managers
plus in-house administrative support.

     The  efforts  of  our  sales   organization  are  further  supported  by  a
field-based staff of seven clinical educators who are responsible for the onsite
training of physicians and therapists as new centers are  established.  Training
generally takes  approximately  two and a half days. This clinical  applications
group is also engaged in training  and  certification  of new  personnel at each
site, as well as for updating providers on new clinical developments relating to
EECP therapy.

     Our marketing activities include medical journal  advertising,  direct mail
promotions   aimed  at  the  cardiology   medical   community,   publication  of
EECP-related  newsletters to EECP therapy  centers and  participants in the IEPR
study,   support  of  physician   education  and  physician  outreach  programs,
exhibition at national,  international and regional medical conferences, as well
as sponsorship of seminars at professional  association meetings. These programs
are designed to support our field sales  organization and increase  awareness of
the EECP  therapy in the  medical  community.  Additional  marketing  activities

                                       6
<PAGE>

include creating  awareness among third-party payers to the benefits of the EECP
treatment for patients suffering from CHF as well as angina.

     We employ  six field  service  technicians  responsible  for the repair and
maintenance  of EECP  systems  and,  in some  instances,  on-site  training of a
customer's  biomedical  engineering personnel as required. We provide a one-year
product  warranty  that  includes  parts and  labor  and we offer  post-warranty
service to our customers under annual service  contracts or on a fee-for-service
basis.

International Operations

     We distribute our product  internationally through a network of independent
distributors.  It has  generally  been our  policy to  appoint  distributors  in
exchange for  exclusive  marketing  rights to EECP  systems in their  respective
countries.  Each distribution  agreement  contains a number of requirements that
must  be met  for the  distributor  to  retain  exclusivity,  including  minimum
performance  standards.  In most  cases,  distributors  must assist us either to
obtain  an  FDA-equivalent  marketing  clearance  or to  establish  confirmation
clinical  evaluations  conducted by local opinion  leaders in  cardiology.  Each
distributor  is  responsible  for obtaining any required  regulatory  approvals,
supporting local  reimbursement  efforts for the EECP therapy and maintaining an
infrastructure to provide  post-sales  support,  including clinical training and
product maintenance services.

     To date,  revenues from international  operations have not been significant
(fiscal 2004  revenues  were less than 4% of total  revenues)  but we anticipate
international revenues to increase in future years. Our international  marketing
activities  include,  among other  things,  assisting in  obtaining  national or
third-party  healthcare  insurance  reimbursement  approval and participating in
medical  conferences to create greater  awareness and acceptance of EECP therapy
by clinicians.

     International   sales  may  be   subject  to   certain   risks,   including
export/import  licenses,  tariffs,  other trade  regulations  and local  medical
regulations.  Tariff and trade  policies,  domestic and foreign tax and economic
policies,  exchange rate fluctuations and international monetary conditions have
not  significantly  affected our business to date. In addition,  there can be no
assurance  that we will be successful in maintaining  our existing  distribution
agreements  or entering into any  additional  distribution  agreements  that our
international distributors will be successful in marketing the EECP therapy.

Competition

     Presently,  we are  aware  of at least  two  competitors  with an  external
counterpulsation  device on the market,  namely  Cardiomedics,  Inc. and Nicore,
Inc.  In  addition,  at least  eight  other  companies  have  received  FDA 510K
clearance for external counterpulsation systems, although we have not seen these
systems   commercially  in  the   marketplace.   While  we  believe  that  these
competitors'  involvement  in the market is limited,  there can be no  assurance
that these  companies will not become a significant  competitive  factor or that
other companies will not enter the external counterpulsation market.

     We view other  companies  engaged  in the  development  of  device-related,
biotechnology and pharmacological approaches to the management of cardiovascular
disease as potential  competitors in the marketplace as well. These include such
common and well  established  medical devices such as the  intra-aortic  balloon
pump (IANP),  ventricular  assist  devices (VAD),  coronary  artery bypass graft
(CABG),   coronary   angioplasty,    mechanical   circulatory   support   (MCS),
transmyocardial laser  revascularization  (TMR), cardiac recovery systems, total
artificial  hearts;  as well as newer  technologies  currently  in FDA  clinical
trials such as spinal cord  stimulation  (SCS) and partial fatty acid  oxidation
(pFOX  inhibitor).  We  are  unaware  of any  other  biotech  or  pharmaceutical
technologies  that may impact our ability to market and distribute  EECP systems
in the near term.

     There  can be no  assurance  that  other  companies  will not  develop  new
technologies or enter the market intended for EECP systems. Such other companies
may have substantially greater financial,  manufacturing and marketing resources
and  technological  expertise  than those  possessed  by us and may,  therefore,
succeed in  developing  technologies  or products that are more  efficient  than
those offered by  Vasomedical  and that would render our technology and existing
products obsolete or noncompetitive.

Government Regulations

     We are subject to extensive  regulation by numerous  government  regulatory
agencies,  including the FDA and similar foreign agencies. Where applicable,  we
are  required to comply  with laws,  regulations  and  standards  governing  the
development,   preclinical  and  clinical  testing,   manufacturing,   labeling,
promotion, import, export, and distribution of our medical devices.

                                       7
<PAGE>

Device Classification.

     FDA regulates  medical  devices,  including the  requirements for premarket
review,  according to their classification.  Class I devices are generally lower
risk products for which general  regulatory  controls are  sufficient to provide
reasonable  assurance  of safety and  effectiveness.  Most  Class I devices  are
exempt from the requirement of 510(k) premarket notification clearance; however,
510(k)  clearance  is necessary  prior to marketing a non-510(k)  exempt Class I
device in the United  States.  Class II devices are  devices  for which  general
regulatory  controls  are  insufficient,  but  for  which  there  is  sufficient
information  to  establish  special  controls,  such as  guidance  documents  or
standards,  to  provide  reasonable  assurance  of safety and  effectiveness.  A
premarket  notification  clearance is necessary  prior to marketing a non-510(k)
exempt Class II device in the United  States.  Class III devices are devices for
which there is insufficient  information  demonstrating that general and special
controls will provide reasonable assurance of safety and effectiveness and which
are life-sustaining,  life-supporting or implantable devices, are of substantial
importance  in  preventing  impairment  of  human  health,  or pose a  potential
unreasonable  risk of  illness  or  injury.  The FDA  generally  must  approve a
premarket  approval or PMA application  prior to marketing a Class III device in
the United States.

     A medical  device is considered by FDA to be a  preamendments  device,  and
generally not subject to premarket  review,  if it was commercially  distributed
before May 28, 1976, the date the Medical Device  Amendments of 1976 became law.
A  postamendments  device is one that was first  distributed  commercially on or
after May 28, 1976.  Postamendments  device versions of preamendments  Class III
devices are subject to the same requirements as those preamendments devices. FDA
may require a PMA for a preamendments Class III device only after it publishes a
regulation  calling for such PMA submissions.  Persons who market  preamendments
devices must submit a PMA, and have it filed by FDA, by a date  specified by FDA
in order to continue  marketing  the device.  Prior to the  effective  date of a
regulation  requiring a PMA, devices must have a cleared premarket  notification
or 510(k) for marketing.

     Certain external  counterpulsation  devices were  commercially  distributed
prior to May 28, 1976. Our external counterpulsation devices were marketed after
1976; however, they were found to be substantially equivalent to a preamendments
Class III device and  therefore  are  subject  to the same  requirements  as the
preamendments external  counterpulsation  devices. In February 1995, the Company
received 510(k)  clearance to market the  second-generation  version of its EECP
therapy  system,   the  MC2,  which   incorporated  a  number  of  technological
improvements  over the original  system.  In  addition,  in December  2000,  the
Company  received 510(k) clearance to market its third  generation  system,  the
TS3.  The FDA's  clearance in these cases was for the use of EECP therapy in the
treatment of patients  suffering from stable or unstable angina pectoris,  acute
myocardial  infarction  and  cardiogenic  shock.  In June 2002,  the FDA granted
510(k) market  clearance for an upgraded TS3, which  incorporated  the Company's
patent-pending CHF treatment and oxygen saturation monitoring technologies,  and
provided for a new  indication  for the use of EECP in CHF, which applied to all
present  models of the  Company's  EECP  systems.  In March  2004,  the  Company
obtained  510(k)  market  clearance  for  revisions  to the  labeling of all its
products,    including   the   new   Model   TS4,   which   eliminated   certain
contrainindications  and changed  other  precautions.  There can be no assurance
that our  products  will not be  subject  to a  regulation  requiring  a PMA for
preamendments Class III external counterpulsation devices.

Premarket Review.

     The 510(k) premarket  notification process requires an applicant to give 90
days notice to FDA of its intent to introduce its device into  commerce.  In its
premarket notification,  the applicant must demonstrate that its new or modified
medical device is  substantially  equivalent to a legally  marketed or predicate
device.  Prior to beginning  commercialization of the new or modified product we
must receive an order from the FDA  classifying  the device under section 510(k)
in the same  classification  as the predicate device,  and as a result,  the new
device will be cleared for  marketing.  Modifications  to a  previously  cleared
medical device that do not significant  affect its safety and  effectiveness  or
constitute a major  change in the  intended  use can be made  without  having to
submit a new 510(k).  If a device does not receive a clearance order because the
FDA determines  that the device is not  substantially  equivalent to a predicate
device and thus the device  automatically is considered a Class III device,  the
applicant  may ask the FDA to make a  risk-based  classification  to  place  the
device  in  Class  I  or  II.  However,  if  a  timely  request  for  risk-based
classification  is  not  made,  or if  the  FDA  determines  that  a  Class  III
designation is  appropriate,  an approved PMA will be required before the device
may be marketed.

     The more  rigorous  premarket  review  process is the PMA process.  The FDA
approves  a PMA  if the  applicant  has  provided  sufficient  valid  scientific
evidence to prove that the device is safe and effective for its intended use(s).
Applications for premarket  approval generally contain human clinical data. This

                                       8
<PAGE>

process is usually much more  complex,  time-consuming  and  expensive  than the
510(k)  process,  and is  uncertain.  Both  510(k)s  and  PMAs now  require  the
submission of user fees in most circumstances.

     There  can be no  assurance  that  all  the  necessary  FDA  clearances  or
approvals,  including  approval  of any PMA  required by the  promulgation  of a
regulation,  will be granted  for our  products,  future-generation  upgrades or
newly  developed  products,  on a timely basis or at all.  Failure to receive or
delays in receipt of such clearances could have a material adverse effect on our
financial condition and results of operations.

Clinical Trials.

     If human  clinical  trials of a device are  required,  whether to support a
510(k)  or  PMA  application,   the  trials'  sponsor,   which  is  usually  the
manufacturer  of the device,  first must obtain the approval of the  appropriate
institutional  review boards.  If a trial is of a significant  risk device,  the
sponsor also must obtain an  investigational  device exemption or IDE before the
trial may begin. A significant risk device is a device that presents a potential
for  serious  risk to the  subject  and is an  implant;  is  life-sustaining  or
life-supporting;  or is  for a use  of  substantial  importance  in  diagnosing,
curing,  mitigating,  or treating disease, or otherwise preventing impairment of
human health. For all clinical testing, the sponsor must obtain informed consent
from the patients  participating  in each trial. The results of clinical testing
that a sponsor undertakes may be insufficient to obtain clearance or approval of
the tested product.

Pervasive and Continuing FDA Regulation.

     We are also subject to other FDA regulations  that apply prior to and after
a product is commercially  released.  These include  current Good  Manufacturing
Practices or GMP  requirements  set forth in FDA's Quality System  Regulation or
QSR that  require  manufacturers  to have a quality  system  for the  design and
production of medical devices intended for commercial distribution in the United
States.   This  regulation   covers  various  areas  including   management  and
organization, device design, purchase and handling of components, production and
process controls such as those related to buildings and equipment, packaging and
labeling control, distribution, installation, complaint handling, corrective and
preventive action, servicing, and records. We are subject to periodic inspection
by  the  FDA  for  compliance  with  the  current  good  manufacturing  practice
requirements and Quality System Regulation.

     The FDA also enforces  post-marketing controls that include the requirement
to submit medical device reports to the agency when a manufacturer becomes aware
of information  suggesting that any of its marketed  products may have caused or
contributed  to  a  death  or  serious  injury,  or  any  of  its  products  has
malfunctioned  and that a recurrence  of the  malfunction  would likely cause or
contribute  to a death or  serious  injury.  The FDA  relies on  medical  device
reports to identify  product  problems and utilizes  these reports to determine,
among other things,  whether it should exercise its enforcement  powers. The FDA
also may require postmarket surveillance studies for specified devices.

     We are subject to the Federal  Food,  Drug,  and  Cosmetic  Act's or FDCA's
general controls,  including  establishment  registration,  device listing,  and
labeling  requirements.  If we fail to comply  with any  requirements  under the
FDCA, we, including our officers and employees, could be subject to, among other
things, fines, injunctions,  civil penalties, and criminal prosecution.  We also
could be subject to recalls or product corrections,  total or partial suspension
of production,  denial of premarket  notification clearance or PMA approval, and
rescission  or withdrawal of clearances  and  approvals.  Our products  could be
detained or seized, the FDA could order a recall, repair, replacement, or refund
of our devices,  and the agency could require us to notify health  professionals
and others that the devices present  unreasonable  risks of substantial  harm to
the public health.

     The  advertising  of our products is subject to  regulation  by the Federal
Trade  Commission  or FTC. The FTC Act  prohibits  unfair or  deceptive  acts or
practices in or affecting  commerce.  Violations of the FTC Act, such as failure
to have  substantiation  for product  claims,  would  subject us to a variety of
enforcement actions,  including compulsory process,  cease and desist orders and
injunctions,  which can  require,  among other  things,  limits on  advertising,
corrective advertising, consumer redress and restitution, as well as substantial
fines or other penalties.

Foreign Regulation.

     In most countries to which we seek to export the EECP system, it must first
obtain  approval  from  the  local  medical  device  regulatory  authority.  The
regulatory  review  process  varies from  country to country and can be complex,
costly, uncertain, and time-consuming.

     We are also  subject to  periodic  audits by  organizations  authorized  by
foreign countries to determine  compliance with laws,  regulations and standards
that apply to the  commercialization of its products in those markets.  Examples
include auditing by a European Union Notified Body organization (authorized by a

                                       9
<PAGE>

member state's  Competent  Authority) to determine  conformity  with the Medical
Device  Directives  (MDD)  and by an  organization  authorized  by the  Canadian
government to determine  conformity with the Canadian Medical Devices Conformity
Assessment System (CMDCAS).

     There  can  be  no   assurance   that  we  will  obtain   desired   foreign
authorizations to commercially  distribute its products in those markets or that
we will comply with all laws,  regulations  and  standards  that  pertain to its
products  in those  markets.  Failure  to  receive  or delays in receipt of such
authorizations  or  determinations  of conformity  could have a material adverse
effect on our financial condition and results of operations.

Patient Privacy.

     Federal  and state laws  protect  the  confidentiality  of certain  patient
health  information,  including  patient  records,  and  restrict  the  use  and
disclosure  of that  protected  information.  The U.S.  Department of Health and
Human Services (HHS) published  patient privacy rules under the Health Insurance
Portability  and  Accountability  Act of  1996  (HIPAA  privacy  rule)  and  the
regulation was finalized in October 2002. The HIPAA privacy rule governs the use
and disclosure of protected health information by "Covered  Entities," which are
(1) health plans, (2) health care clearinghouses,  and (3) health care providers
that transmit  health  information in electronic form in connection with certain
health care  transactions such as benefit claims.  Currently,  the HIPAA privacy
rule affects us only indirectly in that patient data that we access, collect and
analyze may include protected health information.  Additionally,  we have signed
some Business Associate agreements with Covered Entities that contractually bind
us to protect  protected health  information,  consistent with the HIPAA privacy
rule's requirements. We do not expect the costs and impacts of the HIPAA privacy
rule to be material to our business.

Reimbursement

     Sales of our products depend in part on the  availability of  reimbursement
by government programs such as Medicare, Medicaid, private health care insurance
and  managed-care  plans.  Whether a product  receives  coverage  depends upon a
number of  factors,  including  the  payer's  determination  that the product is
reasonable and necessary for the diagnosis or treatment of the illness or injury
for  which  it is  administered  according  to  accepted  standards  of  medical
practice, the product's cost effectiveness,  whether the product is experimental
or  investigational,  and  whether the product is not  otherwise  excluded  from
coverage by law or  regulation.  There may be  significant  delays in  obtaining
coverage for newly-approved  products, and coverage may be more limited than the
purposes  for which the  product is  approved  or  cleared by FDA.  Even when we
obtain  authorization  from the FDA or  foreign  authority  to begin  commercial
distribution,  there may be limited  demand for the device  until  reimbursement
approval has been obtained from  governmental  and private  third-party  payers.
Moreover,  eligibility  for  coverage  does not  imply  that a  product  will be
reimbursed  in all  cases or at a rate  that  allows us to make a profit or even
cover  our  costs.  Reimbursement  rates  may vary  according  to the use of the
product and the clinical  setting in which it is used,  may be based on payments
allowed for lower-cost products that are already reimbursed, may be incorporated
into existing payments for other products or services, and may reflect budgetary
constraints  and/or   imperfections  in  Medicare  or  Medicaid  data.  Even  if
successful,  securing coverage at adequate  reimbursement  rates from government
and third party  payers can be a time  consuming  and costly  process that could
require us to provide supporting  scientific,  clinical,  and cost-effectiveness
data for the use of our products to each payer. Our inability to promptly obtain
coverage and profitable  reimbursement rates from  government-funded and private
payers for our products  could have a material  adverse  effect on our financial
condition and operating results.

     Our reimbursement strategies are currently focused in the following primary
areas:  obtaining  Medicare  coverage for congestive  heart  failure,  expanding
coverage with other  third-party  payers,  reducing the  limitations in Medicare
coverage for angina and obtaining coverage in selected international markets.

Current Medicare Coverage in Angina

     In February 1999, the Centers for Medicare and Medicaid Services (CMS), the
federal agency that  administers  the Medicare  program for more than 39 million
beneficiaries,  issued a national coverage policy under HCPCS code G1066 for the
use of the EECP therapy system. Key excerpts from the coverage read as follows:

     "Although ECP devices are cleared by the Food and Drug Administration (FDA)
     for use in treating a variety of cardiac  conditions,  including  stable or
     unstable  angina  pectoris,  acute  myocardial  infarction and  cardiogenic
     shock, the use of this device to treat cardiac conditions other than stable

                                       10
<PAGE>

     angina  pectoris  is  not  covered,  since  only  that  use  has  developed
     sufficient evidence to demonstrate its medical effectiveness."

     "for patients who have been diagnosed  with disabling  angina (class III or
     class IV,  Canadian  Cardiovascular  Society  Classification  or equivalent
     classification)  who, in the opinion of a  cardiologist  or  cardiothoracic
     surgeon, are not readily amenable to surgical interventions such as balloon
     angioplasty and cardiac bypass because:

          1.   their  condition  is  inoperable,  or at high  risk of  operative
               complications or post- operative failure;

          2.   their   coronary   anatomy  is  not  readily   amenable  to  such
               procedures; or

          3.   they have co-morbid states, which create excessive risk."

     Additionally,  a  physician  must  be  present  in  the  office  suite  and
immediately  available to provide assistance and directions  throughout the time
that personnel are performing the procedure.

     The 2004 national  average payment rate per hourly session in the physician
office setting and the hospital  outpatient  facility is approximately  $137 and
$113, respectively.  Under the Medicare program,  physician reimbursement of the
provision  of the EECP  therapy  is  higher if the  therapy  is  performed  in a
physician office setting as compared to a hospital  outpatient facility in order
to reflect higher cost associated with the physician office. Since January 2000,
the national average payment rate has varied considerably.  The initial national
average  payment  rate  for  the  physician  office  setting  and  the  hospital
outpatient  facility in 2000 was approximately  $130 and $112,  respectively per
hourly  session.  The average  payment  rate for the  physician  office  setting
climbed  steadily to $208 per  treatment  session in 2003 before  being  reduced
approximately  34% to the 2004  rate,  while the  average  payment  rate for the
hospital outpatient facility declined steadily to the 2004 rate.

     In order to bill and receive payment from Medicare, an individual or entity
must be enrolled in the Medicare program for EECP therapy.  The physician office
setting and the hospital  outpatient  facility are the only  entities  currently
authorized  to receive  reimbursement  for the EECP  therapy  under the Medicare
program and  reimbursement  is not  permitted to other  individuals  or entities
types,  which  include,  but are not limited to, nurse  practitioners,  physical
therapists,  ambulatory surgery centers nursing homes,  comprehensive outpatient
rehabilitation  facilities,  out patient  dialysis  facilities,  and independent
diagnostic  testing  facilities.  For  each of  these  provider  types  there is
statutory  authorization and accompanying  regulations that govern the terms and
conditions of Medicare program participation.

     If there were any material change in the availability of Medicare  coverage
or the  reimbursement  level for treatment  procedures  using the EECP system is
determined to be inadequate,  it would adversely affect our business,  financial
condition and results of  operations.  Moreover,  we are unable to forecast what
additional  legislation  or  regulation,  if any,  relating  to the health  care
industry or Medicare  coverage and payment level may be enacted in the future or
what effect such legislation or regulation would have on us.

Reducing the Limitations in Medicare Coverage for Angina

     We have  initiated  discussions  with CMS to broaden the national  coverage
policy for the EECP  treatment  to  include  all  classes  of stable  angina and
eliminate  the  language  from  current  policy  that  limits  coverage to those
patients who are not readily amenable to surgical interventions, such as balloon
angioplasty and cardiac  bypass.  Although the scientific  evidence  proving the
safety,  efficacy and cost  effectiveness of the EECP treatment has continued to
accumulate  since the  original  coverage  policy  was  implemented,  additional
clinical  and  scientific  evidence  may be required by CMS to support  expanded
coverage  and we are unable to predict  when or if we will be able to reduce the
current  limitations for Medicare  coverage in angina.  We do not anticipate any
changes to the coverage language in fiscal 2005.

Obtaining Medicare Coverage for Congestive Heart Failure

     In June 2002, we announced  that all three of our models of the EECP system
had been granted a 510(k) market clearance from the FDA for a new indication for
the  treatment  of  congestive  heart  failure.  We intend to apply to CMS for a
national coverage policy for EECP therapy specific to CHF when we have completed
and analyzed the results of the ongoing PEECH trial,  a  randomized,  controlled
clinical study on the use of EECP in CHF patients.

     We expect to be able to submit the  results  of the PEECH  trial to CMS and
release  the  results  of the trial by early  2005.  We  anticipate  a  coverage
decision in late 2005 or early 2006; however, there can be no assurance that the

                                       11
<PAGE>

results  of the PEECH  trial will be  sufficient  to  support  expansion  of the
Medicare national  coverage policy for the EECP treatment.  If we were unable to
obtain an adequate national  Medicare  coverage policy for treatment  procedures
using the EECP  system in CHF,  it would  adversely  affect our future  business
prospects.  Moreover,  we are unable to forecast what additional  legislation or
regulation,  if any,  relating to the health care industry or Medicare  coverage
and payment  level may be enacted in the future or what effect such  legislation
or regulation would have us.

Expanding Coverage with Other Third-Party Payers

     Some private  insurance  carriers  continue to  adjudicate  EECP  treatment
claims on a case-by-case  basis. Since the establishment of reimbursement by the
federal government,  however, an increasing number of these private carriers now
routinely  pay for use of EECP  therapy  for the  treatment  of angina  and have
issued positive  coverage  policies,  which are generally  similar to Medicare's
coverage  policy in  scope.  We  estimate  that over 300  private  insurers  are
reimbursing  for the EECP therapy for the treatment of angina today at favorable
payment  levels  and we expect  that the number of  private  insurers  and their
related  health plans that  provide for EECP  therapy as a covered  benefit will
continue to increase.  In addition,  we are aware of two third-party payers that
have begun limited coverage of the EECP therapy for the treatment of CHF.

     We intend to pursue a constructive  dialogue with many private insurers for
the establishment of positive and expanded coverage policies for EECP treatments
that include CHF patients. If there were any material change in the availability
of third-party  private insurers or the adequacy of the reimbursement  level for
treatment  procedures  using  the EECP  system  it would  adversely  affect  our
business, financial condition and results of operations. Moreover, we are unable
to forecast what additional  legislation or regulation,  if any, relating to the
health care industry or third-party private insurers coverage and payment levels
may be enacted in the future or what effect such legislation or regulation would
have on us.

Reimbursement in International Markets

     The reimbursement  environment for EECP therapy in international markets is
fragmented  and  coverage  varies  as a mix  of  available  private  and  public
healthcare  providers  may not yet be  aware  of nor  cover  this  therapy.  Our
reimbursement  strategy has been  opportunistic  and  responsive  to the selling
opportunities  presented through our distribution  partners.  During this fiscal
year our  efforts  on behalf of EECP  therapy  in both the  private  and  public
healthcare sectors of selected  international markets have been initiated by our
distributors,  in support of the therapy,  in their  designated  territory.  The
results in fiscal  2004  included  limited  coverage  for EECP  therapy by major
private health insurance  companies in England,  Spain, Saudi Arabia,  India and
Venezuela.  Additionally,  efforts have been initiated to obtain coverage in the
public sector, in Canada, England,  Ireland,  Israel, Italy, Malaysia,  Thailand
and Sweden;  however, we do not anticipate an impact on financial performance in
the next fiscal year,  given the long lead times from  submission to approval of
international dossiers for each reimbursement authority.

Patents and Trademarks

     We own seven US patents that expire at various times between 2006 and 2021.
In  addition,  more than 20 foreign  patents  have been  issued  that  expire at
various times from 2007 to 2022. There are four major U.S.  applications pending
for approval, relating to aspects of the TS3 system, potential improvements, and
new methods of treatment. We are pursuing these applications in other countries,
including  members of the  European  Union.  We are also  planning to file other
patent applications  regarding specific enhancements to the current EECP models,
future generation products, and methods of treatment.  Moreover, trademarks have
been  registered for the names "EECP" and "Natural  Bypass",  as well as for its
widely-recognized man-like figure representing the application of EECP therapy.

     We pursue a policy of seeking patent protection, both in the US and abroad,
for our proprietary technology.  There can be no assurance that our patents will
not be violated or that any issued  patents  will  provide  protection  that has
commercial  significance.  As with any patented technology,  litigation could be
necessary  to protect our patent  position.  Such  litigation  can be costly and
time-consuming,  and there can be no assurance that we will be  successful.  The
loss or  violation  of our EECP  patents  and  trademarks  could have a material
adverse effect upon our business.

                                       12
<PAGE>
Employees

     As of August 1, 2004, we employed 94 full-time and 2 part-time persons with
27 in  direct  sales  and  sales  support,  7 in  clinical  applications,  29 in
manufacturing,  quality  control  and  technical  service,  7 in  marketing  and
customer support, 14 in engineering,  regulatory and clinical research and 12 in
administration.  None of our  employees  are  represented  by a labor union.  We
believe that our employee relations are good.

     In March 2004 the then current Chief Executive Officer (CEO) of the Company
resigned  from the  Company  and  Photios T.  Paulson,  who served as CEO of the
Company from October 2002 to June 2003, accepted the position as acting CEO. The
Company has engaged a search firm to retain a new CEO.  The search is  currently
ongoing.

Manufacturing

     We manufacture  our EECP therapy  systems in a single  facility  located in
Westbury, New York. Manufacturing operations are conducted under the FDA Quality
System  Regulations.  These  regulations  subject  us to  inspections  to verify
compliance  and  require  us to  maintain  documentation  and  controls  for the
manufacturing and quality  activities.  ISO 13485 is the  international  quality
standard  for  medical  device  manufacturers,  based upon the ISO 9001  quality
standard  with  specific  requirements  consistent  with the FDA Quality  System
Regulation. We received ISO 13485 certification in February 2003.

     We believe our manufacturing  facility,  in addition to the other warehouse
facilities  presently  under  lease,  are  adequate  to  meet  the  current  and
immediately foreseeable future demand for the production of these systems.

RISK FACTORS

     Investing in our common stock involves risk. You should carefully  consider
the following  information about these risks together with the other information
contained in this Report.  If any of the following  risks  actually  occur,  our
business  could be harmed.  This could  cause the price of our stock to decline,
and you may lose part or all of your investment.

Risks Related to Our Business

          Material  changes  in  the  availability  of  Medicare,   Medicaid  or
     third-party  reimbursement  at adequate price levels could adversely affect
     our business.

     Health care providers,  such as hospitals and physician private  practices,
that purchase or lease medical  devices such as the EECP system for use on their
patients generally rely on third-party payers,  principally  Medicare,  Medicaid
and private health  insurance  plans,  to reimburse all or part of the costs and
fees associated with the procedures  performed with these devices. If there were
any  material  change  in  the  availability  of  Medicare,  Medicaid  or  other
third-party  coverage or the adequacy of the  reimbursement  level for treatment
procedures  using the EECP  system,  it would  adversely  affect  our  business,
financial  condition  and  results  of  operations.  Moreover,  we are unable to
forecast what  additional  legislation  or regulation,  if any,  relating to the
health care  industry or Medicare or Medicaid  coverage and payment level may be
enacted in the future or what effect such  legislation or regulation  would have
on our  business.  Even if a device has FDA  clearance,  Medicare,  Medicaid and
other third-party payers may deny reimbursement if they conclude that the device
is not cost- effective, is experimental or is used for an unapproved indication.
In addition,  reimbursement  may not be at or remain at price levels adequate to
allow medical  professionals to realize an appropriate return on the purchase of
our products.

          We may not continue to receive  necessary FDA clearances or approvals,
     which could hinder our ability to market and sell our products.

     If we modify our external  counterpulsation  devices and the  modifications
significantly  affect  safety  or  effectiveness,  or if we make a change to the
intended  use,  we will be required to submit a new  premarket  notification  or
510(k) to FDA. We would be unable to market the modified device until FDA issues
a clearance for the 510(k).

     Additionally,  if FDA publishes a regulation requiring a premarket approval
application or PMA for external  counterpulsation devices, we would then need to
submit a PMA, and have it filed by the agency,  by the date  specified by FDA in
its  regulation.  A PMA requires us to prove the safety and  effectiveness  of a

                                       13
<PAGE>

device  to the  FDA.  The  process  of  obtaining  PMA  approval  is  expensive,
time-consuming,  and  uncertain.  If FDA were to require a PMA  application,  we
likely  would be required to  undertake a clinical  study,  which likely will be
expensive and require lengthy follow-up, to demonstrate the effectiveness of the
device. If we did obtain PMA approval,  any change after approval  affecting the
safety or effectiveness of the device will require approval of a PMA supplement.

     If we offer new products that require 510(k) clearance or PMA approval,  we
will not be able to commercially distribute those products until we receive such
clearance or approval. Regulatory agency approval or clearance for a product may
not be received or may entail  limitations on the device's  indications  for use
that could limit the potential  market for any such  product.  Delays in receipt
of, or failure to obtain or maintain, regulatory clearances and approvals, could
delay or prevent our ability to market or distribute  our products.  Such delays
could have a material adverse effect on our business.

          If we are unable to comply with applicable governmental regulation, we
     may not be able to continue our operations.

     We also  must  comply  with  current  Good  Manufacturing  Practices  (GMP)
requirements as set forth in the Quality System Regulation or QSR to receive FDA
approval to market new products and to continue to market current products.  The
QSR imposes certain procedural and documentation requirements on us with respect
to manufacturing and quality assurance activities, including packaging, storage,
and recordkeeping. Our products and activities are subject to extensive, ongoing
regulation,  including  regulation  of labeling  and  promotion  activities  and
adverse event  reporting.  Also,  our FDA  registered  facilities are subject to
inspection by the FDA and other governmental authorities.  Any failure to comply
with  regulatory  requirements  could  delay or prevent our ability to market or
distribute our products.  Violation of FDA statutory or regulatory  requirements
could result in  enforcement  actions,  such as voluntary or mandatory  recalls,
suspension  or  withdrawal  of  marketing  clearances  or  approvals,  seizures,
injunctions,  fines, civil penalties,  and criminal  prosecutions,  all of which
could have a material  adverse  effect on our  business.  Most  states also have
similar postmarket regulatory and enforcement authority for devices.

     We  cannot   predict   the   nature  of  any  future   laws,   regulations,
interpretations,  or  applications,  nor can we predict  what effect  additional
governmental  regulations or  administrative  orders,  when and if  promulgated,
would have on our  business  in the future.  We may be slow to adapt,  or we may
never adapt to changes in existing  requirements or adoption of new requirements
or policies.  We may incur significant costs to comply with laws and regulations
in the future or compliance with laws or regulations may create an unsustainable
burden on our business.

          We may be  dependent  on the  outcome  of certain  clinical  trials to
     obtain broader  reimbursement  coverage and to achieve  substantial  future
     growth.

     We are currently  dependent on a single product  platform  which,  based on
current medical reimbursement policies, provides coverage for a restricted class
of heart  patients.  While we have been engaged in discussions  with the Centers
for  Medicare and  Medicaid  Services to expand the class of heart  patients for
medical coverage,  we are uncertain as to the outcome of these meetings. We also
have been engaged in certain  clinical  trials for the purpose of expanding this
coverage,  most notable  being our PEECH trial.  We expect that the PEECH trial,
which has been evaluating the effectiveness of EECP therapy for congestive heart
failure  patients,  will be concluded  at the end of 2004 and it is  anticipated
that the results  will be available  in early 2005.  Favorable  results from the
PEECH trial, whose protocol has been designed in cooperation with the FDA, could
substantially expand the number of patients available for medical reimbursement.
Successful clinical trials are important for substantial future revenue growth.

          Increased  acceptance  by  the  medical  community  is  important  for
     continued growth.

     While many  abstracts and  publications  are  presented  each year at major
scientific meetings worldwide with respect to EECP treatment efficacy,  there is
continued skepticism concerning EECP therapy methodology. Certain cardiologists,
in cases where the EECP therapy is a viable alternative,  still appear to prefer
percutaneous coronary  interventions (e.g. balloon angioplasty and stenting) and
cardiac  bypass surgery for their  patients.  We are dependent on consistency of
favorable research findings about the EECP therapy and increasing  acceptance of
the EECP therapy as a safe,  effective and cost  effective  alternative to other
available products by the medical community for continued growth.

                                       14
<PAGE>

     We face competition from other companies and technologies.

     We compete with at least two other  companies  that are marketing  external
counterpulsation  devices.  We do not  know  whether  these  companies  or other
potential competitors who may be developing external  counterpulsation  devices,
may succeed in developing  technologies or products that are more efficient than
those offered by us, and that would render our technology and existing  products
obsolete  or   non-competitive.   Potential  new   competitors   may  also  have
substantially greater financial manufacturing and marketing resources than those
possessed by us. In addition,  other  technologies  or products may be developed
that have an entirely  different approach or means of accomplishing the intended
purpose  of our  products.  Accordingly,  the life  cycles of our  products  are
difficult  to  estimate.  To  compete  successfully,  we  must  keep  pace  with
technological  advancements,  respond  to  evolving  consumer  requirements  and
achieve market acceptance.

          We may not receive approvals by foreign  regulators that are necessary
     for international sales.

     Sales of medical  devices  outside the United States are subject to foreign
regulatory requirements that vary from country to country. Premarket approval or
clearance  in the United  States  does not ensure  regulatory  approval by other
jurisdictions.  If we,  or any  international  distributor,  fail to  obtain  or
maintain  required   pre-market   approvals  or  fail  to  comply  with  foreign
regulations,  foreign  regulatory  authorities  may  require us to file  revised
governmental  notifications,  cease  commercial  sales  of our  products  in the
applicable  countries or otherwise cure the problem.  Such enforcement action by
regulatory authorities may be costly.

     In order to sell our  products  within the European  Union,  we must comply
with the  European  Union's  Medical  Device  Directive.  The CE  marking on our
products attests to this  compliance.  Future  regulatory  changes may limit our
ability to use the CE mark,  and any new products we develop may not qualify for
the CE mark. If we lose this  authorization  or fail to obtain  authorization on
future products, we will not be able to sell our products in the European Union.

     We may not be able to manage growth.

     If our short and  long-term  plans are  successful,  including our clinical
trials,  we will  experience  a period of growth that could place a  significant
strain  upon  our   managerial,   financial  and  operational   resources.   Our
infrastructure, procedures, controls and information systems may not be adequate
to support  our  operations  and to achieve  the rapid  execution  necessary  to
successfully market our products.  Our future operating results will also depend
on our ability to  successfully  upgrade  our  information  systems,  expand our
direct sales force and our internal  sales,  marketing and support staff.  If we
are unable to manage future  expansion  effectively,  our  business,  results of
operations and financial  condition will suffer,  our senior  management will be
less effective, and our revenues and product development efforts may decrease.

     We depend on management and other key personnel.

     We are  dependent  on a limited  number  of key  management  and  technical
personnel. The loss of one or more of our key employees may hurt our business if
we are unable to identify other individuals to provide us with similar services.
We do not maintain "key person" insurance on any of our employees.  In addition,
our success  depends  upon our ability to attract and retain  additional  highly
qualified  sales,   management,   manufacturing  and  research  and  development
personnel.  We face competition in our recruiting activities and may not be able
to attract or retain qualified personnel.

     We may not have adequate intellectual property protection.

     Our  patents  and  proprietary  technology  may  not  be  able  to  prevent
competition by others.  The validity and breadth of claims in medical technology
patents involve complex legal and factual questions.  Future patent applications
may  not be  issued,  the  scope  of  any  patent  protection  may  not  exclude
competitors,  and our patents may not provide competitive  advantages to us. Our
patents may be found to be invalid and other  companies  may claim  rights in or
ownership  of the patents and other  proprietary  rights held or licensed by us.
Also, our existing patents may not cover products that we develop in the future.
Moreover,  when our patents expire, the inventions will enter the public domain.
There can be no  assurance  that our  patents  will not be  violated or that any
issued  patents  will  provide  protection  that  has  commercial  significance.
Litigation may be necessary to protect our patent position.  Such litigation may
be costly  and  time-consuming,  and there can be no  assurance  that we will be
successful in such litigation.

                                       15
<PAGE>

          The loss or violation of certain of our patents and  trademarks  could
     have a material adverse effect upon our business.

     Since patent  applications  in the United States are  maintained in secrecy
until patents are issued, our patent  applications may infringe patents that may
be issued to others.  If our  products  were found to infringe  patents  held by
competitors, we may have to modify our products to avoid infringement, and it is
possible that our modified products would not be commercially successful.

     We do not intend to pay dividends in the foreseeable future.

     We do not  intend  to pay any cash  dividends  on our  common  stock in the
foreseeable future.

Risks Related to Our Industry

     Technological change is difficult to predict and to manage.

     We face the challenges that are typically faced by companies in the medical
device  field.  Our product  line has  required,  and any future  products  will
require,  substantial  development  efforts  and  compliance  with  governmental
clearance or approval requirements. We may encounter unforeseen technological or
scientific  problems  that  force  abandonment  or  substantial  change  in  the
development of a specific product or process.

          We are subject to product  liability  claims and product  recalls that
     may not be covered by insurance.

     The nature of our business exposes us to risks of product  liability claims
and product  recalls.  Medical devices as complex as ours frequently  experience
errors or failures,  especially  when first  introduced or when new versions are
released.

     We  currently  maintain  product  liability  insurance  at  $2,000,000  per
occurrence and $5,000,000 in the aggregate.  Our product liability insurance may
not be  adequate.  In the future,  insurance  coverage  may not be  available on
commercially reasonable terms, or at all. In addition,  product liability claims
or  product  recalls  could  damage  our  reputation  even if we  have  adequate
insurance coverage.

     We do not know the effects of healthcare reform proposals.

     The healthcare  industry is undergoing  fundamental  changes resulting from
political   economic  and   regulatory   influences.   In  the  United   States,
comprehensive  programs  have  been  suggested  seeking  to  increase  access to
healthcare for the uninsured,  control the escalation of healthcare expenditures
within the  economy  and use  healthcare  reimbursement  policies to balance the
federal budget.

     We expect  that the United  States  Congress  and state  legislatures  will
continue to review and assess various  healthcare reform  proposals,  and public
debate of these issues will likely continue. There have been, and we expect that
there will continue to be, a number of federal and state  proposals to constrain
expenditures  for medical  products and services,  which may affect payments for
products such as ours. We cannot predict which, if any of such reform  proposals
will be adopted and when they might be effective,  or the effect these proposals
may have on our business.  Other countries also are  considering  health reform.
Significant changes in healthcare systems could have a substantial impact on the
manner in which we  conduct  our  business  and could  require  us to revise our
strategies.

Risks Related to Stock Exchange and SEC Regulation

     We are subject to stock exchange and SEC regulation.

     Recent  Sarbanes-Oxley  legislation  and stock  exchange  regulations  have
increased  disclosure control,  financial  reporting,  corporate  governance and
internal control  requirements  that will increase the  administrative  costs of
documenting  and auditing  internal  processes,  gathering  data,  and reporting
information.  Our inability to comply with the requirements would  significantly
impact our market valuation.

                                       16
<PAGE>
     Our common stock is subject to price volatility.

     The market  price of our common stock has been and is likely to continue to
be highly  volatile.  Our stock price could be subject to wide  fluctuations  in
response to various factors beyond our control, including:

     --   quarterly variations in operating results;
     --   announcements of technological innovations, new products or pricing by
          our competitors;
     --   the rate of adoption by physicians of our  technology  and products in
          targeted markets;
     --   the timing of patent and regulatory approvals;
     --   the timing and extent of technological advancements;
     --   results of clinical studies;
     --   the sales of our common stock by affiliates or other shareholders with
          large holdings; and
     --   general market conditions.

     Our future operating  results may fall below the expectations of securities
industry analysts or investors. Any such shortfall could result in a significant
decline in the market price of our common stock.  In addition,  the stock market
has experienced significant price and volume fluctuations that have affected the
market price of the stock of many medical  device  companies and that often have
been  unrelated to the  operating  performance  of such  companies.  These broad
market fluctuations may directly influence the market price of our common stock.

          A low stock price could result in our being  de-listed from the Nasdaq
     and subject us to regulations that could reduce our ability to raise funds.

     If our stock price,  which currently is below $1.00 per share remains below
$1.00 per share for an extended  period of time, or if we fail to maintain other
Nasdaq  criteria,  Nasdaq may de-list our common stock from the Nasdaq  SmallCap
Market.  In such an event,  our shares could only be traded on  over-the-counter
bulletin  board system.  This method of trading could  significantly  impair our
ability to raise new capital.

     In the event that our common stock was de-listed  from the Nasdaq  SmallCap
Market due to low stock price,  we may become subject to special  rules,  called
penny  stock  rules  that  impose  additional  sales  practice  requirements  on
broker-dealers who sell our common stock. The rules require, among other things,
the delivery, prior to the transaction, of a disclosure schedule required by the
Securities and Exchange  Commission relating to the market for penny stocks. The
broker-dealer  also must  disclose the  commissions  payable both to the broker-
dealer  and  the  registered  representative  and  current  quotations  for  the
securities,  and  monthly  statements  must  be  sent  disclosing  recent  price
information.

     In the event that our common stock becomes  characterized as a penny stock,
our market  liquidity could be severely  affected.  The regulations  relating to
penny stocks could limit the ability of  broker-dealers to sell our common stock
and thus the  ability of  purchasers  of our common  stock to sell their  common
stock in the secondary market.

          Recent corporate scandals involving alleged accounting  irregularities
     have resulted in unavailability  of, or significantly  higher premiums for,
     director and officer liability insurance.

     As a result of recent  well-publicized  corporate business failures alleged
to have  involved  improper acts by executives  and  accounting  irregularities,
director and officer liability insurance has become more difficult to obtain and
the premiums for such insurance have increased  significantly.  If we are unable
to obtain director and officer liability  insurance at rates that are reasonable
or at all, we may not be able to retain our current  officers  and  directors or
attract qualified directors and officers in the future.

Additional Information

     We are subject to the reporting  requirements under the Securities Exchange
Act of 1934 and are required to file reports and information with the Securities
and Exchange Commission (SEC),  including reports on the following forms: annual
report on Form 10-K,  quarterly  reports on Form 10-Q,  current  reports on Form
8-K, and  amendments  to those  reports  files or furnished  pursuant to Section
13(a) or 15(d) of the Securities Act of 1934.

                                       17
<PAGE>

ITEM 2 - PROPERTIES

     We own our 18,000 square foot  headquarters and  manufacturing  facility at
180 Linden Avenue, Westbury, New York 11590. We lease approximately 7,100 square
feet  of   additional   warehouse   space  under  two   operating   leases  with
non-affiliated  landlords, of which one expires in October 2004 and the other in
September 2006, plus additional  parking locations in the area at an annual cost
of approximately $92,000. We believe that we can renegotiate the lease that will
expire in October 2004 or lease other available space under reasonable terms and
that these combined facilities are adequate to meet our current needs and should
continue to be adequate for the immediately foreseeable future.

ITEM 3 - LEGAL PROCEEDINGS

     There were no material legal proceedings under applicable rules.

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

     There were no matters  submitted to a vote of security  holders  during the
fourth quarter of the fiscal year.

                                       18
<PAGE>

                                    PART II

ITEM 5 - MARKET FOR THE  COMPANY'S  COMMON  STOCK AND  RELATED  SECURITY  HOLDER
         MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

     Our Common  Stock trades on the Nasdaq  SmallCap  Market tier of The Nasdaq
Stock  MarketSM  under the symbol VASO.  The number of record  holders of Common
Stock as of August 1,  2004 was  approximately  1,100,  which  does not  include
approximately  27,600 beneficial owners of shares held in the name of brokers or
other  nominees.  The  table  below  sets  forth the range of high and low trade
prices of the Common Stock as reported by the Nasdaq SmallCap Market tier of The
Nasdaq Stock MarketSM for the fiscal periods specified.
<TABLE>
<CAPTION>
                                Fiscal 2004                Fiscal 2003
                            High          Low          High           Low
<S>                         <C>          <C>           <C>           <C>
First Quarter               $1.55        $0.84         $3.00         $1.25
Second Quarter              $1.59        $0.86         $1.85         $0.52
Third Quarter               $2.34        $1.00         $1.20         $0.70
Fourth Quarter              $1.94        $1.10         $1.60         $0.63
</TABLE>


     The last bid price of the  Company's  Common Stock on August 10, 2004,  was
$0.88 per share.

Dividend Policy

     We have never paid any cash dividends on our Common Stock.  While we do not
intend  to pay  cash  dividends  in the  foreseeable  future,  payment  of  cash
dividends,  if any, will be dependent upon our earnings and financial  position,
investment  opportunities and such other factors as the Board of Directors deems
pertinent.  Stock  dividends,  if any, also will be dependent on such factors as
the Board of Directors deems pertinent.

                                       19
<PAGE>

ITEM 6 - SELECTED FINANCIAL DATA

The following  table  summarizes  selected  financial  data for each of the five
years  ended  May  31  as  derived  from  our  audited  consolidated   financial
statements.  These  data  should be read in  conjunction  with our  consolidated
financial statements, related notes and other financial information.
<TABLE>
<CAPTION>
                                                                         Fiscal Year Ended May 31,
                                                         2004           2003            2002           2001            2000
<S>                                               <C>            <C>             <C>            <C>             <C>
Statements of Earnings

Revenues                                          $22,207,037    $24,823,619     $34,830,471    $27,508,338     $13,673,632
Cost of sales and services                          7,590,103      9,251,221      10,538,731      7,910,359       3,277,700
                                                -------------- -------------- --------------- -------------- ---------------

   Gross profit                                    14,616,934     15,572,398      24,291,740     19,597,979      10,395,932

Selling, general & administrative expenses         12,910,997     13,714,913      13,686,958     11,634,965       7,383,567
Research and development expenses                   3,748,389      4,544,822       5,112,258      2,554,470       1,413,464
Provision for doubtful accounts                     1,296,759      3,728,484       1,304,000        325,000         400,000
Interest and financing costs                          132,062        186,574          98,140         48,294           7,302
Interest and other income, net                       (99,393)      (176,724)       (249,722)      (201,992)        (99,317)
                                                -------------- -------------- --------------- -------------- ---------------
                                                   17,988,814     21,998,069      19,951,634     14,360,737       9,105,016
                                                -------------- -------------- --------------- -------------- ---------------
Earnings (loss) before income taxes               (3,371,880)    (6,425,671)       4,340,106      5,237,242       1,290,916

Income tax (expense) benefit, net                    (50,640)      1,634,688     (1,554,000)      6,457,108         400,000
                                                -------------- -------------- --------------- -------------- ---------------
Net earnings (loss)                               (3,422,520)    (4,790,983)       2,786,106     11,694,350       1,690,916

Preferred stock dividend requirement                       --             --              --             --        (94,122)

                                                -------------- -------------- --------------- -------------- ---------------
Net earnings (loss) applicable to
 common stockholders                             $(3,422,520)   $(4,790,983)      $2,786,106    $11,694,350      $1,596,794
                                                ============== ============== =============== ============== ===============

Net earnings (loss) per common share
    - basic                                           $(0.06)        $(0.08)           $0.05          $0.21           $0.03
                                                ============== ============== =============== ============== ===============
    - diluted                                         $(0.06)        $(0.08)           $0.05          $0.20           $0.03
                                                ============== ============== =============== ============== ===============
Weighted average common shares
  outstanding - basic                              57,981,963     57,647,032      57,251,035     56,571,402      52,580,623
                                                ============== ============== =============== ============== ===============
              - diluted                            57,981,963     57,647,032      59,468,092     59,927,199      57,141,949
                                                ============== ============== =============== ============== ===============

Balance Sheet Data

Cash, cash equivalents and certificates
 of deposit                                        $7,545,589     $5,222,847      $2,967,627     $3,785,456      $3,058,367
Working capital                                    $9,771,870    $11,478,092     $17,225,434    $16,214,655      $7,380,236
Total assets                                      $33,023,615    $35,327,550     $41,418,258    $36,518,974     $10,588,962
Long-term debt                                     $1,092,837     $1,177,804      $1,072,716     $1,108,593             $--
Stockholders' equity (1)                          $24,594,169    $27,319,302     $31,602,604    $28,508,729      $7,943,770
<FN>
___________________
(1) No cash dividends on common stock were declared during any of the above periods.
</FN>
</TABLE>

                                       20
<PAGE>



ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
         OF OPERATIONS

     This  Management's  Discussion  and  Analysis of  Financial  Condition  and
Results of Operations contains descriptions of our expectations regarding future
trends  affecting  our  business.  These forward  looking  statements  and other
forward-looking  statements  made  elsewhere in this document are made under the
safe harbor provisions of the Private Securities  Litigation Reform Act of 1995.
Please read the section  titled "Risk  Factors" in" Item One Business" to review
certain conditions, among others, which we believe could cause results to differ
materially from those contemplated by the forward-looking statements.

     Forward-looking  statements are identified by words such as  "anticipates",
"believes",  "estimates",  "expects", "feels", "plans", "projects" and "intends"
and similar  expressions.  In addition,  any statements that refer to our plans,
expectations,   strategies  or  other  characterizations  of  future  events  or
circumstances are forward-looking  statements.  Such forward-looking  statements
are  based  on our  beliefs,  as well  as  assumptions  made by and  information
currently  available to us. Among the factors that could cause actual results to
differ  materially are the following:  the effect of the dramatic changes taking
place in the healthcare  environment;  the impact of competitive  procedures and
products and their pricing; medical insurance reimbursement policies; unexpected
manufacturing  problems;  unforeseen  difficulties  and delays in the conduct of
clinical  trials  and  other  product  development  programs;   the  actions  of
regulatory authorities and third-party payers in the United States and overseas;
uncertainties  about  the  acceptance  of a novel  therapeutic  modality  by the
medical  community;  and the risk factors  reported from time to time in our SEC
reports.  We undertake no obligation to update forward- looking  statements as a
result of future events or developments.

     The  following  discussion  should be read in  conjunction  with  financial
statements and notes thereto included in this Annual Report on Form 10-K.

Overview

     Vasomedical,  Inc.  incorporated  in  Delaware  in July  1987 is  primarily
engaged in  designing,  manufacturing,  marketing and  supporting  EECP external
counterpulsation systems based on our proprietary technology.  EECP therapy is a
non-invasive,   outpatient   therapy  for  the  treatment  of  diseases  of  the
cardiovascular  system.  The therapy serves to increase  circulation in areas of
the heart with less than adequate blood supply and may restore systemic vascular
function.  We  provide  hospitals  and  physician  private  practices  with EECP
equipment,  treatment  guidance,  and a staff training and  maintenance  program
designed to provide optimal patient outcomes. EECP is a registered trademark for
Vasomedical's enhanced external counterpulsation systems.

     We have Food and Drug  Administration  (FDA)  approval  to market  the EECP
therapy  for  use in the  treatment  of  angina  pectoris  (i.e.,  chest  pain),
cardiogenic  shock, acute myocardial  infarction (i.e., heart attack,  (MI)) and
congestive  heart  failure  (CHF),  however  our current  marketing  efforts are
limited to the treatment of refractory angina,  where reimbursement for the EECP
treatment  is  available.  Medicare and numerous  other  commercial  third-party
payers currently  provide  reimbursement  for the treatment of refractory angina
using the EECP therapy.

     We are also  actively  engaged  in  research  to  establish  the  potential
benefits of EECP therapy in the  management of CHF and are  sponsoring a pivotal
study to demonstrate the efficacy of EECP therapy in most types of heart failure
patients.  This  study,  known  as  PEECH  (Prospective  Evaluation  of  EECP in
Congestive Heart Failure),  is intended to provide  additional  clinical data in
order to support a  Medicare  national  coverage  policy for the use of the EECP
therapy in the  treatment of CHF. We expect to be able to release the results of
the PEECH trial by early 2005.

Results of Operations

Fiscal Years Ended May 31, 2004 and 2003

Summary

     We generated  revenues from the sale, lease and service of our EECP systems
of  $22,207,037  and  $24,823,619  for the years  ended  May 31,  2004 and 2003,
respectively, reflecting a decrease of $2,616,582 or 11%. Our loss before income
taxes was  $3,371,880  and $6,425,671 for the years ended May 31, 2004 and 2003,
respectively.  We reported a net loss of $3,422,520 and $4,790,983 for the years
ended May 31, 2004 and 2003, respectively.

                                       21
<PAGE>

Revenues

     The decline in revenues in fiscal year 2004 compared to fiscal year 2003 is
due  primarily  to lower  revenue  from the sale of EECP systems in the domestic
market.  Domestic  equipment revenue for fiscal 2004 declined  approximately 15%
compared to prior year due to: a reduction  in the average  sales price for EECP
systems of approximately  12%; a higher proportion of used equipment compared to
new equipment  sold during  fiscal year 2004 compared to 2003,  plus adoption of
the  provisions  of EITF  00-21.  Average  domestic  selling  prices  have  been
declining for several years  reflecting the impact in the market of lower priced
competitive  products.  We believe  that the EECP  systems  currently  sell at a
significant  price  premium to  competitive  products  reflecting  the  clinical
efficacy  and  superior  quality of the EECP  system  plus the many value  added
services  offered  by us,  however  we  anticipate  that this  current  trend of
declining  prices  will  continue  in the  immediate  future as our  competition
attempts to capture greater market share through pricing  discounts.  Revenue in
fiscal year 2004 reflects a 115%  increase in the sale of used  equipment to the
domestic  market.  This increase in used equipment  sales reflects  primarily an
increase in used  equipment  available for sale  following the completion of the
PEECH trial and the repossession of EECP systems from previous  sales-type lease
customers.  We sell used  equipment  as  available  to help lessen the impact of
price sensitive situations.  In September 2003, we adopted "Revenue Arrangements
with Multiple  Deliverables",  ("EITF 00-21").  During the nine months following
adoption of the  provisions  of EITF 00- 21, as a result of the  adoption of the
new  policy,  we  deferred  $92,500  of  revenue  related  to the fair  value of
installation  and  in-service  training and  $658,333 of revenue  related to the
warranty  service  for EECP  system  sales,  which  would have  previously  been
recognized as revenue during the period. International shipments of EECP systems
declined  approximately  24% to  $850,333  due to a  higher  sales  rate  in the
previous year following  receipt of the CE Mark. This was partially  offset by a
47%  increase  in revenue  from  equipment  rental and  services  reflecting  an
increase of  approximately  94% in service related  revenue.  The higher service
revenue reflects an increase in service, spare parts and consumables as a result
of the  continued  growth of the  installed  base of EECP  systems  and  greater
marketing  focus on the  sale of  extended  service  contracts.  Rental  revenue
declined approximately 27% during the period reflecting fewer outstanding rental
agreements and lower average rental prices.

     Reimbursement continues to play a critical role in the adoption of the EECP
therapy.  Medicare  dropped the payment rates 34% from $208 per hour to $137 per
hour for  physicians  at the  beginning  of  calendar  year  2004.  The  current
reimbursement  rate is now set at the rates near when the product first received
Medicare coverage in 2000, which makes it more difficult for a private physician
practice to financially justify an investment to provide the EECP therapy. It is
difficult  for us to  determine  the exact  impact  this  decline has had on the
market  for  the  EECP  therapy.  Additionally,  the  impact  from  the  drop in
reimbursement has been partially offset by the decline in average selling prices
and we believe that the EECP therapy  continues to offer an attractive  addition
to the physician private practice, plus the company has continued to support its
customers in gaining  positive  reimbursement  coverage  from other  third-party
payers  during the past year.  EECP  therapy is now  covered by the  majority of
private  insurers for treating  angina  patients,  including many of the leading
Blue Cross Blue Shield plans,  who typically  are the most  difficult  payers to
adopt coverage for new technologies.

Gross Profit

     Gross profit was  $14,616,934 or 66% of revenues for the year ended May 31,
2004,  compared to  $15,572,398  or 63% of  revenues  for the year ended May 31,
2003. Gross profit margin as a percentage of revenue for the twelve-month period
ended May 31, 2004,  improved compared to the same year of the prior fiscal year
despite the lower revenue and the impact from the  reduction in average  selling
prices.  The  improvement  in gross profit as a percentage of sales reflects the
decline in expenditures for service related parts,  travel and personnel for the
year ended May 31,  2004,  when  compared to same  period of the prior year.  In
addition,  the gross profit margin  benefited from the sale of an unusually high
percentage  of used  equipment  when  compared to the prior year.  These systems
carried  lower book values since they were  partially  amortized and as a result
generated above average  margins.  We have limited  quantities of the lower cost
systems and do not  anticipate a significant  volume of used  equipment  will be
sold in the future.  The decline in gross profit when compared to the prior year
in absolute dollars is a direct result of the lower sales volume.

     Gross profits are dependent on a number of factors, particularly the mix of
EECP models sold and their  respective  average selling prices,  the mix of EECP
units sold,  rented or placed during the period,  the ongoing costs of servicing

                                       22
<PAGE>

such units, and certain fixed period costs,  including  facilities,  payroll and
insurance.  Gross profit margins are generally less on non-domestic business due
to the use of distributors resulting in lower selling prices. Consequently,  the
gross profit  realized during the current period may not be indicative of future
margins.

Selling, General and Administrative

     Selling,  general and  administrative  ("SG&A") expenses for the year ended
May 31,  2004 and 2003  were  $12,910,997  or 58% of  revenues  as  compared  to
$13,714,913  or 55% of revenues,  respectively.  The  decrease of SG&A  resulted
primarily  from a  one-time  $600,000  charge  arising  from the  settlement  of
litigation in the prior year plus a severance charge for approximately  $300,000
in the  prior  year,  as well as lower  marketing  expenditures,  primarily  for
outside services and promotional  spending for print and electronic media during
fiscal year 2004,  as compared to fiscal  year 2003.  The above  decreases  were
partially offset by higher administrative and selling expenses,  which reflected
increased  insurance  costs and continued  investment in our direct sales force,
consisting of additional personnel and higher incentive and travel costs.

Research and Development

     Research and development  ("R&D") expenses of $3,748,389 or 17% of revenues
for fiscal  year 2004,  decreased  by  $796,433,  or 18%,  from fiscal year 2003
expenses of  $4,544,822,  or 18% of revenues.  The decrease is due  primarily to
reduced clinical study expenditures related to the completion of several smaller
clinical studies and, at several sites, the patient treatment phase of the PEECH
study. This decrease was partially offset by increased product development costs
related to new EECP system  models and  improvements.

     We expect to continue our  investments in product  development and clinical
trials in fiscal  2005 and beyond to further  validate  and expand the  clinical
applications of the EECP therapy.

Provision for Doubtful Accounts

     During the year ended May 31, 2004, we charged  $1,296,759 to our provision
for doubtful  accounts as compared to  $3,728,484  during the year ended May 31,
2003. In fiscal 2004,  these charges reflect  management  decision in the second
quarter  of fiscal  2004 to record a $680,000  provision  to the  allowance  for
doubtful  accounts,  which  represents  all  funds due from a  sales-type  lease
customer.  We sold our EECP systems to a major customer  engaged in establishing
independent  networks  of  EECP  treatment  centers  under  a  sales-type  lease
aggregating  revenues of  $1,271,888.  No additional  equipment was sold to this
customer  during  fiscal 2003 or 2004.  This customer  became  delinquent in its
scheduled  monthly payments during the fourth quarter of fiscal 2003. During the
first and second  quarters of fiscal 2004 the  customer  attempted to remedy the
situation  and made  payments to us totaling  $70,000.  In  December  2003,  the
customer ceased operations.  Additional provisions for all other accounts totals
approximately  $616,759.  In fiscal 2003, these charges primarily  resulted from
approximately  a $3.0 million  write-off of receivables  with respect to another
major customer,  comprised of $2.5 million for the capital lease and $500,000 in
notes  receivable,  as well as specific  reserves against certain  international
accounts  for which  extended  credit  terms were  offered.  We no longer  offer
sales-type leases.

Interest Expense and Financing Costs

     Interest  expense and  financing  costs  decreased  to $132,062 in the year
ended May 31, 2004,  from  $186,574 for the same period in the prior year due to
repayment of our revolving  secured credit facility in May 2003,  which resulted
in lower average outstanding borrowings during the fiscal year.

Interest and Other Income, Net

     Interest  income and other income for the years ended May 31, 2004, and May
31 2003, was $99,393 and $176,724, respectively. The decrease in interest income
from the prior  year is the direct  result of the  absence  of  interest  income
related to certain  equipment sold under  sales-type  leases  incurred in fiscal
2003, as well as declining interest rates this year over last year earned on the
average cash  balances.  Higher average cash balances  invested  during the year
ended May 31, 2004, compared to the prior period partially offset the above.

Income Tax (Expense) Benefit, Net

     During the fiscal year ended May 31,  2004,  we  recorded a  provision  for
state income  taxes of $50,640.  This is in contrast to an income tax benefit of
$1,634,688 reported during the fiscal year ended May 31, 2003.

     As of May 31, 2004, we had recorded  deferred tax assets of $14,582,000 net
of a $1,908,000  valuation allowance related to the anticipated  recovery of tax
loss carryforwards.  The amount of the deferred tax assets considered realizable
could be reduced in the future if estimates of future  taxable income during the
carryforward period are reduced. Ultimate realization of the deferred tax assets

                                       23
<PAGE>

is  dependent  upon  our  generating  sufficient  taxable  income  prior  to the
expiration  of the tax  loss  carryforwards.  We  believe  that the  Company  is
positioned for long-term  growth despite the financial  results  achieved during
fiscal  years  2004 and  2003,  and that  based  upon the  weight  of  available
evidence, that it is "more likely than not" that net deferred tax assets will be
realized.  The "more likely than not" standard is subjective,  and is based upon
management's  estimate  of a greater  than 50%  probability  that its long range
business plan can be realized.

     Ultimate  realization  of any or all of  the  deferred  tax  assets  is not
assured,  due to significant  uncertainties  associated with estimates of future
taxable  income  during the  carryforward  period.  Our  estimates  are  largely
dependent  upon  achieving  considerable  growth  resulting  from the successful
commercialization  of  the  EECP  therapy  into  the  congestive  heart  failure
indication.  Such future  estimates  of future  taxable  income are based on our
beliefs,  as well as assumptions made by and information  currently available to
us. Certain critical assumptions associated with our estimates include:

     --   that the results from the PEECH  clinical  trial will be  sufficiently
          positive to enable the EECP therapy to obtain  approval for a national
          Medicare  reimbursement  coverage policy plus other  third-party payer
          reimbursement  policies  specific  to  the  congestive  heart  failure
          indication;
     --   that the reimbursement  coverage will be both broad enough in terms of
          coverage  language  and at an amount  adequate  to  enable  successful
          commercialization  of the  EECP  therapy  into  the  congestive  heart
          failure indication.

     Additional factors that could cause actual results to differ materially are
the following:

     --   the effect of the  dramatic  changes  taking  place in the  healthcare
          environment;
     --   the impact of competitive procedures and products and their pricing;
     --   other medical insurance reimbursement policies;
     --   unexpected manufacturing problems;
     --   unforeseen  difficulties  and delays in the conduct of clinical trials
          and other product development programs;
     --   the actions of regulatory  authorities and  third-party  payers in the
          United States and overseas;
     --   uncertainties about the acceptance of a novel therapeutic  modality by
          the medical community;
     --   and the risk  factors  reported  from time to time in our SEC reports.

     The  amount of the  deferred  tax  assets  considered  realizable  could be
reduced  in the  future  if  estimates  of  future  taxable  income  during  the
carryforward  period are reduced or if the  accounting  standards are changed to
reflect a more stringent standard for evaluation of deferred tax assets.

     The recorded  deferred tax asset and  increase to the  valuation  allowance
during the fiscal year ended May 31, 2004 was $1,286,000.

Fiscal Years Ended May 31, 2003 and 2002

Summary

     We generated  revenues from the sale,  lease and service of EECP systems of
$24,824,000  and  $34,830,000  for fiscal  2003 and fiscal  2002,  respectively,
representing a 29% decrease. We generated earnings (loss) before income taxes of
$(6,426,000)  and $4,340,000 for fiscal 2003 and fiscal 2002,  respectively.  We
reported net earnings (loss) of $(4,791,000)  and $2,786,000 for fiscal 2003 and
fiscal  2002,  respectively,  after  recognition  of  an  income  tax  provision
(benefit) of $(1,635,000) and $1,554,000, respectively.

Revenue

     The  decrease  in  revenues  in fiscal 2003 as compared to fiscal 2002 is a
result of the following:

     --   Revenues  in  fiscal  2002  were  favorably   impacted  by  $4,187,000
          resulting  from the shipment of EECP systems under  sales-type  leases
          and there was no  equipment  sold  under  sales-type  leases in fiscal
          2003.
     --   Revenues in fiscal 2003 were affected by several factors including, an
          increase in the duration of the selling  cycle of our EECP systems and
          reduced average unit selling prices. Factors that have caused a longer
          selling  cycle for EECP systems  include,  among other  things,  (a) a
          change  in the mix of  prospective  customers  toward  larger  medical
          practices and hospitals which have longer  decision-making  processes;
          (b) inconsistent or inadequate  reimbursement  coverage policies among
          certain  third-party  insurers;  and (c) general economic  conditions.
          Factors  that have  contributed  to  reduced  average  selling  prices
          include increased competition and general economic conditions.  Fiscal

                                       24
<PAGE>


          2003  revenues  from  equipment  sales  were  adversely   impacted  by
          reductions  in  average  selling  prices   aggregating   approximately
          $5,100,000.
     --   Revenues from  non-domestic  business were $1,122,000,  accounting for
          nearly 5% of total revenues  compared to $2,725,000,  or 8%, in fiscal
          2002.

     Our revenue  growth over the  previous  fiscal year  periods  through  2002
resulted  primarily from the increase in cardiology  practices and hospitals who
became  providers of EECP therapy  following the announcement by the Centers for
Medicare and Medicaid  Services (CMS) in February 1999 of its decision to extend
Medicare coverage nationally to the Company's noninvasive,  outpatient treatment
for coronary  artery  disease.  CMS is the federal agency that  administers  the
Medicare program for approximately 39 million  beneficiaries.  In addition,  the
results  of  our  multicenter,   prospective,  randomized,  blinded,  controlled
clinical study of EECP  (MUST-EECP) were published in the June 1999 issue of the
Journal of the American College of Cardiology. Interest in EECP therapy was also
spurred by the  announcement  of the  results  of  six-month,  twelve-month  and
twenty-four month  post-treatment  outcomes  reported by the International  EECP
Patient  Registry,  as well as numerous other studies  reported and presented at
major scientific  meetings,  including the American Heart  Association (AHA) and
the American College of Cardiology (ACC) annual meetings.

Gross Profit

     Gross profit  margins for fiscal 2003 and fiscal 2002 and were 63% and 70%,
respectively.  The decrease in overall  gross profit for fiscal 2003 compared to
2002 primarily  resulted from increases in unit costs,  due to lower  production
levels,  as well as overall  reductions  in the  average  selling  price of EECP
systems.

Selling, General and Administrative

     Selling,  general and  administrative  (SG&A)  expenses for fiscal 2003 and
fiscal  2002  were  $13,715,000  (55%  of  revenues)  and  $13,687,000  (39%  of
revenues),  respectively.  The increase in the  percentage of SG&A expenses as a
percentage of sales was primarily  due to the  significant  decrease in revenues
from the prior  comparable  periods,  as discussed  above.  The increase in SG&A
expenses,  on an  absolute  basis,  from the  comparable  prior  fiscal  periods
resulted  primarily  from a $600,000  accrual  arising  from the  settlement  of
litigation in the first quarter,  non-recurring charges of $420,000 for employee
severance  arrangements  and executive  recruiting  fees in the second  quarter,
partially offset by overall decreases in sales related expenses due to decreased
revenues.

Research and Development

     Research and development (R&D) expenses of $4,545,000 (18% of revenues) for
fiscal 2003  decreased  by  $567,000,  or 11%,  from fiscal 2002 R&D expenses of
$5,112,000 (15% of revenues).  R&D expenses are primarily  impacted by the PEECH
clinical  trial in heart failure and other clinical  initiatives  (including the
International  EECP Patient  Registry),  as well as continued product design and
development costs.

Provision for Doubtful Accounts

     During fiscal 2003, we charged  $3,728,000  (net of bad debt  recoveries of
$494,000) to our  provision  for doubtful  accounts as compared to $1,304,000 in
fiscal 2002. These charges primarily  resulted from the write-off of receivables
from a major customer  during the first quarter of fiscal 2003 of  approximately
$3,000,000 due to significant  uncertainties  related to this customer's ability
to  satisfy  its  financial  obligations  to  the  Company  (see  Note  E of the
accompanying  Consolidated Financial  Statements),  as well as specific reserves
against  certain  domestic and  international  accounts that  defaulted on their
payment  obligations.  During the second quarter of fiscal 2003, we were able to
successfully  recover all of the units that we had sold under sales-type  leases
to the aforementioned  major customer back into our finished goods inventory and
recorded a bad debt recovery of $479,408,  which represented the carrying amount
of the equipment at that time.

Interest Expense and Financing Costs

     The increase in interest expense over the prior periods is primarily due to
interest on working  capital  borrowings and related charges under our revolving
secured credit facility, as well as loans secured to refinance the November 2000
purchase of our headquarters and warehouse facility.

                                       25
<PAGE>

Interest and Other Income, Net

     The decrease in interest  income from the prior fiscal period is the direct
result of a decrease in interest income related to certain  equipment sold under
sales-type  leases to a major  customer  reported  in fiscal 2002 and during the
first quarter of fiscal 2003, as well as declining interest rates this year over
last year,  offset by the increase in the average cash balances  invested during
the current year.

Income Tax (Expense) Benefit, Net

     In fiscal 2003,  we recorded a net benefit for income taxes of  $1,635,000,
inclusive of a $622,000 valuation allowance on deferred tax assets.

Liquidity and Capital Resources

Cash and Cash Flow

     We have  financed our  operations  in fiscal 2004 and 2003  primarily  from
operations  and  working  capital.  At  May  31,  2004,  we  had  a  cash,  cash
equivalents,  and  certificates  of deposit  balance of  $7,545,589  and working
capital of $9,771,870  as compared to a cash balance of  $5,222,847  and working
capital  of  $11,478,092  at May 31,  2003.  Our  cash,  cash  equivalents,  and
certificates  of  deposit  balances  increased  $2,332,742  in fiscal  year 2004
primarily due to $1,836,260 in cash provided by operating activities.

     The  increase  in  cash  provided  by  our  operating  activities  resulted
primarily from lower accounts receivable,  which provided cash of $1,923,284 for
the  fiscal  year  ended  May 31,  2004.  Net  accounts  receivable  were 93% of
quarterly  revenues for the three-month  period ended May 31, 2004,  compared to
114% at the end of the  three-month  period ended May 31, 2003, and net accounts
receivable turnover improved to 3.4 times as of May 31, 2004, as compared to 2.5
times as of May 31, 2003.  We have  tightened our sales credit  policy,  reduced
extended  payment  terms and  provide  routine  oversight  with  respect  to our
accounts receivable credit and collection efforts.

     Standard payment terms on our domestic equipment sales are generally net 30
to 90 days from  shipment and do not contain  "right of return"  provisions.  We
have  historically  offered a  variety  of  extended  payment  terms,  including
sales-type  leases,  in certain  situations and to certain customers in order to
expand the  market for our EECP  products  in the US and  internationally.  Such
extended payment terms were offered in lieu of price concessions, in competitive
situations,  when opening new markets or geographies  and for repeat  customers.
Extended payment terms cover a variety of negotiated terms, including payment in
full - net 120, net 180 days or some fixed or variable  monthly  payment  amount
for a six to twelve month period followed by a balloon  payment,  if applicable.
During the fiscal years ended May 31, 2004 and 2003,  approximately 1% and 5% of
revenues,  respectively,  were  generated from sales in which payment terms were
greater than 90 days and we offered no sales- type leases during either  period.
In general,  reserves are calculated on a formula basis considering factors such
as the  aging of the  receivables,  time  past due,  and the  customer's  credit
history and their current financial status. In most instances where reserves are
required, or accounts are ultimately written-off,  customers have been unable to
successfully  implement their EECP program.  As we are creating a new market for
the EECP  therapy  and  recognizing  the  challenges  that  some  customers  may
encounter, we have opted, at times, on a customer-by- customer basis, to recover
our equipment  instead of pursuing other legal  remedies,  which has resulted in
our recording of a reserve or a write-off.

     Other key factors causing the increase in cash from the prior year provided
by our  operating  activities  included  the  reduction  in  inventories,  which
decreased  by  $1,065,819  for the fiscal  year ended May 31,  2004,  reflecting
efforts to improve our  procurement  of raw materials and management of finished
goods inventory levels and an increase in accounts payable, accrued expenses and
other current liabilities of $517,056.  Additionally,  non- cash adjustments for
depreciation,  amortization,  allowance for doubtful  accounts and allowance for
inventory  write-offs  to  reconcile  the net  loss of  $3,422,520  to net  cash
provided by operating activities total $1,484,870.

     Investing  activities  used net cash of  $1,334,494  during the fiscal year
ended May 31,  2004,  reflecting  investment  associated  with the  purchase  of
short-term  certificates  of deposit of $1,180,540  and the purchase of property
and  equipment,  primarily the  implementation  of our new  enterprise  resource
planning software (ERP), of $153,954.

     Financing  activities  provided net cash of $640,436 during the fiscal year
ended May 31,  2004,  reflecting  $697,387  received  form the exercise of stock
options plus new borrowings of $67,149  related to our new ERP system.  Payments
of principal on notes and loans were $124,100 partially offsetting the above.

     We cancelled our line of credit in August 2004 and do not currently have an
available line of credit.

                                       26
<PAGE>

     We believe  that our cash flow from  operations  together  with our current
cash reserves will be sufficient to fund our business plan and projected capital
requirements  through at least May 31, 2005; however,  despite our improved cash
balances,  we have incurred  significant losses during the last two fiscal years
and our  long-term  ability to maintain  current  operations  is dependent  upon
achieving profitable  operations or through additional debt or equity financing.
In the event  that  additional  capital is  required,  we may seek to raise such
capital  through  public or private  equity or debt  financings.  Future capital
funding, if available, may result in dilution to current shareholders.

Off-Balance Sheet Arrangements

     As part of our on-going  business,  we do not  participate in  transactions
that  generate   relationships   with   unconsolidated   entities  or  financial
partnerships,  such as  entities  often  referred  to as  structured  finance or
special purpose  entities  ('SPEs"),  which would have been  established for the
purpose of facilitating  off-balance sheet  arrangements or other  contractually
narrow or limited  purposes.  As of May 31,  2004,  we are not  involved  in any
unconsolidated SPE.

Contractual Obligations

     The following table presents our expected cash requirements for contractual
obligations outstanding as of May 31, 2004:
<TABLE>
<CAPTION>
                                                                       Due as of       Due as of
                                                         Due as of    5/31/06 and      5/31/08 and          Due
                                        Total            5/31/05         5/31/07         5/31/09         Thereafter
--------------------------------------------------------------------------------------------------------------------
<S>                                    <C>                <C>             <C>             <C>              <C>
Long-Term Debt                         $1,229,315         $136,478        $241,890        $136,293         $714,654
Operating Leases                          138,873           76,446          62,427              --               --
Litigation Settlement                     333,500          133,250         200,250              --               --
Severance obligations                      35,000           35,000              --              --               --
Employment Agreements                     290,685          250,000          40,685              --               --
--------------------------------------------------------------------------------------------------------------------

Total Contractual Cash                 $2,027,373         $631,174        $545,252        $136,293         $714,654
Obligations
====================================================================================================================
</TABLE>

Effects of Inflation

     We believe that  inflation  and  changing  prices over the past three years
have  not  had a  significant  impact  on  our  revenue  or on  our  results  of
operations.

                                       27
<PAGE>


Critical Accounting Policies

     Financial  Reporting  Release No. 60, which was released by the  Securities
and Exchange  Commission,  or SEC, in December  2001,  requires all companies to
include a  discussion  of critical  accounting  policies or methods  used in the
preparation  of  financial  statements.  Note A of  the  Notes  to  Consolidated
Financial  Statements  included  in our Annual  Report on Form 10-K for the year
ended May 31, 2004 includes a summary of our significant accounting policies and
methods used in the preparation of our financial statements.  In preparing these
financial  statements,  we have made our best estimates and judgments of certain
amounts  included  in the  financial  statements,  giving due  consideration  to
materiality.  The application of these accounting policies involves the exercise
of judgment and use of assumptions as to future  uncertainties and, as a result,
actual  results  could  differ from these  estimates.  Our  critical  accounting
policies are as follows:

Revenue Recognition

     We recognize  revenue when  persuasive  evidence of an arrangement  exists,
delivery  has  occurred  or  service  has been  rendered,  the price is fixed or
determinable and collectibility is reasonably  assured. In the United States, we
recognize  revenue  from the sale of our EECP  systems in the period in which we
deliver the system to the customer. Revenue from the sale of our EECP systems to
international markets is recognized upon shipment, during the period in which we
deliver the product to a common carrier, as are supplies,  accessories and spare
parts  delivered  to both  domestic  and  international  customers.  Returns are
accepted  prior to the  installation  and in-service  training  subject to a 10%
restocking charge or for normal warranty  matters,  and we are not obligated for
post-sale upgrades to these systems.

     In most cases,  revenue  from direct EECP system  sales is  generated  from
multiple-element  arrangements  that  require  judgment in the areas of customer
acceptance,  collectibility,  the  separability of units of accounting,  and the
fair value of individual  elements.  Effective September 1, 2003, we adopted the
provisions of Emerging  Issues Task Force,  or EITF,  Issue No. 00-21,  "Revenue
Arrangements  with  Multiple  Deliverables",  ("EITF  00-21"),  on a prospective
basis. The principles and guidance outlined in EITF 00-21 provide a framework to
determine (a) how the arrangement  consideration  should be measured (b) whether
the arrangement should be divided into separate units of accounting, and (c) how
the  arrangement  consideration  should be allocated among the separate units of
accounting.  We determined that our multiple-element  arrangements are generally
comprised of the  following  elements  that would  qualify as separate  units of
accounting:  system sales, in-service support consisting of equipment set-up and
training  provided at the customers  facilities and warranty  service for system
sales generally covered by a warranty period of one year. Each of these elements
represent  individual  units of accounting as the delivered  item has value to a
customer on a stand-alone  basis,  objective and reliable evidence of fair value
exists for undelivered items, and arrangements normally do not contain a general
right of return relative to the delivered item. We determine fair value based on
the price of the deliverable when it is sold separately or based on third- party
evidence.  In  accordance  with the guidance in EITF 00-21,  we use the residual
method to  allocate  the  arrangement  consideration  when it does not have fair
value of the EECP  system  sale.  Under  the  residual  method,  the  amount  of
consideration  allocated  to the  delivered  item  equals the total  arrangement
consideration less the aggregate fair value of the undelivered  items.  Assuming
all other criteria for revenue  recognition have been met, we recognize  revenue
for EECP system sales when delivery and acceptance  occurs, for installation and
in-service  training  when the services are rendered,  and for warranty  service
ratably over the service period, which is generally one year.

     Upon adoption of the provisions of EITF 00-21 beginning  September 1, 2003,
we deferred $92,500 of revenue,  net of amortization during the period,  related
to the fair value of  installation  and  in-service  training  plus  $658,333 of
revenue, net of amortization during the period,  related to the warranty service
for EECP system sales delivered during the nine-month period ended May 31, 2004.
The amount  related to warranty  service will be recognized  as service  revenue
ratably  over  the  related  service  period,   which  is  generally  one  year.
Previously,  in  accordance  with Staff  Accounting  Bulletin No. 101,  "Revenue
Recognition in Financial  Statements,"  we accrued costs  associated  with these
arrangements  as  warranty  expense in the period the system was  delivered  and
accepted.

     We also recognize revenue generated from servicing EECP systems that are no
longer covered by a warranty  agreement,  or by providing  sites with additional
training,  in the period that these  services are provided.  Revenue  related to
future  commitments under separately priced extended warranty  agreements on the
EECP  system are  deferred  and  recognized  ratably  over the  service  period,
generally  ranging  from one year to four years.  Deferred  revenues  related to
extended  warranty  agreements that have been invoiced to customers prior to the
performance of these services were  $2,095,618 and $1,709,551 as of May 31, 2004
and 2003,  respectively.  Costs  associated  with the  provision  of service and

                                       28
<PAGE>

maintenance,  including salaries,  benefits,  travel, spare parts and equipment,
are recognized in cost of sales as incurred. Amounts billed in excess of revenue
recognized are included as deferred revenue in the consolidated balance sheets.

     We have also entered into lease agreements for our EECP systems,  generally
for terms of one year or less, that are classified as operating leases. Revenues
from operating leases are generally recognized,  in accordance with the terms of
the lease agreements,  on a straight-line  basis over the life of the respective
leases.  For certain operating leases in which payment terms are determined on a
"fee-per-use" basis,  revenues are recognized as incurred (i.e., as actual usage
occurs). The cost of the EECP system utilized under operating leases is recorded
as a component of property and  equipment and is amortized to cost of sales over
the estimated useful life of the equipment, not to exceed five years. There were
no significant  minimum rental  commitments on these operating leases at May 31,
2004.

     We follow SFAS No. 13,  "Accounting  For Leases," for sales of EECP systems
under sales-type  leases. In accordance with SFAS No. 13, we record the sale and
financing  receivable at the amount of the minimum lease payment,  less unearned
interest  income,  which is computed at the interest rate implicit in the lease,
an allowance for bad debt and executory  costs,  which are primarily  related to
product  warranties on each unit sold.  Unearned interest income is amortized to
income in a manner that produces a constant rate of return on the  investment in
the sales-type  lease.  The cost of the EECP system  acquired by the customer is
recorded as cost of sales in the same period that the sale is  recorded.  At the
present time, the Company is no longer offering sales-type leases.

Accounts Receivable/Financing Receivables

     Our  accounts  receivable-trade  are  due  from  customers  engaged  in the
provision  of medical  services.  Credit is extended  based on  evaluation  of a
customer's  financial  condition  and,  generally,  collateral  is not required.
Accounts receivable are generally due 30 to 90 days from shipment and are stated
at amounts due from customers net of allowances for doubtful accounts,  returns,
term  discounts  and other  allowances.  Accounts  outstanding  longer  than the
contractual  payment  terms  are  considered  past  due.  Estimates  are used in
determining  our  allowance  for  doubtful  accounts  based  on  our  historical
collections  experience,  current trends,  credit policy and a percentage of our
accounts receivable by aging category. In determining these percentages, we look
at historical write-offs of our receivables.  We also look at the credit quality
of its customer base as well as changes in our credit policies.  We continuously
monitor  collections  and payments from its customers.  While credit losses have
historically been within expectations and the provisions established,  we cannot
guarantee that we will continue to experience the same credit loss rates that we
have in the past.

     In addition, we periodically review and assess the net realizability of our
receivables  arising from sales- type leases.  If this review results in a lower
estimate of the net  realizable  value of the  receivable,  an allowance for the
unrealized amount is established in the period in which the estimate is changed.
In the first  quarter of fiscal 2003 and the second  quarter of fiscal 2004,  we
decided  to  write-off   financing   receivables   under  sales-type  leases  of
approximately $2,558,000 and $680,000,  respectively, as a result of significant
uncertainties  with respect to these customers'  ability to meet their financial
obligations.

Inventories, Net

     We value  inventory  at the lower of cost or estimated  market,  cost being
determined  on a  first-in,  first-out  basis.  We often  place EECP  systems at
various  field  locations for  demonstration,  training,  evaluation,  and other
similar purposes at no charge.  The cost of these EECP systems is transferred to
property  and  equipment  and is amortized  over the next two to five years.  We
record  the  cost  of  refurbished  components  of  EECP  systems  and  critical
components at cost plus the cost of refurbishment. We regularly review inventory
quantities on hand,  particularly  raw materials  and  components,  and record a
provision  for excess and  obsolete  inventory  based  primarily on existing and
anticipated design and engineering  changes to our products as well as forecasts
of future product demand.

Deferred Revenues

     We record revenue on extended  service  contracts  ratably over the term of
the related warranty  contracts.  Effective  September 1, 2003, we prospectively
adopted the  provisions of EITF 00-21.  Upon adoption of the  provisions of EITF
00-21we began to defer  revenue  related to EECP system sales for the fair value
of  installation  and  in-service  training to the period when the  services are
rendered and for warranty  obligations ratably over the service period, which is
generally one year.

                                       29
<PAGE>

Warranty Costs

     Equipment  sold is  generally  covered  by a  warranty  period of one year.
Effective  September  1, 2003,  we  adopted  the  provisions  of EITF 00-21 on a
prospective basis. Under EITF 00-21, for certain arrangements,  a portion of the
overall system price attributable to the first year warranty service is deferred
and recognized as revenue over the service period.  As such, we no longer accrue
warranty costs upon delivery but rather  recognize  warranty and related service
costs as incurred. Prior to September 1, 2003, we accrued a warranty reserve for
estimated  costs  to  provide  warranty  services  when the  equipment  sale was
recognized.  The factors affecting our warranty liability included the number of
units sold and historical and  anticipated  rates of claims and costs per claim.
The warranty  provision  resulting from transactions  prior to September 1, 2003
will be reduced in future  periods  for  material  and labor  costs  incurred as
related  product is returned  during the  warranty  period or when the  warranty
period elapses.

Income Taxes

     Deferred  income taxes are  recognized  for temporary  differences  between
financial  statement  and income tax bases of assets  and  liabilities  and loss
carryforwards  for which  income tax  benefits  are  expected  to be realized in
future years. A valuation  allowance is established,  when necessary,  to reduce
deferred tax assets to the amount expected to be realized.  In estimating future
tax consequences, we generally consider all expected future events other than an
enactment  of  changes  in the tax laws or  rates.  The  deferred  tax  asset is
continually  evaluated for  realizability.  To the extent our judgment regarding
the  realization  of the  deferred  tax  assets  change,  an  adjustment  to the
allowance is recorded,  with an offsetting increase or decrease, as appropriate,
in income tax expense.  Such adjustments are recorded in the period in which our
estimate as to the  realizability  of the asset  changed that it is "more likely
than not" that all of the deferred tax assets will be realized. The "more likely
than not"  standard is  subjective,  and is based upon our estimate of a greater
than 50% probability that our long range business plan can be realized.

     Deferred  tax   liabilities   and  assets  are  classified  as  current  or
non-current  based on the  classification  of the related asset or liability for
financial reporting. A deferred tax liability or asset that is not related to an
asset or  liability  for  financial  reporting,  including  deferred  tax assets
related to carryforwards, are classified according to the expected reversal date
of the  temporary  difference.  The  deferred  tax  asset  we  recorded  relates
primarily to the realization of net operating loss  carryforwards,  of which the
allocation of the current portion, if any, reflects the expected  utilization of
such net operating  losses in next twelve months.  Such  allocation is based our
internal  financial  forecast  and may be subject to revision  based upon actual
results.

Stock Compensation

     We have four  stock-based  employee  compensation  plans.  We  account  for
stock-based  compensation  using the intrinsic  value method in accordance  with
Accounting  Principles  Board  Opinion No. 25,  "Accounting  for Stock Issued to
Employees,"  and related  Interpretations  ("APB No.  25") and have  adopted the
disclosure  provisions of Statement of Financial  Accounting  Standards No. 148,
"Accounting  for  Stock-Based  Compensation  -  Transition  and  Disclosure,  an
amendment of FASB  Statement No. 123." Under APB No. 25, when the exercise price
of our employee stock options equals the market price of the underlying stock on
the date of grant,  no  compensation  expense  is  recognized.  Accordingly,  no
compensation   expense  has  been  recognized  in  the  consolidated   financial
statements in connection with employee stock option grants.

     Pro forma compensation  expense may not be indicative of future disclosures
because it does not take into effect pro forma  compensation  expense related to
grants before 1995.  For purposes of estimating the fair value of each option on
the date of grant, we utilized the Black-Scholes option-pricing model.

     The  Black-Scholes   option  valuation  model  was  developed  for  use  in
estimating the fair value of traded options,  which have no vesting restrictions
and are fully  transferable.  In addition,  option  valuation models require the
input of highly  subjective  assumptions  including  the  expected  stock  price
volatility.   Because  our   employee   stock   options   have   characteristics
significantly  different from those of traded options and because changes in the
subjective input assumptions can materially  affect the fair value estimate,  in
our opinion,  the existing models do not  necessarily  provide a reliable single
measure of the fair value of its employee stock options.

     Equity  instruments issued to non-employees in exchange for goods, fees and
services are accounted for under the fair value-based method of SFAS No. 123.

                                       30
<PAGE>

Recently Issued Accounting Standards

     In April 2003, the FASB issued Statement of Financial  Accounting Standards
No. 149 ("SFAS No. 149"),  "Amendment of Statement 133 on Derivative Instruments
and Hedging  Activities,"  which amends and clarifies  financial  accounting and
reporting for derivative  instruments,  including certain derivative instruments
embedded in other contracts and for hedging  activities under SFAS No. 133. SFAS
No. 149 is effective for contracts entered into or modified after June 30, 2003,
except for the provisions that were cleared by the FASB in prior pronouncements.
The  adoption  of SFAS No.  149 has not had a material  impact on our  financial
position and results of operations.

     In May 2003, the FASB issued  Statement of Financial  Accounting  Standards
No. 150 ("SFAS No. 150"),  "Accounting for Certain  Financial  Instruments  with
Characteristics  of both  Liabilities  and Equity." This  statement  establishes
standards  for  how an  issuer  classifies  and  measures  in its  statement  of
financial  position certain financial  instruments with  characteristics of both
liabilities and equity. In accordance with the standard,  financial  instruments
that  embody  obligations  for the  issuer  are  required  to be  classified  as
liabilities. This Statement shall be effective for financial instruments entered
into or modified  after May 31, 2003,  and  otherwise  shall be effective at the
beginning  of the first  interim  period  beginning  after  June 15,  2003.  The
adoption of SFAS No. 150 has not had a material impact on our financial position
and results of operations.

     In January 2003, the FASB issued FASB  Interpretation No. 46 "Consolidation
of  Variable  Interest  Entities"  ("FIN  46"),  as  interpreted  by FIN 46R. In
general, a variable interest entity is a corporation, partnership, trust, or any
other legal  structure used for business  purposes that either (a) does not have
equity  investors  with voting  rights or (b) has equity  investors  that do not
provide sufficient financial resources for the entity to support its activities.
A variable  interest  entity often holds  financial  assets,  including loans or
receivables,  real estate or other property.  A variable  interest entity may be
essentially passive or it may engage in activities on behalf of another company.
Until now, a company  generally has included  another entity in its consolidated
financial  statements only if it controlled the entity through voting interests.
FIN 46 changes that by requiring a variable  interest  entity to be consolidated
by a company if that  company is subject to a majority  of the risk of loss from
the variable interest  entity's  activities or entitled to receive a majority of
the entity's residual returns or both. FIN 46's consolidation requirements apply
immediately to variable  interest entities created or acquired after January 31,
2003.  The  consolidation  requirements  apply to older  entities  in the  first
interim  period  beginning  after  June  15,  2003.  Certain  of the  disclosure
requirements  apply in all financial  statements  issued after January 31, 2003,
regardless of when the variable interest entity was established.  We adopted FIN
46 effective  January 31,  2003.  The adoption of FIN 46 did not have a material
impact on our financial position or results of operations.

     In November  2002,  the  Emerging  Issues Task  Force,  ("EITF")  reached a
consensus opinion on, "Revenue Arrangements with Multiple Deliverables",  "(EITF
00-21)".  That  consensus  provides  that  revenue  arrangements  with  multiple
deliverables  should be divided into  separate  units of  accounting  if certain
criteria are met. The  consideration  of the arrangement  should be allocated to
the separate  units of  accounting  based on their  relative  fair values,  with
different  provisions  if the fair value is  contingent on delivery of specified
items  or  performance   conditions.   Applicable  revenue  criteria  should  be
considered  separately  for each  separate  unit of  accounting.  EITF  00-21 is
effective  for revenue  arrangements  entered into in fiscal  periods  beginning
after June 15, 2003.  Effective September 1, 2003, we prospectively  adopted the
provisions  of EITF 00-21.  Upon adoption of the  provisions  of EITF 00-21,  we
deferred  net of  amortization  $92,500 of revenue  related to the fair value of
installation  and in- service  training and  $658,333 of revenue  related to the
warranty  service for EECP system sales  recognized  for the  nine-month  period
ended May 31, 2004.

     In December 2003, the SEC issued Staff  Accounting  Bulletin (SAB) No. 104,
"Revenue  Recognition"  (SAB No.  104),  which  codifies,  revises and  rescinds
certain sections of SAB No. 101, "Revenue Recognition in Financial  Statements",
in  order  to  make  this   interpretive   guidance   consistent   with  current
authoritative  accounting and auditing  guidance and SEC rules and  regulations.
The changes noted in SAB No. 104 did not have a material effect on our financial
position or results of operations.

ITEM 7A - QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK

     We are exposed to certain  financial  market  risks,  including  changes in
interest rates. All of the Company's revenue,  expenses and capital spending are
transacted  in US dollars.  Our  exposure to market risk for changes in interest
rates relates primarily to our cash and cash equivalent balances, investments in
sales-type  leases  and the  line  of  credit  agreement.  The  majority  of our
investments  are in short-term  instruments  and subject to  fluctuations  in US

                                       31
<PAGE>

interest rates. Due to the nature of our short-term investments, we believe that
there is no material risk exposure.

ITEM 8 - FINANCIAL STATEMENTS

     The consolidated  financial  statements listed in the accompanying Index to
Consolidated Financial Statements are filed as part of this report.

ITEM 9 - DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

None.

 ITEM 9A - CONTROLS AND PROCEDURES

     The Company  carried out an evaluation,  under the supervision and with the
participation of our management, including our Chief Executive Officer and Chief
Financial  Officer,  of the  effectiveness  of the design and  operation  of the
Company's  disclosure  controls  and  procedures  pursuant to Exchange  Act Rule
13a-15.  Based  upon that  evaluation,  the Chief  Executive  Officer  and Chief
Financial  Officer  concluded  that our  disclosure  controls and procedures are
effective.  There were no  significant  changes in our  internal  controls or in
other factors that could  significantly  affect these controls subsequent to the
date of their evaluation.

                                       32
<PAGE>
                                    PART III

ITEM 10 - DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

     The  information  required by this Item will be included in our  definitive
Proxy Statement, which will be filed with the Securities and Exchange Commission
in connection with our 2004 Annual Meeting of Stockholders,  and is incorporated
herein by reference.

ITEM 11 - EXECUTIVE COMPENSATION

     The  information  required by this Item will be included in our  definitive
Proxy Statement, which will be filed with the Securities and Exchange Commission
in connection with our 2004 Annual Meeting of Stockholders,  and is incorporated
herein by reference.

ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

     The  information  required by this Item will be included in our  definitive
Proxy Statement, which will be filed with the Securities and Exchange Commission
in connection with our 2004 Annual Meeting of Stockholders,  and is incorporated
herein by reference.

ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

     The  information  required by this Item will be included in our  definitive
Proxy Statement, which will be filed with the Securities and Exchange Commission
in connection with our 2004 Annual Meeting of Stockholders,  and is incorporated
herein by reference.

ITEM 14 - PRINCIPAL ACCOUNTANT FEES AND SERVICES

     The  information  required by this Item will be included in our  definitive
Proxy Statement, which will be filed with the Securities and Exchange Commission
in connection with our 2004 Annual Meeting of Stockholders,  and is incorporated
herein by reference.

ITEM 15 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K

(a)  Financial Statements and Financial Statement Schedules
      ------------------------------------------------------
     (1)  See  Index  to  Consolidated  Financial  Statements  on  page  F-1  at
          beginning of attached financial statements.
     (2)  The following Consolidated Financial Statement Schedule is included in
          Part IV of this report:

                    Schedule II Valuation and Qualifying Accounts

          All other schedules are omitted  because they are not  applicable,  or
     not  required,  or because  the  required  information  is  included in the
     Consolidated Financial Statements or notes thereto.

(b)  Form 8-K Reports
     ----------------
     None

(c)  Exhibits
     --------

     (3)  (a) Restated Certificate of Incorporation (2)
          (b)  By-Laws (1)
     (4)  (a) Specimen Certificate for Common Stock (1)
          (b)  Certificate of Designation of the Preferred Stock, Series A (3)
          (c)  Certificate of Designation of the Preferred Stock, Series B (7)
          (d)  Form of  Rights  Agreement  dated as of March  9,  1995,  between
               Registrant and American Stock Transfer & Trust Company (5)
          (e)  Certificate of Designation of the Preferred Stock, Series C (8)
     (10) (a) 1995 Stock Option Plan (6)
          (b)  Outside Director Stock Option Plan (6)
          (c)  Employment Agreement dated February 1, 1995, as amended March 12,
               1998, and October 10, 2001,  between Registrant and John C.K. Hui
               (4) (9) (13)
          (d)  1997 Stock Option Plan, as amended (10)
          (e)  1999 Stock Option Plan, as amended (11)
          (f)  Credit  Agreement dated February 21, 2002,  between  Vasomedical,
               Inc. and Fleet National Bank (12)
          (g)  Agreement dated October 1, 2002, between the Registrant and Peter
               F. Cohn (14)
          (h)  Termination  and  Settlement  Agreement  dated  October 21, 2002,
               between the Registrant and D. Michael Deignan (14)
          (i)  Employment Agreement dated October 28, 2002, and amended June 30,
               2003, between the Registrant and Photios T. Paulson (14) (16)

                                       33
<PAGE>

          (j)  Amendment and Waiver to Credit  Agreement dated October 18, 2002,
               between the Vasomedical, Inc. and Fleet National Bank (14)
          (k)  Amendment  No. 2 and Waiver to Credit  Agreement  dated April 10,
               2003, between the Registrant and Fleet National Bank (15)
          (l)  Employment  Agreement dated September 8, 2003, between Registrant
               and Thomas W. Fry (17)
     (22)      Subsidiaries of the Registrant
<TABLE>
<CAPTION>
                                                                  Percentage
              Name                   State of Incorporation     Owned by Company
              -----                  ----------------------     ----------------
              <S>                            <C>                     <C>
              Viromedics, Inc.               Delaware                 61%
              180 Linden Avenue Corp.        New York                100%
</TABLE>
     (23) Consent of Grant Thornton LLP
     (31) Certification  Reports pursuant to Securities  Exchange Act Rule 13a -
          14
     (32) Certification  Reports  pursuant to Section 906 of the  Sarbanes-Oxley
          Act of 2002

__________________________

(1)  Incorporated  by reference  to  Registration  Statement  on Form S-18,  No.
     33-24095.
(2)  Incorporated  by  reference  to  Registration  Statement  on Form S-1,  No.
     33-46377 (effective 7/12/94).
(3)  Incorporated by reference to Report on Form 8-K dated November 14, 1994.
(4)  Incorporated by reference to Report on Form 8-K dated January 24, 1995.
(5)  Incorporated by reference to  Registration  Statement on Form 8-A dated May
     12, 1995.
(6)  Incorporated by reference to Notice of Annual Meeting of Stockholders dated
     December 5, 1995.
(7)  Incorporated by reference to Report on Form 8-K dated June 25, 1997.
(8)  Incorporated by reference to Report on Form 8-K dated April 30, 1998.
(9)  Incorporated  by reference to Report on Form 10-K for the fiscal year ended
     May 31, 1998.
(10) Incorporated  by reference to Report on Form 10-K for the fiscal year ended
     May 31, 1999
(11) Incorporated  by reference to Report on Form 10-K for the fiscal year ended
     May 31, 2000.
(12) Incorporated  by reference to Report on Form 10-Q for the quarterly  period
     ended February 28, 2002.
(13) Incorporated  by reference to Report on Form 10-K for the fiscal year ended
     May 31, 2002.
(14) Incorporated  by reference to Report on Form 10-Q for the quarterly  period
     ended November 30, 2002.
(15) Incorporated  by reference to Report on Form 10-Q for the quarterly  period
     ended February 28, 2003.
(16) Incorporated by reference to Report on Form 8-K dated June 30, 2003.
(17) Incorporated  by reference to Report on Form 10-Q for the quarterly  period
     ended February 29, 2004.

                                       34
<PAGE>


SIGNATURES

     Pursuant  to the  requirements  of  Section  13 or 15(d) of the  Securities
Exchange Act of 1934, we have duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized on the 16 day of August, 2004.

                                        VASOMEDICAL, INC.

                                        By: /s/ Photios T. Paulson
                                        -----------------------------------
                                        Photios T. Paulson
                                        President, Chief Executive Officer
                                        and Director
                                        (Principal Executive Officer)

Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been  signed  below on August  16,  2004,  by the  following  persons in the
capacities indicated:

/s/ Alexander G. Bearn             Director
Alexander G. Bearn

/s/ David S. Blumenthal            Director
David S. Blumenthal

/s/ Photios T. Paulson             President, Chief Executive Officer
Photios T. Paulson                 and Director Principal Executive Officer)

/s/ Abraham E. Cohen               Chairman of the Board
Abraham E. Cohen

/s/ Thomas W. Fry                  Chief Financial Officer
Thomas W. Fry                      (Principal Financial and Accounting Officer)

/s/ John C.K. Hui                  Senior Vice President,
John C.K. Hui                      Chief Technology Officer and Director

/s/ Kenneth W. Rind                Director
Kenneth W. Rind

/s/ E. Donald Shapiro              Director
E. Donald Shapiro

/s/ Anthony Viscusi                Director
Anthony Viscusi

/s/ Forrest R. Whittaker           Director
Forrest R. Whittaker

/s/ Martin Zeiger                  Director
Martin Zeiger

                                       35

<PAGE>

                       Vasomedical, Inc. and Subsidiaries

                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

                                                                    Page
                                                                    ----

Report of Independent Registered Public Accounting Firm              F-2

Financial Statements
        Consolidated Balance Sheets as of May 31, 2004 and 2003      F-3

        Consolidated Statements of Earnings for the
          years ended May 31, 2004, 2003 and 2002                    F-4

        Consolidated Statement of Changes in Stockholders'
          Equity for the years ended May 31, 2004, 2003 and 2002     F-5

        Consolidated Statements of Cash Flows for the
          years ended May 31, 2004, 2003 and 2002                    F-6

        Notes to Consolidated Financial Statements                   F-7 - F-21

Financial Statement Schedule
        Schedule II - Valuation and Qualifying Accounts              S-1


                                      F-1
<PAGE>


            REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM


Stockholders and Board of Directors
  Vasomedical, Inc. and Subsidiaries

We have audited the  accompanying  consolidated  balance sheets of  Vasomedical,
Inc.  and  Subsidiaries  (the  "Company")  as of May 31, 2004 and 2003,  and the
related consolidated statements of earnings, changes in stockholders' equity and
cash flows for each of the three  fiscal years in the period ended May 31, 2004.
These financial  statements are the responsibility of the Company's  management.
Our responsibility is to express an opinion on these financial  statements based
on our audits.

We  conducted  our  audits  in  accordance  with  the  standards  of the  Public
Accounting Oversight Board (United States). 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  consolidated  financial  position  of
Vasomedical,  Inc.  and  Subsidiaries  as of May  31,  2004  and  2003,  and the
consolidated  results of their operations and their  consolidated cash flows for
each of the three fiscal years in the period ended May 31, 2004,  in  conformity
with accounting principles generally accepted in the United States of America.

We have also audited Schedule II - Valuation and Qualifying Accounts for each of
the three fiscal years in the period  ended May 31, 2004.  In our opinion,  this
schedule,  when  considered  in  relation  to the basic  consolidated  financial
statements taken as a whole,  presents  fairly,  in all material  respects,  the
information set forth therein.


/S/ Grant Thornton, LLP
GRANT THORNTON LLP


Melville, New York
July 23, 2004

                                      F-2

<PAGE>

                       Vasomedical, Inc. and Subsidiaries

                           CONSOLIDATED BALANCE SHEETS

<TABLE>
<CAPTION>
                                                                                             May 31,
                                                                                    2004                 2003
                                                                              -----------------    -----------------
                                 ASSETS
<S>                                                                               <C>                  <C>
CURRENT ASSETS
     Cash and cash equivalents                                                    $6,365,049           $5,222,847
     Certificates of deposit                                                       1,180,540                   --
     Accounts receivable, net of an allowance for doubtful accounts of
       $699,203 and $768,629 at May 31, 2004 and 2003, respectively                5,521,853            7,377,118
     Inventories, net                                                              2,373,748            3,439,567
     Deferred income taxes                                                                --              303,000
     Financing receivables, net                                                           --              264,090
     Other current assets                                                            272,513              268,231
                                                                              -----------------    -----------------
         Total current assets                                                     15,713,703           16,874,853

PROPERTY AND EQUIPMENT, net of accumulated depreciation of $2,378,576
   and $ 2,338,366 at May 31, 2004 and 2003, respectively                          2,430,521            3,233,158
FINANCING RECEIVABLES, net                                                                --              679,296
DEFERRED INCOME TAXES                                                             14,582,000           14,279,000
OTHER ASSETS                                                                         297,391              261,243
                                                                              -----------------    -----------------
                                                                                 $33,023,615          $35,327,550
                                                                              =================    =================

                  LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
     Accounts payable and accrued expenses                                        $3,122,184           $2,667,861
     Current maturities of long-term debt and notes payable                          136,478              108,462
     Sales tax payable                                                               353,360              461,704
     Deferred revenues                                                             1,734,925              789,118
     Accrued warranty and customer support expenses                                  161,917              575,000
     Accrued professional fees                                                        91,486              207,793
     Accrued commissions                                                             341,483              586,823
                                                                              -----------------    -----------------

         Total current liabilities                                                 5,941,833            5,396,761

LONG-TERM DEBT                                                                     1,092,837            1,177,804
ACCRUED WARRANTY COSTS                                                                83,000              213,000
DEFERRED REVENUES                                                                  1,111,526              920,433
OTHER LIABILITIES                                                                    200,250              300,250

COMMITMENTS AND CONTINGENCIES

STOCKHOLDERS' EQUITY
     Preferred stock, $.01 par value; 1,000,000 shares authorized; none
       issued and outstanding                                                             --                   --
     Common stock, $.001 par value; 110,000,000 shares authorized;
       58,419,356 and 57,822,023 shares at May 31, 2004 and 2003,
       respectively, issued and outstanding                                           58,419               57,822
     Additional paid-in capital                                                   51,320,106           50,623,316
     Accumulated deficit                                                         (26,784,356)         (23,361,836)
                                                                              -----------------    -----------------
         Total stockholders' equity                                               24,594,169           27,319,302
                                                                              -----------------    -----------------
                                                                                 $33,023,615          $35,327,550
                                                                              =================    =================
The accompanying notes are an integral part of these statements.
</TABLE>


                                      F-3
<PAGE>
                       Vasomedical, Inc. and Subsidiaries

                       CONSOLIDATED STATEMENTS OF EARNINGS

<TABLE>
<CAPTION>
                                                                               Fiscal Year Ended May 31,
                                                                   -------------------------------------------------
                                                                        2004             2003              2002
                                                                  --------------    -------------     -------------
<S>                                                                 <C>               <C>               <C>
Revenues
   Equipment sales                                                  $19,302,593       $22,850,391       $29,304,349
   Equipment rentals and services                                     2,904,444         1,973,228         1,339,113
   Equipment sold under sales-type leases                                    --                --         4,187,009
                                                                   --------------    -------------     -------------
                                                                     22,207,037        24,823,619        34,830,471

Cost of sales and services                                            7,590,103         9,251,221        10,538,731
                                                                   --------------    -------------     -------------
    Gross profit                                                     14,616,934        15,572,398        24,291,740

Expenses
   Selling, general and administrative                               12,910,997        13,714,913        13,686,958
   Research and development                                           3,748,389         4,544,822         5,112,258
   Provision for doubtful accounts                                    1,296,759         3,728,484         1,304,000
   Interest and financing costs                                         132,062           186,574            98,140
   Interest and other income, net                                       (99,393)         (176,724)         (249,722)
                                                                   --------------    -------------     -------------
                                                                     17,988,814        21,998,069        19,951,634
                                                                   --------------    -------------     -------------

EARNINGS (LOSS) BEFORE INCOME TAXES                                  (3,371,880)       (6,425,671)        4,340,106
   Income tax (expense) benefit, net                                    (50,640)        1,634,688        (1,554,000)
                                                                   --------------    -------------     -------------
NET EARNINGS (LOSS)                                                 $(3,422,520)      $(4,790,983)       $2,786,106
                                                                   ==============    =============     =============


Net earnings (loss) per common share
     - basic                                                            $(0.06)           $(0.08)            $0.05
                                                                   ==============    =============     =============
     - diluted                                                          $(0.06)           $(0.08)            $0.05
                                                                   ==============    =============     =============

Weighted average common shares outstanding
     - basic                                                         57,981,963        57,647,032        57,251,035
                                                                   ==============    =============     =============
     - diluted                                                       57,981,963        57,647,032        59,468,092
                                                                   ==============    =============     =============

The accompanying notes are an integral part of these statements
</TABLE>


                                      F-4

<PAGE>


                                  Vasomedical, Inc. and Subsidiaries

                       CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY


<TABLE>
<CAPTION>
                                                                                                                        Total
                                                     Common Stock                Additional         Accumulated      Stockholders'
                                                  Shares         Amount          Paid-in-Capital      Deficit            Equity
                                             ------------------------------     ---------------    ---------------   --------------

<S>                                            <C>              <C>              <C>               <C>                <C>
Balance at June 1, 2001                        57,195,453       $57,195          $49,808,493       $(21,356,959)      $28,508,729

   Exercise of options and warrants               113,667           114              199,529                              199,643
   Stock options granted for services                                                 50,126                               50,126
   Tax benefit of stock options and warrants                                          58,000                               58,000
   Net earnings                                                                                       2,786,106         2,786,106
                                           ---------------   --------------     ---------------    ---------------   --------------
Balance at May 31, 2002                        57,309,120        57,309           50,116,148        (18,570,853)       31,602,604

   Exercise of options and warrants               512,903           513              234,487                              235,000
   Stock options granted for services                                                 50,681                               50,681
   Tax benefit of stock options and warrants                                         222,000                              222,000
   Net loss                                                                                          (4,790,983)       (4,790,983)
                                            ---------------  --------------     ---------------    ---------------   --------------

Balance at May 31, 2003                        57,822,023        57,822           50,623,316        (23,361,836)       27,319,302

   Exercise of options and warrants               597,333           597              696,790                              697,387
   Net loss                                                                                          (3,422,520)       (3,422,520)
                                            ---------------  --------------     ---------------    ---------------   --------------
Balance at May 31, 2004                        58,419,356       $58,419          $51,320,106       $(26,784,356)      $24,594,169
                                            ===============  ===============     ===============    ===============  ==============

         The accompanying notes are an integral part of these statements.
</TABLE>
                                      F-5
<PAGE>

                                             Vasomedical, Inc. and Subsidiaries

                                           CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
                                                                                   Year ended May 31,
                                                                       2004              2003              2002
                                                                   --------------    -------------     -------------
<S>                                                                <C>               <C>                <C>
        Cash flows from operating activities
     Net earning (loss)                                            $(3,422,520)      $(4,790,983)       $2,786,106
                                                                   --------------    -------------     -------------
     Adjustments to reconcile net earnings (loss) to net
       cash provided by (used in) operating activities
         Depreciation and amortization                                 749,111         1,132,996           962,167
         Provision for doubtful accounts, net of write-offs            616,759         2,209,101           904,687
         Reserve for inventory obsolescence                            119,000           100,000            30,000
         Deferred income taxes                                              --        (1,669,000)        1,573,000
         Stock options granted for services                                 --            50,681            50,126
         Changes in operating assets and liabilities
              Accounts receivable                                    1,923,284         5,643,288        (3,855,663)
              Financing receivables, net                               258,608           118,126        (3,575,373)
              Inventories                                            1,187,761         1,079,976        (1,694,198)
              Other current assets                                      (4,282)          359,012          (183,356)
              Other assets                                             (69,610)          (79,082)         (142,062)
              Accounts payable, accrued expenses and other
                current liabilities                                    517,056        (1,286,324)          443,649
              Other liabilities                                        (38,907)          311,813           384,265
                                                                   --------------    -------------     -------------
                                                                     5,258,780         7,970,587        (5,102,758)
                                                                   --------------    -------------     -------------
     Net cash provided by (used in) operating activities             1,836,260         3,179,604        (2,316,652)
                                                                   --------------    -------------     -------------
     Cash flows (used in) investing activities
         Purchase of certificates of deposit, net                   (1,180,540)               --                --
         Issuance of notes                                                  --                --          (500,000)
         Purchase of property and equipment                           (153,954)         (326,489)         (319,981)
                                                                   --------------    -------------     -------------
     Net cash (used in) investing activities                        (1,334,494)         (326,489)         (819,981)
                                                                   --------------    -------------     -------------
     Cash flows provided by (used in) financing activities
         Proceeds from notes payable                                    67,149           238,071         2,141,667
         Payments on notes payable                                    (124,100)       (1,070,966)       (1,164,173)
         Restricted cash                                                    --                --         1,141,667
         Proceeds from exercise of options and warrants                697,387           235,000           199,643
                                                                   --------------    -------------     -------------
     Net cash provided by (used in) financing activities               640,436          (597,895)        2,318,804
                                                                   --------------    -------------     -------------
NET INCREASE (DECREASE) IN CASH AND CASH
                                                                   --------------    -------------     -------------
EQUIVALENTS                                                          1,142,202         2,255,220          (817,829)
                                                                   --------------    -------------     -------------
     Cash and cash equivalents - beginning of period                 5,222,847         2,967,627         3,785,456
                                                                   --------------    -------------     -------------
     Cash and cash equivalents - end of period                      $6,365,049        $5,222,847        $2,967,627
                                                                   ==============    =============     =============

Non-cash investing and financing activities were as follows:
     Inventories    transferred   to   (from)   property   and
       equipment, attributable to operating leases - net             $(240,942)         $761,986        $1,130,020

Supplement disclosures:
   Interest paid                                                      $105,194          $186,574           $98,139
   Income taxes paid                                                   $24,213           $87,963          $304,263

         The accompanying notes are an integral part of these statements.
</TABLE>

                                      F-6
<PAGE>
                       Vasomedical, Inc. and Subsidiaries

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                          May 31, 2004, 2003 and 2002

NOTE A - BUSINESS ACTIVITIES AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

     The Company was incorporated in Delaware in July 1987.  During fiscal 1996,
the   Company   commenced   the   commercialization   of   its   EECP   external
counterpulsation system ("EECP"), a microprocessor-based  medical device for the
noninvasive,  outpatient treatment of patients with cardiovascular disease. EECP
is marketed worldwide to hospitals and physician private practices. To date, net
Company's revenues have been generated from customers in the United States.

     A summary of the significant  accounting policies  consistently  applied in
the preparation of the consolidated financial statements follows:

     Principles of Consolidation

     The consolidated  financial statements include the accounts of the Company,
its  wholly-owned  subsidiary  and  its  inactive   majority-owned   subsidiary.
Significant intercompany accounts and transactions have been eliminated.

     Revenue Recognition

     The Company recognizes  revenue when persuasive  evidence of an arrangement
exists,  delivery has occurred or service has been rendered,  the price is fixed
or determinable and collectibility is reasonably  assured. In the United States,
the Company  recognizes  revenue from the sale of its EECP systems in the period
in which the Company delivers the system to the customer.  Revenue from the sale
of its EECP systems to international markets is recognized upon shipment, during
the period in which the Company delivers the product to a common carrier, as are
supplies,   accessories   and  spare  parts   delivered  to  both  domestic  and
international  customers.  Returns are accepted  prior to the  installation  and
in-service  training  subject to a 10% restocking  charge or for normal warranty
matters,  and the  Company is not  obligated  for  post-sale  upgrades  to these
systems.

     In most cases,  revenue  from direct EECP system  sales is  generated  from
multiple-element  arrangements  that  require  judgment in the areas of customer
acceptance,  collectibility,  the  separability of units of accounting,  and the
fair value of  individual  elements.  Effective  September 1, 2003,  the Company
adopted the provisions of Emerging Issues Task Force, or EITF,  Issue No. 00-21,
"Revenue  Arrangements  with  Multiple  Deliverables",   ("EITF  00-21"),  on  a
prospective  basis. The principles and guidance outlined in EITF 00-21 provide a
framework to determine (a) how the arrangement  consideration should be measured
(b) whether the arrangement should be divided into separate units of accounting,
and (c) how the arrangement consideration should be allocated among the separate
units  of  accounting.   The  Company   determined  that  its   multiple-element
arrangements  are  generally  comprised  of the  following  elements  that would
qualify as  separate  units of  accounting:  system  sales,  in-service  support
consisting of equipment set-up and training provided at the customers facilities
and warranty service for system sales generally  covered by a warranty period of
one year. Each of these elements represent individual units of accounting as the
delivered  item has value to a customer on a  stand-alone  basis,  objective and
reliable  evidence of fair value exists for undelivered  items, and arrangements
normally do not  contain a general  right of return  relative  to the  delivered
item. The Company  determines  fair value based on the price of the  deliverable
when it is sold separately or based on third-party  evidence. In accordance with
the guidance in EITF 00-21, the Company uses the residual method to allocate the
arrangement  consideration  when it does not have fair value of the EECP  system
sale.  Under the residual method,  the amount of consideration  allocated to the
delivered  item equals the total  arrangement  consideration  less the aggregate
fair value of the  undelivered  items.  Assuming all other  criteria for revenue
recognition have been met, the Company  recognizes revenue for EECP system sales
when delivery and acceptance  occurs,  for installation and in-service  training
when the  services  are  rendered,  and for  warranty  service  ratably over the
service period, which is generally one year.

     Upon adoption of the provisions of EITF 00-21 beginning  September 1, 2003,
the Company deferred $92,500 of revenue,  net of amortization during the period,
related to the fair value of installation and in-service  training plus $658,333
of  revenue,  net of  amortization  during the period,  related to the  warranty
service for EECP system sales delivered  during the nine-month  period ended May
31, 2004. The amount  related to warranty  service will be recognized as service
revenue ratably over the related  service  period,  which is generally one year.
Previously,  in  accordance  with Staff  Accounting  Bulletin No. 101,  "Revenue
Recognition in Financial  Statements," the Company accrued costs associated with
these  arrangements  as warranty  expense in the period the system was delivered
and accepted.

                                      F-7
<PAGE>
     The Company also recognizes  revenue  generated from servicing EECP systems
that are no longer covered by a warranty  agreement,  or by providing sites with
additional  training,  in the period that these  services are provided.  Revenue
related  to  future   commitments  under  separately  priced  extended  warranty
agreements  on the EECP system are  deferred  and  recognized  ratably  over the
service period, generally ranging from one year to four years. Deferred revenues
related to extended  warranty  agreements  that have been  invoiced to customers
prior to the  performance  of extended  warranty  services were  $2,095,618  and
$1,709,551 as of May 31, 2004 and 2003, respectively.  Costs associated with the
provision of service and  maintenance,  including  salaries,  benefits,  travel,
spare parts and equipment, are recognized in cost of sales as incurred.  Amounts
billed in excess of revenue  recognized are included as deferred  revenue in the
consolidated balance sheets.

     The Company has also  entered  into lease  agreements  for its EECP system,
generally  for  terms of one year or less,  that  are  classified  as  operating
leases.  Revenues from operating leases are generally recognized,  in accordance
with the terms of the lease agreements,  on a straight-line  basis over the life
of the respective  leases.  For certain  operating leases in which payment terms
are  determined on a  "fee-per-use"  basis,  revenues are recognized as incurred
(i.e.,  as actual  usage  occurs).  The cost of the EECP system  utilized  under
operating  leases is recorded as a component  of property and  equipment  and is
amortized to cost of sales over the estimated useful life of the equipment,  not
to exceed five years.  There were no significant  minimum rental  commitments on
these operating leases at May 31, 2004.

     The Company follows SFAS No. 13,  "Accounting For Leases," for its sales of
EECP  systems  under  sales-type  leases.  In  accordance  with SFAS No. 13, the
Company  records the sale and financing  receivable at the amount of the minimum
lease payment,  less unearned interest income, which is computed at the interest
rate implicit in the lease, an allowance for bad debt and executory costs, which
are primarily related to product warranties on each unit sold. Unearned interest
income is  amortized  to income in a manner  that  produces a  constant  rate of
return on the  investment in the sales-type  lease.  The cost of the EECP system
acquired  by the  customer  is recorded as cost of sales in the same period that
the sale is recorded. The Company is no longer offering sales-type leases.

     Accounts Receivable/Financing Receivables

     The Company's accounts receivable - trade are due from customers engaged in
the provision of medical  services.  Credit is extended based on evaluation of a
customer's  financial  condition  and,  generally,  collateral  is not required.
Accounts receivable are generally due 30 to 90 days from shipment and are stated
at amounts due from customers net of allowances for doubtful accounts,  returns,
term  discounts  and other  allowances.  Accounts  outstanding  longer  than the
contractual  payment  terms  are  considered  past  due.  Estimates  are used in
determining  the  allowance  for  doubtful   accounts  based  on  the  Company's
historical  collections   experience,   current  trends,  credit  policy  and  a
percentage of our accounts  receivable by aging category.  In determining  these
percentages,  we look at historical  write-offs of our receivables.  The Company
also looks at the credit  quality of its customer base as well as changes in its
credit policies. The Company continuously monitors collections and payments from
its customers.  While credit losses have historically  been within  expectations
and the  provisions  established,  the  Company  cannot  guarantee  that it will
continue to experience  the same credit loss rates that it has in the past.

     The  changes  in the  Company's  allowance  for  doubtful  accounts  are as
follows:
<TABLE>
<CAPTION>
                                                               Fiscal Years Ended May 31,
                                                  -----------------------------------------------------
                                                       2004               2003               2002
                                                  ---------------    ---------------    ---------------
<S>                                                   <C>              <C>                  <C>
Beginning balance                                     $768,629         $1,099,687           $545,000
    Provision for losses on accounts
    receivable                                         616,759          1,227,324            954,000
    Direct write-offs                                 (686,185)        (1,543,382)          (399,313)
    Recoveries                                              --            (15,000)                --
                                                  ---------------    ---------------    ---------------
Ending balance                                        $699,203           $768,629         $1,099,687
                                                  ===============    ===============    ===============
</TABLE>
     In  addition,  the  Company  periodically  reviews  and  assesses  the  net
realizability of its receivables  arising from sales-type leases. If this review
results in a lower estimate of the net realizable  value of the  receivable,  an
allowance for the  unrealized  amount is  established in the period in which the
estimate is changed.  In the first quarter of fiscal 2003 and the second quarter
of fiscal 2004,  management  decided to write-off  financing  receivables  under
sales-type leases of approximately $2,558,000 and $680,000,  respectively,  as a
result of significant  uncertainties with respect to these customers' ability to
meet their financial obligations. (See Note E).

                                      F-8
<PAGE>
     The changes in the Company's  allowance for  financing  receivables,  which
primarily relates to balloon payments due at lease end, are as follows:
<TABLE>
<CAPTION>
                                                               Fiscal Year Ended May 31,
                                                  -----------------------------------------------------
                                                       2004               2003               2002
                                                  ---------------    ---------------    ---------------
<S>                                                  <C>                <C>                     <C>
Beginning balance                                    $244,994           $718,879           $     --
    Provision for losses on financing
      receivables                                     680,000                 --            718,879
    Direct write-offs                                (924,994)          (473,885)                --
                                                  ---------------    ---------------    ---------------
Ending balance                                       $     --           $244,994           $718,879
                                                  ===============    ===============    ===============
</TABLE>
     Concentrations of Credit Risk

     The Company markets the EECP system  principally to hospitals and physician
private  practices.  The Company  performs credit  evaluations of its customers'
financial  condition and, as a consequence,  believes that its receivable credit
risk  exposure  is limited.  Receivables  are  generally  due 30 to 90 days from
shipment. For the years ended May 31, 2004, 2003 and 2002, no customer accounted
for 10% or more of revenues. For the years ended May 31, 2004, 2003 and 2002, no
customer accounted for 10% or more of accounts  receivable.  At May 31, 2003 and
2002, financing  receivables were due from one and two customers,  respectively.
(See Note E).

     The Company's revenues were derived from the following geographic areas:
<TABLE>
<CAPTION>
                                                                Fiscal Years Ended May 31,
                                                   ------------------------------------------------------
                                                        2004                2003               2002
                                                   ---------------     ---------------    ---------------
<S>                                                 <C>                   <C>                <C>
Domestic (United States)                            $21,339,267           $23,701,619        $32,105,471
Non-domestic                                            867,770             1,122,000          2,725,000
                                                   ---------------     ---------------    ---------------
                                                    $22,207,037           $24,823,619        $34,830,471
                                                   ===============     ===============    ===============
</TABLE>
     Cash and Cash Equivalents

     Cash and cash  equivalents  represent  cash and  short-term,  highly liquid
investments in certificates of deposit,  treasury bills, money market funds, and
investment  grade  commercial  paper issued by major  corporations and financial
institutions  that generally have  maturities of three months or less.  Realized
and  unrealized  gains and losses and declines in value,  if any, are charged to
earnings.  Dividend and interest income are recognized when earned.  The cost of
securities sold is calculated  using the specific  identification  method.  (See
Note C)

     Certificates of Deposit

     Included in this caption are all certificates of deposit that have original
maturities  of greater  than three  months.  Realized and  unrealized  gains and
losses and  declines in value,  if any,  are charged to  earnings.  Dividend and
interest  income are  recognized  when earned.  The cost of  securities  sold is
calculated using the specific identification method.

     Inventories, net

     The Company values inventory at the lower of cost or estimated market, cost
being determined on a first-in,  first- out basis. The Company often places EECP
systems at various field locations for demonstration,  training, evaluation, and
other  similar  purposes  at no  charge.  The  cost of  these  EECP  systems  is
transferred to property and equipment and is amortized over the next two to five
years.  The Company  records the cost of refurbished  components of EECP systems
and  critical  components  at cost plus the cost of  refurbishment.  The Company
regularly reviews inventory  quantities on hand,  particularly raw materials and
components,  and records a provision  for excess and  obsolete  inventory  based
primarily  on existing and  anticipated  design and  engineering  changes to our
products as well as forecasts of future product demand.

     Property and Equipment

     Property and equipment are stated at cost less accumulated depreciation and
amortization.  Depreciation  is provided over the estimated  useful lives of the
assets,  which range from two to thirty-nine  years, on a  straight-line  basis.
Accelerated  methods  of  depreciation  are  used  for tax  purposes.  Leasehold
improvements  are  amortized  over  the  useful  life of the  related  leasehold
improvement or the life of the related lease, whichever is less.

     Deferred Revenues

     The Company records revenue on extended service  contracts ratably over the

                                      F-9
<PAGE>
term of the related warranty contracts. Effective September 1, 2003, the Company
prospectively  adopted  the  provisions  of EITF  00-21.  Upon  adoption  of the
provisions of EITF 00-21,  the Company  began to defer  revenue  related to EECP
system sales for the fair value of installation  and in-service  training to the
period when the services are rendered and for warranty  obligations ratably over
the service period, which is generally one year.

     Warranty Costs

     Equipment  sold is  generally  covered  by a  warranty  period of one year.
Effective September 1, 2003, the Company adopted the provisions of EITF 00-21 on
a prospective  basis. Under EITF 00-21, for certain  arrangements,  a portion of
the overall  system price  attributable  to the first year  warranty  service is
deferred and recognized as revenue over the service period. As such, the Company
no longer accrues  warranty costs upon delivery but rather  recognizes  warranty
and related  service costs as incurred.  Prior to September 1, 2003, the Company
accrued for estimated costs to provide warranty services when the equipment sale
is recognized.  The factors affecting the Company's  warranty liability included
the  number of units sold and  historical  and  anticipated  rates of claims and
costs per claim. The warranty  provision  resulting from  transactions  prior to
September 1, 2003 will be reduced in future periods for material and labor costs
incurred as related  product is returned  during the warranty period or when the
warranty period elapses.

     Research and Development

     Research  and  development  costs are  expensed  as  incurred.  Included in
research and development  costs is  amortization  expense related to the cost of
EECP systems under loan for clinical trials.

     Income Taxes

     Deferred  income taxes are  recognized  for temporary  differences  between
financial  statement  and income tax bases of assets  and  liabilities  and loss
carryforwards  for which  income tax  benefits  are  expected  to be realized in
future years. A valuation  allowance is established,  when necessary,  to reduce
deferred tax assets to the amount expected to be realized.  In estimating future
tax  consequences,  the Company  generally  considers all expected future events
other than an  enactment  of changes in the tax laws or rates.  The deferred tax
asset is continually  evaluated for  realizability.  To the extent  management's
judgment  regarding  the  realization  of the  deferred  tax assets  change,  an
adjustment  to the  allowance  is  recorded,  with  an  offsetting  increase  or
decrease,  as appropriate,  in income tax expense. Such adjustments are recorded
in the period in which  management's  estimate  as to the  realizability  of the
asset  changed  that it is "more  likely than not" that all of the  deferred tax
assets will be realized. The "more likely than not" standard is subjective,  and
is based upon  management's  estimate of a greater than 50% probability that its
long range business plan can be realized.

     Deferred  tax   liabilities   and  assets  are  classified  as  current  or
non-current  based on the  classification  of the related asset or liability for
financial reporting. A deferred tax liability or asset that is not related to an
asset or  liability  for  financial  reporting,  including  deferred  tax assets
related to carryforwards, shall be classified according to the expected reversal
date of the temporary difference. The deferred tax asset recorded by the Company
relates  primarily to the  realization of net operating loss  carryforwards,  of
which the  allocation  of the current  portion,  if any,  reflects  the expected
utilization  of such net  operating  losses  in the  next  twelve  months.  Such
allocation is based upon  management's  internal  financial  forecast and may be
subject to revision based upon actual results.

     Shipping and Handling Costs

     The Company  includes  all shipping  and  handling  expenses  incurred as a
component of cost of sales.  Amounts billed to customers related to shipping and
handling costs are included as a component of sales.

     Fair Value of Financial Instruments

     The carrying amounts of cash and cash equivalents,  accounts receivable and
accounts payable approximate fair value due to the short-term  maturities of the
instruments.  The carrying amount of the financing receivables approximates fair
value as the interest  rates implicit in the leases  approximate  current market
interest rates for similar financial instruments.  The carrying amounts of notes
payable approximates their fair value as the interest rates of these instruments
approximate the interest rates  available on instruments  with similar terms and
maturities.

     Use of Estimates

     The  preparation  of financial  statements  in conformity  with  accounting
principles   generally  accepted  in  the  United  States  of  America  requires
management to make estimates and assumptions that affect the amounts reported in
the financial  statements  and  accompanying  notes.  Significant  estimates and
assumptions  relate to estimates of  collectibility  of accounts  receivable and
financing  receivables,  the  realizability  of  deferred  tax  assets,  and the
adequacy of inventory and warranty  reserves.  Actual  results could differ from
those estimates.

                                      F-10
<PAGE>
     Net Earnings (Loss) Per Common Share

     Basic earnings (loss) per share are based on the weighted average number of
common  shares  outstanding  without  consideration  of potential  common stock.
Diluted earnings (loss) per share are based on the weighted number of common and
potential  common shares  outstanding.  The  calculation  takes into account the
shares that may be issued  upon the  exercise  of stock  options  and  warrants,
reduced by the shares that may be  repurchased  with the funds received from the
exercise, based on the average price during the period.

     Stock-Based Employee Compensation

     The Company has four stock-based  employee  compensation  plans,  which are
described in Note K. The Company accounts for stock-based compensation using the
intrinsic value method in accordance with  Accounting  Principles  Board Opinion
No. 25, "Accounting for Stock Issued to Employees," and related  Interpretations
("APB No.  25") and has  adopted  the  disclosure  provisions  of  Statement  of
Financial Accounting Standards No. 148, "Accounting for Stock-Based Compensation
- Transition and Disclosure,  an amendment of FASB Statement No. 123." Under APB
No. 25, when the exercise  price of the Company's  employee stock options equals
the market price of the underlying  stock on the date of grant,  no compensation
expense is recognized.  Accordingly, no compensation expense has been recognized
in the  consolidated  financial  statements  in connection  with employee  stock
option  grants.

     The following  table  illustrates the effect on net income and earnings per
share had the Company applied the fair value recognition provisions of Statement
of  Financial   Accounting   Standards  No.  123,  "Accounting  for  Stock-Based
Compensation," to stock-based employee compensation.

<TABLE>
<CAPTION>
                                                               Fiscal Year Ended May 31,
                                                  -----------------------------------------------------
                                                       2004               2003               2002
                                                  ---------------    ---------------    ---------------
<S>                                                <C>                <C>                 <C>
Net earnings (loss), as reported                   $(3,422,520)       $(4,790,983)        $2,786,106
Deduct: Total stock-based employee compensation
   expense determined under fair value-based
   method for all awards                            (1,080,817)          (917,281)        (1,143,120)
                                                  ---------------    ---------------    ---------------
Pro forma net earnings (loss)                      $(4,503,337)       $(5,708,264)        $1,642,986
                                                  ===============    ===============    ===============
Earnings (loss) per share:
    Basic and diluted - as reported                  $(0.06)             $(0.08)             $0.05
    Basic and diluted - pro forma                    $(0.08)             $(0.10)             $0.03

</TABLE>

     Pro forma compensation  expense may not be indicative of future disclosures
because it does not take into effect pro forma  compensation  expense related to
grants before 1995.  For purposes of estimating the fair value of each option on
the date of grant, the Company utilized the Black-Scholes option-pricing model.


     The  Black-Scholes   option  valuation  model  was  developed  for  use  in
estimating the fair value of traded options,  which have no vesting restrictions
and are fully  transferable.  In addition,  option  valuation models require the
input of highly  subjective  assumptions  including  the  expected  stock  price
volatility.  Because the Company's  employee stock options have  characteristics
significantly  different from those of traded options and because changes in the
subjective input assumptions can materially  affect the fair value estimate,  in
management's  opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its employee  stock options.  The fair value
of the Company's stock-based awards was estimated assuming no expected dividends
and the following weighted-average assumptions are as follows:

<TABLE>
<CAPTION>
                                                               Fiscal Years Ended May 31,
                                                  -----------------------------------------------------
                                                       2004               2003               2002
                                                  ---------------    ---------------     --------------
<S>                                                       <C>                <C>                 <C>
Expected life (years)                                     5                  5                   5
Expected volatility                                      89%                89%                 86%
Risk-free interest rate                                 3.4%               3.0%                3.9%
Expected dividend yield                                 0.0%               0.0%                0.0%

</TABLE>
     Equity  instruments issued to non-employees in exchange for goods, fees and
services are accounted for under the fair value-based method of SFAS No. 123.

                                      F-11

<PAGE>
     Impact of New Accounting Pronouncements

     In April 2003, the FASB issued Statement of Financial  Accounting Standards
No.  149  ("SFAS No.  149"),  "Amendment  of  Statement  No.  133 on  Derivative
Instruments  and  Hedging  Activities,"  which  amends and  clarifies  financial
accounting  and  reporting  for  derivative   instruments,   including   certain
derivative  instruments  embedded in other contracts and for hedging  activities
under SFAS No. 133.  SFAS No. 149 is  effective  for  contracts  entered into or
modified after June 30, 2003, except for the provisions that were cleared by the
FASB  in  prior  pronouncements.  The  adoption  of SFAS  No.  149 has not had a
material impact on the Company's financial position and results of operations.

     In May 2003, the FASB issued  Statement of Financial  Accounting  Standards
No. 150 ("SFAS No. 150"),  "Accounting for Certain  Financial  Instruments  with
Characteristics  of both  Liabilities  and Equity." This  statement  establishes
standards  for  how an  issuer  classifies  and  measures  in its  statement  of
financial  position certain financial  instruments with  characteristics of both
liabilities and equity. In accordance with the standard,  financial  instruments
that  embody  obligations  for the  issuer  are  required  to be  classified  as
liabilities. This Statement shall be effective for financial instruments entered
into or modified  after May 31, 2003,  and  otherwise  shall be effective at the
beginning  of the first  interim  period  beginning  after  June 15,  2003.  The
adoption  of  SFAS  No.  150  has not had a  material  impact  on the  Company's
financial position and results of operations.

     In January 2003, the FASB issued FASB  Interpretation No. 46 "Consolidation
of  Variable  Interest  Entities"  ("FIN  46"),  as  interpreted  by FIN 46R. In
general, a variable interest entity is a corporation, partnership, trust, or any
other legal  structure used for business  purposes that either (a) does not have
equity  investors  with voting  rights or (b) has equity  investors  that do not
provide sufficient financial resources for the entity to support its activities.
A variable  interest  entity often holds  financial  assets,  including loans or
receivables,  real estate or other property.  A variable  interest entity may be
essentially passive or it may engage in activities on behalf of another company.
Until now, a company  generally has included  another entity in its consolidated
financial  statements only if it controlled the entity through voting interests.
FIN 46 changes that by requiring a variable  interest  entity to be consolidated
by a company if that  company is subject to a majority  of the risk of loss from
the variable interest  entity's  activities or entitled to receive a majority of
the entity's residual returns or both. FIN 46's consolidation requirements apply
immediately to variable  interest entities created or acquired after January 31,
2003.  The  consolidation  requirements  apply to older  entities  in the  first
interim  period  beginning  after  June  15,  2003.  Certain  of the  disclosure
requirements  apply in all financial  statements  issued after January 31, 2003,
regardless of when the variable  interest  entity was  established.  The Company
adopted FIN 46 effective January 31, 2003. The adoption of FIN 46 did not have a
material impact on the Company's financial position or results of operations.

     In November  2002,  the  Emerging  Issues Task  Force,  ("EITF")  reached a
consensus opinion on, "Revenue Arrangements with Multiple Deliverables",  "(EITF
00-21)".  That  consensus  provides  that  revenue  arrangements  with  multiple
deliverables  should be divided into  separate  units of  accounting  if certain
criteria are met. The  consideration  of the arrangement  should be allocated to
the separate  units of  accounting  based on their  relative  fair values,  with
different  provisions  if the fair value is  contingent on delivery of specified
items  or  performance   conditions.   Applicable  revenue  criteria  should  be
considered  separately  for each  separate  unit of  accounting.  EITF  00-21 is
effective  for revenue  arrangements  entered into in fiscal  periods  beginning
after June 15,  2003.  Effective  September 1, 2003,  the Company  prospectively
adopted the  provisions of EITF 00-21.  Upon adoption of the  provisions of EITF
00-21, the Company  deferred $92,500 net of amortization,  of revenue related to
the fair value of  installation  and  in-service  training  and  $658,333 net of
amortization  of revenue  related to the warranty  service for EECP system sales
recognized for the nine- month period ended May 31, 2004.

     In December 2003, the SEC issued Staff  Accounting  Bulletin (SAB) No. 104,
"Revenue  Recognition"  (SAB No.  104),  which  codifies,  revises and  rescinds
certain sections of SAB No. 101, "Revenue Recognition in Financial  Statements",
in  order  to  make  this   interpretive   guidance   consistent   with  current
authoritative  accounting and auditing  guidance and SEC rules and  regulations.
The changes noted in SAB No. 104 did not have a material effect on the Company's
financial position or results of operations.

                                      F-12
<PAGE>
NOTE B - EARNINGS (LOSS) PER COMMON SHARE

     The  following  table  sets  forth the  computation  of basic  and  diluted
earnings (loss) per share:
<TABLE>
<CAPTION>
                                                               Fiscal Year Ended May 31,
                                                  -----------------------------------------------------
                                                       2004               2003               2002
                                                  ---------------    ---------------     --------------
<S>                                                 <C>                <C>                  <C>
Numerator:
   Net earnings (loss)                              $(3,422,520)       $(4,790,983)         $2,786,106
Denominator:
   Basic - weighted average shares                   57,981,963         57,647,032          57,251,035
         Stock options                                       --                 --           1,624,744
         Warrants                                            --                 --             592,313
                                                  ---------------    ---------------     --------------
   Diluted - weighted average shares                 57,981,963         57,647,032          59,468,092
                                                  ===============    ===============     ==============
Earnings (loss) per share - basic                        $(0.06)            $(0.08)              $0.05
                                                  ===============    ===============     ==============
                          - diluted                      $(0.06)            $(0.08)              $0.05
                                                  ===============    ===============     ==============
</TABLE>
     Options and warrants to purchase 5,161,751,  6,190,753 and 2,432,167 shares
of common stock were excluded from the computation of diluted earnings per share
for the years  ended May 31,  2004,  2003 and 2002,  respectively,  because  the
effect of their inclusion would be antidilutive.

NOTE C - CASH AND CASH EQUIVALENTS

     Cash and cash equivalents consist of the following:
<TABLE>
<CAPTION>
                                                                             May 31,
                                                                ----------------------------------
                                                                     2004               2003
                                                                ---------------    ---------------
        <S>                                                        <C>                   <C>
        Cash accounts                                              $2,522,570            961,922
        Money market funds                                          3,842,479          4,260,925
                                                                ---------------    ---------------
                                                                   $6,365,049         $5,222,847
                                                                ===============    ===============
</TABLE>
NOTE D - INVENTORIES, NET

         Inventories, net consist of the following:
<TABLE>
<CAPTION>
                                                                             May 31,
                                                                ----------------------------------
                                                                     2004               2003
                                                                ---------------    ---------------
        <S>                                                          <C>              <C>
        Raw materials                                                $928,269         $1,374,241
        Work in progress                                              455,731            634,890
        Finished goods                                                989,748          1,430,436
                                                                ---------------    ---------------
                                                                   $2,373,748         $3,439,567
                                                                ===============    ===============
</TABLE>
     At May 31, 2004 and 2003,  the Company has  recorded  reserves for obsolete
inventory of $399,000 and $280,000, respectively.

NOTE E - FINANCING RECEIVABLES FROM MAJOR CUSTOMERS

     In fiscal year 2002, the Company sold its external counterpulsation systems
("EECP"  units) to two  major  customers  engaged  in  establishing  independent
networks  of EECP  centers  under  sales-type  leases  aggregating  revenues  of
$4,187,009  in fiscal  year  2002.  No  additional  equipment  was sold to these
customers  during fiscal 2003 or 2004.

     In  late  August  2002,  the  largest  customer  became  delinquent  in its
scheduled  monthly payments under its financing  obligations to the Company.  In
September   2002,   the  Company  was  notified  by  this   customer  of  recent
circumstances  that  precluded  their  ability  to remain  current  under  their
financing  obligations  to  the  Company.  Accordingly,  management  decided  to

                                      F-13

<PAGE>

write-off,  in full,  all funds due from this  customer  as of August 31,  2002,
which aggregated approximately $3,000,000, including the present carrying amount
of the underlying  equipment due to the uncertainty of the Company's  ability to
repossess  the  equipment.  During the second  quarter of fiscal year 2003,  the
customer ceased operations and the Company was able to successfully  recover all
of the units that it had sold under sales-type  leases to the customer back into
its finished goods inventory and recorded a bad debt recovery of $479,000, which
represented  the  carrying  amount at that  time of the  equipment.  The  second
customer became  delinquent in its scheduled  monthly payments during the fourth
quarter of fiscal 2003.  During the first and second quarters of fiscal 2004 the
customer  attempted to remedy the situation and made payments  totaling $70,000.
In December  2003,  the  customer  ceased  operations.  Accordingly,  management
decided to write- off all funds due from this  customer as of November 30, 2003,
less  the  anticipated  recovery  of  equipment  and the  reduction  of  related
liabilities for sales tax. The write-off of  approximately  $680,000 is included
as a component  of the  provision  for  doubtful  accounts  in the  accompanying
Statement of Earnings for the year ended May 31, 2004.  In the third  quarter of
fiscal 2004, the Company  recovered all of the EECP systems that had been leased
to this customer. The Company is no longer offering sales-type leases.

NOTE F - PROPERTY AND EQUIPMENT

     Property and equipment is summarized as follows:
<TABLE>
<CAPTION>
                                                                             May 31,
                                                                -----------------------------------
                                                                     2004               2003
                                                                ---------------    ----------------
<S>                                                                 <C>                <C>
Land                                                                $200,000           $200,000
Building and improvements                                          1,382,270          1,376,106
Office, laboratory and other equipment                             1,246,089          1,111,827
EECP systems  under  operating  leases or under loan
   for clinical trials                                             1,700,867          2,617,624
Furniture and fixtures                                               162,068            148,164
Leasehold improvements                                               117,803            117,803
                                                                ---------------    ----------------
                                                                   4,809,097          5,571,524
                                                                ---------------    ----------------
Less: accumulated depreciation and amortization                   (2,378,576)        (2,338,366)
                                                                ---------------    ----------------
                                                                  $2,430,521         $3,233,158
                                                                ===============    ================
</TABLE>

NOTE G - DEFERRED REVENUE

     The changes in the Company's deferred revenues are as follows:
<TABLE>
<CAPTION>
                                                                Fiscal Year Ended May 31,
                                                  -----------------------------------------------------
                                                       2004               2003               2002
                                                  ---------------    ---------------    ---------------
Deferred Revenue at the beginning of the year
<S>                                                 <C>                  <C>                <C>
                                                    $1,709,551           $991,204           $243,151
ADDITIONS
   Deferred extended service contracts               1,871,439          1,478,933          1,156,244
   Deferred in-service training                        340,000                 --                 --
   Deferred warranty obligations                     1,040,000                 --                 --
RECOGNIZED AS REVENUE
   Deferred extended service contracts              (1,485,372)          (760,586)          (408,191)
   Deferred in-service training                       (247,500)                --                 --
   Deferred warranty obligations                      (381,667)                --                 --
                                                  ---------------    ---------------    ---------------
Deferred revenue at end of the year                  2,846,451          1,709,551            991,204
   Less: current portion                            (1,734,925)          (789,118)          (272,000)
                                                  ---------------    ---------------    ---------------
Long-term deferred revenue at end of the year       $1,111,526           $920,433           $719,204
                                                  ===============    ===============    ===============
</TABLE>

                                      F-14
<PAGE>

NOTE H - WARRANTY LIABILITY

     The changes in the Company's product warranty liability are as follows:

<TABLE>
<CAPTION>
                                                                Fiscal Year Ended May 31,
                                                  -------------------------------------------------------
                                                       2004                2003               2002
                                                  ---------------     ---------------    ----------------
<S>                                                    <C>                 <C>              <C>
Beginning balance                                      $788,000            $991,000         $1,055,000
  Expense for new warranties issued                     164,000             724,000            780,000
  Warranty claims                                      (707,083)           (927,000)          (844,000)
                                                  ---------------     ---------------    ----------------
Ending balance                                         $244,917            $788,000           $991,000
                                                  ===============     ===============    ================
</TABLE>

NOTE I - LONG-TERM DEBT AND LINE OF CREDIT AGREEMENT

     The following table sets forth the computation of long-term debt:

<TABLE>
<CAPTION>
                                                                            May 31,
                                                               -----------------------------------
                                                                    2004                2003
                                                               ----------------    ---------------
        <S>                                                       <C>                 <C>
        Facility loans (a)                                        $1,022,933          $1,072,717
        Term loans (b)                                               206,382             213,549
                                                               ----------------    ---------------
                                                                   1,229,315           1,286,266
        Less:  current portion                                      (136,478)           (108,462)
                                                               ----------------    ---------------
                                                                  $1,092,837          $1,177,804
                                                               ================    ===============
</TABLE>

     (a) The Company  purchased  its  headquarters  and  warehouse  facility and
secured  notes of  $641,667  and  $500,000,  respectively,  under  two  programs
sponsored by New York State.  These notes,  which bear  interest at 7.8% and 6%,
respectively,  are payable in monthly  installments  consisting of principal and
interest  payments  over  fifteen-year  terms,  expiring in  September  2016 and
January 2017, respectively, and are secured by the building.

     (b) In  fiscal  years  2003 and 2004,  the  Company  financed  the cost and
implementation  of a management  information  system and secured  several notes,
aggregating  approximately  $305,219.  The notes,  which bear  interest at rates
ranging from 7.5% through 12.5%, are payable in monthly installments  consisting
of principal and interest  payments over  four-year  terms,  expiring at various
times  between  August and October  2006.  Maturities  of long-term  debt are as
follows at May 31, 2004:
<TABLE>
<CAPTION>
                Fiscal Year                    Amount
                -------------------     --------------
                <S>                          <C>
                2005                         $136,478
                2006                          148,212
                2007                           93,678
                2008                           65,769
                2009                           70,524
                Thereafter                    714,654
                                        --------------
                                           $1,229,315
                                        ==============
</TABLE>

     At May 31, 2004 and 2003, the Company maintained a secured revolving credit
line with a bank.  The credit line  provided for  borrowings  up to  $5,000,000,
($2,000,000,  at any time  that  consolidated  net  income  for the  immediately
preceding  three-month  period is less than $1),  primarily  based upon eligible
accounts receivable, as defined therein, at the Libor Rate plus 200 basis points
or the  published  Prime Rate plus 50 basis points.  The  agreement  allowed for
borrowings  absent  compliance  with  the  financial  covenants  as long as such
eligible  borrowings  are  collateralized  by cash.  In April 2003,  the Company
repaid all  outstanding  borrowings  under the agreement  instead of maintaining
restricted cash balances. At May 31, 2004 and 2003, the Company did not meet the
minimum net income,  interest  coverage,  leverage  ratio and tangible net worth
covenants and future compliance with each of these covenants in the near term is
not  certain.  The  agreement,  which was due to expire in  February  2005,  was
cancelled by the Company in August 2004.

                                      F-15
<PAGE>

NOTE J - STOCKHOLDERS' EQUITY AND WARRANTS

     In fiscal  2002,  warrants to purchase  15,000  shares of common stock were
exercised,  aggregating  $31,200 in proceeds  to the  Company.  In fiscal  2003,
warrants to purchase 500,000 shares of common stock were exercised,  aggregating
$225,000 in proceeds to the Company.  No warrants were exercised or cancelled in
fiscal 2004.

     All outstanding  warrants expire in October 2006.  Warrant activity for the
years ended May 31, 2002, 2003 and 2004 is summarized as follows:

<TABLE>
<CAPTION>

                                       Employees         Consultants               Total             Price Range
                                    ----------------- ------------------- ------------------------ ----------------
<S>             <C>                       <C>               <C>                   <C>               <C>     <C>
Balance at June 1, 2001                   500,000           342,500               842,500           $0.45 - $2.08
  Exercised                                    --           (15,000)              (15,000)              $2.08
                                    ----------------- ------------------- ------------------------ ----------------
Balance at May 31, 2002                   500,000           327,500               827,500           $0.45 - $2.08
  Exercised                              (500,000)               --              (500,000)              $0.45
  Cancelled                                    --          (127,500)             (127,500)              $2.08
                                    ----------------- ------------------- ------------------------ ----------------
Balance at May 31, 2003                        --           200,000               200,000               $0.91
                                    ----------------- ------------------- ------------------------ ----------------
Balance at May 31, 2004                        --           200,000               200,000               $0.91
                                    ================= =================== ======================== ================
Number of shares exercisable                   --           200,000               200,000               $0.91
                                    ================= =================== ======================== ================
</TABLE>


NOTE K - OPTION PLANS

     1995 Stock Option Plan

     In May 1995, the Company's stockholders approved the 1995 Stock Option Plan
for officers and  employees  of the Company,  for which the Company  reserved an
aggregate of 1,500,000  shares of common stock.  In December 1997, the Company's
Board of  Directors  terminated  the 1995 Stock  Option Plan with respect to new
option grants.

     Outside Director Stock Option Plan

     In May 1995, the Company's  stockholders approved an Outside Director Stock
Option Plan for  non-employee  directors of the  Company,  for which the Company
reserved an aggregate of 300,000  shares of common stock.  In December 1997, the
Company's Board of Directors  terminated the Outside  Director Stock Option Plan
with respect to new option grants.

     1997 Stock Option Plan

     In December 1997, the Company's stockholders approved the 1997 Stock Option
Plan (the "1997 Plan") for officers, directors, employees and consultants of the
Company,  for which the Company has reserved an aggregate of 1,800,000 shares of
common stock.  The 1997 Plan provides that a committee of the Board of Directors
of the  Company  will  administer  it and  that the  committee  will  have  full
authority to determine  the  identity of the  recipients  of the options and the
number of shares subject to each option. Options granted under the 1997 Plan may
be either  incentive stock options or  non-qualified  stock options.  The option
price shall be 100% of the fair market  value of the common stock on the date of
the grant (or in the case of incentive  stock options  granted to any individual
principal  stockholder  who owns  stock  possessing  more  than 10% of the total
combined  voting  power of all voting  stock of the  Company,  110% of such fair
market  value).  The term of any option may be fixed by the  committee but in no
event shall  exceed ten years from the date of grant.  Options  are  exercisable
upon  payment in full of the exercise  price,  either in cash or in common stock
valued at fair market value on the date of exercise of the option.  The term for
which  options may be granted  under the 1997 Plan  expires  August 6, 2007.

     In January 1999, the Company's  Board of Directors  increased the number of
shares  authorized  for  issuance  under  the 1997 Plan by  1,000,000  shares to
2,800,000  shares.  At May 31, 2004,  there were 153,168  shares  available  for
future grants under the 1997 Plan.

     1999 Stock Option Plan

     In July 1999,  the  Company's  Board of  Directors  approved the 1999 Stock
Option Plan (the "1999  Plan"),  for which the Company  reserved an aggregate of
2,000,000 shares of common stock. The 1999 Plan provides that a committee of the
Board of Directors of the Company will administer it and that the committee will
have full  authority to determine the identity of the  recipients of the options

                                      F-16
<PAGE>


and the number of shares subject to each option.  Options granted under the 1999
Plan may be either incentive stock options or non-qualified  stock options.  The
option  price shall be 100% of the fair market  value of the common stock on the
date of the grant (or in the case of  incentive  stock  options  granted  to any
individual principal  stockholder who owns stock possessing more than 10% of the
total  combined  voting power of all voting  stock of the Company,  110% of such
fair market value).  The term of any option may be fixed by the committee but in
no event shall exceed ten years from the date of grant.  Options are exercisable
upon  payment in full of the exercise  price,  either in cash or in common stock
valued at fair market value on the date of exercise of the option.  The term for
which  options may be granted under the 1999 Plan expires July 12, 2009. In July
2000, the Company's Board of Directors increased the number of shares authorized
for issuance  under the 1999 Plan by 1,000,000  shares to 3,000,000  shares.  In
December  2001,  the Board of Directors of the Company  increased  the number of
shares  authorized  for  issuance  under  the 1999 Plan by  2,000,000  shares to
5,000,000  shares.

     In January  2001,  the Board of Directors  granted  stock options under the
1999 Plan to a  consultant  to  purchase  25,000  shares  of common  stock at an
exercise  price of $3.81 per share (which  represented  the fair market value of
the underlying  common stock at the time of the respective  grant).  The Company
charged  $60,000 to operations  over the one-year  period in which services were
rendered.  In December 2001, the Board of Directors  granted stock options under
the 1999 Plan to a consultant  to purchase  25,000  shares of common stock at an
exercise  price of $2.95 per share (which  represented  the fair market value of
the underlying  common stock at the time of the respective  grant).  These stock
options were  fair-valued  at $50,250,  which the Company  charged to operations
over the one-year period in which services were rendered. During fiscal 2003 and
2002, the Company charged $25,000 and $50,000,  respectively,  to operations for
these grants.

     In fiscal 2003, the Board of Directors granted stock options under the 1999
Plan to directors and employees to purchase an aggregate of 1,175,000  shares of
common stock,  at exercise  prices  ranging from $0.71 to $1.67 per share (which
represented the fair market value of the underlying  common stock at the time of
the respective  grants).  In fiscal 2004,  the Board of Directors  granted stock
options  under the 1999 Plan to directors and employees to purchase an aggregate
of 725,000  shares of common stock,  at exercise  process  ranging from $0.91 to
$1.31 per shares  (which  represented  the fair market  value of the  underlying
common stock at the time of the respective  grants). At May 31, 2004, there were
1,517,169 shares available for future grants under the 1999 Plan.

     Activity  under all the plans for the years  ended May 31,  2002,  2003 and
2004, is summarized as follows:

<TABLE>
<CAPTION>
                                                                          Outstanding Options
                                                      ------------------- ------------------------ ----------------
                                         Shares                                                       Weighted
                                     Available for         Number of             Exercise              Average
                                         Grant              Shares            Price per Share      Exercise Price
                                    ----------------- ------------------- ------------------------ ----------------
<S>                                     <C>                 <C>               <C>           <C>            <C>
Balance at May 31, 2001                 1,218,168           4,332,823         $0.78     -   $5.15          $2.26
  Shares authorized                     2,000,000
  Options granted                      (1,084,100)          1,084,100         $1.78  -   $4.02             $3.61
  Options exercised                            --             (98,667)        $0.88     -   $2.44          $1.71
  Options canceled                        125,333            (125,333)        $0.88     -   $5.00          $3.90
                                    ----------------- ------------------- ------------------------ ----------------
Balance at May 31, 2002                 2,259,401           5,192,923         $0.78     -   $5.15          $2.51
  Options granted                      (1,175,000)          1,175,000         $0.71     -   $1.67          $0.95
  Options exercised                            --             (12,903)        $0.78                        $0.78
  Options canceled                        354,267            (364,267)        $0.88     -   $5.15          $3.77
                                    ----------------- ------------------- ------------------------ ----------------
Balance at May 31, 2003                 1,438,668           5,990,753         $0.71     -   $5.15          $2.13
  Options granted                        (725,000)            725,000         $0.92  -   $1.31             $1.06
  Options exercised                            --            (597,333)        $0.71  -   $1.22             $1.17
  Options canceled                        956,669            (956,669)        $0.91  -   $2.97             $1.88
                                    ----------------- ------------------- ------------------------ ----------------
Balance at May 31, 2004                 1,670,337           5,161,751         $0.71  -   $5.15             $2.10
                                    ================= =================== ======================== ================
</TABLE>

                                      F-17
<PAGE>

     The following table summarizes  information about stock options outstanding
and exercisable at May 31, 2004
<TABLE>
<CAPTION>
                                             Options Outstanding                           Options Exercisable
                              ---------------------------------------------------    --------------------------------
                                                    Weighted
                                                     Average         Weighted                            Weighted
                                   Number           Remaining        Average              Number          Average
                               Outstanding at      Contractual    Exercise Price      Exercisable at     Exercise
  Range of Exercise Prices      May 31, 2004       Life (yrs.)                         May 31, 2004        Price
----------------------------- ------------------ ---------------- ---------------    ----------------- --------------
<C>       <C>                       <C>                 <C>             <C>              <C>                 <C>
$0.71  -  $1.04                     2,227,874           6.4             $0.95            1,327,874           $0.88
$1.22  -  $1.78                       263,250           5.0             $1.68              263,250           $1.68
$1.91  -  $2.78                       805,127           4.0             $1.97              800,127           $1.97
$2.89  -  $4.28                     1,697,500           5.3             $3.60            1,471,997           $3.61
$4.59  -  $5.15                       168,000           6.1             $4.69              168,000           $4.69
                              ------------------ ---------------- ---------------    ----------------- --------------
                                    5,161,751           5.6             $2.14            4,031,248           $2.30
                              ================== ================ ===============    ================= ==============
</TABLE>
     The  weighted-average  fair value of options  granted  during  fiscal years
2004, 2003 and 2002 was $1.06, $0.95 and $2.50,  respectively.  At May 31, 2004,
there were approximately  11,823,000 remaining authorized shares of common stock
after  reserves for all stock option  plans,  stock  warrants and  shareholders'
rights.

NOTE L- INCOME TAXES

     During the fiscal year ended May 31, 2004, the Company recorded a provision
for state  income  taxes of $50,640.  In fiscal  2003,  the  Company  recorded a
benefit for income  taxes of  $1,634,688,  inclusive  of $256,312 in current tax
expense  and a deferred  benefit of  $1,891,000.  In fiscal  2002,  the  Company
recorded  an expense for income  taxes of  $1,554,000,  inclusive  of $39,000 in
current tax expense and a deferred tax expense of $1,515,000.

     As of May 31,  2004,  the  Company  had  recorded  deferred  tax  assets of
$14,582,000 (net of a $1,908,000 valuation allowance) related to the anticipated
recovery  of tax loss  carryforwards.  The  amount of the  deferred  tax  assets
considered  realizable  could be reduced in the  future if  estimates  of future
taxable income during the carryforward period are reduced.  Ultimate realization
of the deferred tax assets is dependent upon the Company  generating  sufficient
taxable income prior to the expiration of the tax loss carryforwards. Management
believes  that the  Company is  positioned  for  long-term  growth  despite  the
financial  results  achieved  during fiscal years 2004 and 2003,  and that based
upon the weight of  available  evidence,  that it is "more likely than not" that
the net  deferred  tax  assets  will be  realized.  The "more  likely  than not"
standard is  subjective,  and is based upon  management's  estimate of a greater
than 50% probability that its long range business plan can be realized.

     Ultimate  realization  of any or all of  the  deferred  tax  assets  is not
assured,  due to significant  uncertainties  associated with estimates of future
taxable  income during the  carryforward  period.  The  Company's  estimates are
largely  dependent  upon  achieving   considerable  growth  resulting  from  the
successful  commercialization  of the EECP  therapy  into the  congestive  heart
failure indication.  Such future estimates of future taxable income are based on
the beliefs of the  Company's  management,  as well as  assumptions  made by and
information  currently available to the Company's  management.  Certain critical
assumptions associated with the Company's estimates include:

--   that the  results  from  the  PEECH  clinical  trial  will be  sufficiently
     positive  to enable  the EECP  therapy  to obtain  approval  for a national
     Medicare   reimbursement  coverage  policy  plus  other  third-party  payer
     reimbursement policies specific to the congestive heart failure indication;
--   that the  reimbursement  coverage  will be both  broad  enough  in terms of
     coverage   language  and  at  an  amount  adequate  to  enable   successful
     commercialization  of the EECP therapy into the  congestive  heart  failure
     indication.

     Additional factors that could cause actual results to differ materially are
the following:

--   the  effect  of  the  dramatic  changes  taking  place  in  the  healthcare
     environment;
--   the impact of competitive procedures and products and their pricing;
--   other medical insurance reimbursement policies;
--   unexpected manufacturing problems;
--   unforeseen  difficulties  and delays in the conduct of clinical  trials and
     other product development programs;
--   the actions of regulatory  authorities and third-party payers in the United
     States and overseas;

                                      F-18
<PAGE>
--   uncertainties  about the acceptance of a novel therapeutic  modality by the
     medical community;
--   and the  risk  factors  reported  from  time to time in the  Company's  SEC
     reports.

     The  amount of the  deferred  tax  assets  considered  realizable  could be
reduced  in the  future  if  estimates  of  future  taxable  income  during  the
carryforward  period are reduced or if the  accounting  standards are changed to
reflect a more stringent standard for evaluation of deferred tax assets.

     The  recorded  deferred  tax asset  includes an  increase to the  valuation
allowance of $1,286,000 during fiscal year ended May 31, 2004.

     The Company's deferred tax assets are summarized as follows:
<TABLE>
<CAPTION>
                                                       2004               2003               2002
                                                  ---------------    ---------------    ---------------
<S>                                                <C>                <C>                <C>
Net operating loss and other carryforwards         $14,468,000        $13,368,000        $11,344,000
      Accrued compensation                             118,000            153,000                 --
      Bad debts                                        238,000            244,000            493,000
      Other                                          1,666,000          1,439,000            854,000
                                                  ---------------    ---------------    ---------------
Total gross deferred tax assets                     16,490,000         15,204,000         12,691,000
      Valuation allowance                           (1,908,000)          (622,000)                --
                                                  ---------------    ---------------    ---------------
Net deferred tax assets                            $14,582,000        $14,582,000        $12,691,000
                                                  ===============    ===============    ===============
</TABLE>
     The deferred tax benefit for fiscal years May 31, 2004,  2003 and 2002 does
not include  the tax benefit  associated  with the  current  exercises  of stock
options and warrants, aggregating $0, $222,000, and $58,000, respectively, which
was credited directly to additional paid-in capital.

     At May 31,  2004,  the Company had net  operating  loss  carryforwards  for
Federal and state income tax purposes of approximately $42,612,000,  expiring at
various  dates  from  2006  through  2022.  Expiration  of  net  operating  loss
carryforwards are as follows:

<TABLE>
<CAPTION>
                Fiscal Year                    Amount
                -------------------     --------------
                <S>                           <C>
                2005                          $96,516
                2006                          336,198
                2007                          517,934
                2008                          558,968
                2009                          470,994
                Thereafter                 40,630,952
                                        --------------
                                          $42,611,562
                                        ==============
</TABLE>
     Under current tax law, the utilization of tax attributes will be restricted
if an ownership change, as defined,  were to occur.  Section 382 of the Internal
Revenue Code  provides,  in general,  that if an "ownership  change" occurs with
respect to a corporation with net operating and other loss  carryforwards,  such
carryforwards  will be available to offset  taxable  income in each taxable year
after the ownership change only up to the "Section 382 Limitation" for each year
(generally,  the product of the fair market value of the corporation's  stock at
the time of the  ownership  change,  with certain  adjustments,  and a specified
long-term  tax-exempt bond rate at such time). The Company's  ability to use its
loss carryforwards would be limited in the event of an ownership change.

     The following is a  reconciliation  of the effective income tax rate to the
federal statutory rate:

<TABLE>
<CAPTION>
                                                2004                    2003                      2002
                                               Amount         %        Amount         %          Amount         %
                                           --------------- -------- -------------- --------- --------------- --------
<S>                                         <C>             <C>      <C>             <C>      <C>              <C>
Federal statutory rate                      $(1,146,439)    (34.0)   $(2,185,000)    (34.0)   $1,475,000       34.0
State taxes, net                                 50,640       1.5         34,000        .5        56,000        1.3
Permanent differences                            23,839       0.8         33,320        .5        23,000         .5
Utilization of net operating loss                    --      --               --      --              --       --
Change in valuation allowance
  relating to operations                      1,286,000     (38.1)       622,000       9.7            --       --
Other                                          (163,400)     (4.9)      (139,008)     (2.1)           --       --
                                           --------------- -------- -------------- --------- --------------- --------
                                                $50,640       1.5    $(1,634,688)    (25.4)   $1,554,000       35.8
                                           =============== ======== ============== ========= =============== ========
</TABLE>
                                      F-19
<PAGE>

NOTE M - COMMITMENTS AND CONTINGENCIES

Employment Agreements

     In October 2002, the Company entered into an employment  agreement with its
new President and Chief Operating Officer, Gregory D. Cash. The agreement, which
expired in October 2004, provided for certain settlement  benefits,  including a
lump-sum  payment  of twelve  months of base  salary in the event of a change of
control,  as defined,  or a termination payment in an amount equal to six months
of base salary in the event of  termination  without  cause,  as  defined.  Such
agreement was modified on June 30, 2003 reflecting this employee's  promotion to
President and Chief Executive  Officer.  In March 2004 this employee resigned to
pursue  other  business  interests  and  all  monetary  compensation  under  the
employment agreement was terminated.

     In October 2003, the Company entered into an employment  agreement with its
new Chief  Financial  Officer.  The agreement,  which expires in September 2005,
provides for certain settlement benefits, including a lump-sum payment of twelve
months of base  salary in the event of a change of  control,  as  defined,  or a
termination payment in an amount equal to six months of base salary in the event
of termination without cause, as defined.

     The approximate  aggregate  minimum  compensation  obligation  under active
employment agreements at May 31, 2004 are summarized as follows:
<TABLE>
<CAPTION>
                Fiscal Year                    Amount
                -------------------     --------------
                <S>                          <C>
                2005                         $250,000
                2006                           40,685
                                        --------------
                                             $290,685
                                        ==============
</TABLE>
Leases

     The Company  leases  additional  warehouse  space  under two  noncancelable
operating  leases,  of which one  expires on October  31,  2004 and the other on
September  30, 2006.  Rent  expense was  $72,000,  $99,000 and $85,000 in fiscal
2004, 2003 and 2002, respectively.

     Approximate   aggregate  minimum  annual   obligations  under  these  lease
agreements and other equipment leasing agreements at May 31, 2004 are summarized
as follows:
<TABLE>
<CAPTION>
                Fiscal Year                    Amount
                -------------------     --------------
               <S>                           <C>
                2005                          $76,446
                2006                           48,189
                2007                           14,238
                                        --------------
                                             $138,873
                                        ==============
</TABLE>
Consulting Agreements

     In September 2003, the Company and its then Chief Financial Officer entered
into a termination and consulting  agreement.  As a result of this  termination,
the Company will pay to the former  employee a severance  payment of $140,000 in
equal monthly installments through September 2004. The Company recorded a charge
to operations  during the three- month period ended November 30, 2003 to reflect
this obligation.  Further,  the consulting  agreement provides for the continued
vesting of stock options that had been previously granted to the employee, which
would have otherwise  vested during the term of the agreement.  The terms of the
original  option  grants  provided  for vesting  throughout  the period that the
former employee was employed by or provided services to the Company.  There were
no other modifications to any of his previously granted stock options.

Litigation

     In June 2001, an action was commenced in the New York Supreme Court, Nassau
County,  against  the  Company  by the former  holder of a warrant  to  purchase
100,000  shares of the Company's  stock seeking  undefined  damages based upon a
claim that the Company  breached an  agreement  to  register  the common  shares
underlying  the warrant at the "earliest  practicable  date" after due demand by
the warrant  holder had been made.  In October  2002,  the Company  settled this
matter for  $600,000  through the  execution  of an  agreement  that enables the
Company to satisfy this obligation over a four-year  period  ($200,000 in fiscal

                                      F-20
<PAGE>

2003,  $66,500 in fiscal 2004,  $133,000  each in fiscal years 2005 and 2006 and
$66,500 in fiscal 2007). Accordingly,  the Company recorded a $600,000 charge to
operations  in fiscal 2003. In December  2002,  the Company paid $200,000 to the
warrant holder  pursuant to the terms of the settlement  agreement.

     In or about late June 2002,  the Company was  notified by a letter from the
domestic  counsel for Foshan Life  Sciences Co. Ltd.  ("FLSC"),  a joint venture
comprised of a Florida  company and Vamed  Medical  Instrument  Company  Limited
("Vamed"),  a  Chinese  company  with  whom  the  Company  had an  agreement  to
manufacture  the Company's  EECP Model MC2 system,  that FLSC was  initiating an
arbitration  proceeding before the Hong Kong International  Arbitration  Council
("HKIAC") to recover  compensatory  and punitive damages in excess of $1,000,000
and  injunctive  relief  based  upon  claims  of  breach  of  the  manufacturing
agreement,   tortuous   interference   and   misappropriation   of  confidential
information and trade secrets.  Although possessing several substantive defenses
to these claims,  the Company initially has challenged the HKIAC's right to hear
and  determine  the dispute on the ground that FLSC is neither a legitimate  nor
recognized  party  to  the  manufacturing  agreement  which  provides  for  such
arbitration  and,  therefore,  is not entitled to enforce the same.  The Company
demanded on July 3, 2002 that FLSC deposit with the HKIAC  security to cover the
Company's  costs of  arbitration.  To date,  FLSC has neither  responded  to the
Company's  demand for security nor apparently  filed a formal statement of claim
with the HKIAC.

     401(k) Plan

     In April 1997, the Company  adopted the  Vasomedical,  Inc.  401(k) Plan to
provide retirement  benefits for its employees.  As allowed under Section 401(k)
of the Internal Revenue Code, the plan provides  tax-deferred  salary deductions
for  eligible  employees.  Employees  are  eligible to  participate  in the next
quarter  enrollment  period after  employment.  Participants  may make voluntary
contributions to the plan up to 15% of their compensation.  In fiscal year 2004,
2003 and 2002, the Company made  discretionary  contributions of approximately $
35,535,  $35,000 and $20,000,  respectively,  to match a percentage  of employee
contributions.

NOTE N - SUMMARY OF QUARTERLY FINANCIAL DATA (UNAUDITED)

     The following is a summary of the Company's  unaudited  quarterly operating
results for the years ended May 31, 2004 and 2003.

<TABLE>
<CAPTION>

                                                               Three months ended
                        --------------------------------------------------------------------------------------------------
(in 000s except          May 31,     Feb. 29,     Nov. 30,     Aug. 31,     May 31,     Feb. 28,    Nov. 30,    Aug. 31,
Earnings (loss) per        2004        2004         2003         2003         2003        2003        2002        2002
share data)                                         (a)                                               (c)         (b)
----------------------- ----------- ----------- ------------- ------------ ----------- ----------- ----------- -----------
<S>                       <C>         <C>           <C>          <C>         <C>         <C>         <C>         <C>
Revenues                  $5,927      $5,950        $4,903       $5,427      $6,488      $7,153      $6,644      $4,539
Gross Profit              $3,903      $4,017        $3,210       $3,488      $3,970      $4,383      $4,640      $2,580
Net Earnings (Loss)       $(759)      $(310)      $(2,087)       $(267)         $14         $26      $(597)    $(4,234)
Earnings (loss) per
  share    - basic       $(0.01)     $(0.01)       $(0.04)      $(0.00)       $0.00       $0.00     $(0.01)     $(0.07)
           - diluted     $(0.01)     $(0.01)       $(0.04)      $(0.00)       $0.00       $0.00     $(0.01)     $(0.07)
Weighted average
  common shares
  outstanding -
           - basic        58,384      57,887        57,828       57,827      57,817      57,809      57,658      57,478
           - diluted      58,384      57,887        57,828       57,827      58,453      58,078      57,658      57,478

<FN>
(a)  Net Loss for the second  quarter of fiscal 2004 was  adversely  affected by
     the write-off of  approximately  $680 related to significant  uncertainties
     related  to the  ability  of a major  customer  to  satisfy  its  financial
     obligations to the Company, (see Note E).

(b)  Net Loss for the first quarter of fiscal 2003 was adversely affected by the
     write-off of  approximately  $3,000  related to  significant  uncertainties
     related  to the  ability  of a major  customer  to  satisfy  its  financial
     obligations to the Company, (see Note E).

(c)  Net Loss for the second  quarter of fiscal 2003 was  adversely  affected by
     the  settlement of litigation of $600 and  approximately  $300 in severance
     obligations,  principally to the Company's former Chief Executive  Officer,
     (see Note M).
</FN>
</TABLE>

                                      F-21
<PAGE>


                       Vasomedical, Inc. and Subsidiaries

                 Schedule II - Valuation and Qualifying Accounts

<TABLE>
<CAPTION>

------------------------------------------- --------------- ---------------------------- ------------------ -----------------
                 Column A                      Column B              Column C                Column D           Column E
------------------------------------------- --------------- ---------------------------- ------------------ -----------------
                                                                     Additions
                                                            ----------------------------
                                                                 (1)            (2)
                                              Balance at      Charged to    Charged to
                                             beginning of     costs and        other                         Balance at end
                                                period         expenses      accounts       Deductions         of period
------------------------------------------- --------------- --------------- ------------ ------------------ -----------------
<S>                                               <C>             <C>               <C>           <C>               <C>
Allowance for doubtful accounts
  Year ended May 31, 2004                         $768,629        $616,759          $--           $686,185          $699,203
  Year ended May 31, 2003                       $1,099,687      $1,227,324          $--     (a) $1,558,382          $768,629
  Year ended May 31, 2002                         $545,000        $954,000          $--           $399,313        $1,099,687

Valuation Allowance- Financing Receivables
  Year ended May 31, 2004                         $244,994        $680,000          $--           $924,994               $--
  Year ended May 31, 2003                         $718,879                          $--           $473,885          $244,994
  Year ended May 31, 2002                              $--        $718,879          $--                $--          $718,879

Reserve for obsolete inventory
  Year ended May 31, 2004                         $280,000        $119,000          $--                $--          $399,000
  Year ended May 31, 2003                         $180,000        $100,000          $--                $--          $280,000
  Year ended May 31, 2002                         $150,000         $30,000          $--                $--          $180,000

Valuation Allowance - Deferred Tax Asset
  Year ended May 31, 2004                         $622,000      $1,286,000          $--                $--        $1,908,000
  Year ended May 31, 2003                              $--        $622,000          $--                $--          $622,000
  Year ended May 31, 2002                              $--             $--          $--                $--               $--

Provision for warranty obligations
  Year ended May 31, 2004                         $788,000        $164,000          $--           $707,083          $244,917
  Year ended May 31, 2003                         $991,000        $724,000          $--           $927,000          $788,000
  Year ended May 31, 2002                       $1,055,000        $780,000          $--           $844,000          $991,000


<FN>
(a) accounts receivable written off, net of $15,000 in recoveries in fiscal 2003
</FN>
</TABLE>


                                      S-1