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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, 2005
 Commission File Number: 0-24635
 HYPERTENSION DIAGNOSTICS, INC.
  MINNESOTA
(State of incorporation)
    
    41-1618036
(I.R.S. Employer Identification No.)
 
  þ o
  o þ
   o þ
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Page No.PART I. FINANCIAL INFORMATION:Item 1. Financial StatementsBalance Sheets  December 31, 2005 and June 30, 2005
    
    
    3Statements of Operations  Three Months and Six Months Ended December 31, 2005 and 2004, respectively
    
    
    4Statements of Cash Flows  Six Months Ended December 31, 2005 and 2004, respectively
    
    
    5Notes to Financial Statements
    
    
    6Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    11Item 3. Controls and Procedures
    
    
    21PART II. OTHER INFORMATION:Item 1. Legal Proceedings
    
    
    22Item 2. Changes in Securities
    
    
    22Item 6. Exhibits
    
    
    22SIGNATURES
    
    
    23CERTIFICATIONS
    
    
    24Certification of Chief Executive OfficerCertification of Chief Financial OfficerCertification Pursuant to 18 U.S.C. Section 1350
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##### Table of Contents



Item 1. Financial Statements
  
  December 31,
    
    
    June 30,2005
    
    
    2005Assets
    
    (Unaudited)
    
    (Audited)Current Assets:Cash and cash equivalents
    
    $
    1,211,717
    
    
    $
    1,525,865Accounts receivable
    
    
    54,710
    
    
    
    92,592Inventory
    
    
    301,367
    
    
    
    322,278Prepaids and other current assets
    
    
    56,148
    
    
    
    22,012Total Current Assets
    
    
    1,623,942
    
    
    
    1,962,747Property and Equipment:Leasehold improvements
    
    
    17,202
    
    
    
    17,202Furniture and equipment
    
    
    1,226,224
    
    
    
    1,272,763Less accumulated depreciation and amortization
    
    
    (1,102,303
    )
    
    
    (1,065,376
    )141,123
    
    
    
    224,589Other Assets
    
    
    6,530
    
    
    
    6,530Total Assets
    
    $
    1,771,595
    
    
    $
    2,193,866Liabilities and Shareholders EquityCurrent Liabilities:Accounts payable
    
    $
    92,430
    
    
    $
    85,958Accrued payroll and payroll taxes
    
    
    521,457
    
    
    
    459,431Deferred revenue
    
    
    4,944
    
    
    
    5,255Other accrued expenses
    
    
    42,771
    
    
    
    24,027Total Current Liabilities
    
    
    661,602
    
    
    
    574,671Deferred Revenue, less current portion
    
    
    11,956
    
    
    
    15,658Shareholders Equity:Series A Convertible Preferred Stock, $.01 par value:Authorized shares5,000,000Issued and outstanding shares845,395 and 915,411
at December 31, 2005 and June 30, 2005, respectively
    
    
    8,454
    
    
    
    9,154Common Stock, $.01 par value:Authorized shares150,000,000Issued and outstanding shares34,297,561 and 32,743,083
at December 31, 2005 and June 30, 2005, respectively
    
    
    342,976
    
    
    
    327,431Additional paid-in capital
    
    
    26,073,328
    
    
    
    25,972,529Accumulated deficit
    
    
    (25,326,721
    )
    
    
    (24,705,577
    )Total Shareholders Equity
    
    
    1,098,037
    
    
    
    1,603,537Total Liabilities and Shareholders Equity
    
    $
    1,771,595
    
    
    $
    2,193,866
 See accompanying notes.
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Three Months Ended
    
    
    Six Months EndedDecember 31
    
    
    December 312005
    
    
    2004
    
    
    2005
    
    
    2004Revenue:Equipment sales
    
    $
    433,736
    
    
    $
    96,870
    
    
    $
    685,658
    
    
    $
    132,720Equipment rental
    
    
    105,614
    
    
    
    127,209
    
    
    
    227,144
    
    
    
    245,357Service/contract income
    
    
    1,756
    
    
    
    67,936
    
    
    
    9,220
    
    
    
    167,359541,106
    
    
    
    292,015
    
    
    
    922,022
    
    
    
    545,436Cost of Sales
    
    
    29,993
    
    
    
    52,086
    
    
    
    62,493
    
    
    
    99,288Gross Profit
    
    
    511,113
    
    
    
    239,929
    
    
    
    859,529
    
    
    
    446,148Expenses:Selling, general and administrative
    
    
    804,239
    
    
    
    685,248
    
    
    
    1,501,348
    
    
    
    1,332,890Total Expenses
    
    
    804,239
    
    
    
    685,248
    
    
    
    1,501,348
    
    
    
    1,332,890Operating Loss
    
    
    (293,126
    )
    
    
    (445,319
    )
    
    
    (641,819
    )
    
    
    (886,742
    )Other Income (Expense):Interest income
    
    
    9,199
    
    
    
    5,551
    
    
    
    20,675
    
    
    
    12,495Net Loss
    
    $
    (283,927
    )
    
    $
    (439,768
    )
    
    $
    (621,144
    )
    
    $
    (874,247
    )Basic and Diluted Net Loss per Share
    
    $
    (.01
    )
    
    $
    (.02
    )
    
    $
    (.02
    )
    
    $
    (.03
    )Weighted Average Shares Outstanding
    
    
    33,264,362
    
    
    
    27,092,385
    
    
    
    33,097,633
    
    
    
    27,047,157
 See accompanying notes.
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Six Months EndedDecember 312005
    
    
    2004Operating Activities:Net loss
    
    $
    (621,144
    )
    
    $
    (874,247
    )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
    
    
    
    
    
    
    21,278Depreciation
    
    
    69,695
    
    
    
    84,039Net book value of sale of property and equipment
    
    
    13,771
    
    
    
    Accelerated vesting  stock options
    
    
    24,025
    
    
    
    Change in operating assets and liabilities:Accounts receivable
    
    
    37,882
    
    
    
    144,117Interest receivable
    
    
    
    
    
    
    8,920Inventory
    
    
    20,911
    
    
    
    (130,729
    )Prepaids and other current assets
    
    
    (34,136
    )
    
    
    (14,757
    )Accounts payable
    
    
    6,472
    
    
    
    29,368Accrued payroll and payroll taxes
    
    
    153,645
    
    
    
    223,058Deferred revenue
    
    
    (4,013
    )
    
    
    7,813Other accrued expenses
    
    
    18,744
    
    
    
    5,705Net cash used in operating activities
    
    
    (314,148
    )
    
    
    (495,435
    )Investing Activities:Purchase of property and equipment
    
    
    
    
    
    
    (33,692
    )Net cash used in investing activities
    
    
    
    
    
    
    (33,692
    )Financing Activities:Issuance of Preferred Stock and Common Stock
    
    
    
    
    
    
    191,794Net cash provided by financing activities
    
    
    
    
    
    
    191,794Net (decrease) in cash and cash equivalents
    
    
    (314,148
    )
    
    
    (337,333
    )Cash and cash equivalents at beginning of period
    
    
    1,525,865
    
    
    
    1,378,293Cash and cash equivalents at end of period
    
    $
    1,211,717
    
    
    $
    1,040,960Supplemental Schedule of Noncash lnvesting and
Financing Activities:Common stock issued in satisfaction of accrued
payroll liability
    
    $
    91,618
    
    
    $
    
 See accompanying notes.
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6




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Accounting for Stock-Based Compensation.
    7




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Three Months Ended December 31
    
    
    Six Months Ended December 312005
    
    
    2004
    
    
    2005
    
    
    2004Net Loss:As Reported
    
    $
    (283,927
    )
    
    $
    (439,768
    )
    
    $
    (621,144
    )
    
    $
    (874,247
    )Fair value compensation
expense
    
    
    (231,748
    )
    
    
    (180,171
    )
    
    
    (285,245
    )
    
    
    (230,794
    )Pro Forma
    
    $
    (515,675
    )
    
    $
    (619,939
    )
    
    $
    (906,389
    )
    
    $
    (1,105,041
    )Basic and Diluted Net Loss per Share:As Reported
    
    $
    (0.01
    )
    
    $
    (0.02
    )
    
    $
    (0.02
    )
    
    $
    (0.03
    )Fair value compensation
expense
    
    
    (0.01
    )
    
    
    
    
    
    
    (0.01
    )
    
    
    (0.01
    )Pro Forma
    
    $
    (0.02
    )
    
    $
    (0.02
    )
    
    $
    (0.03
    )
    
    $
    (0.04
    )Stock Based Compensation:As Reported
    
    $
    24,025
    
    
    $
    
    
    
    $
    24,025
    
    
    $
    Fair value compensation
expense
    
    
    (255,773
    )
    
    
    (180,171
    )
    
    
    (309,270
    )
    
    
    (230,794
    )Pro Forma
    
    $
    (231,748
    )
    
    $
    (180,171
    )
    
    $
    (285,245
    )
    
    $
    (230,794
    )
  ExpectedRisk-Free
    
    Dividend
    
    Expected
    
    ExpectedThree Months Ended
    
    Interest Rate
    
    Yield
    
    Life
    
    VolatilityDecember 31, 2005
    
    
    4.25
    %
    
    None
    
    5 years
    
    
    1.120December 31, 2004
    
    
    3.6%-3.75
    %
    
    None
    
    5 years
    
    
    1.060 -1.120
 Six Months EndedDecember 31, 2005
    
    
    4.25
    %
    
    None
    
    5 years
    
    
    1.120December 31, 2004
    
    
    3.6%-3.75
    %
    
    None
    
    5 years
    
    
    1.060 -1.120
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9




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Warrant A ($.17 exercise price)
    
    Warrant B ($.22 exercise price)Original
    
    Extended
    
    Revised
    
    Original
    
    Extended
    
    RevisedExpiration
    
    Expiration
    
    Extension
    
    Expiration
    
    Expiration
    
    ExtensionDate
    
    Date
    
    Date
    
    Date
    
    Date
    
    DateAugust Offering
    
    N/A
    
    N/A
    
    N/A
    
    2/28/05
    
    2/28/06
    
    3/31/06
   Warrant A ($.17 exercise price)
    
    Warrant B ($.22 exercise price)Original
    
    Extended
    
    Revised
    
    Original
    
    Extended
    
    RevisedExpiration
    
    Expiration
    
    Extension
    
    Expiration
    
    Expiration
    
    ExtensionDate
    
    Date
    
    Date
    
    Date
    
    Date
    
    DateFebruary Offering
    
    11/09/04
    
    1/20/06
    
    2/28/06
    
    8/09/05
    
    8/09/06
    
    N/A
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Item 2.Managements Discussion and Analysis of Financial Condition and Results of
Operations
 Forward-Looking Statements
  Overview
 PulseWave ® ®
 
    
    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 will allow us to
accelerate the
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rate of product acceptance in the medical marketplace. In the
fourth quarter of fiscal year
2005, we implemented a new rent-to-own program that allows rental customers to
credit a portion of their payments toward the purchase of their
CVProfilor® DO-2020 System. Acquisition options were enhanced with
the assistance of a third-party leasing company, which the physicians can use to
acquire their CVProfilor.
    
    The CVProfilor® MD-3000 System is being marketed through
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
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Results of Operations
 ®
 Three Months Ended December 31, 2005 Compared to Three Months Ended December 31, 2004
  Three Months Ended December 31, 2005Equipment
    
    
    Equipment
    
    
    Service/Total
    
    
    Sales
    
    
    Rental
    
    
    ContractRevenue
    
    $
    541,106
    
    
    $
    433,736
    
    
    $
    105,614
    
    
    $
    1,756Cost of Sales
    
    
    29,993
    
    
    
    6,590
    
    
    
    23,383
    
    
    
    20Gross Profit
    
    $
    511,113
    
    
    $
    427,146
    
    
    $
    82,231
    
    
    $
    1,736
 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
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® ®
 ® ® ® ®
 ® ® ®
 ® ® ®
 ®
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Three Months EndedDecember 31, 2005
    
    
    December 31, 2004Cost of Sales
    
    $
    47,221
    
    
    $
    26,576Inventory Reserve Adjustment
    
    
    (40,631
    )
    
    
    (7,594
    )Cost of Sales, as reported
    
    $
    6,590
    
    
    $
    18,982
  Three Months EndedDecember 312005
    
    
    2004Wages, related expenses and benefits
    
    $
    192,381
    
    
    $
    299,292Patents and related expenses
    
    
    
    
    
    
    1,037Outside consultants
    
    
    63,015
    
    
    
    103,444Rent (building/equipment) and utilities
    
    
    25,192
    
    
    
    24,389Insurance-general and directors/officers liability
    
    
    15,229
    
    
    
    19,236Selling, marketing and promotion, including applicable wages
    
    
    360,159
    
    
    
    167,067Legal and audit/accounting fees
    
    
    39,240
    
    
    
    29,927Royalties
    
    
    16,181
    
    
    
    6,722Depreciation and amortization
    
    
    9,953
    
    
    
    14,928Compensation expense, accelerated stock option vesting
    
    
    24,025
    
    
    
    Other-general and administrative
    
    
    58,864
    
    
    
    19,206Total selling, general and administrative expenses
    
    $
    804,239
    
    
    $
    685,248
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Six Months Ended December 31, 2005 Compared to Six Months Ended December 31, 2004
  Six Months Ended December 31, 2005Equipment
    
    
    Equipment
    
    
    Service/Total
    
    
    Sales
    
    
    Rental
    
    
    ContractRevenue
    
    $
    922,022
    
    
    $
    685,658
    
    
    $
    227,144
    
    
    $
    9,220Cost of Sales
    
    
    62,493
    
    
    
    14,152
    
    
    
    48,180
    
    
    
    161Gross Profit
    
    $
    859,529
    
    
    $
    671,506
    
    
    $
    178,964
    
    
    $
    9,059
 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
  16




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® ®
    Six Months EndedDecember 31, 2005
    
    
    December 31, 2004Cost of Sales
    
    $
    72,428
    
    
    $
    31,757Inventory Reserve Adjustment
    
    
    (58,276
    )
    
    
    (7,594
    )Cost of Sales, as reported
    
    $
    14,152
    
    
    $
    24,163
  17




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Six Months EndedDecember 312005
    
    
    2004Wages, related expenses and benefits
    
    $
    420,701
    
    
    $
    420,525Patents and related expenses
    
    
    1,048
    
    
    
    1,037Outside consultants
    
    
    151,876
    
    
    
    227,329Rent (building/equipment) and utilities
    
    
    50,238
    
    
    
    48,040Insurance-general and directors/officers liability
    
    
    32,415
    
    
    
    39,439Selling, marketing and promotion, including applicable
wages
    
    
    575,673
    
    
    
    337,078Legal and audit/accounting fees
    
    
    93,232
    
    
    
    154,098Royalties
    
    
    27,384
    
    
    
    11,342Depreciation and amortization
    
    
    21,515
    
    
    
    30,967Compensation expense, accelerated stock option vesting
    
    
    24,025
    
    
    
    Other-general and administrative
    
    
    103,241
    
    
    
    63,035Total selling, general and administrative
expenses
    
    $
    1,501,348
    
    
    $
    1,332,890
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Off-Balance Sheet Arrangements
  Liquidity and Capital Resources
  Six Months Ended December 312005
    
    2004Net cash used in operating activities: net loss, as adjusted for non-cash items
    
    $
    (513,653
    )
    
    $  (768,930) decrease in accounts receivable:
    
    
    37,882
    
    
    (A) 144,117 (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:
    
    
    20,911
    
    
    (B) (130,729) (B)
    
    In September 2004, we purchased
certain inventory parts from a
single vendor amounting to $161,192.Net cash provided by financing activities: issuance of Preferred and Common Stock:
    
    
    
    
    
    (C) 191,794 (C)
    
    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. The exercise price was
$.17 per share of common stock and
$2.04 per share of Series A Preferred
Stock.
  ®
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® ®
 ® ® ®
 ®
  20




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Item 3. Controls and Procedures.
       21




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PART II. OTHER INFORMATION
 
 Item 1. Legal Proceedings
   
 Item 2. Changes in Securities
   
 Item 6. Exhibits
  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
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SIGNATURES
   /s/ James S. Murphy
  23