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SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
   FORM 10-QSB QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY
PERIOD ENDED December 31, 2004 Commission File Number: 0-24635 HYPERTENSION DIAGNOSTICS, INC.  MINNESOTA
    
    41-1618036(State of incorporation)
    
    (I.R.S. Employer Identification No.)
 2915 WATERS ROAD, SUITE 108
EAGAN, MINNESOTA 55121-1562
(651) 687-9999
(Address of issuers principal executive offices and telephone number) Check whether the issuer (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 þ                               No  ̈ The number of shares of Common Stock outstanding as of January 31, 2005 was 27,092,385. Transitional Small Business Disclosure Format: Yes  ̈                               No þ




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HYPERTENSION DIAGNOSTICS, INC. INDEX TO FORM 10-QSB Page No.PART I. FINANCIAL INFORMATION:Item 1. Financial Statements
    
    
    3Balance Sheets  December 31, 2004 and June 30, 2004
    
    
    3Statements of Operations  Three Months and Six Months Ended December 31, 2004 and 2003, respectively
    
    
    4Statements of Cash Flows  Six Months Ended December 31, 2004 and 2003, respectively
    
    
    5Notes to Financial Statements
    
    
    6Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    8Item 4. Controls and Procedures
    
    
    19PART II. OTHER INFORMATION:Item 1. Legal Proceedings
    
    
    20Item 6. Exhibits and Reports on Form 8-K
    
    
    20SIGNATURES
    
    
    21CERTIFICATIONS
    
    
    22Certification of Chief Executive OfficerCertification of Chief Financial OfficerCertificate Pursuant to 18 U.S.C. Section 1350
  2




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PART I. FINANCIAL INFORMATION 
 Item 1. Financial Statements Hypertension Diagnostics, Inc. 
 Balance Sheets December 31,
    
    
    June 30,2004
    
    
    2004AssetsCurrent Assets:Cash and cash equivalents
    
    $
    1,040,960
    
    
    $
    1,378,293Accounts receivable
    
    
    63,593
    
    
    
    207,710Interest receivable
    
    
    
    
    
    
    8,920Inventory
    
    
    355,553
    
    
    
    224,824Prepaids and other current assets
    
    
    70,254
    
    
    
    55,497Total Current Assets
    
    
    1,530,360
    
    
    
    1,875,244Property and Equipment:Leasehold improvements
    
    
    17,202
    
    
    
    17,202Furniture and equipment
    
    
    1,294,241
    
    
    
    1,260,549Less accumulated depreciation and amortization
    
    
    (999,658
    )
    
    
    (915,619
    )311,785
    
    
    
    362,132Other Assets
    
    
    6,530
    
    
    
    6,530Total Assets
    
    $
    1,848,675
    
    
    $
    2,243,906Liabilities and Shareholders EquityCurrent Liabilities:Accounts payable
    
    $
    114,170
    
    
    $
    84,802Accrued payroll and payroll taxes
    
    
    743,922
    
    
    
    520,864Deferred revenue
    
    
    9,213
    
    
    
    Other accrued expenses
    
    
    31,759
    
    
    
    26,054Total Current Liabilities
    
    
    899,064
    
    
    
    631,720Deferred Revenue, less current portion
    
    
    3,400
    
    
    
    4,800Shareholders Equity:Series A Convertible Preferred Stock, $.01 par value:Authorized shares5,000,000
Issued and outstanding shares843,917 and 803,484
at December 31, 2004 and June 30, 2004, respectively
    
    
    8,439
    
    
    
    8,035Common Stock, $.01 par value:Authorized shares150,000,000
Issued and outstanding shares27,092,385 and 26,449,378
at December 31, 2004 and June 30, 2004, respectively
    
    
    270,924
    
    
    
    264,494Additional paid-in capital
    
    
    24,791,444
    
    
    
    24,585,206Accumulated deficit
    
    
    (24,124,596
    )
    
    
    (23,250,349
    )Total Shareholders Equity
    
    
    946,211
    
    
    
    1,607,386Total Liabilities and Shareholders Equity
    
    $
    1,848,675
    
    
    $
    2,243,906
 See accompanying notes. 3




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Hypertension Diagnostics, Inc. 
 Statements of Operations Three Months Ended
    
    
    Six Months EndedDecember 31
    
    
    December 312004
    
    
    2003
    
    
    2004
    
    
    2003Revenue:Equipment sales
    
    $
    96,870
    
    
    $
    63,500
    
    
    $
    132,720
    
    
    $
    137,245Equipment rental
    
    
    127,209
    
    
    
    101,924
    
    
    
    245,357
    
    
    
    191,820Service/contract income
    
    
    67,936
    
    
    
    68,297
    
    
    
    167,359
    
    
    
    153,554292,015
    
    
    
    233,721
    
    
    
    545,436
    
    
    
    482,619Cost of Sales
    
    
    52,086
    
    
    
    38,503
    
    
    
    99,288
    
    
    
    84,996Gross Profit
    
    
    239,929
    
    
    
    195,218
    
    
    
    446,148
    
    
    
    397,623Expenses:Selling, general and administrative
    
    
    685,248
    
    
    
    749,375
    
    
    
    1,332,890
    
    
    
    1,364,849Total Expenses
    
    
    685,248
    
    
    
    749,375
    
    
    
    1,332,890
    
    
    
    1,364,849Operating Loss
    
    
    (445,319
    )
    
    
    (554,157
    )
    
    
    (886,742
    )
    
    
    (967,226
    )Other Income (Expense):Interest income
    
    
    5,551
    
    
    
    9,473
    
    
    
    12,495
    
    
    
    15,542Interest expense
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (50,185
    )5,551
    
    
    
    9,473
    
    
    
    12,495
    
    
    
    (34,643
    )Net Loss
    
    $
    (439,768
    )
    
    $
    (544,684
    )
    
    $
    (874,247
    )
    
    $
    (1,001,869
    )Basic and Diluted Net Loss per Share
    
    $
    (.02
    )
    
    $
    (.02
    )
    
    $
    (.03
    )
    
    $
    (.05
    )Weighted Average Shares Outstanding
    
    
    27,092,385
    
    
    
    22,940,145
    
    
    
    27,047,157
    
    
    
    18,908,475
 See accompanying notes. 4




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Hypertension Diagnostics, Inc. 
 Statements of Cash Flows Six Months EndedDecember 312004
    
    
    2003Operating Activities:Net loss
    
    $
    (874,247
    )
    
    $
    (1,001,869
    )Adjustments to reconcile net loss to net
cash used in operating activities:Value of stock options, Common Stock and warrants
issued in lieu of cash
    
    
    21,278
    
    
    
    Depreciation
    
    
    84,039
    
    
    
    101,870Amortization of debt discount
    
    
    
    
    
    
    48,531Interest expense  converted to Common Stock
    
    
    
    
    
    
    11,956Change in operating assets and liabilities:Accounts receivable
    
    
    144,117
    
    
    
    30,109Interest receivable
    
    
    8,920
    
    
    
    (5,286
    )Inventory
    
    
    (130,729
    )
    
    
    39,255Prepaids and other current assets
    
    
    (14,757
    )
    
    
    (60,374
    )Accounts payable
    
    
    29,368
    
    
    
    (28,171
    )Accrued payroll and payroll taxes
    
    
    223,058
    
    
    
    149,805Deferred revenue
    
    
    7,813
    
    
    
    (153,553
    )Other accrued expenses
    
    
    5,705
    
    
    
    (16,388
    )Net cash used in operating activities
    
    
    (495,435
    )
    
    
    (884,115
    )Investing Activities:Purchase of property and equipment
    
    
    (33,692
    )
    
    
    (1,592
    )Net cash used in investing activities
    
    
    (33,692
    )
    
    
    (1,592
    )Financing Activities:Issuance of Preferred Stock and Common Stock
    
    
    191,794
    
    
    
    1,873,753Net cash provided by financing activities
    
    
    191,794
    
    
    
    1,873,753Net increase (decrease) in cash and cash equivalents
    
    
    (337,333
    )
    
    
    988,046Cash and cash equivalents at beginning of period
    
    
    1,378,293
    
    
    
    90,335Cash and cash equivalents at end of period
    
    $
    1,040,960
    
    
    $
    1,078,381Supplemental Cash Flow Information:Cash paid for interest
    
    $
    
    
    
    $
    977Supplemental Schedule of Noncash Investing and Financing Activities:Conversion of notes payable and accrued interest into Common Stock
    
    $
    
    
    
    $
    541,980Transfer of asset from inventory to property and equipment
    
    
    
    
    
    
    63,967
 See accompanying notes. 5




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Hypertension Diagnostics, Inc. 
   1. Interim Financial Information The accompanying unaudited financial statements have been prepared in accordance with the
instructions to Form 10-QSB and do not include all the information and notes required by generally
accepted accounting principles for complete financial statements. In the opinion of management,
these unaudited financial statements reflect all adjustments, consisting only of normal and
recurring adjustments necessary for a fair presentation of the financial statements. The results
of operations for the three months and six months ended December 31, 2004 are not necessarily
indicative of the results that may be expected for the full year ending June 30, 2005. The June
30, 2004 balance sheet was derived from audited financial statements. For further information,
refer to the financial statements and notes included in the Companys Annual Report on Form 10-KSB
for the fiscal year ended June 30, 2004. The policies described in that report are used for
preparing quarterly reports. 2. Exercise of Warrants In July 2004, the Company issued 643,007 shares of common stock and 40,433 shares of Series A
Preferred Stock, to holders of warrants to purchase common stock and Series A Preferred Stock,
resulting in gross proceeds to the Company of $191,794. The exercise price was $.17 per share of
common stock and $2.04 per share of Series A Preferred Stock. The Company has granted certain
registration rights covering all of the common stock and Series A Preferred Stock sold in the
offering to the investors. These warrants relate to the nine-month stock purchase warrants issued
in the August 28, 2003 private placement offering. These warrants were exercisable until May 28,
2004. In May 2004, the Company extended the expiration date of these warrants to July 15, 2004.
For those warrant holders who exercised at least fifty percent (50%) of the number of shares
underlying these warrants by July 15, 2004, the Company further extended the expiration date of
these remaining warrants to November 9, 2004.


In November 2004, the Company further extended the expiration date of these remaining warrants to
March 15, 2005. On February 9, 2004, the Company completed a private placement offering to a group of
investors. As part of this offering, the Company issued nine-month stock purchase warrants to
purchase common stock and Series A Preferred Stock. These warrants were exercisable until November
9, 2004. In November 2004, the Company extended the expiration date of these warrants to March 15,
2005. In addition, for those holders who exercise with respect to at least fifty percent (50%) of
the shares underlying their November 9 warrants, the Company has agreed to extend the exercise date
of such November 9 warrants for an additional period, expiring July 31, 2005. 3. Litigation On March 17, 2004, the Company received a letter from counsel of one of its employees alleging
illegal and unethical reimbursement practices, and also alleging violation of applicable
whistleblower statutes. On March 18, 2004, the Company received a letter from counsel of one of
its former employees alleging failure to pay for accrued vacation time, and also alleging violation
of applicable whistleblower statutes. On August 25, 2004, the Company entered into a binding
memorandum of understanding agreeing to settle such employees disputes. As settlement in full of
these employees claims, the Company agreed to make cash payments and issue shares of freely
tradable shares of its common stock to these parties in an aggregate cash amount of $130,000 and
shares in an aggregate 6




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Hypertension Diagnostics, Inc.
Notes to Financial Statements
December 31, 2004 3. Litigation (continued) amount equal to a fair market value of $100,000. The Company intends to enter into long form
agreements setting forth the details of such agreement in the near future. The total of $230,000
has been accrued as accrued payroll at December 31, 2004 and June 30, 2004. The Company has
retained a reimbursement consultant to investigate the whistleblower claims, and such consultant
has indicated its belief that such claims lack merit. 4. Stock-Based Compensation The Company accounts for stock-based transactions under SFAS No.
123, Accounting for
Stock-Based Compensation.As permitted by SFAS No. 123, the Company has
elected to continue following the guidance of APB Opinion No. 25 (as interpreted by FIN 44) for
measurement and recognition of stock-based transactions with employees and non-employee directors.
Because stock options have been granted at exercise prices at least equal to the fair market value
of the stock at grant

date, no compensation cost has been recognized for stock options issued to employees and
non-employee directors under the stock option plans. Stock-based transactions with non-employees
are accounted for in accordance with SFAS No. 123 and related interpretations. If compensation cost for the Companys stock option plans had been determined based on the
fair value at the grant dates, consistent with the method provided in SFAS No. 123, net loss and
net loss per share would have been as follows: Three Months Ended December 31
    
    
    Six Months Ended December 312004
    
    
    2003
    
    
    2004
    
    
    2003Net Loss:As Reported
    
    $
    (439,768
    )
    
    $
    (544,684
    )
    
    $
    (874,247
    )
    
    $
    (1,001,869
    )Fair value compensation
expense
    
    
    (180,171
    )
    
    
    (42,162
    )
    
    
    (230,794
    )
    
    
    (89,891
    )Pro Forma
    
    $
    (619,939
    )
    
    $
    (586,846
    )
    
    $
    (1,105,041
    )
    
    $
    (1,091,760
    )Basic and Diluted Net Loss per Share:As Reported
    
    $
    (0.02
    )
    
    $
    (0.02
    )
    
    $
    (0.03
    )
    
    $
    (0.05
    )Fair value compensation
expense
    
    
    
    
    
    
    (0.01
    )
    
    
    (0.01
    )
    
    
    (0.01
    )Pro Forma
    
    $
    (0.02
    )
    
    $
    (0.03
    )
    
    $
    (0.04
    )
    
    $
    (0.06
    )Stock Based Compensation:As Reported
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $Fair value compensation
expense
    
    
    (180,171
    )
    
    
    (42,162
    )
    
    
    (230,794
    )
    
    
    (89,891
    )Pro Forma
    
    $
    (180,171
    )
    
    $
    (42,162
    )
    
    $
    (230,794
    )
    
    $
    (89,891
    )
 Pro forma information regarding net loss is required by Statement of Financial Accounting
Standards No. 123, and has been determined as if the Company had accounted for its stock options
under 7




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Hypertension Diagnostics, Inc.
Notes to Financial Statements
December 31, 2004 4. Stock-Based Compensation (continued) the fair value method of that Statement. The fair value of these options granted during the
three months and six months ended December 31, 2004 and December 31, 2003 was estimated using the
Black-Scholes option pricing model with the following weighted average assumptions: ExpectedRisk-Free
    
    
    Dividend
    
    
    Expected
    
    
    ExpectedInterest Rate
    
    
    Yield
    
    
    Life
    
    
    VolatilityThree Months EndedDecember 31, 2004
    
    
    3.60%-3.75
    %
    
    None
    
    5 years
    
    
    1.060-1.120December 31, 2003
    
    
    3.20
    %
    
    None
    
    5 years
    
    
    1.108Six Months EndedDecember 31, 2004
    
    
    3.60%-3.75
    %
    
    None
    
    5 years
    
    
    1.060-1.120December 31, 2003
    
    
    2.46%-3.20
    %
    
    None
    
    5 years
    
    
    .915-1.108
  The Company has entered into
an employment agreement with its CEO whereby the Company will grant
100,000 shares of its common stock to the CEO for every month of
employment for the period September 2003 through December 2004. At
December 31, 2004, the Company was obligated to issue the CEO 1.6
million shares under this agreement. Accordingly, the Company had
accrued a compensation liability of $448,000 which is equal to the
fair market value of the shares at that date. 
 Item 2. Managements Discussion and Analysis of Financial Condition and Results of
Operations Forward-Looking Statements This report contains forward-looking statements within the meaning of Section 21E of the
Securities Exchange Act of 1934. In addition, we may make forward-looking statements orally in the
future by or on behalf of the Company. When used, the words believe, expect, will, can,
estimate, anticipate and similar expressions are intended to identify forward-looking
statements. We caution readers not to place undue reliance on any forward-looking statements and
to recognize that the statements are not predictions of actual future results. Actual results
could differ materially from those anticipated in the forward-looking statements due to the risks
and uncertainties set forth in our 2004 Annual Report on Form 10-KSB under the caption Risk
Factors, as well as others not now anticipated. These risks and uncertainties include, without
limitation: our ability to develop a business model to timely generate acceptable levels of
revenues; the control exercised by the Schwartz Group; negative effect on our stock price resulting
from available securities for sale; our need for additional capital; our dependence on our
CVProfilor® DO-2020; the availability of third-party reimbursements for the use of our products;
increased market acceptance of our products; our marketing strategy may result in lower revenues;
the illiquidity of our securities on the OTC Bulletin Board and the related restrictions on our
securities relating to penny stocks; potential violations by us of federal and state securities
laws; the availability of integral components for our products; our ability to develop distribution
channels; increased competition; changes in government regulation; health care reforms; exposure to
potential product liability; our ability to protect our proprietary technology; regulatory
restrictions pertaining to data privacy issues in utilizing the CDMF; and the ability to
manufacture our products on a commercial scale and in compliance with regulatory requirements. We
undertake no responsibility to update any forward-looking statement. These forward-looking
statements are only made as of the date of this report. In addition to the risks we have
articulated above, changes in market conditions, changes in our business
and other factors may result in different or increased risks to our business in the future that are
not foreseeable at this time. 8




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Overview We are engaged in the design, development, manufacture and marketing of proprietary medical
devices that we believe non-invasively detect subtle changes in the elasticity of both large and
small arteries. We are currently marketing three products: the HDI/PulseWave CR-2000 Research
CardioVascular Profiling System, the CVProfilor® DO-2020 CardioVascular Profiling System
and the CVProfilor® MD-3000 CardioVascular Profiling System.  
    The CR-2000 Research System is being marketed worldwide for research
purposes only to clinical research investigators for the purpose of collecting
data in cardiovascular studies. Further, because the CR-2000 Research System
bears the CE Mark (CE0123 ) and meets the European Union Medical
Device Directive, physicians may use the CR-2000 Research System with patients
in a clinical setting in the European Union.
    In the U.S., the CVProfilor® DO-2020 System is being marketed to
primary care physicians and other health care professionals on a
per-patient-tested rental basis. It can also be purchased or leased.
Utilizing our Central Data Management Facility (the CDMF), we are able to
track utilization of the CVProfilor® DO-2020 System in each
physicians office and medical clinic and to invoice our physician customers on
the number of CardioVascular Profile Reports (CVProfile Reports) which they
generate each month. We anticipate that marketing the CVProfilor®
DO-2020 System under a per-patient-tested rental program (as opposed to a
capital sale approach) will allow us to accelerate the rate of product
acceptance in the medical marketplace and should allow physician usage fees to
eventually generate the majority of our revenue.
    The CVProfilor® MD-3000 System is being marketed through
exclusive distributors to physicians outside the United States. These
distributors purchase the product from us and then re-sell it to end-user
physicians in their territory. The CVProfilor® MD-3000 System has a
CE Mark that allows it to be marketed within European Union countries. The
CVProfilor® MD-3000 may require certain regulatory approval for it
to be marketed in other countries throughout the world. Critical Accounting Policies The financial statements are prepared in accordance with accounting principles generally
accepted in the U.S., which requires us to make estimates and assumptions in certain circumstances
that affect amounts reported in the accompanying financial statements and related footnotes. In
preparing these financial statements, management has made its best estimates and judgments of
certain amounts included in the financial statements, giving due consideration to materiality. We
do not believe there is a great likelihood that materially different amounts would be reported
related to the accounting policies described below. However, application of these accounting
policies involves the exercise of judgment and use of assumptions as to future uncertainties and,
as a result, actual results could differ from these estimates. Revenue Recognition. We recognize revenue in accordance with U.S. Securities and Exchange
Commissions Staff Accounting Bulletin (SAB) No. 101, Revenue Recognition. Pursuant to SAB No.
101, the Company recognizes revenue from the sale of equipment at the time of shipment to a
customer or distributor. Shipment occurs only after receipt of a valid purchase order. Payments
from customers 9




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and distributors are either made in advance of shipment or within a short time frame
after shipment. In the case of sales to distributors, such payment is not contingent upon resale
of the product to end users. Shipping and handling costs are included as cost of equipment sales.
In addition, title passes to the customer or distributor upon shipment. At the time of shipment,
all of the criteria for recognition set forth in SAB No. 101 have been met: persuasive evidence of
an arrangement exists, delivery has occurred or services have been rendered, the selling price is
fixed or determinable and collectability is reasonably assured. Equipment rental revenue, whether from the minimum monthly fee or from the per-patient-tested
fee, is recognized when collection is probable, which is currently upon cash receipt. At the time
of receipt of rental revenues, all of the criteria for recognition set forth in SAB No. 101 have
been met: persuasive evidence of an arrangement exists, delivery has occurred or services have
been rendered, the selling price is fixed or determinable and collectability is reasonably assured. In the case of either a sale or rental of our product, there are no post-shipment obligations
which affect the timing of revenue recognition. Neither customers nor distributors have a right to
return or exchange our product. Warranty repairs on all of the above are handled on a repair or
replacement basis, at our discretion. We did not incur any significant warranty repair costs for
the three months and the six months ended December 31, 2004 and 2003, respectively. Further, there
is no installation of our product; it is ready to use when plugged into an electrical outlet and
no specialized knowledge is required to ready it for use. For these reasons, we have concluded
that our revenue recognition policy is appropriate and in accordance with SAB No. 101. Allowance for Doubtful Accounts. Accounts receivable are reviewed to determine the need for
an allowance for amounts that may become uncollectible in the future. The necessity of an
allowance is based on managements review of accounts receivable balances and historic write-offs. Inventories and Related Allowance for Excess and Obsolete Inventory. Inventories are valued
at the lower of cost or market and reviewed to determine the need for an allowance for excess and
obsolete inventories. The need for an allowance is based on managements review of inventories on
hand compared to estimated future usage and sales. Research and Development. We did not incur any research and development costs for the three
months and the six months ended December 31, 2004 and 2003, respectively. Results of Operations As of December 31, 2004, we had an accumulated deficit of $(24,124,596), attributable
primarily to selling, general and administrative expenses. Until we are able to generate
significant revenue from our activities, we expect to continue to incur operating losses. As of
December 31, 2004, we had cash and cash equivalents of $1,040,960. We anticipate that these funds,
in conjunction with revenue anticipated to be earned from placements of our CVProfilor® DO-2020
Systems, anticipated sales of our CR-2000 Research Systems, anticipated operating cost reductions,
as well as anticipated proceeds from the exercise by holders of stock purchase warrants to purchase
our common stock and Series A Preferred Stock, will allow us to pursue our business development
strategy for at least the next twelve months following December 31, 2004. Three Months Ended December 31, 2004 Compared to Three Months Ended December 31, 2003 The following is a summary of our Revenue and Cost of Sales for the three months ended
December 31, 2004 and 2003, respectively: 10




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Three Months Ended December 31, 2004Equipment
    
    
    Equipment
    
    
    Service/Total
    
    
    Sales
    
    
    Rental
    
    
    ContractRevenue
    
    $
    292,015
    
    
    $
    96,870
    
    
    $
    127,209
    
    
    $
    67,936Cost of Sales
    
    
    52,086
    
    
    
    18,982
    
    
    
    26,784
    
    
    
    6,320Gross Profit
    
    $
    239,929
    
    
    $
    77,888
    
    
    $
    100,425
    
    
    $
    61,616
 Three Months Ended December 31, 2003Equipment
    
    
    Equipment
    
    
    Service/Total
    
    
    Sales
    
    
    Rental
    
    
    ContractRevenue
    
    $
    233,721
    
    
    $
    63,500
    
    
    $
    101,924
    
    
    $
    68,297Cost of Sales
    
    
    38,503
    
    
    
    5,750
    
    
    
    25,939
    
    
    
    6,814Gross Profit
    
    $
    195,218
    
    
    $
    57,750
    
    
    $
    75,985
    
    
    $
    61,483
 Total Equipment Sales Revenue for the three months year ended December 31, 2004 was
$96,870, compared to $63,500 for the three months ended December 31, 2003. Revenue relating to
international equipment sales was $22,370 for the three months ended December 31, 2004 and $-0- for
the three months ended December 31, 2003. Although we continue to pursue sales of the CR-2000
Research Systems, the majority of our time and attention is now, and it is expected to continue to
be, focused on expanding CVProfilor® DO-2020 System placements (per-patienttested
rental program) and attempting to increase its utilization in U.S. physicians medical offices and
clinics and seeking to increase third party reimbursements for such utilization. The reason for
the shift in our strategic focus to the CVProfilor® DO-2020 System was: a) FDA 510(k)
clearance to market it in the United States on November 1, 2000; and b) the potential practicing
physician market is significantly larger than the research market for the CR-2000 Research System. Placements of the CVProfilor® DO-2020 System, and satisfactory utilization by
physicians of those systems placed, has taken more time and resources than originally anticipated
due to delays in obtaining consistent and satisfactory levels of third party reimbursements to
physicians utilizing the CVProfilor® DO-2020 System and delays in integrating the
CVProfilor® DO-2020 System into the clinic operations in which they are placed. We have
commenced focusing our resources on specific regional markets that we believe are more likely to
generate higher levels of acceptance of the CVProfilor® DO-2020 System by physicians and
a greater amount of reimbursements by third party payors to such physicians. We believe this
approach is the most effective method of both increasing placements of the CVProfilor®
DO-2020 System and increasing the physician utilizations of such systems placed. Our current
marketing strategy focuses on marketing the CVProfilor® DO-2020 System to physicians who
treat patients with diabetes and hypertension. We believe these physicians have the greatest
interest in, and use for, our product. Therefore, the most critical factor in our ability to
increase rental revenue rests in our ability to expand our marketing and distribution network to
increase placements and utilization of our CVProfilor® DO-2020 System. We believe there
are three ways we could expand our marketing and distribution network: 1) the development of an
internal sales force; 2) a strategic partnership with a firm that possesses a distribution network
calling on these same physicians; or 3) a combination of the internal sales force and external
distribution network methods. We believe this dual method of expansion offers us the greatest
opportunity for success. We anticipate adding additional sales personnel at the same time that we
pursue discussions with firms that have an interest in representing our CVProfilor®
DO-2020 System nationwide. In the short term, we have also focused on international sales of our
CR-2000 Research System and CVProfilor® MD-3000 System as a means of generating cash to
support operational expenses. 11




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##### Table of Contents



Further, the existence, timing and extent of reimbursement of physicians for the use of our
CVProfilor® DO-2020 System affects the availability of our working capital.
Reimbursement will always vary considerably by the patients medical necessity, by physician, by
provider, by geography and by provider coverage plans, making the process of obtaining
reimbursement for the CVProfilor® DO-2020 System by current physician customers an
important component of our products success. To the extent that reimbursement is unavailable or
inadequate, physicians will be less likely to use the CVProfilor® DO-2020 System. In addition, because our CVProfilor® DO-2020 System is being marketed on a
per-patient-tested basis, we have a delay in the cost recovery of our working assets. Although our
per-patient-tested marketing approach reduces the risk and thereby increases the potential rate of
acceptance for physician customers willing to use the CVProfilor® DO-2020 System as
compared to a capital acquisition approach, it also delays our cash flow recovery of product costs.
Physician payments for use of the CVProfilor® DO-2020 System follow actual utilization
by some 60-90 days; utilization in one month is invoiced in the following month and payment is
generally received within 30 to 60 days of invoicing. This delay in payment, therefore, requires
six to twelve months to fully recover product costs. These cash flow delays mean that we will
generate little, if any, cash during the initial placement of the product and will require cash
from other sources to support our operations during this period. For the three months ended December 31, 2004, we recognized Revenue for the
CVProfilor® DO-2020 System per-patient-tested rental program of $127,209, compared to
$101,924 for the three months ended December 31, 2003. The per test fee is recognized as Revenue
when we determine that collectibility is probable, which currently is upon cash receipt. For the three months ended December 31, 2004, Service/Contract Income was $67,936, compared to
$68,297 for the three months ended December 31, 2003. $59,500 of the $67,936 amount and $50,880
of the $68,297 amount represent contract income pertaining to our agreement with a pharmaceutical
company to attend certain hypertension and cardiology meetings in both the U.S. and
internationally. Under this agreement, we provide our CardioVascular Profiling Systems and certain
employees who test visitors to the pharmaceutical companys exhibition booth. Total selling, general and administrative expenses for the three months ended December 31,
2004 were $685,248, compared to $749,375 for the three months ended December 31, 2003. The
following is a summary of the major categories included in selling, general and administrative
expenses: 12




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##### Table of Contents



Three Months EndedDecember 312004
    
    
    2003Wages, related expenses and benefits
    
    $
    299,292
    
    
    $
    308,126Patents and related expenses
    
    
    1,037
    
    
    
    6,970Outside consultants
    
    
    103,444
    
    
    
    12,793Rent (building/equipment) and utilities
    
    
    24,389
    
    
    
    24,466Insurance-general and directors/officers liability
    
    
    19,236
    
    
    
    18,089Selling, marketing and promotion, including applicable wages
    
    
    167,067
    
    
    
    234,132Legal and audit/accounting fees
    
    
    29,927
    
    
    
    28,110Royalties
    
    
    6,722
    
    
    
    4,963Depreciation and amortization
    
    
    14,928
    
    
    
    22,626Other-general and administrative
    
    
    19,206
    
    
    
    89,100Total selling, general and administrative expenses
    
    $
    685,248
    
    
    $
    749,375
 Wages, related expenses and benefits decreased from $308,126 to $299,292 for the three months
ended December 31, 2003 and December 31, 2004, respectively. Our number of employees decreased
from twelve as of December 31, 2003 to ten as of December 31, 2004. Outside consultants expense increased from $12,793 for the three months ended December 31,
2003 to $103,444 for the three months ended December 31, 2004. This increase is principally due to
our need for specific consulting services relating to our business as well as the situation of our
employee workforce reduction. We plan to increase our employee workforce by 2 to 4 persons during
the fiscal year ended June 30, 2005. Selling, marketing and promotion expense decreased from $234,132 for the three months ended
December 31, 2003 to $167,067 for the three months ended December 31, 2004. This category includes
wages and commissions paid by us relating to our sales and marketing efforts, as well as travel and
convention expenses. Our planned conversion from capital sales of our HDI/PulseWave CR-2000
Research System to our per-patient-tested rental revenue model associated with our FDA cleared
CVProfilor® DO-2020 System had no material effect on our total expenses in this
category, as our sales force has merely redirected its efforts to placements of our rental units in
physicians offices. The decrease in our number of employees accounted for most of this decrease
in expenses. Interest income was $5,551 and $9,473 for the three months ended December 31, 2004 and 2003,
respectively. 13




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##### Table of Contents



Net loss was $(439,768) for the three months ended December 31, 2004, compared to a net loss
of $(544,684) for the three months ended December 31, 2003. For the three months ended December
31, 2004, basic and diluted net loss per share was $(.02), based on weighted average shares
outstanding of 27,092,385. For the three months ended December 31, 2003, basic and diluted net
loss per share was $(.02), based on weighted average shares outstanding of 22,940,145. Six Months Ended December 31, 2004 Compared to Six Months Ended December 31, 2003 The following is a summary of our Revenue and Cost of Sales for the six months ended December
31, 2004 and 2003: Six Months Ended December 31, 2004Equipment
    
    
    Equipment
    
    
    Service/Total
    
    
    Sales
    
    
    Rental
    
    
    ContractRevenue
    
    $
    545,436
    
    
    $
    132,720
    
    
    $
    245,357
    
    
    $
    167,359Cost of Sales
    
    
    99,288
    
    
    
    24,163
    
    
    
    53,071
    
    
    
    22,054Gross Profit
    
    $
    446,148
    
    
    $
    108,557
    
    
    $
    192,286
    
    
    $
    145,305
 Six Months Ended December 31, 2003Equipment
    
    
    Equipment
    
    
    Service/Total
    
    
    Sales
    
    
    Rental
    
    
    ContractRevenue
    
    $
    482,619
    
    
    $
    137,245
    
    
    $
    191,820
    
    
    $
    153,554Cost of Sales
    
    
    84,996
    
    
    
    18,776
    
    
    
    47,705
    
    
    
    18,515Gross Profit
    
    $
    397,623
    
    
    $
    118,469
    
    
    $
    144,115
    
    
    $
    135,039
 Total Equipment Sales Revenue for the six months ended December 31, 2004 was $132,720, compared to
$137,245 for the six months ended December 31, 2003. Revenue relating to international equipment
sales was $58,220 for the six months ended December 31, 2004 and $51,495 for the six months ended
December 31, 2003. Although we continue to pursue sales of the CR-2000 Research Systems, the
majority of our time and attention is now, and it is expected to continue to be, focused on
expanding CVProfilor® DO-2020 System placements (per-patient-tested rental program) and attempting
to increase its utilization in U.S. physicians medical offices and clinics and seeking to increase
third party reimbursements for such utilization. The reason for the shift in our strategic focus
to the CVProfilor® DO-2020 System was: a) FDA 510(k) clearance to market it in the United States on
November 1, 2000; and b) the potential practicing physician market is significantly larger than the
research market for the CR-2000 Research System. For the six months ended December 31, 2004, we recognized Revenue for the CVProfilor® DO-2020
per-patient-tested rental program of $245,357, compared to $191,820 for the six months ended
December 31, 2003. The per test fee is recognized as Revenue when we determine that collectibility
is probable, which currently is upon cash receipt. For the six months ended December 31, 2004, Service/Contract Income was $167,359 compared to
$153,554 for the six months ended December 31, 2003. $154,500 of the $167,359 amount and $118,720
of the $153,554 amount represent contract income pertaining to our agreement with a pharmaceutical
company to attend certain hypertension and cardiology meetings in both the U.S. and
internationally. Under this agreement, we provide our CardioVascular Profiling Systems and certain
employees who test visitors to the pharmaceutical companys exhibition booth. 14




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##### Table of Contents



Total selling, general and administrative expenses for the six months ended December 31, 2004
were $1,332,890, compared to $1,364,849 for the six months ended December 31, 2003. The following
is a summary of the major categories included in selling, general and administrative expenses: Six Months EndedDecember 312004
    
    
    2003Wages, related expenses and benefits
    
    $
    420,525
    
    
    $
    444,872Patents and related expenses
    
    
    1,037
    
    
    
    15,261Outside consultants
    
    
    227,329
    
    
    
    34,539Rent (building/equipment) and utilities
    
    
    48,040
    
    
    
    49,020Insurance-general and directors/officers liability
    
    
    39,439
    
    
    
    34,743Selling, marketing and promotion, including applicable wages
    
    
    337,078
    
    
    
    427,618Legal and audit/accounting fees
    
    
    154,098
    
    
    
    134,356Royalties
    
    
    11,342
    
    
    
    9,872Depreciation and amortization
    
    
    30,967
    
    
    
    54,164Other-general and administrative
    
    
    63,035
    
    
    
    160,404Total selling, general and administrative expenses
    
    $
    1,332,890
    
    
    $
    1,364,849
 Outside consultants expense increased from $34,539 for the six months ended December 31, 2003
to $227,329 for the six months ended December 31, 2004. This increase is principally due to our
need for specific consulting services relating to our business as well as the situation of our
employee workforce reduction. We plan to increase our employee workforce by 2 to 4 persons during
the fiscal year ended June 30, 2005. Selling, marketing and promotion expense decreased from $427,618 for the six months ended
December 31, 2003 to $337,078 for the six months ended December 31, 2004. This category includes
wages and commissions paid by us relating to our sales and marketing efforts as well as travel and
convention expenses. The decrease in our number of employees accounted for most of this decrease
in expenses. Interest income was $12,495 and $15,542 for the six months ended December 31, 2004 and 2003,
respectively. Interest expense was $-0- and $50,185 for the six months ended December 31, 2004 and 2003,
respectively. A further breakdown of the components of interest expense is as follows: 15




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##### Table of Contents



Six Months EndedDecember 312004
    
    
    2003Convertible Notes Payable:8% interest on outstanding principal balances
    
    $
    
    
    
    $
    1,205Fair value basis allocation to the five-year warrants
to purchase 250,000 shares of Common Stock
($315,789), being amortized on a straight-line basis
over the three (3) year term of the debt agreement
and as the debt is converted
    
    
    
    
    
    
    48,531Other-miscellaneous
    
    
    
    
    
    
    449Total Interest Expense
    
    $
    
    
    
    $
    50,185
 Net loss was $(874,247) and $(1,001,869) for the six months ended December 31, 2004 and 2003,
respectively. For the six months ended December 31, 2004, basic and diluted net loss per share was
$(.03), based on weighted average shares outstanding of 27,047,157. For the six months ended
December 31, 2003, basic and diluted net loss per share was $(.05), based on weighted average
shares outstanding of 18,908,475. Liquidity and Capital Resources Cash and cash equivalents had a net decrease of $(337,333) and a net increase of $988,046 for
the six months ended December 31, 2004 and December 31, 2003, respectively. The significant
elements of these changes were as follows: Six Months Ended December 31Net cash used in operating activities:
    
    2004
    
    
    2003 net loss, as adjusted for non-cash items
    
    $
    (558,930
    )
    
    $
    (702,512
    ) decrease in accounts receivable:
    
    
    (A)144,117
    
    
    
    30,109 (A) $100,710 accounts receivable balances
re: four (4) CR-2000 unit sales in June, 2004 were
received in the quarter ended September 30, 2004. (increase) decrease in inventory:
    
    
    (B)(130,729
    )
    
    
    39,255 (B) In September 2004, we purchased
certain inventory parts from a single
vendor in the amount of $161,192.
 16




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##### Table of Contents



Six Months Ended December 31Net cash used in operating activities:
    
    2004
    
    
    2003 increase (decrease) in deferred revenue:
    
    
    7,813
    
    
    
    (C)(153,553
    ) (C) Approximately 80% of this decrease pertains to
deferred revenue recognized relating to our services
contract agreement with a pharmaceutical company.Net cash provided by financing activities: issuance of Preferred and Common Stock:
    
    
    191,794
    
    
    
    (D)  1,873,753 (D) On August 28, 2003, we completed the private
placement offering (the Unit Placement) of 585,980
units (the Units) to a group of investors led by Mark
N. Schwartz, who is our Chief Executive Officer. Gross
proceeds from this offering were approximately
$2,300,000 and net proceeds were $1,873,483. The
585,980 Units are comprised of 585,980 shares of Series
A Convertible Preferred Stock, 9,318,866 shares of
common stock, and a series of six (6) purchase
warrants.
 We have incurred operating losses and have not generated positive cash flow from operations. As of
December 31, 2004, we had an accumulated deficit of $(24,124,596). As of December 31, 2004, we had cash and cash equivalents of $1,040,960 and anticipate that
these funds, in conjunction with revenue anticipated to be earned from placements of our
CVProfilor® DO-2020 Systems, anticipated sales of our CR-2000 Research Systems,
anticipated operating cost reductions, as well as anticipated proceeds from the exercise by holders
of stock purchase warrants to purchase our common stock and Series A Preferred Stock, will allow us
to pursue our business development strategy for at least the next twelve months following December
31, 2004. Our current marketing strategy focuses on marketing the CVProfilor® DO-2020 System to
physicians who treat patients with diabetes and hypertension. We believe these physicians have the
greatest interest in, and use for, our product. Therefore, the most critical factor in our ability
to increase rental revenue rests in our ability to expand our marketing and distribution network to
increase placements and utilization of our CVProfilor® DO-2020 System. We believe there
are three ways we could expand our marketing and distribution network: 1) the development of an
internal sales force; 2) a strategic partnership with a firm that possesses a distribution network
calling on these same physicians; or 3) a combination of the internal sales force and external
distribution network methods. We believe this dual method of expansion offers us the greatest
opportunity for success. We are pursuing discussions with firms that have an interest in
representing our CVProfilor® DO-2020 System nationwide. In the short term, we have also
focused on international sales of our CR-2000 Research System and CVProfilor® MD-3000
System as a means of generating cash to support operational expenses. Until we increase our sales
and marketing staff and other programs, we do not expect to generate significant levels of revenue. 17




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##### Table of Contents



Within the next twelve months, we also do not anticipate devoting any funds to research and
development activities. Further, the existence, timing and extent of reimbursement of physicians for the use of our
CVProfilor® DO-2020 affects the availability of our working capital. Reimbursement will
always vary considerably by the patients medical necessity, by physician, by provider, by
geography and by provider coverage plans, making the process of obtaining reimbursement for the
CVProfilor® DO-2020 by current physician customers an important component of our
products success. To the extent that reimbursement is unavailable or inadequate, physicians will
be less likely to use the CVProfilor® DO-2020. In addition, because our CVProfilor® DO-2020 is being marketed on a
per-patient-tested basis, we have a delay in the cost recovery of our working assets. Although our
per-patient-tested marketing approach reduces the risk and thereby increases the potential rate of
acceptance for physician customers willing to use the CVProfilor® DO-2020 as compared to
a capital acquisition approach, it also delays our cash flow recovery of product costs. Physician
payments for use of the CVProfilor® DO-2020 follow actual utilization by some 60-90
days; utilization in one month is invoiced in the following month and payment is generally received
within 30 to 60 days of invoicing. This delay in payment, therefore, requires six to twelve months
to fully recover product costs. These cash flow delays mean that we will generate little, if any,
cash during the initial placement of the product and will require cash from other sources to
support our operations during this period. No assurance can be given that additional working capital will be obtained in a timely manner
or on terms and conditions acceptable to us or our shareholders. Our financing needs are based upon
management estimates as to future revenue and expense. Our business plan and our financing needs
are also subject to change based upon, among other factors, market conditions, and our ability to
materially increase the revenue generated by our CVProfilor® DO-2020 System and other
cash flow from operations. Our efforts to raise additional funds may be hampered by the fact that
our securities are quoted on the OTC Bulletin Board, are illiquid and are subject to the rules
relating to penny stocks. We have historically obtained working capital from the issuance of our securities. In July
1998, we completed our initial public offering of 2,587,500 units, each unit consisting of one
share of our common stock and one Redeemable Class A Warrant (the Class A Warrant) which resulted
in total net proceeds to us of $9,188,414. Beginning on January 23, 2001 and ending on March 26,
2001, we offered our Redeemable Class B Warrants (the Class B Warrants) for no additional
consideration to those holders of our Class A Warrants who properly exercised a Class A Warrant in
the offering period. We raised $1,964,371 (net of offering expenses of $73,062) in connection with
this offering of the Class B Warrants. On March 27, 2002, we completed a private placement to five
investors consisting of three-year 8% Convertible Notes in the aggregate principal amount of
$2,000,000. Beginning on June 6, 2002 and ending on November 14, 2002, we offered Class B Warrants
for no additional consideration to those holders of the Class A Warrants who properly exercised a
Class A Warrant in the offering period. Total gross proceeds from this offering were $57,400. On
August 28, 2003, we completed the private placement offering (the August Placement) of 585,980
units to a group of investors led by Mark N. Schwartz, our Chief Executive Officer. Gross proceeds
from this offering were $2,289,001 and net proceeds were $1,873,383. On February 9, 2004, we
completed an additional private placement offering (the February Placement) of 118,113 units to a
group of investors. Gross proceeds from this offering were $461,370 and net proceeds were
$413,121. In June 2004, we issued 1,580,623 shares of common stock and 99,391 shares of Series A
Preferred Stock, to holders of warrants to purchase common stock and Series A Preferred Stock,
resulting in gross proceeds of $471,464. In July 2004, we issued 643,007 shares of common stock
and 40,433 shares of Series A Preferred Stock, to holders of warrants to purchase common stock and
Series A Preferred Stock, resulting in gross proceeds of $191,794. 18




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##### Table of Contents



Item 4. Controls and Procedures. (a) Evaluation of Disclosure Controls and Procedures. The Companys Chief Executive Officer, Mark N. Schwartz, and Chief Financial Officer, James S.
Murphy, have evaluated the Companys disclosure controls and procedures as of the end of the period
covered by this report. Based upon that review, they have concluded that these controls and
procedures are effective in ensuring that material information related to the Company is made known
to them by others within the Company. (b) Changes in Internal Controls over Financial Reporting. There have been no significant changes in internal control financial reporting that occurred
during the fiscal period covered by this report that have materially affected, or are reasonably
likely to materially affect, the registrants internal control over financial reporting. 19




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##### Table of Contents



PART II. OTHER INFORMATION 
 Item 1. Legal Proceedings On March 17, 2004, we received a letter from counsel of one of our employees alleging our illegal
and unethical reimbursement practices and also alleging violation of applicable whistleblower
statutes. On March 18, 2004, we received a letter from counsel of one of our former employees
alleging our failure to pay for accrued vacation time and also alleging violation of applicable
whistleblower statutes. On August 25, 2004, we entered into a binding memorandum of
understanding agreeing to settle such employees disputes. As settlement in full of these
employees claims, we agreed to make cash payments and issue shares of freely tradeable shares of
our common stock to these parties in an aggregate cash amount of $130,000 and shares in an
aggregate amount equal to a fair market value of $100,000. We intend to enter into long form
agreements setting forth the details of such agreement in the near future. The Company has
retained a reimbursement consultant to investigate the whistleblower claims, and such consultant
has indicated its belief that such claims lack merit. Except as set forth above, we are not aware of any material pending or threatened legal
proceedings, which involve us. 
 Item 6. Exhibits and Reports on Form 8-K (a) The following Exhibits are furnished pursuant to Item 601 of Regulation S-B: 31.1
    
    Certification of Chief Executive Officer pursuant to
13a-14 and 15d-14 of the Exchange Act31.2
    
    Certification of Chief Financial Officer pursuant to
13a-14 and 15d-14 of the Exchange Act32
    
    Certificate pursuant to 18 U.S.C. § 1350
 (b) Reports on Form 8-K.  The Company filed the following Current Report on Form 8-K during the quarter covered by this
Form 10-QSB: A Current Report dated November 12, 2004 in which we disclosed the extension of the exercise
date of certain warrants to purchase shares of our common stock and Series A Preferred Stock, which
were granted in connection with our private offering which closed on February 9, 2004. 20




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SIGNATURES In accordance with the requirements of the Exchange Act, the Registrant has caused this Form
10-QSB to be signed on its behalf by the undersigned, thereunto duly authorized. HYPERTENSION DIAGNOSTICS, INC.By
    /s/ James S. MurphyJames S. MurphySenior Vice President, Finance and
Administration and Chief Financial Officer
(principal financial officer) Date: February 14, 2005 21