##### Table of Contents

---

UNITED STATES


SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549





---




Form 10-QSB





(Mark One)





|x |  | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- |  | ---------------------------------------------------------------------------------------




For the quarterly period ended March 31, 2002





| ̈ |  | TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF  THE THE SECURITIES EXCHANGE ACT
|- |  | -------------------------------------------------------------------------------




For the transition period from  to





Commission file number
000-27915





---




MOBILE PET SYSTEMS, INC.


A Delaware Corporation


(Exact name of small business issuer as specified in its charter)








DELAWARE

11-2787966(State or other jurisdiction of incorporation or
organization)

(IRS Employer Identification No.)





2150 West Washington Street, Suite 110


San Diego, California 92110


(Address of principal executive offices)





(619) 226-6738


(Issuers telephone number)





---




Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the
Exchange Act during the past 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  ̈





There were 44,251,333 shares outstanding of the issuers Common Stock as of April 30, 2002.





Transitional Small Business Disclosure Format (Check one):    Yes  ̈ No    x





---



---

##### Table of Contents

MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





For the quarterly period ended March 31, 2002





Table of Contents





Page No.PART I.    FINANCIAL INFORMATION

1Item 1.    Financial Statements (unaudited)

1Consolidated Balance Sheets as of March 31, 2002 and 2001

1Consolidated Statements of Operations for the three months endedMarch 31, 2002 and 2001

2Statement of Changes in Shareholders Equity for the three months endedMarch 31, 2002 and 2001

3Consolidated Statements of Cash Flows for the three months endedMarch 31, 2002 and 2001

6Notes to Financial Statements

7Item 2.    Managements Discussion and Analysis

20PART II.    OTHER INFORMATION

31Item 1.    Legal Proceedings

31Item 2.    Changes in Securities

32Item 4.    Submission of Matters to a Vote of Security Holders

33Item 6.    Exhibits and Reports on Form 8-K

33Signatures

34




---

##### Table of Contents

MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





Consolidated Balance Sheets





March 31, 2002 and 2001


(Unaudited)





2002


2001ASSETSCurrent assetsCash

$
331,170


$
2,091Accounts receivable, net of allowance for doubtful accounts of $129,320 at March 31, 2002 and 2001


3,776,475



2,248,351Other receivables


3,791



20,437Prepaid expenses


775,859



223,949Deposits and other assets


1,030,611



809,997Total current assets


5,917,906



3,304,825Property and equipment, net


15,667,824



18,033,486Other assetsAccrued interest receivable


10,573



10,573Due from London Radiosurgical Centre, Ltd


152,924



252,369Subordinated equity participation


200,000



200,000Restricted cash


351,065



341,780Total assets

$
22,300,292


$
22,143,033LIABILITIES AND SHAREHOLDERS EQUITYCurrent liabilitiesBank overdraft

$



$
34,441Accounts payable


4,909,863



3,170,304Current portion of note payable


15,284



22,711Loan payable


509,050



1,225,000Accrued and other liabilities


2,005,904



453,208Income taxes payable






800Obligations under capital leasecurrent


8,523,552



3,693,640Total current liabilities


15,963,653



8,600,104Noncurrent liabilitiesObligations under capital lease


5,519,999



14,861,981Note payable


63,147



86,042Total liabilities


21,546,799



23,548,127Shareholders equityPreferred stock; $0.001 par value; 10,000,000 shares authorized:Preferred stock; Series A; 23 and 39 shares issued and outstanding at March 31, 2002 and 2001, respectively


1,351,023



1,975,000Preferred stock; Series B; 30 and 30 shares issued and outstanding at March 31, 2002 and 2001, respectively


1,768,110



1,500,000Common stock; $0.0001 par value; 90,000,000 shares authorized; 41,822,762 and 17,716,284 shares issued and outstanding at March 31,
2002 and 2001, respectively


4,182



1,772Additional paid in capital


20,008,413



11,015,202Accumulated deficit


(22,105,499
)


(15,855,384
)Foreign currency translation adjustment


(272,736
)


(41,684
)Total shareholders equity


753,493



(1,405,094
)Total liabilities and shareholders equity

$
22,300,292


$
22,143,033




1




---

##### Table of Contents




MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





Consolidated Statements of Operations





For the Three and Nine Months Ended March 31, 2002 and 2001


(Unaudited)





Three Months Ended March 31,


Nine Months Ended March 31,2002


2001


2002


2001Service revenues

$
4,599,403


$
2,308,196


$
12,427,453


$
4,267,864Cost of service revenues


2,857,882



1,450,412



7,473,849



3,195,677Gross profit


1,741,521



857,784



4,953,604



1,072,187ExpensesSelling and marketing


635,396



1,351,228



2,399,010



3,720,045General and administrative


1,640,314



1,087,364



4,691,367



3,463,599Total expenses


2,275,710



2,438,592



7,090,377



7,183,644Loss from operations


(534,189
)


(1,580,808
)


(2,136,773
)


(6,111,457
)Other income (expense)Other income (expense)


1,639



5,826



6,981



11,667Gain on sale of assets














12,714Interest expense


(521,444
)


(382,154
)


(1,627,671
)


(1,326,541
)Total other income (expense)


(519,805
)


(376,328
)


(1,620,690
)


(1,302,160
)Loss before provision for income taxes


(1,053,994
)


(1,957,136
)


(3,757,463
)


(7,413,617
)Provision for income taxes


12,400



5,977



26,414



5,897Net loss


(1,066,394
)


(1,963,113
)


(3,783,877
)


(7,419,514
)Preferred stock dividend


61,618



29,000



214,305



683,481Net lossavailable to common shareholders

$
(1,128,012
)

$
(1,992,113
)

$
(3,998,182
)

$
(8,102,995
)Loss per sharebasic

$
(0.03
)

$
(0.12
)

$
(0.13
)

$
(0.52
)Loss per sharediluted

$
(0.03
)

$
(0.12
)

$
(0.13
)

$
(0.52
)








See accompanying notes.




2




---

##### Table of Contents

MOBILE P.E.T. SYSTEMS, INC. AND SUBSIDIARIES





Consolidated Statements of Changes in Shareholders Equity


(Unaudited)





Preferred Stock


Common Stock

Additional Paid In Capital


Accumulated Deficit


Foreign Currency Translation Adjustment


Total Shareholders EquityShares


Amount


Shares

AmountBalanceJune 30, 2000

60


$
3,000,000


14,944,658

$
1,495

$
8,580,888


$
(8,415,771
)

$
(42,398
)

$
3,124,214Preferred stock issued in private placement, net of offering costs

20



1,000,000








(115,000
)










885,000Common stock subscribed, net of offering costs














547,500











547,500Options issued as compensation














92,331











92,331Net lossJuly 1, 2000 to September 30, 2000


















(2,263,027
)






(2,263,027
)Foreign currency translation adjustment






















72,603



72,603BalanceSeptember 30, 2000

80



4,000,000


14,944,658


1,495


9,105,719



(10,678,798
)


30,205



2,458,621Preferred stock issued in private placement, net of offering costs

10



500,000




















500,000Common stock issued through conversion of preferred stock

(18
)


(875,000
)

719,736


72


874,928











Common stock issued through conversion of preferred stock dividend








47,778


4


20,095



(20,099
)






Common stock issued from subscriptions paid, net of offering costs








25,000


3


(3
)










Options issued as compensation














92,331











92,331Net lossOctober 1, 2000 to December 31, 2000


















(3,193,374
)






(3,193,374
)Foreign currency translation adjustment






















31,068



31,068BalanceDecember 31, 2000

72



3,625,000


15,737,172


1,574


10,093,070



(13,892,271
)


61,273



(111,354
)Common stock issued in private placement, net of offering costs








1,590,584


159


324,841











325,000Common stock issued through conversion of preferred stock dividend

(3
)


(150,000
)

388,528


39


149,961











Options issued as compensation














439,530











439,530Convertible debt intrinsic beneficial conversion feature














7,800











7,800Net lossJanuary 1, 2001 to March 31, 2001


















(1,963,113
)






(1,963,113
)Foreign currency translation adjustment






















(102,957
)


(102,957
)





See accompanying notes.




3




---

##### Table of Contents




MOBILE P.E.T. SYSTEMS, INC. AND SUBSIDIARIES





Consolidated Statements of Changes in Shareholders Equity


(Unaudited)





Preferred Stock


Common Stock

Additional Paid In Capital


Accumulated Deficit


Foreign Currency Translation Adjustment


Total Shareholders EquityShares


Amount


Shares

AmountBalanceMarch 31, 2001

69


3,475,000


17,716,284

1,772

11,015,202


(15,855,384
)

(41,684
)

(1,405,094
)Preferred stock issued in private placement net of offering costsRecapitalization of preferred stock




621,456






(347,500
)

(273,956
)




Common stock issued in private placement, net of offering costs







2,120,000

212

995,938








996,150Common stock issued through conversion of preferred stock

(5
)

(295,035
)

635,471

64

294,971








Common stock issued through conversion of preferred stock dividends




















Common stock issued through conversion of debt







1,875,000

188

749,812








750,000Common stock issued through settlement agreement







2,733,981

273

749,727








750,000Common stock subscribed, net of offering costs











1,000,000








1,000,000Common stock issued for services







403,350

40

201,635








201,675Options issued as compensation











(210,277
)







(210,277
)Convertible debt intrinsic beneficial conversion featureNet lossApril 1, 2001 to June 30, 2001














(2,101,209
)




(2,101,209
)Foreign currency translation adjustment

















(279,407
)

(279,407
)BalanceJune 30, 2001

64


3,801,421


25,484,086

2,549

14,449,508


(18,230,549
)

(321,091
)

(174,803
)Prior period adjustmentaccrued expenses














(91,073
)

734


(213,698
)BalanceJune 30, 2001, as adjusted

64


3,801,421


25,484,086

2,549

14,449,508


(18,321,622
)

(320,357
)

(388,501
)Common stock issued from subscriptions paid, net of offering costs







2,600,000

260

(260
)







Common stock issued in private placement, net of offering costs







4,014,285

401

1,404,599








1,405,000Common stock issued as finders fee







100,000

10

(10
)







Common stock issued for compensation







100,000

10

42,990








43,000Common stock issued for services







325,967

33

125,218








125,251Net lossJuly 1, 2001 to September 30, 2001














(1,112,254
)




(1,112,254
)Foreign currency translation adjustment

















(13,386
)

(13,386
)





See accompanying notes.




4




---

##### Table of Contents

MOBILE P.E.T. SYSTEMS, INC. AND SUBSIDIARIES





Consolidated Statements of Changes in Shareholders Equity


(Unaudited)


Preferred Stock


Common Stock

Additional Paid In Capital


Accumulated Deficit


Foreign Currency Translation Adjustment


Total Shareholders EquityShares


Amount


Shares

AmountBalanceSeptember 30, 2001

64



3,801,421


32,624,338


3,263


16,022,045



(19,433,876
)


(333,743
)


59,110Common stock issued in private placement, net of offering costs








2,728,571


273


1,119,727











1,120,000Common stock issued through conversion of preferred stock

(2
)


(117,874
)

221,328


22


117,852











Common stock issued as finders fee








61,714


6


(6
)










Common stock issued for services 1








2,600,000


260


1,845,740











1,846,000Net lossJuly 1, 2001 to December 31, 2001


















(1,605,229
)






(1,605,229
)Foreign currency translation adjustment






















2,090



2,090BalanceDecember 31, 2001, as originally stated

62



3,683,547


38,235,951


3,824


19,105,358



(21,039,105
)


(331,653
)


1,421,971Prior period adjustment-common stock issued for services














(971,000
)










(971,000
)BalanceDecember 31, 2001, as adjusted

62



3,683,547


38,235,951


3,824


18,134,358



(21,039,105
)


(331,653
)


450,971Common stock issued in private placement net of offering costs








1,928,571


193


749,807











750,000Stock subscriptions paid














500,000











500,000Common stock issued through conversion of preferred stock

(10
)


(564,414
)

1,521,876


152


564,262











Common stock issued for services








136,364


14


59,986











60,000Net lossJanuary 1, 2002 to March 31, 2002


















(1,066,394
)






(1,066,394
)Foreign currency translation adjustment






















58,917



58,917BalanceMarch 31, 2002

53


$
3,119,133


41,822,762

$
4,182

$
20,008,413


$
(22,105,499
)

$
(272,736
)

$
753,493








See accompanying notes.




5




---

##### Table of Contents




MOBILE P.E.T. SYSTEMS, INC. AND SUBSIDIARIES





Consolidated Statements of Cash Flows


(Unaudited)


Three Months EndedMarch 31,


Nine Months EndedMarch 31,2002


2001


2002


2001Cash flows from operating activitiesNet loss

$
(1,066,394
)

$
(1,963,113
)

$
(3,784,021
)

$
(7,419,514
)Adjustments to reconcile net loss to net cash provided by (used in) operating activitiesDepreciation


763,413



741,586



2,277,766



1,583,108Common stock issued for compensation










43,000



Common stock issued for services


60,000







1,060,251



Interest






7,800







7,800Options issued for compensation






439,530







624,192(Increase) decrease in operating assetsAccounts receivable


(1,311,204
)


(1,417,224
)


(1,719,723
)


(1,752,618
)Due from London Radiosurgical Center, LTD


(24,887
)


63,332



85,642



182,731Stock Subscription receivable














Other receivables


11,659



(7,824
)


524



264,725Prepaid expenses


181,699



(166,526
)


62,305



50,433Deposits and other assets


(527,200
)


(23,008
)


(548,650
)


474,348Restricted cash


(1,505
)


(4,057
)


(6,195
)


(12,300
)Deferred assets














(12,714
)Accrued interest receivable














32,384Increase (decrease) in operating liabilitiesAccounts payable


2,318,539



1,271,016



2,496,693



2,518,557Income taxes payable






250,000



(1,600
)


Accrued and other liabilities


992,432



(38,629
)


881,369



(259,396
)Net cash provided by (used in) operating activities


1,396,552



(847,117
)


847,361



(3,718,264
)Cash flows from investing activitiesCapital expenditures


(103,988
)


(5,915
)


(236,598
)


(162,966
)Net cash provided by (used in) investing activities


(103,988
)


(5,915
)


(236,598
)


(162,966
)Cash flows from financing activitiesCash overdraft






9,506







34,440Proceeds from loan






925,000







1,333,753Payments on loan


(58,221
)






(155,995
)


Payments on obligations under capital lease


(2,315,544
)


(304,125
)


(4,009,442
)


(583,106
)Preferred stock redeemed














Paid stock subscriptions


500,000







500,000



Preferred stock issued














1,385,000Common stock issued


750,000



325,000



3,275,000



1,122,500Net cash provided by (used in) financing activities


(1,123,765
)


955,381



(390,437
)


3,292,587Effect of exchange rate on changes in cash


95,458



(102,957
)


47,764



69,701Net increase (decrease) in cash


264,257



(608
)


268,090



(518,942
)Cashbeginning of period


66,913



2,699



63,080



521,033Cashend of period

$
331,170


$
2,091


$
331,170


$
2,091Supplemental disclosuresInterest paid

$
521,444


$
872,104


$
1,627,671


$
1,299,963Income taxes paid

$
12,400


$
5,897


$
26,414


$
5,897Noncash investing and financing activitiesEquipment under capital lease

$



$



$



$
13,330,927Preferred stock dividendbenefical conversion feature

$



$



$



$
Cumulative preferred dividend

$



$



$



$
Obligations under capital lease

$



$



$



$
13,330,927





See accompanying notes.




6




---

##### Table of Contents



MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





NOTES TO CONSOLIDATED FINANCIAL STATEMENTS




Note 1The Company





Mobile PET Systems, Inc. and subsidiaries (the Company) were organized to provide Positron Emission Tomography (PET) systems and services to hospitals and other health care providers on a mobile, shared user basis.
The Companys PET services include the provision of high technology imaging systems, technologists to operate the imaging systems, the management of day-to-day operations and educational and marketing support. The Company has operations in the
United States and the United Kingdom.





Note 2Summary of Significant Accounting Policies





Basis of Presentation





The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All significant intercompany transactions have been eliminated in consolidation.





Unaudited Financial Statements





The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form
10-QSB and Article S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements.





Cash and Cash Equivalents





The Company considers all highly liquid debt instruments purchased with a maturity of three months or less to be cash and cash equivalents.





Property, Equipment and Leasehold Improvements





Property and equipment are recorded at
cost less depreciation and amortization. Depreciation and amortization are accounted for on the straight-line method based on estimated useful lives. The amortization of leasehold improvements is based on the shorter of the lease term or the life of
the improvement. Betterments and large renewals, which extend the life of an asset, are capitalized; whereas, maintenance and repairs and small renewals are expensed as incurred.





Foreign Currency Translation





The financial statements of
all foreign subsidiaries were prepared in their respective local currencies and translated into U.S. dollars based on the current exchange rate at the end of the period for the balance sheet and a weighted-average rate for the period on the
statement of operations. Translation adjustments are reflected as foreign currency translation adjustments in shareholders equity and accordingly have no effect on net loss.





Estimates





The preparation of financial statements in
conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosure of contingent assets and liabilities at the date of the
financial statements, and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.




7




---

##### Table of Contents



MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)







Advertising





Advertising costs incurred for major new campaigns are expensed in the year in which the advertising takes place. Other advertising costs are expensed when incurred. Advertising expense
for the three and nine months ended March 31, 2002 was $12,126 and $74,524, respectively and for the three and nine months ended March 31, 2001, was $12,999 and $183,852, respectively.





Income Taxes





The Company accounts for income taxes under
Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes. This statement requires an asset and liability approach to account for income taxes. The Company provides deferred income taxes for temporary differences
that will result in taxable or deductible amounts in future years based on the reporting of certain costs in different periods for financial and income tax purposes.





Stock Option Plans





The Company has adopted SFAS No. 123
Accounting for Stock-Based Compensation, which permits entities to recognize as expense over the vesting period the fair value of all stock-based awards on the date of grant. Alternatively, SFAS No. 123 also allows entities to continue
to apply the provisions of APB Opinion No. 25 Accounting for Stock Issued to Employees, and provide pro forma net income and pro forma earnings per share disclosures for employee stock option grants as if the fair-value-based method
defined in SFAS No. 123 has been applied. The Company has elected to apply the provisions of APB Opinion No. 25 and provide the pro forma disclosure provisions of SFAS No. 123.





Reclassifications





Certain prior period amounts have been
reclassified to conform to March 31, 2002 presentation. These changes had no impact on previously reported results of operations or shareholders equity.





Note 3Acquisitions





Mobile PET Systems, Inc. was incorporated in the State of Nevada on December 1, 1998.
On December 22, 1998, Mobile P.E.T Systems, Inc.s shareholders exchanged all of the 7,000,000 shares of outstanding common stock for 7,000,000 shares of common stock in Colony International Incorporated, (formerly American Coin and Stamp,
Inc.), incorporated in the State of Delaware on August 21, 1995 and its wholly owned subsidiary Colony International Incorporated, incorporated in the State of Nevada on April 25, 1995. This exchange of shares was accounted for as a reverse merger,
under the purchase method of accounting. Accordingly, the combination of the Mobile PET Systems, Inc. and Colony International Incorporated and subsidiary was recorded as a recapitalization of the shareholders equity of Mobile PET Systems,
Inc., the surviving corporation and for accounting purposes the financial statements presented are those of Mobile PET Systems, Inc.





On December 10, 1999, the Company incorporated a wholly owned subsidiary, The London PET Centre Limited, a United Kingdom private limited company. On December 17, 1999 the Company incorporated two wholly owned subsidiaries, Mobile PET
Leasing Limited, a United Kingdom private limited company and Mobile PET Systems (UK) Limited, a United Kingdom private limited company. Mobile PET Systems (UK) Limited is currently inactive.





On March 15, 2001, the Company incorporated a wholly owned subsidiary, Radiodiagnostics Corporation, a Nevada corporation.




8




---

##### Table of Contents



MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)







On March 25, 2002, the Company formed wholly owned subsidiaries, MBPT #3 LLC and
MBPT #4 LLC, Delaware Limited Liability Companies and on April 3, 2002, the Company formed wholly owned subsidiaries, MBPT #1 LLC and MBPT #2 LLC, California Limited Liability Companies for the purpose of providing fixed site PET services. These
Limited Liability Companies are currently inactive.





Note 4Prepaid Expenses





Prepaid expenses consist of the following at March 31, 2002 and 2001:





2002

2001Prepaid equipment rent

$
547,990

$
88,106Other


227,869


135,843$
775,859

$
223,949





Note 5Property and Equipment





Property and equipment at March 31, 2002 and 2001 consist of the following:





March 31,2002


2001Computer equipment

$
698,712


$
462,467Office furniture and fixtures


185,007



43,572Office equipment


43,284



41,113Leasehold improvements


7,071



Equipment


19,830,221



19,531,88020,764,295



20,079,032Less accumulated depreciation


(5,086,471
)


(2,045,546
)$
15,667,824


$
18,033,486





Depreciation expense for the three and nine months ended March 31, 2002 was
$763,413 and $2,277,766, respectively and for the three and nine months ended March 31, 2001 was $741,586 and $1,583,108, respectively.





Note
6Deposits and Other Assets





Deposits and other assets consist of the following at March 31, 2002 and 2001:





2002

2001Equipment depositsMobile PET Units

$
388,130

$
688,891Equipment rental depositsother


49,000


49,000Lease deposits


5,000


13,955Preferred stock redemption deposit


500,000


Other


88,481


58,151$
1,030,611

$
809,997





Equipment depositsMobile PET Units are refundable upon the Company securing
lease financing or may be applied to subsequent equipment orders.




9




---

##### Table of Contents



MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)







Note 7Capitalization





Preferred Stock





On January 20, 2000, the Company
authorized for issuance ten million (10,000,000) shares of preferred stock having one hundredth of a cent ($0.0001) par value per share. On March 3, 2000 the Company designated and issued sixty (60) shares 8% Cumulative Convertible Redeemable
Preferred, Series A Stock (Series A) for cash in the amount of $2,700,000, net of acquisition fees. In addition, under this Securities Purchase Agreement the Company issued 120,000 warrants to purchase shares of common stock at an
exercise price of $5 per share, which expire in March 2003. The shares of Series A Stock have no voting rights, have an original liquidation value of $50,000 per share, and accrue dividends at a rate of eight percent (8%) per annum per share on the
liquidation value payable upon conversion. On May 30, 2001 the liquidation value was increased to $58,937 when the Company entered into a Settlement Agreement and Conditional Release of a lawsuit surrounding the Securities Purchase Agreement. The
total liquidation value of the shares outstanding at March 31, 2002 and 2001 in the amount of $851,023 and $1,975,000, respectively is classified on the Companys balance sheet as preferred stock. Cumulative preferred dividends are payable upon
conversion and at March 31, 2002 there are cumulative preferred dividends in arrears in the amount of $165,137 or $7,180 per share. In the event of any liquidation, dissolution or winding up of the affairs of the Company, holders of the Series A
Stock shall be paid the liquidation value plus all accrued dividends at that date before any payment to other shareholders. At the option of the holders, the Series A Stock and the cumulative preferred dividends in arrears are convertible into
shares of common stock determined by dividing $58,937 by the conversion price of the lesser of $5 or 75% of the average of the closing bid price of common stock during the five (5) trading days immediately prior to the conversion date. If the
Company fails to convert or is unable to issue shares of common stock, the holder may redeem the Series A Stock for cash in an amount equal to the fair value of the shares of common stock that would have been converted. The sixty (60) shares of
Series A Stock provide an intrinsic value of beneficial conversion feature of approximately $1,206,000. As of March 31, 2002, the holders converted thirty-eight (38) shares of Series A into 3,486,939 shares of common stock. At March 31, 2002 there
are twenty-three (23) shares of Series A issued and outstanding.





On September 21, 2000, the Company designated and subsequently
issued thirty (30) shares 8% Cumulative Convertible Redeemable Preferred, Series B Stock (Series B) for cash in the amount of $1,385,000, net of acquisition fees. In addition, under this Securities Purchase Agreement the Company issued
50,000 warrants to purchase shares of common stock at an exercise price of $3 per share and 29,851 warrants to purchase shares of common stock at an exercise price of $2.5125 per share. The warrants expire on September 30, 2005. The shares of Series
B Stock have no voting rights, have an original liquidation value of $50,000 per share, and accrue dividends at a rate of eight percent (8%) per annum per share on the liquidation value payable upon conversion. On May 30, 2001 the liquidation value
was increased to $58,937 when the Company entered into a Settlement Agreement and Conditional Release of a lawsuit surrounding the Securities Purchase Agreement. The total liquidation value of the shares outstanding at March 31, 2002 and 2001 in the
amount of $1,768,110 and $1,500,000, respectively is classified on the Companys balance sheet as preferred stock. Cumulative preferred dividends are payable upon conversion and at March 31, 2002 there are cumulative preferred dividends in
arrears in the amount of $112,808 or $3,760 per share. In the event of any liquidation, dissolution or winding up of the affairs of the Company, holders of the Series B Stock shall be paid, pari passu with holders of the Series A Stock, the
liquidation value plus all accrued dividends at the date of liquidation, dissolution or winding up of the affairs before any payment to other shareholders. At the option of the holders, the Series B Stock and the cumulative preferred dividends in
arrears are convertible into shares of common stock determined by dividing $58,937 by the conversion price of the lesser of $3 or 75% of the average of the closing bid price of common stock during the five (5) trading days immediately prior to the
conversion date. If the Company fails to convert or is unable to issue shares of common stock, the holder may redeem the Series B Stock for cash in an amount equal




10




---

##### Table of Contents



MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)




to the fair value of the shares of common stock that would have been converted. The thirty (30) shares of Series B Stock issued provide an intrinsic value of beneficial conversion feature of
approximately $414,580.





Common Stock





The Company has authorized for issuance ninety million (90,000,000) shares of common stock, having one hundredth of a cent ($0.0001) par value per share. On June 30, 2000 the Company had
14,944,658 shares of common stock issued and outstanding.





During the nine months ended March 31, 2001 the Company issued shares
of common stock in cash transactions: 1,615,584 shares for cash in the amount of $872,500. Also during the nine months ended March 31, 2001 the Company issued shares of common stock in non-cash transactions: 1,108,264 shares through the conversion
of Series A Stock valued at $1,025,000; and 47,778 shares through the conversion of Series A Stock dividends in arrears valued at $20,099.





During the three months ended June 30, 2001 the Company issued shares of common stock in cash transactions: 2,120,000 shares for cash in the amount of $996,150; and 2,733,981 shares for cash in the amount of $750,000
according to the terms of a settlement agreement between the Company and holders of the Series A and Series B Stock. Also during the three months ended June 30, 2001 the Company issued shares of common stock in non-cash transactions: 635,471 shares
through the conversion of Series A Stock valued at $295,035; 1,875,000 shares through the conversion of debt valued at $750,000; and 403,350 shares for legal services valued at $201,675. On June 30, 2001 the Company had 25,484,086 shares of common
stock issued and outstanding.





During the nine months ended March 31, 2002 the Company issued shares of common stock in cash
transactions: 2,600,000 shares from paid subscriptions at June 30, 2001 in the amount of $1,000,000; 8,671,427 shares for cash in the amount of $3,275,000. Also during the nine months ended March 31, 2002 the Company issued shares of common stock in
non-cash transactions: 1,743,204 shares through the conversion of Series A Stock valued at $682,288; 161,714 shares as a finders fee; 100,000 shares as compensation valued at $43,000; and 3,062,331 shares for services valued at $1,060,251. On March
31, 2002 the Company had 41,822,762 shares of common stock issued and outstanding and subscriptions paid for the issue of an additional 1,428,571 shares of common stock.





Stock Options





The Companys Board of Directors and
shareholders adopted the 1999 Stock Option Plan pursuant to which incentive stock options or nonstatutory stock options to purchase up to 8,000,000 shares of common stock may be granted to employees, directors and consultants. Stock options
generally expire on June 30, 2002, with some options extending to September 12, 2005 and vesting over service periods that range from zero to four years.




11




---

##### Table of Contents



MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)







As of March 31, 2002, the Company has granted options to purchase 3,830,625 shares
of common stock as follows:





Exercise Price

Number of Shares


Vested SharesOutstanding, June 30, 2000

$1.00  $4.63


5,988,000


3,594,000Granted

$2.50  $3.25


400,000


7,500Exercised







Cancelled

$1.00  $5.31


(1,530,000
)

(55,000
)Outstanding, September 30, 2000

$1.00  $4.63


4,858,000


3,546,500Granted

$1.26  $2.99


354,500


365,000Exercised







Cancelled

$1.00  $4.63


(220,000
)

Outstanding, December 31, 2000

$1.00  $4.63


4,992,500


3,911,500Granted

$1.26  $2.99


201,250


311,500Exercised







Cancelled







Outstanding, March 31, 2001

$1.26  $2.50


5,193,750


4,223,000Granted

$  .45  $1.09

$
231,500


456,000Exercised







Cancelled

$1.00  $4.63


(374,500
)

(1,222,000
)Outstanding, June 30, 2001

$  .45  $4.63


5,050,750


3,457,003Outstanding, June 30, 2001

$  .45  $4.63


5,050,750


3,457,003Granted

$  .50  $3.00


1,632,500


1,143,916Exercised







Cancelled

$1.00  $4.63


(942,500
)

(939,167
)Outstanding, September 30, 2001

$  .45  $4.63


5,740,750


3,661,752Granted

$  .50  $1.00


189,376


1,268,500Exercised







Cancelled

$1.00  $4.63


(170,000
)

(939,167
)Outstanding, December 31, 2001

$  .45  $4.63


5,760,126


3,991,085Granted







Exercised







Cancelled

$  .45  $4.63


(1,929,500
)

(534,916
)Outstanding, March 31, 2002

$  .46  $4.46


3,830,626


3,456,169





The Company accounts for stock-based compensation using the intrinsic value
method prescribed by Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, under which no compensation cost for stock options is recognized for the stock option awards granted at or above fair market
value. However, during the nine months ended March 31, 2002 and 2001 the Company recognized compensation expense using the intrinsic value method of $0 and $624,192, respectively.





Warrants





At March 31, 2002 warrants were outstanding to
purchase 9,521,671 common stock at exercise prices between $0.35 to $7.00 per share, and at the average of the last reported sale price of the common stock for the five trading days preceding the issue date. These warrants expire between April 10,
2002 and May 25, 2006.




12




---

##### Table of Contents



MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)







Note 8Related Party Transactions





Subordinated Equity Participation





During the nine months
ended March 31, 2001, the Company entered into a Memorandum of Agreement and retroactive to June 1, 1999 restructured an 8% interest in a subordinated equity participation in London Radiosurgical Centre Ltd (LRC), a foreign corporation
with a common shareholder, officer and director. The market value of the subordinated equity participation is not readily determinable, and is recorded at cost in the amount of $200,000, which management believes approximates fair value. The
original agreement provided for distributions of cash, if any, including interest at a rate of 15% per annum, up to the amount of the investment plus accrued interest, after which the Company was to receive its proportionate share of 60% of net
distributable income. According to the terms of the participation agreement, net income available for distribution is equal to net income less equipment financing payments, operating expenses, reserve capital and taxes.





The Memorandum of Agreement provides for a distribution to the Company of 8.42% of LRCs net distributable cash flow, until a total of $210,573 has
been distributed and then the distribution of 5.05% of net distributable cash flow, subject to future dilution. The Memorandum of Agreement stopped the accrual of interest at June 1, 1999. At the date of the Memorandum of Agreement, the Company
canceled $47,447 of accrued interest from the original investment and at March 31, 2002 and 2001 accrued interest on the investment was $10,573. The related shareholder, officer and director personally guarantee the investment.





Due from London Radiosurgical Centre, Ltd





LRC provides office space and administrative expenses under normal commercial terms to The London PET Centre Limited. The London PET Centre Limited made cash payments of approximately $0 and $1,100 to LRC and office
space and administrative expense was approximately $170,766 and $125,300 during the nine months ended March 31, 2002 and 2001, respectively. During the nine months ended March 31, 2002 and 2001, the Company advanced without interest $0 and $708,
respectively to LRC for working capital during LRCs start-up period. The advances are covered by a continuing corporate and personal guarantee. There is a balance due from London Radiosurgical Centre, Ltd in the amount of $152,294 and $252,369
at March 31, 2002 and 2001, respectively.





Loans





On August 23, 2000, the Company received an eight percent (8%) bridge loan from a director and shareholder in the amount of $200,000, with an original due date of October 11, 2000. The
loans due date has been extended several times and the Company has agreed to make monthly payments of $10,000 per month beginning on January 8, 2002, until paid in full. At March 31, 2002 and 2001, the loan has a balance of $170,000 and
$200,000, respectively and accrued interest of $0 and $9,600, respectively.





On October 24 2000, the Company received an eight
percent (8%) bridge loan from an officer, director and shareholder in the amount of $100,000, which was due on or before November 30, 2000. The loan was extended to June 1, 2001. In October 2000, an eight percent (8%) promissory note was issued in
the amount of $100,000 in exchange for the loan. Principal, plus accrued interest is payable in installments: $20,000, plus accrued interest on October 8, 2001 and $10,000 plus accrued interest on the first day of each successive month, until paid
in full. At March 31, 2002 and 2001, the loan has a balance of $20,000 and $100,000, respectively, plus accrued interest of $0 and $3,463, respectively.





On January 12, 2001, the Company received an eight percent (8%) bridge loan from an officer, director and shareholder in the amount of $25,000, with an original due date of March 12, 2001, and extended to December 1,
2001. The loan was paid in December 2001.




13




---

##### Table of Contents



MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)







On January 17, 2001, the Company received an eight percent (8%) bridge loan from an
officer, director and shareholder in the amount of $150,000, with an original due date of March 12, 2001. The note has been extended several times and is now due on March 1, 2002. The note is past due. At March 31, 2002, accrued interest is $0.





On February 5, 2001, the Company received an eight and one-half percent (8.5%) bridge loan from a shareholder in the amount of
$500,000. At the option of the holder, the principal and accrued interest was convertible into shares of common stock at a conversion price of $1 per share. The option had a beneficial conversion feature in the amount of $7,800 which was recorded as
debt discount and amortized as interest expense through the date the option expired. The option expired on March 22, 2001. On March 20, 2001, the Company received an additional bridge loan in the amount of $250,000, cancelled the note dated February
5, 2001 in the amount of $500,000, and issued a new convertible ten percent (10%) note in the amount of $750,000. At March 31, 2001 the balance of the note was $750,000, plus accrued interest in the amount of $7,267. At the option of the holder, the
principal and accrued interest is convertible into shares of common stock at a conversion price of $.40 per share. The new loan did not have a beneficial conversion feature. On June 14, 2001 the holder converted the note into 1,875,000 shares of
common stock.





On October 12, 2001, the Company converted $253,050 due to a director into a promissory note without interest and
payable in monthly installments of $14,000 per month beginning on October 15, 2001, until paid in full. At March 31, 2002, the loan has a balance of $169,050.





Note 9Securities Purchase Agreement





On March 3, 2000, the Company entered into a Securities Purchase
Agreement, pursuant to which the Company issued 60 shares of 8% Cumulative Convertible Redeemable Preferred, Series A Stock for cash in the amount of $2,700,000, net of acquisition fees and 120,000 warrants to purchase shares of common stock at an
exercise price of $5.00 per share, which expire in March 2003. The buyer of the preferred stock agreed to purchase shares of common stock of the Company in tranches, for an aggregate purchase price of up to $10,000,000, at a price equal to eighty
five percent (85%) of the average closing bid price five (5) consecutive days immediately prior to the Company providing a tranche notice to the buyer. During the nine months ended March 31, 2001 the Company received $1,075,000, net of offering
costs and subsequently issued 2,703,093 shares of common stock. There is an aggregate commitment remaining in the amount of $8,925,000 at March 31, 2002.





Note 10Consulting Agreement





Effective September 21, 2001 the Company entered into a Consulting Agreement
for investor relation services. On October 9, 2001 the Company issued 2,500,000 shares of common stock, restricted during the term of the Agreement, valued at $804,000 in payment for services. In addition, the Company issued options to purchase
200,000 shares of common stock at a price of $1.00 share. The options expire on September 21, 2002.The Company originally valued the shares of common stock at $1,775,000 which represented the fair value of the shares of common stock at October 9,
2001. The value of the shares of common stock have been restated to reflect the fair value of the shares of common stock at September 21, 2001, the effective date of the Agreement.





Note 11Employment Agreements





The Company has employment and compensation
agreements with key officers and employees of the Company. The agreements vary in terms providing annual salaries and options to purchase shares of common stock, which may or may not be contingent upon individual or Company stock performance.




14




---

##### Table of Contents



MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)







Note 12Income Taxes





At March 31, 2002 the Company has a net operating loss carryforward for tax purposes of approximately $12,200,000 which expires through the year 2020. The Internal Revenue Code contains
provisions, which may limit the loss carryforward available if significant changes in shareholder ownership of the Company occur.





The components of the provision for income taxes for the nine months ended March 31, 2002 and 2001 are as follows:





March 31,2002

2001CurrentForeign

$


$
Federal





State


26,414


5,89726,414


5,897DeferredForeign





Federal





State








Provision for income taxes

$
26,414

$
5,897





The components of the net deferred tax assets were as follows:





March 31,2002


2001Deferred tax assetsNon-cash compensation

$
266,794


$
610,782Organization and start-up costs


91,115



155,949State tax benefit and other


441,682



274,728Net operating loss carryforward


5,219,573



1,876,3576,019,164



2,917,816Deferred tax liabilitiesDepreciation


376,292



44,6885,642,872



2,873,128Less valuation allowance


(5,642,872
)


(2,873,128
)Net deferred tax assets

$









15




---

##### Table of Contents



MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)







Note 13Long Term Debt





Long term debt at March 31, 2002 and 2001 consists of the following:





2002


2001Promissory Note with interest at a rate of 11% per annum, due in monthly installments of $2,343, with the first payment beginning on
January 1, 2002, with a variable 5% to 1% prepayment penalty.

$
78,431


$
108,753Less current portion


(15,284
)


(22,711
)Long term debt, net of current portion

$
63,147


$
86,042





The maturities of long term debt for each of the succeeding five years subsequent
to March 31, 2002, are as follows:





Twelve Months Ending            March 31,2003

$
15,2842004


18,5872005


24,4132006


20,147$
78,431





Note 14Commitments





Equipment under capital lease is included in property and equipment as follows:





March 31,2002


2001Equipment

$
19,830,221


$
19,277,737Less accumulated amortization


(4,833,131
)


(1,611,101
)Net capital lease assets

$
14,997,090


$
17,666,636





The Company leases office space and certain PET equipment under non-cancelable
operating leases. The office lease expires in April 2005 and the equipment leases expire through May 2006.





Rent expense for the
three and nine months ended March 31, 2002 was $433,181 and $1,174,042, respectively and for the three and nine months ended March 31, 2001 was $9,090 and $56,699.





The Company leases certain other PET equipment under capital leases. The equipment leases expire through March 2006. The capital leases are secured by the Companys assets. The
chief executive officer of the Company has personally guaranteed one lease. Certain leases contain covenants that restrict the use of cash and require the Company to maintain financial ratios. The Company has been advised of its failure to maintain
a debt service coverage ratio of not less than 1.25 to 1.00, placing three leases in default. The Company has also been advised three other lease agreements are in default for failure to make lease payments when due and demand has been made for
payment of $2,294,394. Obligations under capital leasecurrent include $6,755,479 of lease obligations currently in default.




16




---

##### Table of Contents



MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)







The following is a schedule by year of the future minimum lease payments at March
31, 2002:





Twelve MonthsEnding March 31,

CapitalLease


Operating Leases2003


11,838,599



1,196,7502004


3,403,572



1,220,1302005


3,403,572



1,104,3642006


2,666,242



1,063,0342007






88,94021,311,985


$
4,673,218Less amount representing interest at 12.07%


(7,268,434
)Present value of minimum lease payments (including current portion of $8,523,552)

$
14,043,551





Note 15Concentration of Credit Risk





The Company maintains cash with various major financial institutions in excess of the Federal Deposit Insurance Corporation limits.





Note 16Earnings (Loss) Per Share





The
computations of basic and diluted earnings per share from continuing operations for the nine months ended March 31, 2002 and 2001 were as follows:





March 31,2002


2001Loss per sharebasicNumerator:Net lossavailable to Common shareholders

$
(3,998,326
)

$
(8,102,995
)Denominator:Weighted-average shares


31,351,109



15,693,489Loss per sharebasic

$
(0.13
)

$
(0.52
)Loss per sharedilutedNumerator:Net lossavailable to Common shareholders

$
(3,998,326
)

$
(8,102,995
)Denominator:Weighted-average shares


31,351,109



15,693,489Loss per sharediluted

$
(0.13
)


(0.52
)




17




---

##### Table of Contents



MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)




The average shares listed below were not included in the computation of diluted loss per share because to do so would have
been antidilutive for the nine months ended March 31, 2002 and 2001:





March 31,2002

2001Cumulative convertible redeemable preferred stock common stock equivalent

936,378

755,900Employee stock options

6,149,441

4,869,385Warrants

5,780,835

1,156,547





Note 17Prior Period Adjustments





The financial statements for the six months ended December 31, 2001 have been restated to correct the recording of stock based compensation for investor relation services. The effect of
the restatements are as follows:





As of and for the Nine MonthsEnded December 31, 2001

As Previously Reported


AsRestatedPrepaid and other assets

$
1,928,558


$
957,558Additional paid in capital


19,105,358



18,134,358Net loss

$
(2,717,627
)

$
(2,717,627
)Net lossavailable to common shareholders


(2,870,314
)


(2,870,314
)Loss per sharebasic

$
(0.09
)

$
(0.09
)Loss per sharediluted


(0.09
)


(0.09
)





The financial statements for the year ended June 30, 2001 have been restated to
correct an error in recording additional accrued expenses. The effect of the restatements is as follows:





As of and for the Year Ended June 30, 2001

As Previously Reported


AsRestatedAccrued and other liabilities

$
1,164,543


$
1,255,616Accumulated deficit


(18,230,549
)


(18,321,622
)Net loss

$
(9,520,723
)

$
(9,611,796
)Net lossavailable to common shareholders


(9,999,248
)


(10,090,321
)Loss per sharebasic

$
(0.60
)

$
(0.60
)Loss per sharediluted


(0.60
)


(0.60
)





Note 18Subsequent Events





On April 4, 2002 the Company issued 1,000,000 shares of common stock for cash in the amount $350,000 with a warrant to purchase 500,000 shares of common stock at a price of thirty-five
cents ($0.35) per share. The warrant expires on April 3, 2003.





On April 10, 2002 the Company received a notice of conversion
for three (3) shares of Series B preferred stock to be converted into 414,934 shares of common stock.





On April 23, 2002 the
Company issued 1,428,571 shares of common stock for cash in the amount $500,000 with a warrant to purchase 714,286 shares of common stock at a price of thirty-five cents ($0.35) per share. The warrant expires on March 27, 2004.







18




---

##### Table of Contents



MOBILE PET SYSTEMS, INC. AND SUBSIDIARIES





NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)




Note 17Subsequent Events





On April 30, 2002 the Company issued 300,000 shares of common stock for cash in the amount $105,000 with a warrant to purchase 150,000 shares of common stock at a price of thirty-five cents ($0.35) per share. The
warrant expires on April 30, 2003.




19




---

##### Table of Contents




PART I.





Item 2.Managements Discussion and Analysis





Overview





Mobile PET Systems, Inc. is a medical service provider of Positron Emission Tomography (PET) imaging services to hospitals and healthcare professionals in the United States and United Kingdom. PET is a molecular
imaging procedure used to diagnose and stage cancer, heart disease and neurological deficits. Our medical service business enables hospitals and other healthcare professionals the ability to access, offer and provide this advanced diagnostic imaging
patient service efficiently and with little risk.





We provide hospitals and physicians access under a service agreement to our
state-of-the-art PET imaging systems, which are integrated into mobile coaches or in a stationary PET facility. We provide licensed technical personnel to operate the equipment and perform the technical PET imaging procedure, daily operations and
logistical management, marketing, education and peripheral support services. All patient imaging procedures are implemented under the direction of a licensed staff physician who is provided by the medical institution.





As of March 31, 2002 we were providing our services to over 75 accounts, which consisted of hospitals and physicians in the United States. We also
operated a wholly owned subsidiary, The London PET Centre Ltd., which is the only private sector stationary PET facility in the United Kingdom. We believe there are and will be significant opportunities to develop and operate additional mobile and
stationary PET facilities in the United States, United Kingdom and in key European markets.





We have measured the financial
position and results of operations of our United Kingdom subsidiaries using local currency as the functional currency. We have translated our assets and liabilities into U.S. dollars at the rates of exchange at the balance sheet date. We have
translated our statements of operations using the average exchange rates prevailing throughout the reporting period. We have accumulated the translation gains or losses resulting from the changes in the exchange rates from quarter-to-quarter in a
separate component of shareholders equity. We have reflected the transaction gains and losses in the cash flow as the effect of exchange rate changes on cash.





Results of Operations





For the three and six months ended March 31, 2002, we had fifteen mobile units and one
fixed site accepted and placed into service, generating revenues for the three and nine months ending March 31, 2002 of $4,559,403 and $12,427,453 compared to the three and nine months ending March 31, 2001, in which we had revenues of $2,308,196
and $4,267,864, respectively. Our costs of service for the three and nine months ending March 31, 2002 were $2,857,882 and $7,473,849 compared to $1,450,412 and $3,195,677 for the three and nine months ending March 31, 2001. This substantial
difference in revenues and costs is largely attributable to the number of units which were in service during the applicable periods. As a result of these activities, accounts receivables increased to $3,776,475 net of allowances for doubtful
accounts, as of March 31, 2002, as compared to accounts receivables of $2,248,351, net of allowances for doubtful accounts, as of March 31, 2001. The costs of service revenues represent salaries paid to technologists and drivers, system maintenance,
transportation and insurance on our mobile PET systems. We have transitioned from a development stage company and are now seeking to grow. Prior to this transition, our efforts have been principally focused on capitalization, organizational and
business development activities.





We continue our efforts to develop and expand our service business by increasing utilization
of our existing units, and developing and operating additional mobile and stationary PET systems. We anticipate we may continue to incur additional losses as we pursue our development efforts. If we continue our unit growth and achieve targeted unit
revenues, we believe cash flow will be sufficient to cover our cost of services on a monthly basis commencing in the fourth quarter of fiscal year 2002.




20




---

##### Table of Contents

Our future revenues will principally be a function of the number of operating units in service, the volume of patient procedures and
the fees earned per procedure. We generate substantially all our revenues from our service agreements with hospitals and other health care providers. We have a satisfactory record of account collections, however there can be no assurance that this
trend will continue and, accordingly, we have established an allowance for uncollectable accounts receivable. Lower reimbursement by public and private insurers may also impact the revenues the Company can generate from its operations. There can be
no assurance that we will be able to maintain or increase the number of patient procedures.





Since our inception we have
incurred significant losses. Through March 31, 2002, we have incurred a net loss of $22,105,499, which we have financed primarily through equity sales. For the three and nine months ended March 31, 2002, we experienced a consolidated net loss from
operations of $534,189 and $2,136,773, compared to a consolidated net loss from operations of $1,580,808 for the three months, and $6,111,457 for the nine months ended March 31, 2001. Our net loss available to common shareholders, after accrued
preferred stock dividend, was $1,128,012 for the three months and $3,998,182 for the nine months ended March 31, 2002, compared to the net loss of $1,992,113 for the three months and $8,102,995 for the nine months ended March 31, 2001.





It should be noted however that we have expensed as a non-cash transaction the issuance of 2,500,000 shares to our investor relations company
American Financial Corporation. This resulted in a non-cash expense of $212,333 for the three months and $875,000 for the nine months ended March 31, 2002. We anticipate that the company should have operating profits during the fourth quarter of
fiscal year 2002, due to realizing higher utilization of our services and subsequent growth in revenues. We have implemented cost reductions by reducing administrative and travel expense and by negotiating higher discounts for new equipment, service
and radiotracers. Subject to obtaining additional financing, we are also seeking to deploy additional mobile units or stationary sites which will reduce per unit operating costs. However, we can give no assurances that our efforts will have the
desired effects. As a result, in order to achieve and maintain profitability, we will need to continue to increase revenues and effectively manage our operating overhead.





Selling expenses for the three months and nine months ended March 31, 2002 were $635,396 for the three months and $2,399,010 for the nine months, as compared to $1,351,228 for the three
months and $3,720,045 for the nine months ended March 31, 2001. General and Administrative expenses for the three months and nine months ended March 31, 2002 were $1,640,314 for the three months and $4,691,367 for the nine months ended March 31
2002, as compared to $1,087,364 for the three months and $3,463,599 for the nine months ended March 31, 2001. The principal components of our operating costs, selling and general, consists of equipment leasing, equipment service and maintenance,
salaries and benefits, legal and accounting fees, insurance and transportation costs. Because the majority of these costs are fixed, increased revenues as a result of increased patient procedures may provide higher profitability, while lower patient
procedures may result in lower profitability.





Depreciation expense increased from $741,586 for the three months and $1,583,108
for the nine months ended March, 2001 to $763,413 for the three months and $2,277,766 for the nine months ended March 31, 2002 mainly due to the increase in mobile PET units deployed to fifteen mobile and one fixed site at March 31, 2002 compared to
twelve mobile units and one fixed site at March 31, 2001. In addition, we continue to incur costs in building our infrastructure and incur costs in connection with business development advertising and marketing our mobile PET services.





Our interest income was $1,639 and $6,981 for the three months and nine months ended March 31 2002, respectively as compared to $5,826 and
$11,667 for the three and nine months ended March 31, 2001 respectively. This was the result of a reduction of cash reserves earning interest during the later periods. Our interest expense was $521,444 and $1,627,671 for the three and nine months
ended March 31, 2002, as compared to the interest expense of $382,154 and $1,326,541 for the three and nine months ended March 31, 2001. This was principally due to the increase of leased capital equipment.




21




---

##### Table of Contents

Liquidity and Capital Resources





At March 31, 2002, our total assets were $22,300,292 compared to $22,143,033 at March 31, 2001. Our current assets at March 31, 2002 totaled $5,917,906 and our current liabilities were $15,963,653, as compared to current assets of
$3,304,825 and current liabilities of $8,600,104 at March 31, 2001. Shareholders equity at March 31, 2002 increased from ($1,405,094) to $753,493, due primarily to the increase in additional paid in capital of $1,874,055 for the three months
and $5,558,905 for the nine months ended March 31, 2002.





Our foreign currency translation adjustment in shareholders
equity amounted to ($272,736) at March 31, 2002 compared to ($41,684) at March 31, 2001. We have reflected the transaction gains and losses in the cash flow as the effect of exchange rate changes on cash of $95,458 for the three months and $47,764
for the nine months ended March 31, 2002, compared to ($102,957) for the three months and $69,701 for the nine months ended March 31, 2001.





Our net cash used in investing activities for the three and nine months ended March 31, 2002 was ($103,988) and ($236,598), respectively, as compared to ($5,915) and ($162,966) in the three and nine months ended March
31, 2001 respectively. This difference is primarily a result of our investment in computers and related equipment for our business and personnel growth.





The net cash provided by our financing activities for the three and nine months ended March 31, 2002 was ($1,123,765), and ($390,437), respectively, resulting mainly from the issuance of common stock of $750,000
during the three months and $3,275,000 during the nine months ended March 31, 2002, compared to $325,000 issued for the three months and $1,122,500 for the nine months ended March 31, 2001 and the payments on obligations under capital lease for the
three and nine months ended March 31, 2002 being ($2,315,544) for the three months and ($4,009,442) for the nine months compared to ($304,125) for the three months and ($583,106) for the nine months ended March 31, 2001.





During the three and nine months ended March 31, 2002, we have raised $1,874,055 for the three months and $5,558,905 for the nine months ended March 31,
2002 of new equity capital through private placements of common stock and warrants to purchase common stock, compared to $2,897,995 for the three months and $3,820,127 for the nine months ended March 31, 2001.





As an additional potential source of funds if needed, we are entitled to put to York, LLC, up to a total of $10,000,000 of common stock from time to
time (but not after November 2003) under the Securities Purchase Agreement for the sale of our Series A Preferred Stock subject to certain conditions set forth in that agreement. As of December 31, 2001, we have already drawn $1,820,000 against this
put-equity line (for 3,950,565 common shares). All of these draws occurred on or before June 1, 2001. The per common share price of such a sale is 85% of the average closing bid price for the 5 consecutive trading days prior to the date of the sale.
We have the choice to elect to use an alternative pricing period that is the three trading days on which the closing bid price of our common stock is the lowest during the number of trading days before the closing date for a sale of such shares,
determined by dividing the dollar amount by 15% of the average daily dollar trading volume of our common stock for the 20 trading days before the date of our notice to York, LLC. We must wait 30 days after the closing date of a sale for which we use
this alternative pricing period before we can give York another notice of sale under this provision.





Factors That May Affect Future Results





The discussion and analysis of our financial condition and results of operations should be read in conjunction with the
financial statements and the related notes. This Quarterly Report on Form 10-QSB contains forward-looking statements based upon current expectations that involve risks and uncertainties, including those identified below. For this purpose, any
statements contained in it that are not statements of historical fact should be regarded as forward-looking statements within the meaning of the Act and the Exchange Act. For example,




22




---

##### Table of Contents

the words believes, anticipates, plans, intends, will, may and expects, or any variation of these words
including the negative of these words, are intended to identify forward-looking statements. Readers are cautioned not to place undue reliance on any forward-looking statement contained herein, which speak only as of the date hereof. We undertake no
obligation to publicly release the result of any revisions to these forward-looking statements that may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unexpected events.





We have lost money in the past and may lose money in the future.





We have incurred significant losses since our formation. In two recent months we have been successful in generating sufficient revenues to fund our continuing operations. In the future we may not be able to generate
sufficient revenues from sales to fund continuing operations or sustain profitability.





Our substantial indebtedness could restrict our operations and
make us more vulnerable to adverse economic conditions.





We are a highly leveraged company and our substantial indebtedness
could have important consequences. For example, it could:





| |  |  | make it more difficult for us to satisfy our obligations to our creditors;
| | - |  | --------------------------------------------------------------------------




| |  |  | require us to dedicate a substantial portion of our cash flow from operations to payments on our indebtedness, thereby reducing the availability of our cash flow to fund
working capital, capital expenditures and acquisitions and for other general corporate purposes;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------




| |  |  | increase our vulnerability to economic downturns and competitive pressures in our industry;
| | - |  | -------------------------------------------------------------------------------------------




| |  |  | increase our vulnerability to interest rate fluctuations because much of our debt is at variable interest rates;
| | - |  | ----------------------------------------------------------------------------------------------------------------

| |  |  | place us at a competitive disadvantage compared to our competitors that have less debt in relation to cash flow; and
| | - |  | --------------------------------------------------------------------------------------------------------------------




| |  |  | limit our flexibility in planning for, or reacting to, changes in our business and our industry.
| | - |  | ------------------------------------------------------------------------------------------------




Certain of our indebtedness is secured by equipment and other assets of the Company. If the Company defaults and the creditors foreclose, the Company and its operations could be
materially and adversely effected.





We may be unable to generate or borrow sufficient cash to make payments on our indebtedness or to refinance our
indebtedness on acceptable terms.





Our ability to make payments on our indebtedness will depend on our ability to generate
cash flow in the future which, to a certain extent, is subject to general economic, financial, competitive, legislative, regulatory and other factors that are beyond our control. In addition, future borrowings may not be available to us in an amount
sufficient to enable us to pay our indebtedness or to fund our other cash needs. We may not be able to timely service all of our indebtedness.





Acceptance of our services by the medical community or by patients may not grow, which may impair our future sales and profitability.





High cost, concerns by patients and physicians relating to safety and efficacy, and the substantial acceptance of other diagnostic tools such as MRIs or CT scans may interfere with the growing acceptance of PET
technology. We have a limited sales force and may need to hire additional technologists and sales and marketing personnel to grow the acceptance of PET services. We believe PET technology is now accepted as a valid diagnostic and staging tool for
certain conditions, but we cannot promise this acceptance will continue to expand to other conditions.




23




---

##### Table of Contents

If we do not remain profitable, we may not be able to continue our operations.





Our future revenues and profitability depend in part on our ability to demonstrate to hospitals the potential cost and performance advantages of the PET system over traditional
diagnostic imaging systems. Our ability to experience profitability in the future will depend in part on our ability to successfully market and sell PET services on a wide scale.





The issuance of shares under outstanding convertible preferred stock may depress our stock.





Our Series A and B Convertible Preferred Stock (the Series A and B Stock) is convertible into shares of our common stock at floating rates based upon formulas tied to the market price of our common stock. As such, the lower our
stock price is at the time the shares of Series A and B Stock convert, the more shares of our common stock will have to be issued as a result of the conversion. For example, if the market price of our common stock were to fall by 50% from present
levels, the holders of Series A and B Stock would be entitled to convert such stock for twice as many shares of our common stock as they would at todays level. The conversion of such stock when our common stock price is low may greatly
increase the number of outstanding shares of our common stock, which may cause our stock price to fall further. That, in turn, would allow the holders of the Series A and B Stock to convert their remaining shares into even greater amounts of our
common stock. The sale of such shares could yet further depress our stock price. In addition, downward price pressure caused by the sale of shares of our common stock issued on the conversion of the Series A and B Stock could encourage short sales
by the holders of the Series A and B Stock and others, placing yet more downward pressure on the price of our common stock. All of the then outstanding shares of Series A and B Convertible Preferred Stock will automatically convert to common stock
in March and September of 2003, respectively.





We will need to obtain additional financing in the near future.





Our capital requirements associated with our expanding operations have been and will continue to be substantial. We will require additional financing to
execute our business plan. No assurance can be given that we will be able to obtain additional financing when needed, or that, if available, such financing will be on terms acceptable to us. In any such financing, the interests of our existing
security holders could be substantially diluted. If adequate funds were either not available or not available on acceptable terms, our business, revenues, financial condition and results of operations would suffer. If we raise additional funds
through the issuance of equity or convertible securities, the percentage ownership of our stockholders will be reduced. Moreover, these securities may have powers, preferences and rights that are senior to those of the rights of our common stock.





We have a significant number of shares that are eligible for future sale.





Virtually all of the Companys outstanding stock was issued and sold pursuant to exemptions from registration with the Securities and Exchange Commission and state securities
agencies. These shares and shares held by our affiliates are considered restricted securities and may be resold pursuant to an effective registration statement or in compliance with SEC Rule 144. Rule 144 generally provides that a person
holding restricted securities for one year from the date the securities were purchased from the issuer, or from an affiliate of the issuer, and fully paid, may sell limited quantities of the securities to the public without registration, provided
certain public information with respect to the issuer is available. Pursuant to Rule 144, securities held by non-affiliates for more than two years may generally be sold without reference to the current public information or broker transaction
requirements, or the volume limitations. A significant number of shares are currently available for resale pursuant to Rule 144 and more shares will become so in the future.





In addition, the Company has granted registration rights in connection with the sale of a significant number of its shares. The exercise of such rights would require the Company to
prepare and file one or more registration statements for the resale of the Companys shares.







24




---

##### Table of Contents

The resale of formerly restricted shares, whether pursuant to Rule 144 or a registration statement, could have a material negative
impact upon the market price for the common shares.





We depend on a small number of suppliers, the loss of which could adversely affect our business.





We purchase our PET systems from a limited group of qualified suppliers: CTI of Knoxville Tenn., Siemens Medical Systems,
Inc. of Iselin N.J. and GE Medical Systems, Milwaukee, Wisc. While we believe that alternative suppliers could be found for the PET system, there can be no assurance that any supplier could be replaced in a timely manner. Any interruption in the
supply and/or delivery of the PET system could materially harm our ability to expand our revenues and, thereby adversely affect our financial condition and results from operations.





We may be unable to provide adequate support to our customers, and this may adversely affect our relationship with them.





We have limited experience with widespread deployment of our products and services to a diverse customer base, and there can be no assurance that we will have adequate personnel to provide the level of support that
our customers may require during initial product deployment or on an ongoing basis. An inability to provide sufficient support to our customers could have an adverse affect on our reputation and relationship with our customers, prevent us from
gaining new customers, and adversely affect our business, financial condition or results of operations.





Our foreign sales are subject to risks, which
could negatively affect our sales and business.





An increasing portion of our sales may be made in foreign markets. The
primary risks to which we are exposed due to our foreign sales are the difficulty and expense of maintaining foreign sales distribution channels, and governmental quotas and other regulations. There is also a risk due to the effect of exchange rate
changes on the foreign currency we receive.





The regulation of medical devices worldwide also continues to develop, and it is
possible that new laws or regulations could be enacted, which would have an adverse effect on our business. In addition, we may experience additional difficulties in providing prompt and cost effective service of PET scans in foreign countries. We
do not carry insurance against these risks. The occurrence of any one or more of these events may individually or in the aggregate have an adverse effect upon our business, financial condition and results of operations.





The PET system may become technologically obsolete and our business could be harmed.





The markets in which our PET services compete are subject to rapid technological change as well as the potential development of alternative diagnostic imaging techniques or products.
These changes could render the PET system technologically or economically obsolete, or cause a reduction in the value of, or reduce the need for, PET systems. Should such change occur, there could be no assurance that we will be able to acquire the
new or improved systems, which may be required to service our customers.





If we are unable to obtain additional funding our business operations will
be harmed.





We believe that our available short-term assets and investment income will be sufficient to meet our operating
expenses and capital expenditures through the current fiscal year. We do not know if additional financing will be available when needed, or if it is available, if it will be available on acceptable terms. Insufficient funds may prevent us from
implementing our business strategy or may require us to delay, scale back or eliminate certain contracts for the provision of PET services.







25




---

##### Table of Contents

If our client contracts are not renewed or are terminated early, our business and financial results would be harmed.





Upon expiration of our clients contracts, we are subject to the risk that clients will cease using our PET systems and purchase or lease their own
PET systems, use our competitors PET systems or rely on alternate imaging technologies. None of our client contracts expired in 2001, approximately seven percent expire in 2002, twenty-two percent in 2003, seventeen percent in 2004, twenty
percent in 2005 and thirty-four percent in 2006. Moreover, one-third of our client contracts permit the client, upon typically 180 days notice, to terminate the contract without cause, and two-thirds of our client contracts permit the
client, upon typically 180 days notice, to terminate the contract if the client obtains a fixed site for a PET system. In addition, a portion of our contracts does not have minimum usage requirements.





Complying with federal and state regulations is an expensive and time-consuming process, and any failure to comply could result in substantial penalties.





We are, directly or indirectly through our clients, subject to extensive regulation by both the federal government and the states in which we
conduct our business. The laws that directly or indirectly affect our ability to operate our business include the following:





| |  |  | the federal Medicare and Medicaid Anti-Kickback Law, which prohibits persons from soliciting, receiving or providing remuneration, directly or indirectly, to induce either the
referral of an individual, or furnishing or arranging for a good or service, for which payment may be made under federal healthcare programs such as the Medicare and Medicaid programs;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------




| |  |  | the federal False Claims Act, which imposes civil and criminal liability on individuals and entities who submit false or fraudulent claims for payment to the government;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------




| |  |  | the federal Health Insurance Portability and Accountability Act of 1996, which prohibits executing a scheme to defraud any healthcare benefit program, including private payers;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------




| |  |  | the federal False Statements Statute, which prohibits knowingly and willfully falsifying, concealing or covering up a material fact or making any materially false statement in
connection with the delivery of or payment for healthcare benefits, items or services;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------




| |  |  | the federal physician self-referral prohibition commonly known as the Stark Law which, in the absence of a statutory or regulatory exception, prohibits the referral of Medicare
patients by a physician to an entity for the provision of certain designated health services, including MRI and other imaging services, if the physician or a member of the physicians immediate family has an ownership interest in, or a
compensation arrangement with, the entity;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------




| |  |  | state law equivalents of the foregoing;
| | - |  | ---------------------------------------




| |  |  | state laws that prohibit the practice of medicine by non-physicians and fee-splitting arrangements between physicians and non-physicians; and
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------




| |  |  | federal and state laws governing the diagnostic imaging equipment we use in our business concerning patient safety, equipment operating specifications and radiation exposure
levels.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



26




---

##### Table of Contents

If our operations are found to be in violation of any of the laws described in this risk factor or the other governmental regulations
to which our clients or we are subject, we may be subject to the applicable penalty associated with the violation, including civil and criminal penalties, damages, fines and the curtailment of our operations. Any penalties, damages, fines or
curtailment of our operations would adversely affect our ability to operate our business and our financial results. The risk of our being found in violation of these laws is increased by the fact that many of them have not been fully interpreted by
the regulatory authorities or the courts and their provisions are open to a variety of interpretations. Any action against us for violation of these laws, even if we successfully defend against it, could cause us to incur significant legal expenses
and divert our managements attention from the operation of our business.





The loss of any of our key managers could adversely affect our
business, including our ability to develop and market our products.





We depend to a considerable degree on a limited number
of key personnel. The loss of the services of key members of our management could harm our business. Our success will also depend, among other factors, on the successful recruitment and retention of qualified sales persons, technologists and other
personnel. It is impossible to predict the availability of qualified sales persons and technologists or the compensation levels that will be required to hire them. In particular, there is a very high demand for qualified technologists who are
necessary to operate our systems. We may not be able to hire or retain a sufficient number of technologists, and we may be required to pay bonuses and higher salaries to our technologists, which would increase our expenses. The loss of the services
of any member of our senior management or our inability to hire or retain qualified sales persons and skilled technologists at economically reasonable compensation levels could adverse affect our ability to operate and grow our business.





If we fail to compete successfully, our revenues and operating results will be adversely affected.





Many of our competitors have substantially greater financial and marketing resources and experience than us. Furthermore, we expect that other companies
will enter the mobile and stationary PET market, particularly as PET systems gain increasing market acceptance. Our competitors may be able to develop technologies, procedures or products that are more effective or economical than ours, or that
would render the PET system obsolete or noncompetitive. Some of our customers may be capable of providing the same services to their patients directly by purchasing or leasing their own imaging systems. In addition, the hospital industry has been
experiencing a trend towards consolidation, which trend will reduce our potential customer base and increase competition for available customers.





A
successful liability claim asserted against us due to a defect in the PET system in excess of our insurance coverage would harm our business.





The provision of mobile PET shared services involves the inherent risk of professional and product liability claims against us. We currently maintain commercial general liability insurance coverage in the amount of $2
million per incident and medical professional liability insurance in the amount of $2 million per incident, but this insurance is expensive, subject to various coverage exclusions and may not be obtainable in the future on terms acceptable to us. We
do not know whether claims against us arising from our use of the PET system will be successfully defended or that our insurance will be sufficient to cover liabilities arising from these claims. A successful claim against us in excess of our
insurance coverage could materially harm our business.





Our PET service requires the use of radioactive materials, which could subject us to
regulation, related costs and delays and potential liabilities for injuries or violations of environmental, health and safety laws.





Our PET service involves the controlled storage, use and disposal of material containing radioactive isotopes. While this material has a short half-life, meaning it quickly breaks down into inert, or non-radioactive substances, using these
materials presents the risk of accidental environmental contamination and physical injury.




27




---

##### Table of Contents

We are subject to federal, state and local regulations governing the use, storage, handling and disposal of materials and waste
products. Although we believe that our safety procedures for handling and disposing of these hazardous materials comply with the standards prescribed by law and regulation, we cannot completely eliminate the risk of accidental contamination or
injury from those hazardous materials. In the event of an accident, we could be held liable for any damages that result, and any liability could exceed the limits or fall outside the coverage of our insurance. We may not be able to maintain
insurance on acceptable terms, or at all. We could incur significant costs and the diversion of our managements attention in order to comply with current or future environmental, health and safety laws and regulations.





There is uncertainty relating to third party reimbursement, which is critical to market acceptance of our services.





PET services are generally purchased by hospitals, which then bill various third-party payers, such as government programs, and private insurance plans, for the procedures conducted
using the PET system. Third-party payers carefully review, and are increasingly challenging, the prices charged for medical products and services, and scrutinizing whether to cover new products and evaluating the level of reimbursement for covered
products. While we believe that the hospitals using the PET system have generally been reimbursed, payers may deny coverage and reimbursement for the PET system if they determine that the device was not reasonable and necessary for the purpose for
which it was used, was investigational or not cost-effective. As a result, we cannot assure that reimbursement from third-party payers for use of the PET system will be available or, if available, that reimbursement will not be limited. If
third-party reimbursement of these procedures is not available, it will be more difficult for us to offer our services on a profitable basis. Moreover initiatives are periodically proposed which, if implemented, would have the effect of
substantially decreasing reimbursement rates for diagnostic imaging services. We cannot guarantee that these or similar initiatives will not be adopted in the future. Any change in the rates of or conditions for reimbursement could substantially
reduce the number of procedures for which these healthcare providers can obtain reimbursement or the amounts reimbursed to our clients for services provided by us. Because unfavorable reimbursement policies have constricted, and may continue to
constrict, the profit margins of the hospitals and clinics we bill directly, we have lowered, and may continue to need to lower, our fees to retain existing clients and attract new ones. These reductions could have a significant adverse effect on
our revenues and financial results by decreasing demand for our services or creating downward pricing pressure.





The impact of recently promulgated
federal regulations could have a negative impact on the attractiveness of our services to some of our clients.





Recently
promulgated federal regulations affect the ability of a Medicare provider such as a hospital to include a service or facility as provider-based for purposes of Medicare reimbursement. Historically, provider-based status has allowed a provider to
obtain more favorable Medicare reimbursement for services like the ones we provide. While the Medicare, Medicaid and SCHIP Benefits and Improvement Act of 2000 offers some relief for facilities recognized as provider-based on October 1, 2000, under
these new regulations, some of our clients may have difficulty qualifying our services for provider-based status. If a client cannot obtain provider-based status for our services, then the provider might decide not to contract or to continue to
contract with us or might acquire a fixed base PET system.





The application or repeal of state certificate of need regulations could harm our business
and financial results.





Some states require a certificate of need or similar regulatory approval prior to the acquisition of
high-cost capital items, including diagnostic imaging systems, or provision of diagnostic imaging services by us or our clients. While currently only one of the seventeen states in which we operate requires a certificate of need, more states are
adopting similar licensing requirements. In many cases, a limited number of these certificates are available in a given state. If we are unable to obtain the applicable certificate or approval or additional




28




---

##### Table of Contents

certificates or approvals necessary to expand our operations, these regulations may limit or preclude our operations in the relevant jurisdictions. Conversely, states in which we have obtained or
will obtain a certificate of need may repeal existing certificate of need regulations or liberalize exemptions from the regulations. The repeal of certificate of need regulations in states in which we have obtained a certificate of need or a
certificate of need exemption would lower barriers to entry for competition in those states and could adversely affect our business.





If we fail to
comply with various licensing, certification and accreditation standards, we may be subject to loss of licensing, certification or accreditation, which would adversely affect our operations.





All of the states in which we operate require that the imaging technologists that operate our systems be licensed or certified. In the healthcare industry, various types of
organizations are accredited to meet certain Medicare certification requirements, expedite third-party payment, and fulfill state licensure requirements. Some managed care providers prefer to contract with accredited organizations. There can be no
assurances that we will be able to obtain accreditation with the applicable organizations. Any lapse in our licenses, certifications or accreditations, or those of our technologists, could increase our costs and adversely affect our operations and
financial results.





Our revenues may fluctuate or be unpredictable and this may harm our financial results.





The amount and timing of revenues that we may derive from our business will fluctuate based on, among other variables:





| |  |  | variations in the rate at which clients renew their contracts; and
| | - |  | ------------------------------------------------------------------




| |  |  | changes in the number of days of service we can offer with respect to a given system due to equipment malfunctions or the seasonal factors discussed below.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------




In addition, we experience seasonality in the sale of our services. For example, our sales typically decline from our
first fiscal quarter to our second fiscal quarter. Second and third quarter revenues are typically lower than those from the first and fourth quarters. Second quarter revenue is affected primarily by holiday and client and patient vacation schedules
and inclement weather, the results of which are fewer patient scans during the period. Third quarter revenue is affected primarily by fewer calendar days and inclement weather, the results of which are fewer patient scans during the period. We may
not be able to reduce our expenses, including our debt service obligations, quickly enough to respond to these declines in revenue, which would make our business difficult to operate and would harm our financial results. In addition, we may be
unable to adjust our expenditures if revenues in a particular period fail to meet our expectations, which would harm our operating results for that period.





Managed care organizations may prevent healthcare providers from using our services, which would cause us to lose current and prospective clients.





Healthcare providers participating as providers under managed care plans may be required to refer diagnostic imaging tests to specific imaging service providers depending on the plan in
which each covered patient is enrolled. These requirements currently inhibit healthcare providers from using our diagnostic imaging services in some cases. The proliferation of managed care may prevent an increasing number of healthcare providers
from using our services in the future, which would cause our revenues to decline.





We may be unable to effectively maintain our systems or generate
revenue when our systems are not working.





Timely, effective service is essential to maintaining our reputation and high
utilization rates on our systems. Repairs to one of our systems can take up to two weeks and result in a loss of revenue. Our warranties and maintenance contracts do not fully compensate us for loss of revenue when our systems are not working. The




29




---

##### Table of Contents

principal components of our operating costs include depreciation; salaries paid to technologists and drivers, annual system maintenance costs, insurance and transportation costs. Because the
majority of these expenses are fixed, a reduction in the number of scans performed due to out-of-service equipment will result in lower revenues and margins. The equipment manufacturers perform repairs of our equipment for us. We cannot guarantee
that these manufacturers will be able to perform repairs or supply needed parts in a timely manner. Thus, if we experience greater than anticipated system malfunctions or if we are unable to promptly obtain the service necessary to keep our systems
functioning effectively, our revenues could decline and our ability to provide services would be harmed.





We have a limited operating
history.





Our prospects must be considered in light of the risks, uncertainty, expenses and difficulties frequently
encountered by new companies, particularly in new and rapidly evolving markets such as those for the services we provide.





We maintain cash with
various banks in excess of federally insured limits.





The Federal Deposit Insurance Corporation (FDIC) insures
deposits up to $100,000 in virtually all United States banks and savings associations. In the event an FDIC-insured bank fails and depositors lose their money, the FDIC pays depositors up to $100,000 of the money lost. Although our funds are
deposited in accounts with FDIC-insured banks, the amounts of cash in these accounts exceed federally insured limits. In the event of a failure of one of our banks where our funds were lost, we could only recover from the FDIC up to $100,000 of the
funds lost. The loss of the excess funds could have a material adverse effect on our business.







30




---

##### Table of Contents

PART II.    OTHER INFORMATION





Item 1.Legal Proceedings





As previously reported, on February 27, 2001, Twenty-Five-Forty, LLC
filed suit against the Company in the Superior Court for the State of California (San Diego) for damages for breach of contract, alleging that the Company abandoned a sub-lease that the Company had entered into with Twenty-Five Forty LLC. The
monthly rent under the sub-lease was $2,990, and the space was re-let by the end of May, 2001. The Company filed a cross-complaint against Twenty-Five Forty LLC for intentional and negligent misrepresentation. The cross-complaint allege, among other
things, that Twenty-Five Forty LLC fraudulently induced the Company to enter into the contract and accordingly the lease contract is void.





On January 3, 2002, the Company settled this matter by agreeing to pay Twenty-Five Forty, LLC $5,000.00 and executed a promissory note for $20,000, bearing no interest, to be paid $500 per month until paid in full.
Both parties also dismissed their respective complaints and executed mutual releases.





From time to time the Company becomes
involved in legal proceedings, either as a plaintiff or defendant. The Company is currently involved in several such proceedings to enforce the termination provisions or minimum number of procedure provisions of its service contracts. The Company
believes none of these proceedings, either alone or in the aggregate, are material.





On May 10, 2002 the Company was served with
a summons and complaint, filed April 29, 2002 in the Chancery Court for Knox County, Tennessee. This action by P.E.T. NET Pharmaceuticals, Inc. seeks to recover $567,101 for failure to pay for isotopes and radiopharmaceuticals delivered pursuant to
a Preferred Provider Radiopharmaceutical Supply Agreement dated June 5, 2000. The Company has informed P.E.T. NET Pharmaceuticals, Inc. in the past that the Company did not believe it was being charged in accordance with the terms of the Preferred
Provider Radiopharmaceutical Supply Agreement. The Company has not yet had an opportunity to evaluate this complaint. The Company is not yet required to respond to this complaint and has not yet done so. The Company intends to take appropriate
actions to protect its rights in connection with this action.





Although there is currently no pending legal proceeding, the
Company has received notice, dated April 4, 2002, from Finova Capital Corporation of an Event of Default relating to certain violations of Debt Service Ratio covenants contained in Capital Equipment Leases with the Company. We are currently in
negotiation to either refinance these leases with third parties or negotiate mutually acceptable waiver and modification of these Capital Equipment Leases with Finova. The Company can give no assurance such negotiation will be successful. If we are
unable to refinance these leases or reach a mutually acceptable waiver and modification with Finova, Finova may foreclose on these leases, which would have a material adverse affect on the Company and its operations.





Although there is currently no pending legal proceeding, the Company has received notice, dated March 19, 2002, from Siemens Financial Services of an
Event of Default relating to failure to make equipment lease payments when due. Siemens alleged approximately $1,221,000 was in arrears, and demanded payment of $2,945,394 as the accelerated total obligation due. We have been able to pay
approximately $957,000 against this obligation (which continues to accrue) during April and May 2002. If we are unable to bring these amounts current and otherwise satisfy the terms of these equipment leases, as to which no assurance can be given,
Seimens has the right to foreclose on these leases, which would have a material adverse affect on the Company and its obligations.







31




---

##### Table of Contents

Item 2.Changes in Securities





Changes in Securities.





On or about January 16, 2002 we sold an additional 500,000 shares of common stock and 250,000 warrants to purchase common stock exercisable for a period of 2 years at $0.50 per share, in
reliance on Section 4(2) of the Act. The total proceeds of this offering was $250,000.





In March 2002 we sold an additional
1,428,571 shares of common stock and 714,286 warrants to purchase common stock exercisable for a period of 2 years at $0.35 per share, in reliance on Section 4(2) of the Act. The total proceeds of this offering was $500,000.





During the period from January 1, 2002 through and including March 31, 2002, we also issued 1,521,876 shares of common stock in connection with the
conversion of 10 shares of Series A Convertible Preferred Stock. These conversions were in reliance on Section 4(2) of the Act. The re-sale of these common shares is the subject of an SB-2 registration statement.





On August 15, 2001, we entered into a Letter Agreement with Windsor Capital Corporation (Windsor), to provide financial consulting services
for a period of 2 years. That agreement provides for compensation in the form of restricted stock, payable at a rate of $10,000 per month based upon the ten (10) day average price immediately prior to such payment. On March 20, 2002, we issued
136,364 additional shares of restricted common stock valued at $60,000 to Windsor at a price of $0.4399 per share in connection with that agreement, in reliance on Section 4(2) of the Act.





During the period between April 1, 2002 and April 15, 2002, we sold an additional 2,728,571 shares of common stock and 1,364,286 warrants to purchase common stock exercisable for a
period of 2 years at $0.35 per shares, in reliance on Section 4(2) of the Act. The total proceeds of this offering was $955,000.





On or about April 10, 2002, we received a notice to convert three (3) shares of Series B Preferred Stock into 414,934 shares of Common Stock. These conversions were in reliance on Section 4(2) of the Act. The re-sale of these common shares
is the subject of an SB-2 registration statement.




32




---

##### Table of Contents




Item 4.Submission of Matters to a Vote of Security Holders.





On April 5, 2002, the Company held
its annual meeting at the Sheraton Suites Hotel, San Diego, California at 10:00 am. A quorum of shareholders was present in person or by proxy.





Proposal 1.





At the meeting the following directors were elected to serve until the next annual meeting or their
successor is elected, by the indicated votes:





For

WithheldPaul Crowe

29,636,876

102,630Robert Bush

29,738,490

1,016Axel Steudle

29,738,506

1,000Jeffrey Rush

29,701,506

38,000Robert Rohe

29,700,006

39,500





No other directors currently serve.





Proposal 2.





At the same meeting, the
shareholders ratified the appointment of Peterson & Co. as the Companys independent accountants for the fiscal year ending June 30, 2002. This proposal was approved by the following vote:





For:        29,719,974





Against: 7,752





Abstain:
11,780





Item 6.Exhibits and Reports on Form 8-K





(a)Exhibits





Exhibit 23.1 Consent of Independent Accountants dated February 14, 2002.





(b)    Reports on Form 8-K





Form 8-K filed with the SEC on April 10, 2002, covering a press
release, dated April 9, 2002, announcing unaudited preliminary third quarter revenues.




33




---

##### Table of Contents




SIGNATURES





In accordance with the requirements of the Exchange Act, the registrant caused this
report to be signed on its behalf by the undersigned, thereunto duly authorized.





MOBILE PET SYSTEMS INC.By:

/s/    ANTHONY R. TURNBULLAnthony R. Turnbull Chief Financial Officer, Secretary and
Treasurer


Date:    May 14, 2002




34