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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

|    |  |                                                                                                                                              
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------
|[X] |  | Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.
For the quarterly period ended December 31, 2001; or

|      |  |                                                                                                                                                                   
|----- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------
|[   ] |  | Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.
For the transition period from ____________________ to _________________

Commission File Number: 0-27186

RAYTEL MEDICAL CORPORATION

(Exact name of registrant as specified in its charter)


|                                                                        |  |                                                
|----------------------------------------------------------------------- |  | -----------------------------------------------
|Delaware
(State or other jurisdiction of
incorporation or organization) |  | 94-2787342
(I.R.S. Employer
Identification No.)

2755 Campus Drive, Suite 200, San Mateo, California 94403
(Address of principal executive offices) (Zip code)

(650) 349-0800
(Registrants telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.

Yes [X] No [   ]

Indicate the number of shares outstanding of each of the issuers classes of
common stock, as of the latest practicable date.

|                               |  |                                          
|------------------------------ |  | -----------------------------------------
|Class                          |  | Shares Outstanding as of January 31, 2002
|                               |  |                                          
|Common Stock
($.001 par value) |  | 2,919,822                                





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TABLE OF CONTENTS



|                              |                                                                                                                              |                                                 |  |  |  |  |  | 
|----------------------------- | ---------------------------------------------------------------------------------------------------------------------------- | ----------------------------------------------- |  |  |  |  |  | 
|PART I. FINANCIAL INFORMATION
|                              | Item 1. Financial Statements                                                                                                
|                              |                                                                                                                              | CONDENSED CONSOLIDATED BALANCE SHEETS          
|                              |                                                                                                                              | CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
|                              |                                                                                                                              | CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
|                              | Notes to Unaudited Condensed Consolidated Financial Statements for the Three Month Periods Ended December 31, 2001 and 2000.
|                              | Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations                               
|                              | Item 3. Quantitative and Qualitative Disclosures about Market Risks                                                         
|PART II. OTHER INFORMATION   
|                              | Item 1. Legal Proceedings                                                                                                   
|                              | Item 3. Default Upon Senior Securities                                                                                      
|                              | Item 6. Exhibits and Reports on Form 8-K                                                                                    
|SIGNATURE                    
|INDEX TO EXHIBITS            
|EXHIBIT 2.1                  
|EXHIBIT 10.8                 
|EXHIBIT 10.72                
|EXHIBIT 10.73                
|EXHIBIT 10.74                
|EXHIBIT 10.75                



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RAYTEL MEDICAL CORPORATION AND SUBSIDIARIES

INDEX

|          |  |                                                                                                        |    |     
|--------- |  | ------------------------------------------------------------------------------------------------------ | -- | ----
|          |  |                                                                                                        |    | Page
|          |  |                                                                                                        |    |     
|          |  | PART I. FINANCIAL INFORMATION                                                                          |    |     
|         
|Item 1.   |  | Financial Statements                                                                                   |    |     
|         
|          |  | Condensed Consolidated Balance Sheets as of
December 31, 2001 and September 30, 2001                   |    | 3   
|         
|          |  | Condensed Consolidated Statements of Operations
for the three months ended December 31, 2001 and 2000  |    | 4   
|         
|          |  | Condensed Consolidated Statements of Cash Flows
for the three months ended December 31, 2001 and 2000. |    | 5   
|         
|          |  | Notes to Condensed Consolidated Financial Statements                                                   |    | 6   
|         
|Item 2.   |  | Managements Discussion and Analysis of Financial
Condition and Results of Operations                  |    | 10  
|         
|Item 3.   |  | Quantitative and Qualitative Disclosures about Market Risks                                            |    | 15  
|         
|          |  | PART II. OTHER INFORMATION                                                                             |    |     
|         
|Item 1.   |  | Legal Proceedings                                                                                      |    | 15  
|         
|Item 3.   |  | Default Upon Senior Securities                                                                         |    | 16  
|         
|Item 6.   |  | Exhibits and Reports on Form 8-K                                                                       |    | 17  
|         
|SIGNATURE |  |                                                                                                        | 18

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PART I. FINANCIAL INFORMATION




Item 1. Financial Statements




RAYTEL MEDICAL CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 2001 AND SEPTEMBER 30, 2001
(000s omitted)

ASSETS

|                                                                       |                                                                 |                                         |                                            |        |         |              |        |               |         |        |  | 
|---------------------------------------------------------------------- | --------------------------------------------------------------- | --------------------------------------- | ------------------------------------------ | ------ | ------- | ------------ | ------ | ------------- | ------- | ------ |  | 
|                                                                       |                                                                 |                                         |                                            |        |         | December 31, |        | September 30,
|                                                                       |                                                                 |                                         |                                            |        |         | 2001         |        | 2001         
|                                                                       |                                                                 |                                         |                                            |        |         |              |        |              
|                                                                       |                                                                 |                                         |                                            |        |         | (Unaudited)  |        |               |         |       
|Current assets:                                                        |                                                                 |                                         |                                            |        |         |              |        |              
|                                                                       | Cash and cash equivalents                                       |                                         | $                                          | 5,983  |         |              | $      | 6,095         |        
|                                                                       | Cash held for special purpose                                   |                                         |                                            | 127    |         |              |        | 400           |        
|                                                                       |                                                                 |                                         |                                            |        |         |              |        |              
|                                                                       |                                                                 |                                         | Total cash                                 |        |         | 6,110        |        |               |         | 6,495  | 
|                                                                       | Receivables, net                                                |                                         |                                            | 31,545 |         |              |        | 31,404        |        
|                                                                       | Prepaid expenses and other                                      |                                         |                                            | 1,776  |         |              |        | 2,485         |        
|                                                                       |                                                                 |                                         |                                            |        |         |              |        |              
|                                                                       |                                                                 |                                         | Total current assets                       |        |         | 39,431       |        |               |         | 40,384 | 
|Property and equipment, less accumulated
depreciation and amortization |                                                                 |                                         | 13,611                                     |        |         |              | 14,187 |              
|Intangible assets, less accumulated
amortization                       |                                                                 |                                         | 18,583                                     |        |         |              | 18,590 |              
|Other assets                                                           |                                                                 |                                         | 48                                         |        |         |              | 68     |              
|                                                                       |                                                                 |                                         |                                            |        |         |              |        |              
|                                                                       |                                                                 |                                         | Total assets                               |        | $       | 71,673       |        |               | $       | 73,229 | 
|                                                                       |                                                                 |                                         |                                            |        |         |              |        |              
|LIABILITIES AND STOCKHOLDERS EQUITY                                  
|Current liabilities:                                                   |                                                                 |                                         |                                            |        |         |              |        |              
|                                                                       | Current portion of long-term debt and
capital lease obligations |                                         | $                                          | 2,858  |         |              | $      | 15,151        |        
|                                                                       | Accounts payable                                                |                                         |                                            | 5,611  |         |              |        | 4,757         |        
|                                                                       | Accrued compensation and benefits                               |                                         |                                            | 2,282  |         |              |        | 2,636         |        
|                                                                       | Accrued liabilities                                             |                                         |                                            | 3,979  |         |              |        | 4,898         |        
|                                                                       |                                                                 |                                         |                                            |        |         |              |        |              
|                                                                       |                                                                 |                                         | Total current liabilities                  |        |         | 14,730       |        |               |         | 27,442 | 
|Long-term debt and capital lease obligations,
net of current portion   |                                                                 |                                         | 21,067                                     |        |         |              | 9,853  |              
|Minority interest in consolidated entities                             |                                                                 |                                         | 658                                        |        |         |              | 1,003  |              
|                                                                       |                                                                 |                                         |                                            |        |         |              |        |              
|                                                                       |                                                                 |                                         | Total liabilities                          |        |         | 36,455       |        |               |         | 38,298 | 
|                                                                       |                                                                 |                                         |                                            |        |         |              |        |              
|Stockholders equity:                                                  |                                                                 |                                         |                                            |        |         |              |        |              
|                                                                       | Common stock                                                    |                                         |                                            | 3      |         |              |        | 3             |        
|                                                                       | Additional paid-in capital                                      |                                         |                                            | 62,678 |         |              |        | 62,672        |        
|                                                                       |                                                                 | Retained earnings (accumulated deficit) |                                            |        | (23,841 | )            |        |               | (24,122 | )     
|                                                                       |                                                                 |                                         |                                            |        |         |              |        |              
|                                                                       |                                                                 |                                         | 38,840                                     |        |         |              | 38,553 |              
|                                                                       | Less treasury stock, at cost                                    |                                         |                                            | (3,622 | )       |              |        | (3,622        | )      
|                                                                       |                                                                 |                                         |                                            |        |         |              |        |              
|                                                                       |                                                                 |                                         | Total stockholders equity                 |        |         | 35,218       |        |               |         | 34,931 | 
|                                                                       |                                                                 |                                         |                                            |        |         |              |        |              
|                                                                       |                                                                 |                                         | Total liabilities and stockholders equity |        | $       | 71,673       |        |               | $       | 73,229 | 
|                                                                       |                                                                 |                                         |                                            |        |         |              |        |              

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RAYTEL MEDICAL CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED DECEMBER 31, 2001 AND 2000(UNAUDITED)
(000s omitted, except per share amounts)

|                                                      |                                                       |                                   |                          |       |                                 |        |      |       |       |        | 
|----------------------------------------------------- | ----------------------------------------------------- | --------------------------------- | ------------------------ | ----- | ------------------------------- | ------ | ---- | ----- | ----- | ------ | 
|                                                      |                                                       |                                   |                          |       | Three Months Ended December 31,
|                                                      |                                                       |                                   |                          |       |                                
|                                                      |                                                       |                                   |                          |       | 2001                            |        | 2000
|                                                      |                                                       |                                   |                          |       |                                 |        |     
|Revenues:                                             |                                                       |                                   |                          |       |                                 |        |      |      
|                                                      | Cardiac information services                          |                                   | $                        | 9,299 |                                 |        | $    | 9,551 |      
|                                                      | Diagnostic imaging services                           |                                   |                          | 6,852 |                                 |        |      | 5,998 |      
|                                                      | Heart facilities and other                            |                                   |                          | 1,910 |                                 |        |      | 1,699 |      
|                                                      |                                                       |                                   |                          |       |                                 |        |      |      
|                                                      |                                                       |                                   | Total revenues           |       |                                 | 18,061 |      |       |       | 17,248 | 
|                                                      |                                                       |                                   |                          |       |                                 |        |      |      
|Costs and expenses:                                   |                                                       |                                   |                          |       |                                 |        |      |      
|                                                      | Operating costs                                       |                                   |                          | 8,409 |                                 |        |      | 7,777 |      
|                                                      | Selling, general and administrative expenses          |                                   |                          | 7,218 |                                 |        |      | 7,155 |      
|                                                      | Depreciation and amortization                         |                                   |                          | 1,537 |                                 |        |      | 1,675 |      
|                                                      |                                                       |                                   |                          |       |                                 |        |      |      
|                                                      |                                                       |                                   | Total costs and expenses |       |                                 | 17,164 |      |       |       | 16,607 | 
|                                                      |                                                       |                                   |                          |       |                                 |        |      |      
|Operating income                                      |                                                       |                                   | 897                      |       |                                 |        | 641  |      
|Interest expense                                      |                                                       |                                   | 496                      |       |                                 |        | 560  |      
|Other expense (income), net                           |                                                       |                                   | (73                      | )     |                                 |        | (218 | )    
|Minority interest                                     |                                                       |                                   | 13                       |       |                                 |        | 53   |      
|                                                      |                                                       |                                   |                          |       |                                 |        |      |      
|Income from continuing operations
before income taxes |                                                       |                                   | 461                      |       |                                 |        | 246  |      
|Provision for income taxes                            |                                                       |                                   | 180                      |       |                                 |        | 95   |      
|                                                      |                                                       |                                   |                          |       |                                 |        |      |      
|Income from continuing operations                     |                                                       |                                   | 281                      |       |                                 |        | 151  |      
|Discontinued operations:                              |                                                       |                                   |                          |       |                                 |        |      |      
|                                                      | Loss from discontinued operations,
net of tax benefit |                                   |                          |      |                                 |        |      | (141  | )    
|                                                      |                                                       |                                   |                          |       |                                 |        |      |      
|Net income                                            |                                                       | $                                 | 281                      |       |                                 | $      | 10   |      
|                                                      |                                                       |                                   |                          |       |                                 |        |      |      
|Basic income (loss) per share:                        |                                                       |                                   |                          |       |                                 |        |      |      
|                                                      |                                                       | Income from continuing operations |                          | $     | .10                             |        |      | $     | .05   |       
|                                                      |                                                       | Loss from discontinued operations |                          |       |                                |        |      |       | (.05  | )     
|                                                      |                                                       |                                   |                          |       |                                 |        |      |      
|                                                      |                                                       |                                   | Total                    |       | $                               | .10    |      |       | $     | 0      | 
|                                                      |                                                       |                                   |                          |       |                                 |        |      |      
|Diluted income (loss) per share:                      |                                                       |                                   |                          |       |                                 |        |      |      
|                                                      |                                                       | Income from continuing operations |                          | $     | .10                             |        |      | $     | .05   |       
|                                                      |                                                       | Loss from discontinued operations |                          |       |                                |        |      |       | (.05  | )     
|                                                      |                                                       |                                   |                          |       |                                 |        |      |      
|                                                      |                                                       |                                   | Total                    |       | $                               | .10    |      |       | $     | 0      | 
|                                                      |                                                       |                                   |                          |       |                                 |        |      |      
|Weighted average shares outstanding:                  |                                                       |                                   |                          |       |                                 |        |      |      
|                                                      |                                                       | Basic                             |                          |       | 2,919                           |        |      |       | 2,917 |       
|                                                      |                                                       |                                   |                          |       |                                 |        |      |      
|                                                      |                                                       | Diluted                           |                          |       | 2,953                           |        |      |       | 2,919 |       
|                                                      |                                                       |                                   |                          |       |                                 |        |      |      

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RAYTEL MEDICAL CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED DECEMBER 31, 2001 AND 2000
(UNAUDITED)
(000s omitted)

|                                                 |                                              |                                                                                   |                               |                                           |   |              |        |        |   |        |        |  
|------------------------------------------------ | -------------------------------------------- | --------------------------------------------------------------------------------- | ----------------------------- | ----------------------------------------- | - | ------------ | ------ | ------ | - | ------ | ------ | -
|                                                 |                                              |                                                                                   |                               |                                           |   | December 31,
|                                                 |                                              |                                                                                   |                               |                                           |   |             
|                                                 |                                              |                                                                                   |                               |                                           |   | 2001         |        | 2000  
|                                                 |                                              |                                                                                   |                               |                                           |   |              |        |       
|Cash flows from operating activities:            |                                              |                                                                                   |                               |                                           |   |              |        |       
|                                                 | Net income                                   |                                                                                   | $                             | 281                                       |   |              | $      | 10     |  
|                                                 |                                              | Adjustments to reconcile net income to net cash provided
by operating activities: |                               |                                           |   |              |        |        |   |       
|                                                 |                                              |                                                                                   | Depreciation and amortization |                                           |   | 1,537        |        |        |   | 1,675  |       
|                                                 |                                              |                                                                                   | Minority interest             |                                           |   | 13           |        |        |   | 53     |       
|                                                 |                                              |                                                                                   | Other, net                    |                                           |   | 103          |        |        |   | 433    |       
|                                                 |                                              | Changes in operating accounts:                                                    |                               |                                           |   |              |        |        |   |       
|                                                 |                                              |                                                                                   | Receivables, net              |                                           |   | (141         | )      |        |   | 581    |       
|                                                 |                                              |                                                                                   | Prepaid expenses and other    |                                           |   | 709          |        |        |   | 413    |       
|                                                 |                                              |                                                                                   | Accounts payable              |                                           |   | 854          |        |        |   | 442    |       
|                                                 |                                              |                                                                                   | Accrued liabilities and other |                                           |   | (999         | )      |        |   | (2,016 | )     
|                                                 |                                              |                                                                                   |                               |                                           |   |              |        |       
|                                                 |                                              |                                                                                   |                               | Net cash provided by operating activities |   |              | 2,357  |        |   |        | 1,591  |  
|                                                 |                                              |                                                                                   |                               |                                           |   |              |        |       
|Cash flows from investing activities:            |                                              |                                                                                   |                               |                                           |   |              |        |       
|                                                 | Capital expenditures                         |                                                                                   |                               | (992                                      | ) |              |        | (900   | )
|                                                 | Other, net                                   |                                                                                   |                               | 173                                       |   |              |        | (18    | )
|                                                 |                                              |                                                                                   |                               |                                           |   |              |        |       
|                                                 |                                              |                                                                                   |                               | Net cash used in investing activities     |   |              | (819   | )      |   |        | (918   | )
|                                                 |                                              |                                                                                   |                               |                                           |   |              |        |       
|Cash flows from financing activities:            |                                              |                                                                                   |                               |                                           |   |              |        |       
|                                                 | Income distributions to limited partners     |                                                                                   |                               | (273                                      | ) |              |        | (608   | )
|                                                 | Proceeds from (pay-down of) line of credit   |                                                                                   |                               | (918                                      | ) |              |        | (1,000 | )
|                                                 | Proceeds from (principal repayments of) debt |                                                                                   |                               | (160                                      | ) |              |        | (202   | )
|                                                 | Capitalized financing costs                  |                                                                                   |                               | (493                                      | ) |              |        |       |  
|                                                 | Other, net                                   |                                                                                   |                               | (79                                       | ) |              |        |       |  
|                                                 |                                              |                                                                                   |                               |                                           |   |              |        |       
|                                                 |                                              |                                                                                   |                               | Net cash used in financing activities     |   |              | (1,923 | )      |   |        | (1,810 | )
|                                                 |                                              |                                                                                   |                               |                                           |   |              |        |       
|Net decrease in cash and cash equivalents        |                                              |                                                                                   | (385                          | )                                         |   |              | (1,137 | )     
|Cash and cash equivalents at beginning of period |                                              |                                                                                   | 6,495                         |                                           |   |              | 8,781  |       
|                                                 |                                              |                                                                                   |                               |                                           |   |              |        |       
|Cash and cash equivalents at end of period       |                                              | $                                                                                 | 6,110                         |                                           |   | $            | 7,644  |       
|                                                 |                                              |                                                                                   |                               |                                           |   |              |        |       

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Notes to Unaudited Condensed Consolidated Financial Statements for the Three Month Periods Ended December 31, 2001 and 2000.



|1. |  | Presentation of Unaudited Interim Condensed Consolidated Financial Statements
|-- |  | -----------------------------------------------------------------------------

Information in the accompanying interim condensed consolidated
financial statements and notes to the financial statements of Raytel
Medical Corporation (Raytel or the Company) as of December 31, 2001 and
for the three month periods ended December 31, 2001 and 2000 is unaudited.
The accompanying unaudited condensed consolidated financial statements of
the Company have been prepared in accordance with the instructions to Form
10-Q and do not include all of the information and notes required by
accounting principles generally accepted in the United States. In the
opinion of management, all information considered necessary for a fair
presentation have been included. Operating results for the three months
ended December 31, 2001 are not necessarily indicative of results that may
be expected for the year ending September 30, 2002. For further
information, refer to the consolidated financial statements and notes
included in the Companys Annual Report on Form 10-K for the year ended
September 30, 2001 and Forms 8-K filed during the three months ended
December 31, 2001.



|2. |  | Office of the Inspector General Investigation
|-- |  | ---------------------------------------------

From June 2000 through June 2001, Raytel was the subject of a grand
jury investigation conducted under the direction of the United States
Attorney for the District of Connecticut and the Office of the Inspector
General of the Department of Health and Human Services (the OIG). The
investigation involved certain business practices of the transtelephonic
cardiac pacemaker monitoring business conducted by Raytel Cardiac Services,
Inc., a wholly-owned subsidiary of the Company (RCS), at its facilities
in Windsor, Connecticut and New York, New York. The investigation did not
involve Raytels other healthcare services, such as RCS cardiac event
detection services or Raytels diagnostic imaging services or other
cardiac-related businesses, nor did it involve RCS transtelephonic
pacemaker monitoring operations conducted at its Haddonfield, New Jersey
facility, which followed testing practices similar to those followed at the
Connecticut and New York facilities.

In June 2001, RCS reached an agreement with the federal government to
resolve the issues that were the subject of the investigation. In
accordance with that agreement, on June 25, 2001, RCS pled guilty in U.S.
District Court in Hartford, Connecticut to a charge of obstructing a
criminal investigation arising out of the initial investigation in June
2000. In addition, in October 2001, the Company and RCS entered into an
agreement with the government to resolve related civil claims. Under the
criminal and civil settlements, RCS agreed to pay a total of $11,500,000 to
the government over a five year period, with interest of 7% per annum on
the unpaid balance, to resolve the criminal and civil allegations relating
to the practices of RCS Connecticut and New York transtelephonic
monitoring operations which were the subject of the investigation. Raytel
guaranteed RCS payment obligations under the settlement agreement. RCS
also entered into a corporate integrity agreement under which it agreed
that its ongoing operations would conform to specified guidelines. As of
December 31, 2001, $1,500,000 had been paid to the government, and the next
payment of $2,000,000 is due in June 2002. RCS guilty plea did not
adversely affect its participation in the Medicare program or other federal
healthcare programs.

The Company incurred substantial legal fees and other expenses in
connection with the investigation and established a reserve of $4,600,000
to cover the estimated amounts of these expenses. As of December 31, 2001,
the Company had incurred legal fees and other expenses of approximately
$4,358,000 related to the investigation, including legal fees incurred by
certain RCS employees in connection with the investigation which were
reimbursed by RCS in accordance with the requirements of Delaware Law and
RCS By-Laws. The remaining balance of the reserve is included in accrued
liabilities on the Companys balance sheet. Additional expenses, if any,
will adversely affect operating results in future periods.

In addition to these direct expenses, the investigation, the related
internal compliance review, and settlement negotiations with the government
diverted the efforts and attention of a number of Raytels management and
administrative personnel. The impact of this diversion reduced the
efficiency of RCS pacemaker monitoring operations during the last week of
the quarter ended June 30, 2000 and adversely affected both revenues and
operating expenses for that period as well as the quarter ended September
30, 2000 and throughout the fiscal year ended September 30, 2001. Although
the investigation has now been concluded, implementation of the corporate
integrity agreement continues to require the time and attention of Raytel
and RCS management and a number of

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RCS administrative personnel. In addition, RCS guilty plea entered
into under its agreement with the government constituted a default under
Raytels bank credit facility. In November 2001, Raytel entered into a new
revolving line of credit arrangement and repaid all outstanding
indebtedness under its bank facility. However, RCS guilty plea could
adversely affect Raytels ability to obtain debt or equity financing in the
future.

In connection with the civil settlement agreement, neither the Company
nor RCS admitted liability for the governments allegations, and the
settlement agreement did not release the Company or RCS from any future
claims arising out of their other business operations, including RCS
transtelephonic pacemaker operations conducted at its New Jersey facility.
In December 2001, RCS submitted claims which would result in reimbursements
totaling approximately $1,500,000 for transtelephonic monitoring services
performed at the New Jersey facility between June 2000 and January 2001
which had not complied in all respects with certain technical requirements
of Medicares policy guidelines relating to the duration of testing
sessions. These claims are currently pending with RCS Medicare carrier.
By letter dated December 28, 2001, the Department of Health and Human
Services advised RCS that it could not instruct the carrier to pay claims
for services that did not comply with these guidelines. In January 2002,
the carrier advised RCS that it would require additional information to
adjudicate the claims. RCS is in the process of providing additional
information to the carrier. RCS believes that its testing procedures were
clinically adequate and intends to appeal any adverse decision of the
carrier with respect to these claims. Since January 2001, tests performed
at the New Jersey facility have complied with the policy guidelines in
question.



|3. |  | Line of Credit
|-- |  | --------------

On December 15, 2000, the Companys line of credit agreement with two
banks was amended to reduce the line of credit to $20,000,000 and to revise
certain financial and other covenants and terms. The interest rate was
changed to be based on LIBOR plus 275 basis points, or the banks prime
rate plus 50 basis points, at the option of the Company, and the date for
repayment was extended to October 1, 2001. A new non-financial covenant
was added under which any civil financial settlement in excess of
$1,000,000 or any criminal charges relating to the ongoing OIG
investigation would constitute an event of default. On March 16, 2001, the
line of credit was further reduced to $14,900,000 in connection with the
sale of the Companys HFHI subsidiary. Consistent with the terms of the
December 2000 amendments to the line of credit agreement, the line of
credit was further reduced by $2,500,000 on June 30, 2001 to $12,400,000.
RCS guilty plea, entered into under its settlement with the federal
government, constituted a default under the line of credit agreement. See
Note 2. In October and November 2001, the interest rate under the line of
credit was increased to 400 basis points over the banks prime rate.

In November 2001, the Company entered into a new two-year revolving
credit facility with Healthcare Business Credit Corporation under which it
may borrow up to $15,000,000. Loans under the facility bear interest at
prime plus 1% per annum and are secured by accounts receivable,
inventories, capital equipment and other assets of Raytel and certain of
its subsidiaries and affiliated entities. The Companys access to the line
of credit is subject to certain financial and other covenants and
conditions. Raytel used the initial proceeds of the new facility to repay
outstanding indebtedness of approximately $12,300,000 under the credit line
that matured on October 1, 2001. At December 31, 2001, there was
approximately $11,369,000 outstanding under the line of credit which was
classified as long-term debt on the Companys balance sheet.



|4. |  | Discontinued Operations
|-- |  | -----------------------

In March 2001, effective January 1, 2001, the Company completed the
sale of its wholly-owned subsidiary, Heart and Family Health Institute
(HFHI), to a new company organized by physicians practicing at HFHI. The
Company received a cash purchase price of $8,311,000, net of transaction
expenses, for all the common stock of the subsidiary. The Company reported
a $19,353,000 loss on the transaction related primarily to the write-off of
unamortized intangible assets. Due to the uncertainty of the ultimate tax
benefit to be realized as a result of the loss, the Company did not provide
for any tax benefit that may result from this transaction. As a result,
the Company reported the results of HFHI and the loss on disposal as a
discontinued operation and the related operating results have been reported
separately from continuing operations for all applicable periods presented.

Revenues attributable to HFHI during the three months ended December
31, 2001 and 2000 were $0 and $3,948,000, respectively. The loss from
discontinued operations of $141,000 for the three months ended December 31,
2000 was attributable to HFH1 and was net of a tax benefit of $90,000.

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|5. |  | Reverse Stock Split
|-- |  | -------------------

On May 9, 2001, the Board of Directors effected a one-for-three
reverse split of the Companys common stock. The accompanying condensed
consolidated financial statements reflect such reverse stock split for all
periods presented.



|6. |  | Net Income Per Share
|-- |  | --------------------

For the three months ended December 31, 2001 and 2000, basic and
diluted earnings per share are calculated as follows:

|                                          |       |   |                    |     |      |   |       |     | 
|----------------------------------------- | ----- | - | ------------------ | --- | ---- | - | ----- | --- | 
|                                          |       |   | Three months      
|                                          |       |   | ended December 31,
|                                          |       |   |                   
|                                          |       |   | 2001               |     | 2000
|                                          |       |   |                    |     |     
|(000s omitted, except per share amounts) |       |   |                    |     |      |   |       |    
|                                         
|Basic Income (Loss) per Share:            |       |   |                    |     |      |   |       |    
|Income from continuing operations         |       | $ | .10                |     |      | $ | .05   |    
|Loss from discontinued operations         |       |   |                   |     |      |   | (.05  | )  
|                                          |       |   |                    |     |      |   |       |    
|                                          | Total |   | $                  | .10 |      |   | $     | .00 | 
|                                          |       |   |                    |     |      |   |       |    
|Weighted average shares outstanding       |       |   | 2,919              |     |      |   | 2,917 |    
|                                          |       |   |                    |     |      |   |       |    
|Diluted Income (Loss) per Share:          |       |   |                    |     |      |   |       |    
|Income from continuing operations         |       | $ | .10                |     |      | $ | .05   |    
|Loss from discontinued operations         |       |   |                   |     |      |   | (.05  | )  
|                                          |       |   |                    |     |      |   |       |    
|                                          | Total |   | $                  | .10 |      |   | $     | .00 | 
|                                          |       |   |                    |     |      |   |       |    
|Weighted average shares outstanding       |       |   | 2,919              |     |      |   | 2,917 |    
|Shares to be issued                       |       |   |                   |     |      |   | 2     |    
|Dilutive effect of options                |       |   | 34                 |     |      |   |      |    
|                                          |       |   |                    |     |      |   |       |    
|                                          |       |   | 2,953              |     |      |   | 2,919 |    
|                                          |       |   |                    |     |      |   |       |    

Additional options to purchase shares of common stock were outstanding
during the three months ended December 31, 2001 and 2000, but were not
included in the computation of diluted earnings per share because their
exercise prices were greater than the average market price of the common
shares for the period. These additional outstanding options and their
exercise prices are as follows:

|                         |  |                    |               |      |  |   |              | 
|------------------------ |  | ------------------ | ------------- | ---- |  | - | ------------ | 
|                         |  | Three months      
|                         |  | ended December 31,
|                         |  |                   
|                         |  | 2001               |               | 2000
|                         |  |                    |               |     
|Options outstanding      |  |                    | 313,855       |      |  |   | 435,615      | 
|Range of exercise prices |  | $                  | 6.375-$35.625 |      |  | $ | 4.26-$35.625 | 

8



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|7. |  | New Accounting Standards
|-- |  | ------------------------

The Financial Accounting Standards Board issued Statement No. 141,
Business Combinations, and Statement No. 142, Goodwill and Other Intangible
Assets, in July 2001 (effective for fiscal 2003). Statement No. 141 will
not have an effect on the Companys results and the Company is currently
assessing what effect, if any, Statement No. 142 will have on its results.
In August 2001, (effective for fiscal 2003) Statement No. 144, Accounting
for the Impairment or Disposal of Long-Lived Assets,was issued. The
Company is currently assessing what effect, if any, Statement No. 144 will
have on its results.



|8. |  | Merger Agreement
|-- |  | ----------------

On February 8, 2002, the Company announced that it had signed a
definitive merger agreement pursuant to which SHL TeleMedicine Ltd. (SWX:
SHLTN or SHL), a developer and marketer of telemedicine devices and
provider of telemedicine services, will acquire Raytel. According to the
terms of the agreement, by February 22, 2002, a subsidiary of SHL will
begin a tender offer for all of Raytels outstanding shares at a price of
$10.25 per share in cash. Following the completion of the tender offer,
the SHL subsidiary will be merged into Raytel in a transaction in which any
Raytel shares not tendered will be converted into the right to receive the
same per share cash price paid in the tender offer. The transaction is not
conditioned upon financing but is subject to the satisfaction or waiver of
customary closing conditions.

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Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations

This discussion and analysis includes a number of forward-looking
statements which reflect managements current views with respect to future
events and financial performance. These forward-looking statements are
subject to certain risks and uncertainties, including those discussed under
Business Environment and Future Results and elsewhere in this Item, that
could cause actual results to differ materially from historical results or
those anticipated. In this Item, the words anticipates, believes,
expects, intends, future and similar expressions identify
forward-looking statements. Readers are cautioned not to place undue
reliance on these forward-looking statements, which speak only as of the
date hereof.

Overview

We generate our revenues from cardiac information services (which
includes telephonic monitoring services for cardiac pacemaker patients
(Pacing), cardiac event detection services (CEDS) and Holter
monitoring), from diagnostic imaging services and from facilities providing
diagnostic, therapeutic and patient management services primarily
associated with cardiovascular disease.

From June 2000 through June 2001, Raytel was the subject of a grand
jury investigation conducted under the direction of the United States
Attorney for the District of Connecticut and the Office of the Inspector
General of the Department of Health and Human Services (the OIG). The
investigation involved certain business practices of the transtelephonic
cardiac pacemaker monitoring business conducted by Raytel Cardiac Services,
Inc., our wholly-owned subsidiary (RCS), at its facilities in Windsor,
Connecticut and New York, New York. The investigation did not involve our
other healthcare services, such as RCS cardiac event detection services or
Raytels diagnostic imaging services or other cardiac-related businesses,
nor did it involve RCS transtelephonic pacemaker monitoring operations
conducted at its Haddonfield, New Jersey facility, which followed testing
practices similar to those followed at the Connecticut and New York
facilities.

In June 2001, RCS reached an agreement with the federal government to
resolve the issues that were the subject of the investigation. In
accordance with that agreement, on June 25, 2001, RCS pled guilty in U.S.
District Court in Hartford, Connecticut to a charge of obstructing a
criminal investigation arising out of the initial investigation in June
2000. In addition, in October 2001, Raytel and RCS entered into an
agreement with the government to resolve related civil claims. Under the
criminal and civil settlements, RCS agreed to pay a total of $11,500,000 to
the government over a five year period, with interest of 7% per annum on
the unpaid balance, to resolve the criminal and civil allegations relating
to the practices of RCS Connecticut and New York transtelephonic
monitoring operations which were the subject of the investigation. Raytel
guaranteed RCS payment obligations under the settlement agreement. RCS
also entered into a corporate integrity agreement under which it agreed
that its ongoing operations would conform to specified guidelines. As of
December 31, 2001, $1,500,000 had been paid to the government, and the next
payment of $2,000,000 is due in June 2002. RCS guilty plea did not
adversely affect its participation in the Medicare program or other federal
healthcare programs.

We incurred substantial legal fees and other expenses in connection
with the investigation and established a reserve of $4,600,000 to cover the
estimated amounts of these expenses. As of December 31, 2001, we had
incurred legal fees and other expenses of approximately $4,358,000 related
to the investigation, including legal fees incurred by certain RCS
employees in connection with the investigation which were reimbursed by RCS
in accordance with the requirements of Delaware Law and RCS By-Laws. The
remaining balance of the reserve is included in accrued liabilities on
our balance sheet. Additional expenses, if any, will adversely affect our
operating results in future periods.

In addition to these direct expenses, the investigation, the related
internal compliance review, and settlement negotiations with the government
diverted the efforts and attention of a number of our management and
administrative personnel. The impact of this diversion reduced the
efficiency of RCS pacemaker monitoring operations during the last week of
the quarter ended June 30, 2000 and adversely affected both revenues and
operating expenses for that period as well as the quarter ended September
30, 2000 and throughout the fiscal year ended September 30, 2001. Although
the investigation has now been concluded, implementation of the corporate
integrity agreement continues to require the time and attention of Raytel
and RCS management and a number of RCS administrative personnel. In
addition, RCS guilty plea entered into under its agreement with the
government constituted a default under Raytels bank credit facility. In
November 2001, Raytel entered into a new revolving line of credit
arrangement and repaid all outstanding indebtedness under its bank
facility. However, RCS guilty plea could adversely affect our ability to
obtain debt or equity financing in the future.

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In connection with the civil settlement agreement, neither Raytel nor
RCS admitted liability for the governments allegations, and the settlement
agreement did not release Raytel or RCS from any future claims arising out
of their other business operations, including RCS transtelephonic
pacemaker operations conducted at its New Jersey facility. In December
2001, RCS submitted claims which would result in reimbursements totaling
approximately $1,500,000 for transtelephonic monitoring services performed
at the New Jersey facility between June 2000 and January 2001 which had not
complied in all respects with certain technical requirements of Medicares
policy guidelines relating to the duration of testing sessions. These
claims are currently pending with RCS Medicare carrier. By letter dated
December 28, 2001, the Department of Health and Human Services advised RCS
that it could not instruct the carrier to pay claims for services that did
not comply with these guidelines. In January 2002, the carrier advised RCS
that it would require additional information to adjudicate the claims. RCS
is in the process of providing additional information to the carrier. RCS
believes that its testing procedures were clinically adequate and intends
to appeal any adverse decision of the carrier with respect to these claims.
Since January 2001, tests performed at the New Jersey facility have
complied with the policy guidelines in question.

In March 2001, effective January 1, 2001, we completed the sale of our
wholly-owned subsidiary, HFHI, to a new company organized by physicians
practicing at HFHI, including David Wertheimer, M.D., who had served as
President of the subsidiary as well as an officer of Raytel and a member of
Raytels Board of Directors. We received a cash purchase price of
$8,311,000, net of transaction expenses, for all of the common stock of the
subsidiary. Approximately $1,234,000 of the proceeds were used to pre-pay
leases for equipment used at the HFHI facility, $5,100,000 was used to
reduce the indebtedness under our bank credit facility and the balance was
used for working capital purposes. We reported the results of operations
of HFHI and the loss on disposal as discontinued operations for all
applicable periods presented. The loss on disposal of $19,353,000
represents a one-time non-cash charge, consisting primarily of the
write-off of intangible assets. Due to the uncertainty of the ultimate tax
benefit to be realized as a result of the loss, we have not provided for
any tax benefit that may result from this transaction. Revenues
attributable to HFH1 in the three months ended December 31, 2001 and 2000
were $0 and $3,948,000 respectively. The loss from discontinued operations
of $141,000 for the three months ended December 31, 2000 was attributable
to HFHI and was net of a tax benefit of $90,000.

On February 8, 2002, we announced that we had signed a definitive
merger agreement pursuant to which SHL TeleMedicine Ltd. (SWX: SHLTN or
SHL), a developer and marketer of telemedicine devices and provider of
telemedicine services, will acquire Raytel. According to the terms of the
agreement, by February 22, 2002, a subsidiary of SHL will begin a tender
offer for all of Raytels outstanding shares at a price of $10.25 per share
in cash. Following the completion of the tender offer, the SHL subsidiary
will be merged into Raytel in a transaction in which any Raytel shares not
tendered will be converted into the right to receive the same per share
cash price paid in the tender offer. The transaction is not conditioned
upon financing but is subject to the satisfaction of or waiver of customary
closing conditions.

Results of Operations

Three Months Ended December 31, 2001 Compared to Three Months Ended
December 31, 2000.

Revenues.For the three months ended December 31, 2001, total revenues
were $18,061,000 compared to $17,248,000 for the three months ended December
31, 2000, representing an increase of $813,000, or 4.7%.

Cardiac information services revenues were $9,299,000 for the three
months ended December 31, 2001, compared to $9,551,000 for the three months
ended December 31, 2000, a decrease of $252,000, or 2.6%. The decrease in
revenues for cardiac information services was due primarily to lower
revenues from Pacing operations as a result of lower test volumes and
lower average selling prices and, to a lesser extent, lower revenues from
Holter monitoring due to lower test volumes. Diagnostic imaging services
revenues were $6,852,000 for the three months ended December 31, 2001,
compared to $5,998,000 for the three months ended December 31, 2000, an
increase of $854,000, or 14.2%, due primarily to increases in revenue at
certain centers and the imaging network resulting from increases in patient
volumes. Heart facilities and other revenues were $1,910,000 for the three
months ended December 31, 2001, compared to $1,699,000 for the three months
ended December 31, 2000, an increase of $211,000, or 12.4%, due primarily
to higher revenues at certain cardiovascular diagnostic facilities.

Operating Expenses.Operating costs and selling, general and
administrative expenses increased by $695,000, or 4.7%, from $14,932,000
for the three months ended December 31, 2000 to $15,627,000 for the three
months ended December 31, 2001, due primarily to higher expenses related to
diagnostic imaging services, partially offset

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by decreases in costs and expenses related to cardiac information
services. Operating costs and selling, general and administrative expenses
as a percentage of total revenues decreased by .1%, from 86.6% for the
three months ended December 31, 2000 to 86.5% for the three months ended
December 31, 2001.

Depreciation and Amortization. Depreciation and amortization expense
decreased by $138,000, or 8.2%, from $1,675,000 for the three months ended
December 31, 2000 to $1,537,000 for the three months ended December 31,
2001 and decreased as a percentage of revenues from 9.7% for the three
months ended December 31, 2000 to 8.5% for the three months ended December
31, 2001 as a result of higher revenues and lower expense.

Operating Income. As a result of the foregoing factors, operating
income increased by $256,000, or 39.9%, from $641,000 for the three months
ended December 31, 2000 to $897,000 for the three months ended December 31,
2001.

Interest Expense. Interest expense decreased by $64,000, or 11.4%,
from $560,000 for the three months ended December 31, 2000 to $496,000 for
the three months ended December 31, 2001 due primarily to a decrease in the
average amount of debt outstanding and, to a lesser extent, a decline in
interest rates, partially offset by the amortization of deferred costs
related to our new credit facility.

Other Expense (Income).Other income decreased by $145,000 from
$218,000 for the three months ended December 31, 2000 to $73,000 for the
three months ended December 31, 2001.

Minority Interest. Minority interest decreased by $40,000 from
$53,000 for the three months ended December 31, 2000 to $13,000 for the
three months ended December 31, 2001 due primarily to decreased income in
certain cardiovascular diagnostic facilities.

Income Taxes. The provision for income taxes increased by $85,000
from $95,000 for the three months ended December 31, 2000 to $180,000 for
the three months ended December 31, 2001 as result of increased taxable
income. There was no change in our effective tax rate between the two
periods.

Loss From Discontinued Operations. Loss from discontinued operations
was $141,000, net of tax benefit, for the three months ended December 31,
2000.

Net Income.As a result of the foregoing factors, net income
increased by $271,000 from $10,000 for the three months ended December 31,
2000 to $281,000 for the three months ended December 31, 2001.

Segment Information

Our reportable segments are strategic business units that offer
different services. We have three reportable segments: Cardiac Information
Services (Information); Diagnostic Imaging Services (Imaging); and
Heart Facilities and Other (Facilities). The Information segment provides
Pacing, CEDS and Holter monitoring services utilizing telephonic and
Internet communication technology. The Imaging segment operates a network
of diagnostic imaging centers throughout the United States. The Facilities
segment provides diagnostic, therapeutic and patient management services
primarily associated with cardiovascular disease.

The accounting policies of the segments are the same as those
described in the summary of significant accounting policies (see Note 2 to
the consolidated financial statements included in our Annual Report on Form
10-K for the year ended September 30, 2001) except that we do not allocate
all interest expense, taxes or corporate overhead to the individual
segments. We evaluate performance based on profit or loss from operations
before income taxes and unallocated amounts. The totals per the schedules
below will not and should not agree to the consolidated totals. The
difference is due to corporate overhead and other unallocated amounts which
are reflected in the reconciliation to consolidated earnings before income
taxes and discontinued operations (in thousands):
12Table of Contents

|                                              |                                               |   |             |  |         |   |            |   |       |   |       |   |  |   |        |   | 
|--------------------------------------------- | --------------------------------------------- | - | ----------- |  | ------- | - | ---------- | - | ----- | - | ----- | - |  | - | ------ | - | 
|                                              |                                               |   | Information |  | Imaging |   | Facilities |   | Total
|                                              |                                               |   |             |  |         |   |            |   |      
|                                              | For the three months ended December 31, 2001: |   |             |  |         |   |            |   |       |   |       |   |  |   |        |   | 
|Net revenue                                   |                                               | $ | 9,299       |  |         | $ | 6,852      |   |       | $ | 1,910 |   |  | $ | 18,061 |  
|Total operating expenses                      |                                               |   | 8,100       |  |         |   | 5,358      |   |       |   | 1,395 |   |  |   | 14,853 |  
|                                              |                                               |   |             |  |         |   |            |   |       |   |       |   |  |   |        |  
|Segment contribution                          |                                               |   | 1,199       |  |         |   | 1,494      |   |       |   | 515   |   |  |   | 3,208  |  
|Depreciation and amortization                 |                                               |   | 853         |  |         |   | 413        |   |       |   | 211   |   |  |   | 1,477  |  
|Interest expense                              |                                               |   |            |  |         |   | 32         |   |       |   | 25    |   |  |   | 57     |  
|Minority interest/other expense (income), net |                                               |   |            |  |         |   | (95        | ) |       |   | (114  | ) |  |   | (209   | )
|                                              |                                               |   |             |  |         |   |            |   |       |   |       |   |  |   |        |  
|Segment profit                                |                                               | $ | 346         |  |         | $ | 1,144      |   |       | $ | 393   |   |  | $ | 1,883  |  
|                                              |                                               |   |             |  |         |   |            |   |       |   |       |   |  |   |        |  
|Segment assets                                |                                               | $ | 41,524      |  |         | $ | 15,271     |   |       | $ | 9,610 |   |  | $ | 66,405 |  
|                                              |                                               |   |             |  |         |   |            |   |       |   |       |   |  |   |        |  
|Capital expenditures                          |                                               | $ | 309         |  |         | $ | 657        |   |       | $ | 26    |   |  | $ | 992    |  
|                                              |                                               |   |             |  |         |   |            |   |       |   |       |   |  |   |        |  

|                                              |                                               |   |             |  |         |   |            |  |       |   |        |   |  |   |        |   | 
|--------------------------------------------- | --------------------------------------------- | - | ----------- |  | ------- | - | ---------- |  | ----- | - | ------ | - |  | - | ------ | - | 
|                                              |                                               |   | Information |  | Imaging |   | Facilities |  | Total
|                                              |                                               |   |             |  |         |   |            |  |      
|                                              | For the three months ended December 31, 2000: |   |             |  |         |   |            |  |       |   |        |   |  |   |        |   | 
|Net revenue                                   |                                               | $ | 9,551       |  |         | $ | 5,998      |  |       | $ | 1,699  |   |  | $ | 17,248 |  
|Total operating expenses                      |                                               |   | 8,413       |  |         |   | 4,399      |  |       |   | 1,239  |   |  |   | 14,051 |  
|                                              |                                               |   |             |  |         |   |            |  |       |   |        |   |  |   |        |  
|Segment contribution                          |                                               |   | 1,138       |  |         |   | 1,599      |  |       |   | 460    |   |  |   | 3,197  |  
|Depreciation and amortization                 |                                               |   | 849         |  |         |   | 428        |  |       |   | 297    |   |  |   | 1,574  |  
|Interest expense                              |                                               |   |            |  |         |   | 61         |  |       |   | 31     |   |  |   | 92     |  
|Minority interest/other expense (income), net |                                               |   | 6           |  |         |   | 1          |  |       |   | (20    | ) |  |   | (13    | )
|                                              |                                               |   |             |  |         |   |            |  |       |   |        |   |  |   |        |  
|Segment profit                                |                                               | $ | 283         |  |         | $ | 1,109      |  |       | $ | 152    |   |  | $ | 1,544  |  
|                                              |                                               |   |             |  |         |   |            |  |       |   |        |   |  |   |        |  
|Segment assets                                |                                               | $ | 43,785      |  |         | $ | 14,516     |  |       | $ | 32,606 |   |  | $ | 90,907 |  
|                                              |                                               |   |             |  |         |   |            |  |       |   |        |   |  |   |        |  
|Capital expenditures                          |                                               | $ | 743         |  |         | $ | 44         |  |       | $ | 82     |   |  | $ | 869    |  
|                                              |                                               |   |             |  |         |   |            |  |       |   |        |   |  |   |        |  

|                                                      |                                               |   |                                 |     |      |   |       |      |  
|----------------------------------------------------- | --------------------------------------------- | - | ------------------------------- | --- | ---- | - | ----- | ---- | -
|                                                      |                                               |   | Three Months Ended December 31,
|                                                      |                                               |   |                                
|                                                      |                                               |   | 2001                            |     | 2000
|                                                      |                                               |   |                                 |     |     
|Segment profit                                        |                                               | $ | 1,883                           |     |      | $ | 1,544 |     
|Unallocated amounts:                                  |                                               |   |                                 |     |      |   |       |     
|                                                      | Corporate general and administrative expenses |   |                                 | 774 |      |   |       | 881  |  
|                                                      | Corporate depreciation and amortization       |   |                                 | 60  |      |   |       | 101  |  
|                                                      | Corporate interest expense                    |   |                                 | 439 |      |   |       | 468  |  
|                                                      | Corporate other expense (income), net         |   |                                 | 149 |      |   |       | (152 | )
|                                                      |                                               |   |                                 |     |      |   |       |     
|Income from continuing operations
before income taxes |                                               | $ | 461                             |     |      | $ | 246   |     
|                                                      |                                               |   |                                 |     |      |   |       |     

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Business Environment and Future Results

Our future operating results may be affected by various trends in the
healthcare industry as well as by a variety of other factors, some of which
are beyond our control.

The healthcare industry is undergoing significant change as
third-party payors attempt to control the cost, utilization and delivery of
healthcare services. Substantially all of our revenues are derived from
Medicare, HMOs, commercial insurers and other third-party payors. Both
government and private payment sources have instituted cost containment
measures designed to limit payments made to healthcare providers by
reducing reimbursement rates, limiting services covered, increasing
utilization review of services, negotiating prospective or discounted
contract pricing, adopting capitation strategies and seeking competitive
bids. Revenue from the our Pacing operations during the last three fiscal
years has been impacted by Medicare reimbursement changes. Reimbursement
rate reductions applicable to our Pacing procedures became effective on
January 1, 1999 and had a negative effect on Pacing revenue for calendar
year 1999. There was a slight increase in Medicare reimbursement rates
effective January 1, 2000 and again effective January 1, 2001; however,
there was a decrease effective January 1, 2002. We cannot predict with any
certainty whether or when additional reductions or changes in Medicare or
other third-party reimbursement rates or policies will be implemented.
There can be no assurance that future changes, if any, will not adversely
affect the amounts or types of services that may be reimbursed to us, or
that future reimbursement of any service that we offer will be sufficient
to cover the costs and overhead allocated to such service.

From time to time, Congress considers legislation to reduce Medicare
and Medicaid expenditures. Future legislation of this type could have a
material adverse effect on our business, financial condition and operating
results. Governmental agencies promulgate regulations which mandate
changes in the method of delivering services which could have a material
adverse effect on our business.

An element of our strategy is to expand, in part, through acquisitions
and investments in complementary healthcare businesses. The implementation
of this strategy may place significant strain on our administrative,
operational and financial resources and increase demands on our systems and
controls. There can be no assurances that businesses which we may acquire,
in the future will be integrated successfully and profitably into our
operations, that suitable acquisitions or investment opportunities will be
identified, or that any such transactions can be consummated.

Providers of healthcare services are subject to numerous federal,
state and local laws and regulations that govern various aspects of their
business. There can be no assurance that we will be able to obtain
regulatory approvals that may be required to expand or services or that new
laws or regulations will not be enacted or adopted that will have a
material adverse effect on our business, financial condition or operating
results.

The healthcare businesses in which we are engaged are highly
competitive. We expect competition to increase as a result of ongoing
consolidations and cost-containment pressures, among other factors.

The trading price of our common stock is subject to wide fluctuations
in response to quarterly variations in our operating results, shortfalls in
such operating results from levels forecasted by securities analysts and
other events or factors. In addition, the stock market has, from time to
time, experienced extreme price and volume fluctuations that have
particularly affected the market prices of companies in the healthcare
service industries and that have often been unrelated to the operating
performance of the affected companies. Announcements of changes in
reimbursement policies of third-party payors, legislative or regulatory
developments, economic news and other external factors may have a
significant impact on the market price of healthcare stocks.

Liquidity and Capital Resources

At December 31, 2001, we had working capital of $24,701,000, compared
to $12,942,000 at September 30, 2001, which reflected the balance
outstanding under our former line of credit as a current liability. At
December 31, 2001, we had cash and cash equivalents of $6,110,000.

We batch-bill Medicare insurance carriers for most cardiac testing
services performed during the first few months of each calendar year. This
practice results in a temporary build-up of accounts receivable during our

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second and third fiscal quarters, with the collection of these
receivables occurring primarily during the subsequent fourth fiscal
quarter.

On December 15, 2000, our line of credit agreement with two banks was
amended to reduce the line of credit to $20,000,000 and to revise certain
financial and other covenants and terms. The interest rate was changed to
be based on LIBOR plus 275 basis points, or the banks prime rate plus 50
basis points, at our option, and the date for repayment was extended to
October 1, 2001. A new non-financial covenant was added under which any
civil financial settlement in excess of $1,000,000 or any criminal charges
relating to the then-pending OIG investigation would constitute an event of
default. On March 16, 2001, the line of credit was further reduced to
$14,900,000 in connection with the sale of our HFHI subsidiary. Consistent
with the terms of the December 2000 amendments to the line of credit
agreement, the line of credit was further reduced by $2,500,000 on June 30,
2001 to $12,400,000. RCS guilty plea, entered into under its settlement
with the federal government, constituted a default under the line of credit
agreement. In October and November 2001, the interest rate under the line
of credit was increased to 400 basis points over the banks prime rate.

In November 2001, we entered into a new two-year revolving credit
facility with Healthcare Business Credit Corporation under which we may
borrow up to $15,000,000. Loans under the facility bear interest at prime
plus 1% per annum and will be secured by accounts receivable, inventories,
capital equipment and other assets of Raytel and certain of its
subsidiaries and affiliated entities. We used the initial proceeds of the
new facility to repay outstanding indebtedness of approximately $12,287,000
under the credit line that matured on October 1, 2001. At December 31,
2001, there was approximately $11,369,000 outstanding under the new credit
facility. The facility matures on November 30, 2003 and, therefore,
indebtedness outstanding under the line as of December 31, 2001 was
classified as a long-term liability on our balance sheet.

Our long-term capital requirements will depend on numerous factors,
including the rate at which we develop new products and services and
acquires other businesses, if any. Our ability to meet our working capital
and capital expenditure needs for the next twelve months is dependent upon
our ability to sustain profitability.

We may require additional capital if, for example, we were to
experience operating losses or if we were to pursue one or more business
acquisitions. We cannot be certain that additional financing will be
available when required, or at all. RCS guilty plea pursuant to the
settlement agreement entered into with the federal government in 2001 could
adversely affect our ability to obtain debt or equity financing in the
future.




Item 3. Quantitative and Qualitative Disclosures about Market Risks

We do not hold any marketable equity securities, foreign currencies or
derivative financing instruments in its investment portfolio. We are is
exposed to market risk from interest rate fluctuations because it uses
variable rate debt to finance working capital requirements. We are does
not believe that there is any material market risk exposure with respect to
other financial instruments that would require disclosure under this Item.




PART II. OTHER INFORMATION




Item 1. Legal Proceedings

From June 2000 through June 2001, Raytel was the subject of a grand
jury investigation conducted under the direction of the United States
Attorney for the District of Connecticut and the Office of the Inspector
General of the Department of Health and Human Services (the OIG). The
investigation involved certain business practices of the transtelephonic
cardiac pacemaker monitoring business conducted by Raytel Cardiac Services,
Inc., our wholly-owned subsidiary (RCS), at its facilities in Windsor,
Connecticut and New York, New York. The investigation did not involve our
other healthcare services, such as RCS cardiac event detection services or
Raytels diagnostic imaging services or other cardiac-related businesses,
nor did it involve RCS transtelephonic pacemaker monitoring operations
conducted at its Haddonfield, New Jersey facility, which followed testing
practices similar to those followed at the Connecticut and New York
facilities.

In June 2001, RCS reached an agreement with the federal government to
resolve the issues that were the subject of the investigation. In
accordance with that agreement, on June 25, 2001, RCS pled guilty in U.S.
District Court in Hartford, Connecticut to a charge of obstructing a
criminal investigation arising out of the initial

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investigation in June 2000. In addition, in October 2001, Raytel and
RCS entered into an agreement with the government to resolve the related
civil claims. Under the criminal and civil settlements, RCS agreed to pay
a total of $11,500,000 to the government over a five year period, with
interest of 7% per annum on the unpaid balance, to resolve the criminal and
civil allegations relating to the practices of RCS Connecticut and New
York transtelephonic monitoring operations which were the subject of the
investigation. Raytel guaranteed RCS payment obligations under the
settlement agreement. RCS also entered into a corporate integrity
agreement under which it agreed that its ongoing operations would conform
to specified guidelines. As of December 31, 2001, $1,500,000 had been paid
to the government, and the next payment of $2,000,000 is due in June 2002.
RCS guilty plea did not adversely affect its participation in the Medicare
program or other federal healthcare programs.

We incurred substantial legal fees and other expenses in connection
with the investigation and established a reserve of $4,600,000 to cover the
estimated amounts of these expenses. As of December 31, 2001, we had
incurred legal fees and other expenses of approximately $4,358,000 related
to the investigation, including legal fees incurred by certain RCS
employees in connection with the investigation which were reimbursed by RCS
in accordance with the requirements of Delaware Law and RCS By-Laws. The
remaining balance of the reserve is included in accrued liabilities on
our balance sheet. Additional expenses, if any, will adversely affect our
operating results in future periods.

In addition to these direct expenses, the investigation, the related
internal compliance review, and settlement negotiations with the government
diverted the efforts and attention of a number of our management and
administrative personnel. The impact of this diversion reduced the
efficiency of RCS pacemaker monitoring operations during the last week of
the quarter ended June 30, 2000 and adversely affected both revenues and
operating expenses for that period as well as the quarter ended September
30, 2000 and throughout the fiscal year ended September 30, 2001. Although
the investigation has now been concluded, implementation of the corporate
integrity agreement continues to require the time and attention of Raytel
and RCS management and a number of RCS administrative personnel. In
addition, RCS guilty plea entered into under its agreement with the
government constituted a default under Raytels bank credit facility. In
November 2001, Raytel entered into a new revolving line of credit
arrangement and repaid all outstanding indebtedness under its bank
facility. However, RCS guilty plea could adversely affect our ability to
obtain debt or equity financing in the future.

In connection with the civil settlement agreement, neither Raytel nor
RCS admitted liability for the governments allegations, and the settlement
agreement did not release Raytel or RCS from any future claims arising out
of their other business operations, including RCS transtelephonic
pacemaker operations conducted at its New Jersey facility. In December
2001, RCS submitted claims which would result in reimbursements totaling
approximately $1,500,000 for transtelephonic monitoring services performed
at the New Jersey facility between June 2000 and January 2001 which had not
complied in all respects with certain technical requirements of Medicares
policy guidelines relating to the duration of testing sessions. These
claims are currently pending with RCS Medicare carrier. By letter dated
December 28, 2001, the Department of Health and Human Services advised RCS
that it could not instruct the carrier to pay claims for services that did
not comply with these guidelines. In January 2002, the carrier advised RCS
that it would require additional information to adjudicate the claims. RCS
is in the process of providing additional information to the carrier. RCS
believes that its testing procedures were clinically adequate and intends
to appeal any adverse decision of the carrier with respect to these claims.
Since January 2001, tests performed at the New Jersey facility have
complied with the policy guidelines in question.

We are from time to time a party to various other claims and disputes
associated with various aspects of our ongoing business operations. In
managements opinion, none of these other claims or disputes are expected,
either individually or in the aggregate, to have a material adverse effect
on our financial position or results of operations.




Item 3. Default Upon Senior Securities

At October 1, 2001, we had an outstanding principal balance of
approximately $12,300,000 under our bank line of credit which matured on
that date. RCS guilty plea, entered into under its settlement with the
federal government described in Part II, Item 1 of this report, constituted
a default under the line of credit agreement. In November 2001, we entered
into a new revolving line of credit arrangement and repaid all outstanding
indebtedness under the original bank facility.

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Item 6. Exhibits and Reports on Form 8-K



| | a. |  | Exhibits:                                               
| | -- |  | --------------------------------------------------------
|
| |    |  | The following exhibit is filed as a part of this Report:

| |  |         |       |       |  |                                                                                                                                                                                                                                             
| |  | ------- | ----- | ----- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Exhibit |       |      
| |  | Number  |       | Title
| |  |         |       |      
| |  |         | 2.1   |       |  | Agreement and Plan of Merger, dated as of
February 7, 2002, among the Registrant, SHL TeleMedicine Ltd. and SHL TeleMedicine
Acquisition Corp.                                                                                              
|
| |  |         | 10.8  |       |  | Amended and Restated Employment Agreement, dated
February 6, 2002, between the Registrant and
Richard F. Bader.                                                                                                                             
|
| |  |         | 10.72 |       |  | Loan and Security Agreement, dated November 15,
2001 (the HBCC Loan Agreement), among the
Registrant, certain subsidiaries of the
Registrant and Healthcare Business Credit
Corporation (HBCC), including form of
Revolving Credit Note.
|
| |  |         | 10.73 |       |  | Form of Imaging Center Security Agreement, dated
November 15, 2001, entered into among HBCC, the
Imaging Center Affiliates (as defined in the
HBCC Loan Agreement) and the Imaging Center PCs
(as defined in the HBCC Loan Agreement)       
|
| |  |         | 10.74 |       |  | Key Management Retention Agreement, dated
December 5, 2001, between the Registrant and
John F. Lawler, Jr.                                                                                                                                  
|
| |  |         | 10.75 |       |  | Key Management Retention Agreement, dated
February 6, 2002, between the Registrant and
Swapan Sen.                                                                                                                                          



| | b. |  | Reports on Form 8-K:                                                                                                                                                                                                                                                          
| | -- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |    |  | On October 1, 2001, we filed a report on Form 8-K disclosing, under
Item 5, a preliminary proposal to acquire Raytel submitted by a
stockholder group that included Raytels Chief Executive Officer.                                                                         
|
| |    |  | On December 18, 2001, we filed a report on Form 8-K disclosing,
under Item 5, a revised proposal to acquire Raytel submitted by an
expanded stockholder group and also announcing that we had received
additional confidential expressions of interest in such an
acquisition.

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SIGNATURE

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

|                         |                                                                                                                          |                        
|------------------------ | ------------------------------------------------------------------------------------------------------------------------ | -----------------------
|                         | RAYTEL MEDICAL CORPORATION                                                                                              
|                        
|Dated: February 19, 2002 | By:                                                                                                                      | /s/ John F. Lawler, Jr.
|                         |                                                                                                                         
|                         | John F. Lawler, Jr.
Vice President and Chief Financial Officer
(duly authorized officer and principal financial officer)

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INDEX TO EXHIBITS

| |  |         |       |       |  |                                                                                                                                                                                                                                             
| |  | ------- | ----- | ----- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Exhibit |       |      
| |  | Number  |       | Title
| |  |         |       |      
| |  |         | 2.1   |       |  | Agreement and Plan of Merger, dated as of
February 7, 2002, among the Registrant, SHL TeleMedicine Ltd. and SHL TeleMedicine
Acquisition Corp.                                                                                              
|
| |  |         | 10.8  |       |  | Amended and Restated Employment Agreement, dated
February 6, 2002, between the Registrant and
Richard F. Bader.                                                                                                                             
|
| |  |         | 10.72 |       |  | Loan and Security Agreement, dated November 15,
2001 (the HBCC Loan Agreement), among the
Registrant, certain subsidiaries of the
Registrant and Healthcare Business Credit
Corporation (HBCC), including form of
Revolving Credit Note.
|
| |  |         | 10.73 |       |  | Form of Imaging Center Security Agreement, dated
November 15, 2001, entered into among HBCC, the
Imaging Center Affiliates (as defined in the
HBCC Loan Agreement) and the Imaging Center PCs
(as defined in the HBCC Loan Agreement)       
|
| |  |         | 10.74 |       |  | Key Management Retention Agreement, dated
December 5, 2001, between the Registrant and
John F. Lawler, Jr.                                                                                                                                  
|
| |  |         | 10.75 |       |  | Key Management Retention Agreement, dated
February 6, 2002, between the Registrant and
Swapan Sen.                                                                                                                                          

19