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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

(Mark One)

For the fiscal year ended: November 30, 2003

OR

For the transition period from              to             

Commission file number: 0-11868

CARDIODYNAMICS INTERNATIONAL CORPORATION

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (858) 535-0202

Securities registered pursuant to Section 12(b) of the Act:

None

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, no par value

(Title of Class)

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 by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.    x

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).    Yes  x    No  ¨

The aggregate market value of the registrant’s voting and non-voting common equity held by non-affiliates of the registrant was approximately $124,494,000 based on the average bid and asked price of such Common Stock, as of the last business day of the registrant’s most recently completed second fiscal quarter as reported for such date on the Nasdaq Stock Market. For purposes of this disclosure, shares of Common Stock held by persons who hold more than 5% of the outstanding shares of Common Stock and shares held by directors and officers of the registrant have been excluded because such persons may be deemed to be affiliates.

At February 15, 2004, 46,571,764 shares of registrant’s Common Stock were outstanding.

Documents Incorporated by Reference: None

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CardioDynamics International Corporation

Form 10-K

TABLE OF CONTENTS

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This Form 10-K contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements include statements regarding our plans, goals, strategies, intent, beliefs or current expectations. These statements are expressed in good faith and based upon reasonable assumptions when made, but there can be no assurance that these expectations will be achieved or accomplished. Sentences in this document containing verbs such as “plan,” “intend,” “anticipate,” “target,” “estimate,” “expect,” and the like, and/or future-tense or conditional constructions (“will,” “may,” “could,” “should,” etc.) constitute forward-looking statements that involve risks and uncertainties. Items contemplating, or making assumptions about, actual or potential future sales, market size, collaborations, trends or operating results also constitute such forward-looking statements. These statements are only predictions and actual results could differ materially. Certain factors that might cause such a difference are discussed throughout this Annual Report on Form 10-K, including the section entitled “Risk Factors” on pages 20 to 28 of this document. Any forward-looking statement speaks only as of the date we made the statement, and we do not undertake to update the disclosures contained in this document or reflect events or circumstances that occur subsequently or the occurrence of unanticipated events.

PART I

CardioDynamics International Corporation (“CardioDynamics,” or “the Company”) is the innovator and market leader of a breakthrough technology called Impedance Cardiography (ICG). We develop, manufacture and market noninvasive diagnostic and monitoring technologies.

Our proprietary, patented ICG technology non-invasively monitors the heart’s ability to deliver blood to the body and the amount of fluid in the chest. Our systems provide 12 hemodynamic (blood flow) parameters, the most significant of which is cardiac output, or the amount of blood pumped by the heart each minute. Our lead product, the BioZ^® ICG Monitor (previously known as the BioZ.com^®), has been approved by the U.S. Federal Drug Administration (FDA) and carries the CE mark, which is a required certification of essential environmental and safety compliance by the European Community for sale of electronic equipment. We sell to physicians and hospitals in the United States through our own direct sales force and distribute our products to domestic hospitals and targeted international markets through a network of distributors. In November 1998, Health Care Finance Administration (HCFA), now known as the Center for Medicare & Medicaid Services (CMS), mandated Medicare reimbursement for our BioZ^® procedures and, in January 2001, implemented national uniform pricing throughout the United States. To date, we have sold over 3,000 ICG systems to over 2,000 physician offices and hospital sites in more than 30 countries throughout the world.

Our products help physicians assess, diagnose, and treat cardiovascular disease, which is the leading killer of adults in the United States. According to the American Heart Association (AHA), approximately one in five Americans has some form of cardiovascular disease. The AHA estimated that over $329 billion was spent in the United States during 2002 as a result of cardiovascular disease and stroke. This figure includes both the direct costs associated with physicians and other professionals, hospital and nursing home services and medication and the indirect costs associated with lost productivity resulting from morbidity and mortality.

Electrocardiography (ECG) is a widely used noninvasive process to assess the electrical characteristics of the heart. Our ICG technology non-invasively quantifies the mechanical functioning of the heart. Conditions related to the improper mechanical functioning of the heart include hypertension, congestive heart failure, pulmonary disease, high-risk pregnancy and kidney dysfunction. Our technology complements ECG and supplements information obtained through the five vital signs—heart rate, respiration rate, body temperature, blood pressure and oxygen saturation—immediately, safely and cost effectively.

Currently, the primary method used to measure hemodynamic parameters is pulmonary artery catheterization (PAC). The invasive PAC procedure requires hospitalization and involves an incision into the

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patient’s neck or groin region and the insertion of a catheter (plastic tube) through the heart directly into the pulmonary artery. Complications associated with this procedure occur in as many as one in four reported cases and typically include irregular heartbeats or infection, but in some cases, pulmonary artery rupture or even death.

Because of the high risk of complications, physicians generally prescribe PAC only for critically ill patients. In the non-sterile environment of a physician’s office or outpatient clinic, PAC is simply unavailable. As a result, in the great majority of situations, a physician seeking to diagnose cardiovascular disease normally must assess the patient’s hemodynamic status through indirect means, such as by measuring blood pressure, checking the pulse, looking at neck veins and employing subjective examination techniques that are prone to human error. A compelling need exists for objective, noninvasive (without cutting into the body) measurement tools, such as our BioZ^® ICG Systems.

During ICG monitoring using our BioZ ICG Systems, an undetectable electrical signal is sent through our proprietary sensors placed on the patient’s neck and chest. Our DISQ^® (Digital Impedance Signal Quantifier) processing and Z MARC^® Algorithm analyze and record significant hemodynamic parameters. Based on this data, a physician can quickly and safely identify underlying cardiovascular disorder, assess and diagnose, customize and target treatment, monitor the effectiveness of prescribed medications and more accurately identify potential complications.

Our objective is to fundamentally change drug management and make a genuine contribution to healthcare economics with our noninvasive technologies. Key elements of our strategy include efforts to:

We were incorporated as a California corporation in 1980 and changed our name to CardioDynamics International Corporation in 1993. Our principal executive offices are located at 6175 Nancy Ridge Drive, San Diego, California 92121, and our telephone number is 858-535-0202. Our common stock trades under the symbol “CDIC” on the Nasdaq National Market. Our website address is www.cdic.com. Information on our website is not incorporated into this Annual Report.

Industry Overview and Company History

Cardiovascular disease is the leading killer of adults in the United States and in 31 of the 35 countries reporting mortality statistics. In the United States, the AHA estimated that there were 65 million physician office visits, another seven million outpatient visits, and over four million emergency room visits in 2000 with a primary diagnosis of cardiovascular disease. In 2004, the estimated direct and indirect cost of cardiovascular disease is $368 billion. Our proprietary technology provides medical professionals in the hospital and physician’s office with noninvasive access to the objective patient data they need to effectively assess, diagnose and treat congestive heart failure and hypertension and to evaluate emergency, pacemaker and dialysis patients.

In the hospital setting, the BioZ is a noninvasive, cost-effective and safe alternative to the invasive PAC procedure and may also be used in many situations in which PAC is not feasible. However, the advantages of our proprietary technology are not limited to the hospital or the critically ill. We believe that the greatest potential for the BioZ product line is in the new uses the medical community will have for noninvasive hemodynamic measurements. We believe that the worldwide market opportunity is over five billion dollars for our BioZ product line.

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We envision expanding the domestic market from the current 2 million annual invasive PAC procedures to over 72 million annual noninvasive ICG procedures, as summarized in the chart below. Assuming total worldwide procedures are approximately double those in the United States, there would be over 140 million procedures worldwide. These figures do not include home healthcare monitoring, which we believe could, if implemented, significantly increase demand for our technology.

Potential Annual Noninvasive Monitoring Procedures

Patients in the United States

Strategy

Our objective is to fundamentally change patient care and make a genuine contribution to healthcare economics with our noninvasive technologies. Our objective will be achieved if and when noninvasive cardiac output, our primary measurement, becomes the Sixth Vital Sign, as oxygen saturation became the fifth vital sign in the late-1980s. We intend to position Bioz ICG technology as a key diagnostic and monitoring tool for assessing and treating congestive heart failure, hypertension, pacemaker, emergency, critically ill, surgical, high-risk obstetric, dialysis and home healthcare. Key elements of our corporate strategy include:

Accelerate market penetration through our direct sales force.

We intend to leverage our direct sales force to capitalize on our first-to-market position in the United States to further penetrate the physician office market. We believe that a strong direct sales force supplemented by our clinical application specialists are best suited to educate the medical community about how our technology can improve patient outcomes and decrease costs. We currently have 47 domestic direct sales representatives who sell our products. In addition, we have 16 clinical application specialists to supplement our field sales team by enhancing customer understanding, usage and satisfaction. By improving device utilization, we believe we can strengthen customer loyalty and increase recurring revenue from our proprietary sensors.

Broaden our distribution channels through strategic relationships.

We intend to establish strategic relationships with major patient monitoring and diagnostic cardiology companies, pacemaker manufacturers and other medical products and technology companies to increase the availability of our proprietary technology. We believe that strategic relationships can accelerate market penetration of BioZ ICG technology in markets not served by our direct sales team and provide us with access to the large installed bases of patient monitoring, cardiology and other complementary medical equipment. We believe that these strategic relationships can provide increased distribution capabilities and collaborative product development programs.

Grow recurring revenue through increased use of our proprietary disposable sensors.

During fiscal 2000, we successfully developed and received FDA 510(k) clearance on our patented BioZtect^® sensor technology that provides notable improvements in performance and features. Its unique shape and chemical composition, adhesion characteristics and more user-friendly design optimize signal transmission

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and detection sensitivity. The new sensor and cable system has a proprietary interface, which promotes the exclusive use of our sensors with our ICG equipment. As our installed base of BioZ products grows, we expect that the recurring revenue stream from our sensors could account for as much as 30% to 40% of our total net sales within the next five years.

Expand evidence of the technology’s validity and clinical application in our target markets.

While a significant amount of evidence substantiating ICG’s validity and clinical application is now available, we will continue to invest in supporting clinical trials to further expand this evidence and provide prospective customers with data regarding the efficacy of ICG. We have several multi-center clinical trials the results of which are expected to be available in 2004. They include studies in outpatient heart failure (PREDICT), hospitalized heart failure (BIG-ESCAPE), and emergency department shortness of breath (ED-IMPACT).

Maintain market leadership through product improvements and extensions.

We intend to advance the development of our core algorithms to provide physicians with improved cardiac function measurement capabilities on a broad class of patients. We believe that continued advances in our ICG technology will increase physician usage and loyalty and strengthen our industry position. We will capitalize on our expertise in ICG signal processing and sensor technology to improve system performance in the presence of signal noise and patient movement thereby leading to additional applications for cardiovascular disease management. In 2001, we released the BioZ^® ICG Module for the GE Medical Systems Information Technologies (GEMS-IT) bedside monitoring systems. This product is distributed worldwide by GEMS-IT for their Solar^® 7000, 8000, 8000M, and DASH 3000, 4000 patient monitors. In July 2002, we signed a Co-Development and OEM Agreement with Philips Medical Systems, a division of Royal Philips Electronics (Philips), a worldwide leader in clinical measurement and diagnostic solutions for the healthcare industry.

Target new market opportunities through acquisitions of complementary technologies and technology development.

We will continue to focus on new applications for our core technology. Advances in ICG technology could be applied in the areas of pacemaker optimization, fluid management (including dialysis), oncology, drug noncompliance, and pharmaceutical development and testing. Pharmaceutical companies such as GlaxoSmithKline, Eli Lilly and Co. and Pfizer Inc. are currently using our technology to document the cardiovascular effects of their pharmaceutical agents in both animals and humans.

Continued innovation and commercialization of new proprietary products are essential elements in our long-term growth strategy. We also intend to maintain our competitive advantage by acquiring complementary technologies and obtaining additional patents and other proprietary rights, as we deem appropriate.

ICG Technology

While ECG technology non-invasively measures the heart’s electrical characteristics, our ICG technology makes it possible to measure the heart’s mechanical, or blood flow, characteristics. By using our products, physicians have an easy, non-invasive, safe, painless and cost-effective way to monitor the heart’s ability to deliver blood to the body.

ICG technology is based on Ohm’s Law and the fact that blood is an electrically conductive substance. Blood volume and velocity change with each heartbeat and results in a change in the electrical conductivity, or impedance, of the chest.

In order to measure this conductivity change, our BioZ products use four dual sensors (two on the neck and two on the chest) to deliver an undetectable, high frequency (70 kHz), low magnitude (4 mA), alternating current

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through the chest. Use of a high frequency current eliminates the possibility of interference with bioelectrical activity of the heart and brain. Additionally, at a high frequency, there is no sensation to the patient. By setting the current at a constant magnitude, variations in blood volume and velocity in the descending thoracic aorta, which cause a proportional voltage change, may be measured.

ICG technology measures the change in impedance over time and calculates stroke volume, the volume of blood pumped with each heartbeat. The physician receives a report with vital patient data that allows the doctor to customize and optimize treatment.

Some physical and medical conditions may diminish the accuracy of the measurements provided by our products; therefore, use of our BioZ ICG products in such cases is not appropriate. We believe that inaccuracies are most likely to occur in patients who are experiencing severe septic shock, severe aortic valve regurgitation, severe irregular ventricular heartbeats or heart rates greater than 180 beats per minute. In addition, there is inadequate data demonstrating the accuracy of our products in patients who are shorter than 47 inches or who weigh less than 66 pounds or more than 342 pounds, as well as in patients who move excessively during the BioZ procedure.

Our BioZ ICG Monitor generates the impedance signal with CS2^™ (Crystal Signal Stabilization) Technology and, after the signal travels harmlessly through the body, our proprietary DISQ^® processing measures the changes in impedance to the electrical signal. The changes in impedance are then applied to the Z MARC^® Algorithm to provide the following hemodynamic parameters:

Of these parameters, the ones most widely used by physicians are cardiac output, systemic vascular resistance and thoracic fluid content. Our BioZ ICG Monitor also measures blood pressure and heart rate.

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Our Products

Pricing

Our stand-alone BioZ ICG Monitors have an end-user list price of $38,710. We discount the list prices of our products in some circumstances based primarily upon volume commitments or seasonal promotions. We also provide discounts on the purchase of refurbished demonstration equipment and to distributors who perform sales and customer service functions for us. The list price for our BioZtect sensors is $10.95 per application for the BioZ ICG Monitor and $19.95 per set for the BioZ ICG Module. We offer a DSP (Discount Sensor Program—formerly Auto-Ship Sensor Program) that allows significant discounts on sensor purchases based on minimum monthly volume commitments.

BioZ^® ICG Monitor

Our lead noninvasive cardiac function monitoring device, the BioZ^® ICG Monitor, features a portable design, transportable battery and integrated blood pressure. The BioZ^® ICG Monitor incorporates our Z MARC^® algorithm, which allows the system to sense and modulate values on patients with over-compliant or under-compliant aortas. New BioZ ICG Monitors are sold with a pole cart, printer and keyboard for end user data entry and include a standard five-year warranty.

BioZ^® ICG Module

The BioZ ICG Module was jointly developed with GEMS-IT. The module integrates our proprietary BioZ ICG technology into GE’s Solar^® and DASH patient monitoring systems.

BioZtect^® Sensors

We market disposable sensors designed specifically for use with our BioZ^® products. Four of our patented dual sensors are used in each monitoring session. Our proprietary sensor and cable systems provide enhanced features to our customers and promote the exclusive use of our proprietary sensors with our equipment.

Z Care^®

In addition to our standard warranty, we offer extended warranty agreements, called Z Care^®. This extended warranty agreement covers hardware and software maintenance beyond the standard warranty period. Z Care^® also includes a next-day loaner unit while a device is under repair, free shipping for the loaner unit and repaired device and free software upgrades.

Sales and Distribution

We view the United States medical marketplace as two distinct segments: the outpatient market and the hospital market. In the outpatient market, we target physician offices and hospital-based and freestanding outpatient facilities for our stand-alone BioZ^® products through our direct sales force. In contrast to the hospital market, there are few, if any, formal capital equipment budget processes and purchasing decisions can therefore be made more quickly. Consequently, our direct sales force is focused primarily on the outpatient markets.

We continue to believe that the hospital market represents a large and viable market for our products. In the latter part of 2003, we piloted a program targeted to increase hospital market penetration. We intend to expand this program in 2004 by employing direct sales representatives to focus on this segment of the market.

Internationally, we sell our products through local medical distributors. Currently, we have distribution partners and end-users in more than thirty countries around the world. Additionally, our international sales team supports GEMS-IT sales teams in selling our ICG Module that interfaces with the GEMS-IT Solar and DASH monitoring systems. We do not offer product return rights to our distributors.

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We provide 24-hour on-call technical support and offer field clinical support specialists on a limited basis for our products. In addition, we added an international service center in China to fulfill the needs of the growing Asian market for ICG in 2003.

Strategic Relationships

In 1999 and 2000, we entered into several strategic distribution agreements with GEMS-IT for exclusive distribution of our BioZ ICG Monitor to select countries around the world. Through GEMS-IT and our other international distributors, ICG technology is now represented in over 30 countries throughout Europe, Asia Pacific, Africa, the Middle East, Australia, New Zealand and Latin America.

During the fourth quarter of fiscal 2000, we entered into an agreement with GEMS-IT for the development of a custom plug-in module for the GEMS-IT Solar^® and DASH series of bedside monitors. This product was introduced to the market in June 2001 and extends the capabilities of the GEMS-IT Solar product family to provide all of the hemodynamic parameters of the BioZ ICG Monitor to GEMS-IT’s installed customer base of over 30,000 units. This product is distributed worldwide by CardioDynamics and GEMS-IT for their Solar^® 7000, 8000, 8000M, and DASH 3000, 4000 patient monitors. We believe that other patient monitoring companies could benefit from the addition of similar modules to their estimated installed base of over 200,000 modular bedside monitors. We have an agreement with Spacelabs Medical, Inc. for development of an interface using Spacelabs’ Universal Flexport^® to integrate and display our ICG technology on their Ultraview Care Network^™ monitoring system, although development efforts for this interface have not been initiated.

In July 2002, we signed a Co-Development and OEM Agreement with Philips Medical Systems, a worldwide leader in clinical measurement and diagnostic solutions for the healthcare industry and a division of Royal Philips Electronics. The joint product development will combine CardioDynamics’ proprietary ICG technology with Philips’ diagnostic 12-lead ECG. In addition, we will be able to offer an ICG-only monitor on the Philips platform that is targeted for the end of 2004. The Co-Development and OEM agreement will allow both companies to market the combined ICG/ECG product.

In August 2002, we entered into an Agreement to integrate our proprietary BioZ ICG technology into Vasomedical’s EECP^® enhanced external counterpulsation systems. By monitoring cardiac output before and after EECP therapy, physicians will have objective data to ascertain treatment effectiveness. Recent research supports this combined approach as a useful tool. As a result of Vasomedical internal restructuring, this development project has been placed on hold. Under the terms of the agreement, we will receive a licensing fee for each Original Equipment Manufacturer (OEM) board purchased by Vasomedical if the program is reinstated.

In November 2002, we entered into a Distribution Agreement with SunTech Medical Instruments, Inc. (SunTech), the world leader in motion-tolerant noninvasive blood pressure monitoring products and technology. Through this Distribution Agreement, we obtained the right to sell SunTech’s new ambulatory blood pressure (ABP) throughout North, Central, and South America. Our sales of the ABP’s in 2003 were nominal and are not expected to comprise a significant portion of future revenue.

Medicare and Other Third-Party Reimbursement

In the outpatient market, most medical procedures are reimbursed by a variety of insurance sources, including Medicare, Medicaid and private insurers. The Center for Medicare & Medicaid Services (CMS), which is the governmental body that approves medical services for financial reimbursement under Medicare, determines whether to reimburse for a given procedure and assigns an amount allowed. In September 1998, the CMS mandated Medicare coverage of Electrical Bioimpedance services, such as the CardioDynamics BioZ, on a national basis. The established Medicare coverage for BioZ ICG Systems has improved our ability to penetrate the outpatient market, as Medicare provides health insurance to approximately 50 million people in the United States. In November 2000, the CMS established a uniform national pricing level for the use of our equipment. In

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January 2002, the American Medical Association issued a formal Level I HCPCS procedure code, (also referred to as a CPT Code) for BioZ ICG technology. The 2004 national average allowable by the CMS for BioZ ICG is $45.55 per procedure, adjusted geographically based on pre-determined cost of living factors. This amount represents a 30% increase in reimbursement over the level two years prior.

In 2002, CMS initiated a reconsideration of ICG’s indications for use. In January of 2004, CMS issued an updated national coverage determination. Of the six indications previously indicated, five are substantially unchanged. One indication, “suspected or known cardiovascular disease,” has been revised to specifically allow CMS carrier coverage of resistant hypertension. Resistant hypertension is defined by CMS to include patients with uncontrolled blood pressure (less than or equal to 140 mm Hg systolic blood pressure and/or 90 mm Hg diastolic blood pressure) on 3 or more anti-hypertensive medications. The other current CMS indications are as follows:

Some private insurers cover the BioZ ICG test, including Aetna, Cigna, and BlueCross BlueShield (in select states). We continue active discussions with CMS and private insurers to maintain and expand reimbursement indications for ICG.

Marketing

Until recently, comprehensive hemodynamic information has been available only in acute care settings, such as an intensive care unit or operating room, through the use of PAC. The BioZ ICG Systems make obtaining and assessing this type of information simple, fast, cost-effective, safe, continuous and painless. For these reasons, the use of noninvasive ICG technology is expanding in both hospital and outpatient environments.

Our primary prospects in the outpatient market include cardiologists, internal medicine physicians and family practitioners caring for congestive heart failure, hypertension, shortness of breath, and pacemaker patients. Patients in the United States who may benefit from our technology include the 50 million hypertension patients, five million congestive heart failure patients, over one million pacemaker patients, 20 million emergency patients and many patients requiring fluid management. The AHA estimates that over $368 billion will be spent in the United States during 2004 as a result of cardiovascular disease and stroke. Our marketing strategy is designed to:

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Our marketing promotion strategy is based on key medical conference participation, direct mail programs, select medical journal advertising, internet-based product and clinical information, and live and direct mail clinical education literature.

Research and Development

Our research and development team, which consists of both scientific and engineering professionals, has extensive experience in the areas of ICG, physiologic signal processing, hardware and software development and regulatory compliance. The team is responsible for on-going product engineering, new product development and basic research into ICG technology and additional noninvasive monitoring applications.

We continue to upgrade the software of our core products as new applications arise. Our hospital module, the BioZ ICG Module, was market released in 2001 and a new product platform is under development in a joint partnership with Philips to provide combined ECG and ICG patient assessment. Our team continues to investigate the physiologic mechanisms underlying our ICG signal as a means of developing new diagnostic parameters. In addition, we are continuously researching the application of digital signal processing methodologies to improve the quality of signal acquisition and analysis algorithms. Some of this research has resulted in several U.S. patents issued and patents pending.

To supplement our internal research and development team, we retain Rivertek Medical Systems, Inc. (Rivertek), located in Minneapolis, Minnesota, as an adjunct to our internal research and development team. Rivertek serves as an engineering consulting firm for medical device manufacturers, including Guidant Corporation and Medtronic, Inc., as well as emerging medical technology companies.

Intellectual Property

Our success, to some extent, depends on our ability to maintain patent protection for our products and processes, to preserve our trade secrets and proprietary technology and to operate without infringing upon the patents or proprietary rights of others. We have developed proprietary software for which we have not filed patents. We generally file patent applications in the United States and foreign countries where patent protection for our technology is appropriate and available. We have filed seven U.S. utility patent applications and three design patent applications, six of which issued in 2003. Of the three utility patients that issued, a key patent is U.S. Patent Number 6,561,986, “Method and Apparatus for Hemodynamic Assessment Including Fiducial Point Detection”, which contains 46 claims and is a strategic patent underlying the Company’s novel AERIS^™ (Adaptive Extraction & Recognition of Impedance Signals) processing. AERIS utilizes breakthrough techniques in time-scale signal processing to filter and accurately determine key ICG and ECG waveform characteristics, known as “fiducial points.” ICG and ECG fiducial points form the core measurements from which BioZ parameters are determined. AERIS processing provides enhanced stability, accuracy, and reproducibility in a broader range of patient monitoring conditions.

Another utility patent, U.S. 6,636,754, is the foundation of our electrode technology protection. Our three design patents that issued in 2003, cover various design aspects of the Company’s BioZtect sensors. The intellectual property protection applies to sensors for use with both its BioZ ICG Monitor and BioZ ICG Module. The BioZtect sensors offer notable improvements in safety and signal transmission and detection, which are critical for device performance.

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There can be no assurance that pending patent applications will result in issued patents, that patents issued to or licensed by us will not be challenged or circumvented by competitors or that such patents will be found to be valid or sufficiently broad to protect our technology or to provide us with a competitive advantage.

We also rely on nondisclosure and noncompetition agreements with employees, consultants and other parties to protect trade secrets and other proprietary technology. There can be no assurance that these agreements will not be breached, that we will have adequate remedies for any breach, that others will not independently develop equivalent proprietary information or that third parties will not otherwise gain access to our trade secrets and proprietary knowledge.

Clinical Studies

We are committed to supporting well-designed clinical research studies utilizing ICG technology that demonstrate validity, reproducibility, clinical utility and cost-effectiveness. Our clinical research team participates in monitoring and analysis of company-sponsored clinical trials, for which we employ clinical research associates. Each of these individuals has a strong clinical research background and is responsible for monitoring clinical studies and assisting in research and customer training.

Previous generation technology

Several hundred research papers on ICG technology have been published since 1993. In general, these studies reported favorable results when comparing cardiac output measurements with those of other techniques, such as PAC.

Previous generation technology acquired by CardioDynamics in 1993 worked reasonably well in a select group of patients. However, significant technological limitations became evident when monitoring ventilated patients and those with increasing heart rates, high heart rates, abnormal heartbeats, high respiration rates and pacemakers. These limitations related to both hardware and software inadequacies. As a result of intense research and development focus and concerted effort, combined with advances in computer processing power, CardioDynamics has addressed these limitations by improving the electronics and digital signal processing algorithms.

New technology

As studies are conducted with our new technology, their results are summarized first as abstracts, and then as manuscripts that move through the peer review process towards publication. This process can take two years or more to complete. The results of several major studies addressing each of these areas have been released with positive results.

In May 2002, the results of a significant Mayo Clinic study were published in the peer-review journal, Hypertension. The results of the study demonstrated 70% superiority in effectively treating previously-uncontrolled hypertension patients when our BioZ^® ICG was used as compared to traditional management by high blood pressure specialist physicians. In addition, several ICG manuscripts were published in journals such as Academic Emergency Medicine, Chest, and Congestive Heart Failure in 2003.

The results of the ED-IMPACT trial (Impedance Cardiography-Aided Assessment Changes Therapy in Emergent Dyspnea) were presented at the America College of Emergency Physicians. The study demonstrated the impact of ICG data upon diagnosis and treatment in patients short of breath in the emergency department. The results demonstrated a 24% change in therapeutic plan and 5% change in diagnosis, which were considered very significant findings. The final results of this study with additional subjects are expected to be published by early 2005.

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Ongoing active trials

PREDICT—Prospective Evaluation and Identification of Cardiac Decompensation in Heart Failure by Impedance Cardiography Test. Twenty-one research sites participated in this company-sponsored study with over 200 patients. The study design of PREDICT includes serial blinded measurements of ICG that are performed at two week intervals for 26 weeks. All patients are managed according to the judgment of physicians and nurses responsible for the patient’s care, who are not aware of the ICG data. The statistical analyses are finalized and in investigator review. Results are expected to be made available by the end of 2004 and may determine whether ICG variables reliably precede the development of worsening heart failure.

ESCAPE BIG—Evaluation Study of Congestive Heart Failure and Pulmonary Artery Catheterization Effectiveness Bio-Impedance Cardiography in Advanced Heart Failure. We are participating as a sub-study of this National Institutes for Health trial with a primary objective of evaluating how accurately hemodynamics parameters obtained from ICG predict clinical outcomes and to evaluate the relationship between hemodynamic data derived from ICG with hemodynamic data obtained from invasive monitoring. Enrollment is complete, with study results expected by the end of 2004.

CONTROL—Consideration Of Noninvasive Hemodynamic Monitoring to Target Reduction Of Blood Pressure Levels. We are sponsoring a community-based study to replicate the results of our significant Mayo Clinic Study in a non-hypertension-specialist environment. We are comparing the amount of time it takes to control blood pressure as well as the number and cost of hypertensive medications required. This study is being conducted in two groups within each of four physicians’ patient populations, where each physician has access to the BioZ data in only half of the study patients. Enrollment is approximately 50% completed, and results are expected in 2006.

Medical Advisory Board

We have established a distinguished medical advisory board consisting of 17 physicians, many of whom are affiliated with prestigious universities and well-known medical institutions throughout the United States, such as Stanford University School of Medicine, Cleveland Clinic, Scripps Clinic, and the University of California, San Diego. Our members, who possess expertise in disciplines such as cardiology, electrophysiology, anesthesiology, hypertension, pulmonary and critical care, internal medicine, heart failure and emergency medicine, are as follows:

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Our medical advisory board provides guidance regarding clinical trials, technological improvements and potential uses for our products. Members of the medical advisory board receive reimbursement for their expenses in attending CardioDynamics-sponsored meetings and, in some cases, receive consulting fees for time spent working on our behalf. No consulting fees were paid to the members during fiscal 2003, 2002 or 2001 for services on our medical advisory board; however, in some cases, certain members received compensation in the form of options to purchase shares of our common stock for participating in meetings and studies.

Manufacturing

We manufacture our products at our manufacturing facility in San Diego, California. We are licensed as a healthcare device manufacturer by the Food and Drug Branch of the California Department of Health Services, which is the State of California equivalent of the FDA, and operate under the FDA Quality System Regulation (21 CFR Part 820).

In addition to our compliance to domestic regulations, the quality management system meets international regulations for the design, development, production, distribution and servicing of our medical device products. We hold valid certificates to the European Medical Device Directive, ISO-13485 for Quality Management Systems and Canadian CMDCAS Registration.

Our production process for the BioZ ICG Monitors consists primarily of final assembly, integration and testing of standard and custom components. We currently outsource the production of our BioZtect sensors and patient boards to qualified subcontractors who have met our supplier certification process and are placed on an approved vendor list.

We are committed to providing high quality products to our customers. Our quality management system ensures that products are designed to meet customer requirements and are manufactured within the design specifications. Our quality management procedures include employee training, product development, production controls, corrective and preventive actions, handling of customer feedback, management responsibilities, and resource management. In addition, documentation of in-process and final testing results is maintained in the

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device history records for every unit. Customer inputs are captured, monitored and addressed to ensure that our products and support services meet or exceed our customers’ requirements. Identifying and implementing improvement opportunities are an output of our quality management system.

We purchase the components and raw materials used in manufacturing our products from various suppliers. Our suppliers are evaluated, qualified, selected, monitored and maintained on a list of approved vendors. We work closely with our suppliers to assure continuity of supply while maintaining high quality and reliability. All purchased materials also are inspected to assure their acceptance for use in manufacturing. Documentation of in-process and final testing results is maintained in device history records for every unit.

Warranty and Repair

Our new BioZ ICG Systems come with a standard five-year, parts and labor warranty commencing at the date of shipment. When warranty repairs are necessary, we generally perform them at our headquarters. In some cases, our distributors perform repairs in authorized service centers. In 2003, we added an International service center in China to fulfill the needs of the growing Asian market for ICG.

We provide 24-hour on-call technical support and, on occasion, offer field clinical support specialists. In addition to our standard warranty, we offer Z Care^® extended warranty agreements for hardware and software maintenance beyond the standard warranty period. We repair equipment that is out of warranty on a time and materials basis.

Competition

Direct competition

We are aware of three domestic and two international manufacturers of ICG monitors. Since all five companies are privately held, sales and financial figures for these competitors are not available. We believe that our BioZ products provide the most advanced ICG monitoring and commercially attractive designs, at prices that are competitive.

Indirect competition

PAC

Also known as thermodilution, right heart catheterization or Swan-Ganz^™ catheterization, the PAC procedure was introduced in the early 1970’s. Despite its limitations, costs and risks, PAC remains the most commonly used technology for monitoring hemodynamic status. Medical Data International estimates that PAC procedures are used nearly two million times per year worldwide. Edwards Lifesciences, Abbott Laboratories and Datex-Ohmeda produce the majority of right heart catheters used in the United States.

Many patients who might otherwise benefit from hemodynamic monitoring are excluded presently because the risks and costs associated with PAC often outweigh the potential benefits. PAC is an invasive procedure involving an incision into a patient’s neck or groin region and the insertion of a catheter (plastic tube) into the vascular system and through the heart directly into the pulmonary artery. Complications associated with the PAC procedure, such as irregular heartbeats and infection occur in as many as one in four procedures and in some cases, pulmonary artery rupture and even death. A September 1996 study published in the Journal of the American Medical Association (JAMA), which examined data from 5,735 intensive-care patients treated at five United States medical centers, reported that patients who underwent PAC had a 21% higher risk of death within 30 days of discharge, as compared to those who did not undergo the procedure. Moreover, the PAC procedure requires a hospital to allocate valuable resources in terms of an intensive care unit bed, a cardiac catheterization laboratory or operating room, highly skilled medical personnel and expensive equipment to obtain this non-

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continuous hemodynamic data. According to the JAMA study, the mean cost of the hospital stay for critically-ill patients having a PAC was $13,600 greater than the $35,700 cost for similar critically-ill patients who did not undergo a PAC. The importance of this finding is underscored by the fact that patients in both groups were matched for disease severity and prognosis.

ICG technology eliminates PAC-caused complications and death, lowers costs, reduces procedure time, expands clinical applications and offers immediate availability of vital, real-time and continuous hemodynamic data.

Echocardiography

Echocardiography (echo) is a diagnostic tool utilizing ultrasound frequency waves to detect anatomical abnormalities of the heart and blood vessels. Echo technology was developed during the 1970’s and has advanced through the years with the addition of sophisticated electronics and digitalization for acquisition of better images. A continuous wave suprasternal Doppler echo measures cardiac output noninvasively by placing a Doppler transducer on the chest, aiming it toward the ascending aorta and measuring aortic blood flow velocity. Specifically, echo measures the aortic diameter and the movement of red blood cells to determine the velocity and direction of blood flow to calculate stroke volume and thus calculate cardiac output.

Limitations in measuring cardiac output via echo include:

In addition, echo is a time-consuming procedure that typically requires 30-45 minutes, and in some patients, reliable, accurate images simply cannot be obtained for various reasons.

Trans-esophageal echo

Trans-esophageal echo has been developed in recent years to obtain closer images of the heart. It is useful in patients for whom examination from the usual external position is technically impossible or for hospitalized patients undergoing cardiac surgery. Trans-esophageal echo is performed with the ultrasound transducer placed in the esophagus through the mouth. Although this procedure enables more direct, accurate images of the heart, disadvantages include its invasive nature, increased patient discomfort and the requirement for patient sedation to promote procedure tolerance. In addition, patient airway complications may result, therefore emergency equipment, such as oxygen, intubation equipment and ECG monitoring must be immediately available. The procedure is customarily performed with several attendants, including an echo technician, a nurse and a physician.

Direct Fick

Direct Fick was the original method conceived in the late 1800’s to measure cardiac output. It is based on calculating the oxygen difference between the arterial and venous blood, along with oxygen inhalation and expiration. The Direct Fick method is seldom used because it is time consuming, costly and complicated. A variation of the Direct Fick method is called CO₂ Re-breathing, or Indirect Fick. It was introduced in the 1980’s to the hospital surgical market. Because CO₂ Re-breathing method is limited to patients who are mechanically ventilated, the number of patients who are candidates for the procedure is severely limited. In addition, lack of CMS-mandated reimbursement creates a barrier for adoption by the medical community.

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Government Regulation

In November 1996, we received 510(k) clearance from the FDA to market the BioZ ICG System. In September 1997, the FDA granted 510(k) clearance to market the BioZ Portable and to implement our proprietary DISQ^® technology into redesigned monitors. DISQ^® provides improved measurement of impedance waveforms through enhanced digital signal processing and automatic calibration. In March 1998, we received 510(k) marketing clearance for our BioZ ICG Monitor. The BioZ ICG Monitor incorporates our Z MARC^® algorithm, which allows the system to sense and modulate values on patients with over-compliant or under-compliant aortas.

Our products and activities are subject to extensive, ongoing regulation by the FDA and other governmental and foreign regulatory agencies. Under the Federal Food, Drug and Cosmetic Act, the FDA regulates the clinical testing, manufacture, labeling, packaging, marketing, distribution and record keeping for medical devices. Delays in receipt of, or failure to obtain or maintain, regulatory clearances and approvals, or any failure to comply with regulatory requirements, could delay or prevent our ability to market our product line.

The Federal Food, Drug and Cosmetic Act requires that medical devices be manufactured in accordance with current good manufacturing practice requirements. Good manufacturing practice requirements specify, among other things, that:

Before a new device may be introduced or marketed, the manufacturer generally must obtain either FDA 510(k) clearance or approval of a pre-market approval application. FDA clearance or approval may entail an expensive, lengthy and uncertain process. We have received a marketing clearance for the BioZ ICG System, the BioZ.pc and the BioZ ICG Monitor and BioZ ICG Module. These clearances remain subject to continued FDA audits and may be rescinded if we change the design of our technology. Further, we plan to submit additional new products for FDA clearance or approval in the future. It is possible that our future products may not gain FDA clearance or approval in a timely fashion, or at all.

We are also subject to routine inspection by the FDA and state agencies, such as the California Department of Health Services, for compliance with good manufacturing practice requirements, medical device reporting requirements and other applicable regulations. Violation or alleged violation of these regulations may result in government action ranging from warning letters to criminal prosecution. Companies who violate these regulations are also subject to penalties of up to $1,000,000. We have not been cited for any FDA violations.

Manufacturing facilities are subject to FDA inspection on a periodic basis to monitor compliance with current good manufacturing practice requirements. Labeling and promotional activities are regulated by the FDA and, in some circumstances, by the Federal Trade Commission. Modifications or enhancements that could significantly affect the safety or effectiveness of a device or that constitute a major change to the intended use of the device require a new 510(k) submission. If the FDA requires us to submit a new 510(k) notice for any product modification, even one that addresses device performance issues, we may be prohibited from marketing the modified product until the 510(k) notice is cleared by the FDA.

Laws and regulations regarding the manufacture, sale and use of medical devices are subject to change and depend heavily on administrative interpretations. Future changes in the regulations or interpretations made by the FDA or other regulatory bodies may have retroactive effect and may adversely affect us.

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In order to sell our products within the European community, we must comply with the European Commission’s medical device directive. In late 1998, we received authorization from TUV Rhineland of North America to place the CE mark on our BioZ ICG Monitor. The CE mark is recognized worldwide as an essential European regulatory approval and enabled us to expand our sales and distribution of the BioZ ICG Monitor throughout Europe. Future regulatory changes could limit our ability to use the CE mark, and any new products we develop may not qualify for the CE mark. If we fail to obtain authorization to use the CE mark or lose this authorization, we will not be able to sell our products in the European community. In July 2003, we had our annual compliance review and we passed without any significant issues. In May 2000, we received approval from the State Drug Administration of the People’s Republic of China, and in November 2000, we received a Canadian Medical Device License. In February 2002, our distribution partners received MHLW and KFDA approvals, enabling our products to be sold in Japan and Korea.

Employees

As of February 15, 2004, we had 151 employees, three of which are considered part-time. Of this number, 84 are in sales and marketing, 20 are in manufacturing, 20 are in research and development and 27 are in management or administration. None of our employees are covered by a collective bargaining agreement and no work stoppages have been experienced. We consider relations with our employees to be good.

Securities Exchange Act Reports

We maintain an Internet website at the following address: www.cdic.com. The information on our website is not incorporated by reference into this annual report on Form 10-K. We make available on or through our website certain reports and amendments to those reports that we file with or furnish to the SEC in accordance with the Securities Exchange Act of 1934. These include our annual reports on Form 10-K, our quarterly reports on Form 10-Q and our current reports on Form 8-K. We make this information available on our website free of charge as soon as reasonably practicable after we electronically file the information with, or furnish it to, the SEC.

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RISK FACTORS

In addition to the other information contained in this Form 10-K, you should consider the following risk factors which could affect our business, financial condition and results of operation. The risks and uncertainties described below are not the only risks facing us and additional risks and uncertainties may also harm our business.

We depend upon on our BioZ product line, the market acceptance of which is in its early stages.

Our future is dependent upon the success of the BioZ product line and similar products that are based on the same core technology. The market for these products is in a relatively early stage of development and may never fully develop as we expect. The long-term commercial success of the BioZ product line requires widespread acceptance of our products as safe, efficient and cost-effective. Widespread acceptance would represent a significant change in medical practice patterns. In the past, some medical professionals have hesitated to use ICG products because of limitations experienced with older, analog-based monitors. Invasive procedures, such as PAC, are generally accepted in the medical community and have a long history of use.

We have sponsored and will continue to sponsor or support clinical trials. We cannot be certain that clinical trials will be completed, that they will have a positive outcome or that a positive outcome in these trials will be sufficient to promote widespread acceptance of our products within the medical community.

Our success depends in part upon the availability of adequate third-party reimbursement.

Our success will depend in part on the availability of adequate reimbursement from third-party healthcare payors, such as Medicare, private health insurers and managed care organizations. Third-party payors increasingly are challenging the pricing of medical products and services. Third-party payors may not cover all or a portion of the cost of our products and related services, or they may place significant restrictions on the circumstances in which coverage will be available. In addition, reimbursement may not be at or remain at price levels adequate to allow medical professionals to realize an appropriate return on the purchase of our products.

If we are required to account for stock options under our employee stock plans as a compensation expense, our net income and earnings per share would be significantly reduced.

We record compensation expense only in conjunction with option grants to non-employees. For employee option grants, we calculate compensation expense and disclose the impact on net income (loss) and net income (loss) per share in a footnote to our financial statements. It is likely that future accounting pronouncements will require us to record compensation expense for employee stock option grants in our statement of operations. Note 1, “Stock Based Compensation,” of our financial statements reflects the impact that such a change in accounting treatment would have had on our net income (loss) and net income (loss) per share if it had been in effect during the past three years.

Technological change is difficult to predict and to manage.

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

We must maintain and develop strategic relationships with third parties to increase market penetration of our product lines.

We distribute our products to targeted international markets through our strategic alliance with GEMS-IT and a network of regional distributors. We intend to enter into similar agreements with other companies and to establish technology partnerships with pacemaker and other medical product and technology companies.

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Widespread acceptance of our BioZ products is largely dependent on our establishing and maintaining these strategic relationships with third parties and on the successful distribution efforts of third parties.

Many aspects of our relationships with third parties, and the success with which third parties promote distribution of our products, are beyond our control. We may be unsuccessful in maintaining our existing strategic relationships and in identifying and entering into future development and distribution agreements with third parties.

We depend on management and other key personnel.

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

We depend on third parties for development and manufacturing services.

Our strategy for development and commercialization of some of our products depends upon entering into various arrangements with third parties and upon the subsequent success of these parties in performing their obligations. We may not be able to negotiate acceptable arrangements in the future, and our existing arrangements may not be successful. We rely on contracted engineering services, particularly from Rivertek Medical Systems, Inc. Also, we currently assemble our products from components manufactured by a limited number of manufacturers. Therefore, we are dependent on component and subassembly manufacturers. If we experience a termination, modification or disruption of any of our development or manufacturing arrangements, we may be unable to deliver products to our customers on a timely basis, which may lead to customer dissatisfaction and damage to our reputation.

We may not have adequate intellectual property protection.

Our patents and proprietary technology may not be sufficient to protect our intellectual property rights. In addition, in the future, our products may be found to infringe the rights of others. From time to time, we have received communications from third parties asserting that features of some of our products may infringe the intellectual property rights of others. Any claims resulting in intellectual property litigation, whether defensive or offensive, would have no certain outcome and would be costly and time-consuming. In addition, if our products were found to infringe the intellectual property rights of others, we may be required to pay damages to such parties and/or to obtain licenses from such parties, either of which could be costly and could harm our business.

The validity and breadth of claims in medical technology patents involve complex legal and factual questions. Future patent applications may not be issued, the scope of any patent protection may not exclude competitors, and our patents may not provide competitive advantages to us. Our patents may be found to be invalid and other companies may claim rights in or ownership of the patents and other proprietary rights held or licensed by us. Also, our existing patents may not cover products that we develop in the future. Moreover, when our patents expire, the inventions will enter the public domain. See “Business—Intellectual Property.”

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

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We are subject to stock exchange and government regulation.

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

We face competition from other companies and technologies.

We compete with other companies that are developing and marketing noninvasive hemodynamic monitors. We are also subject to competition from companies that support invasive technologies. Many of these companies have more established and larger marketing and sales organizations, significantly greater financial and technical resources and a larger installed base of customers than we do. The introduction by others of products embodying new technologies and the emergence of new industry standards may render our products obsolete and unmarketable. In addition, other technologies or products may be developed that have an entirely different approach or means of accomplishing the intended purposes of our products. Accordingly, the life cycles of our products are difficult to estimate. To compete successfully, we must develop and introduce new products that keep pace with technological advancements, respond to evolving consumer requirements and achieve market acceptance. We may be unable to develop new products that address our competition.

Our business plan contemplates an income stream from sales of disposable sensors that are compatible with an installed base of our monitors. We may be subject to price competition from other sensor manufacturers whose products are also compatible with our monitors. To mitigate this we successfully developed proprietary sensor technology that provides enhanced features to our customers and promotes the exclusive use of our proprietary sensors with our equipment.

In addition, our current and potential competitors may establish cooperative relationships with large medical equipment companies to gain access to greater research and development or marketing resources. Competition may result in price reductions, reduced gross margins and loss of market share.

We have a history of losses and may experience continued losses.

With the exception of the last two fiscal years, we have experienced losses every year because we have expended more money in the course of researching, developing and enhancing our technology and products and establishing our sales, marketing and administrative organizations than we have generated in revenues. We expect that our operating expenses will continue to increase in the foreseeable future as we increase our sales and marketing activities, expand our operations and continue to develop our technology. It is possible that we will not be able to achieve the revenue levels required to sustain profitability.

We may need additional capital, which may be unavailable.

The commercialization of our current product line, acquisition of complimentary technologies and the development and commercialization of any additional products may require greater expenditures than expected in our current business plan. Our capital requirements will depend on numerous factors, including:

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We may be unable to predict accurately the timing and amount of our capital requirements. We may be required to raise additional funds through public or private financing, bank loans, collaborative relationships or other arrangements earlier than expected. It is possible that banks, venture capitalists and other investors may perceive our capital structure, our history of losses or the need to achieve widespread acceptance of our technology as too great a risk to bear. As a result, additional funding may not be available at attractive terms, or at all. If we cannot obtain additional capital when needed, we may be forced to agree to unattractive financing terms, to change our method of operation or to curtail our operations.

We may not be able to manage growth successfully.

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

Our quarterly operating results frequently vary due to factors outside our control.

We have experienced and expect to continue to experience fluctuations in quarterly operating results due to a number of factors. We cannot control many of these factors, which include the following:

For these reasons, you should not rely on period-to-period comparisons of our financial results as indications of future results.

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We may not continue to receive necessary FDA or other regulatory clearances or approvals.

Our products and activities are subject to extensive, ongoing regulation by the Food and Drug Administration and other governmental authorities. Delays in receipt of, or failure to obtain or maintain, regulatory clearances and approvals, or any failure to comply with regulatory requirements, could delay or prevent our ability to market or distribute our product line.

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

Sales of medical devices outside the United States are subject to foreign regulatory requirements that vary from country to country. If we or our international distributors fail to obtain or maintain required pre-market approvals or fail to comply with foreign regulations, foreign regulatory authorities may require us to file revised governmental notifications, cease commercial sales of our products in the applicable countries or otherwise cure the problem. Such enforcement action by regulatory authorities may be costly. In order to sell our products within the European community, we must comply with the European community’s medical device directive. The CE marking on our products attests to this compliance. Future regulatory changes may limit our ability to use the CE mark, and any new products we develop may not qualify for the CE mark. If we lose this authorization or fail to obtain authorization on future products, we will not be able to sell our products in the European community.

We do not know the effects of healthcare reform proposals.

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

We expect that the U.S. Congress and state legislatures will continue to review and assess various healthcare reform proposals, and public debate of these issues will likely continue. We cannot predict which, if any, of such reform proposals will be adopted and when they might be effective. Other countries also are considering healthcare reform. Significant changes in healthcare systems could have a substantial impact on the manner in which we conduct our business and could require us to revise our strategies.

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

The nature of our business exposes us to risks of product liability claims and product recalls. Medical devices as complex as ours frequently experience errors or failures, especially when first introduced or when new versions are released. For example, we voluntarily retrieved 43 units of our new BioZ ICG Monitor’s from purchasers in December 2001 due to performance issues identified in conjunction with early users of this product. All units were replaced and retrofitted to address the performance issues. Our products are sometimes used in procedures where there is a high risk of serious injury or death. These risks will exist even with respect to those products that have received, or may in the future receive, regulatory clearance for commercial sale.

We did not carry product liability insurance during some periods before May 15, 1995. We currently maintain product liability insurance at $9,000,000 per occurrence and $10,000,000 in the aggregate. Our product liability insurance may not be adequate. In the future, insurance coverage may not be available on commercially reasonable terms, or at all. In addition, product liability claims or product recalls could damage our reputation even if we have adequate insurance coverage.

Our common stock is subject to price volatility.

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

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

We may be required to issue additional shares of common stock at prices that are below then market value.

The holders of warrants to purchase our common stock could require us to issue additional shares of common stock to them pursuant to anti-dilution rights. These rights would cause us to issue additional common stock upon exercise of their warrants if we sell common stock at a price less than the exercise price of their warrants. If we need to sell common stock at a time when the market price for our shares is depressed, these anti-dilution rights could further depress the market price and impair our ability to raise additional capital. As of February 15, 2004, there were warrants outstanding for the purchase for 2,335,000 shares of our common stock.

Our international sales expose us to unique risks.

In fiscal 2003, international sales accounted for approximately 5% of our net sales. We believe that international sales will represent a meaningful portion of our revenue in the future. We rely on regional distributors and GEMS-IT to assist us with our international sales efforts. We are exposed to risks from international sales, which include unexpected changes in regulatory requirements, tariffs and other barriers and restrictions and reduced protection for intellectual property rights. Moreover, fluctuations in the rates of exchange may increase the price in local currencies of our products in foreign markets and make our products relatively more expensive than competitive products.

Terrorist attacks in the United States and the threat of war have affected travel, the stock market, the postal service and the general economy.

In the wake of the terrorist attacks that occurred in the United States on September 11, 2001, stock prices broadly declined from the prices that existed prior to the attacks. In addition to affecting the stock markets, the terrorist attacks may affect the United States and international economies because of the uncertainties that exist as to how the United States will respond in the future and as to whether additional attacks will be carried out against the United States. These uncertainties brought about challenges in travel, mail delivery and contributed to a slowdown in economic activity in the United States and beyond. Limitations on travel by our sales and clinical staff could negatively affect our ability to achieve our revenue goals. Additionally, travel closures or delays could negatively impact deliveries of raw materials from our vendor required to manufacture our products including the disposable sensors and deliver them in a timely way to our customers. Delays in the delivery of mail could inhibit our ability to invoice and collect amounts owed to us.

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

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

Common stock that is available for immediate resale may depress our market price.

We have filed registration statements with the Securities and Exchange Commission covering the potential resale by our shareholders of up to 18,700,000 shares of common stock, much of which may not have been sold. The existence of a substantial number of shares of common stock subject to immediate resale could depress the market price for our common stock and impair our ability to raise needed capital.

We may not be able to execute our acquisition strategy or successfully integrate future acquisitions.

We expect to pursue opportunities to acquire or make investments in other technologies, products and businesses that could enhance our technical capabilities, complement our current products or expand the breadth of our markets or customer base. We have no previous experience in acquiring other businesses and technologies.

Potential and completed acquisitions and strategic investments involve numerous risks, including:

If we fail to properly evaluate and execute acquisitions and strategic investments, our management team may be distracted from our day-today operations, our business may be disrupted, and our operating results may suffer. In addition, if we finance acquisitions by incurring debt or issuing equity, our existing shareholders would be diluted or we would have to generate additional profits to cover the interest expense.

Utilization of our deferred tax assets may be limited and is dependant on future taxable income.

We have federal operating loss carryforwards of approximately $22,000,000 for federal income tax purposes. These amounts may be subject to significant limitations under section 382 of the Internal Revenue Code of 1986. The Tax Reform Act of 1986 contains provisions that limit the federal net operating loss carryforwards that may be used in any given year in the event of specified occurrences, including significant ownership changes. If these specified events occur or have occurred we may lose some or all of the tax benefits of these carryforwards. The extent of such limitations for prior years, if any, has not yet been determined.

At November 30, 2003, a valuation allowance has been recognized for the full amount of the deferred tax asset created by these carryforwards. In calculating our tax provision and assessing the likelihood that we will be able to use the deferred tax assets we will continue to evaluate our ability to realize these deferred tax assets. As

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we generate taxable income for book purposes, we will realize the benefit of the deferred tax assets to offset the tax expense or stockholders’ equity for the applicable stock option valuation allowance associated with pre-tax income, resulting in a reduced net tax expense for the period and greater net income than would normally be expected. In addition, when we determine, based on the information existing in the future, including the assessment of both positive and negative evidence and objective and subjective evidence, which takes into consideration our forecasted book and tax income, that it is more likely than not that we will realize the deferred tax assets, we will reduce or eliminate the valuation allowance on the deferred tax assets. Upon reversing the valuation allowance and recognizing the deferred tax assets, we will recognize a tax benefit. The favorable impact of the tax benefit may distort the trends in our operating results and would impact the comparability of our results of operations with other periods. This may make our financial results appear favorably when compared to companies with similar results of operations that do not provide a valuation allowance on their net deferred tax assets.

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

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

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

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

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

We do not intend to pay any cash dividends on our common stock in the foreseeable future. Payment of such cash dividends would, in any event, be prohibited or limited under the terms of our line of credit with Comerica Bank.

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Our executive offices total approximately 18,000 square feet and are located at 6175 Nancy Ridge Drive in San Diego, California under a lease that expires on August 1, 2007. Our monthly rent for this property is $22,000. This facility houses all of our research, development, manufacturing, marketing, sales and administrative activities except for field and contract personnel. Approximately 12,000 square feet of the facility is being utilized by our research, development and manufacturing functions with the balance occupied by our marketing, sales and administrative staff. We currently are considering expansion options to accommodate our anticipated growth and believe that suitable additional space will be available to accommodate our future needs.

We are from time to time subject to legal proceedings and claims, which arise in the ordinary course of our business, none of which is required to be disclosed under this Item 3. Management believes that resolution of these matters will not have a material adverse effect on our results of operations or financial condition.

No matters were submitted to a vote of security holders during the fourth quarter of the fiscal year ended November 30, 2003.

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EXECUTIVE OFFICERS OF THE REGISTRANT

Our executive officers as of January 31, 2004 are as follows:

Michael K. Perry, age 43, has been our chief executive officer and a director since April 1998. From 1994 to 1997, Mr. Perry was vice president of operations at Pyxis Corporation, a leading provider of healthcare automation, information management services and pharmacy management services to hospitals and outpatient facilities. Pyxis was acquired by Cardinal Health, Inc. in 1996. Prior to joining Pyxis, Mr. Perry served in various management positions with the medical products group of Hewlett Packard Company. Additionally, he was director of quality for a division of Hewlett-Packard’s deskjet printer group. Mr. Perry holds a bachelor’s degree in mechanical engineering from General Motors Institute and a master’s degree in business administration from Harvard University. Mr. Perry serves on the advisory board of the University of California San Diego Cardiovascular Center.

Rhonda F. Rhyne, age 43, has been our president since June 1997, previously serving as chief operating officer from 1996 to 1997 and as vice president of operations from 1995 to 1996. From 1992 until 1995, Ms. Rhyne was president, chief executive officer and vice president of sales and marketing for Culture Technology, Inc. Ms. Rhyne has also held sales positions at GE Medical Systems and Quinton Instrument Company, both medical device subsidiaries of publicly held companies. Ms. Rhyne holds a bachelor’s degree in pharmacy from Washington State University and a master’s degree in business administration, executive program, from University of California Los Angeles, Anderson School of Business.

Steve P. Loomis, age 43, joined the Company in September 1996 as vice president of finance and has held the positions of chief financial officer and corporate secretary since April 1997. From 1993 until 1996, he served as director of financial reporting at Kinko’s Inc. From 1988 to 1993, Mr. Loomis was chief financial officer for Terminal Data Corporation, a publicly traded company. He earned his bachelor’s degree in business administration from California State University at Northridge. Mr. Loomis is a certified public accountant.

Russell H. Bergen, age 57, has served as our vice president of operations since joining us in September 1998. From 1971 to 1998, Mr. Bergen held management positions in the instrument group, peripheral products group and inkjet business unit of Hewlett Packard Company. Previously, Mr. Bergen was employed at Honeywell, Inc. as a procurement engineer. Mr. Bergen earned a bachelor’s degree in aerospace engineering and manpower management from the University of Colorado at Boulder.

Dennis G. Hepp, age 54, has been our chief technology officer since June 1997 and has served as a consultant to us since July 1995. From 1974 to 1986, Mr. Hepp held engineering and management positions at Medtronic, Inc. In 1989, Mr. Hepp founded, and remains a key employee and managing director of Rivertek Medical Systems, Inc., an engineering consulting firm to medical device manufacturers. Mr. Hepp holds a bachelor’s degree in electrical engineering from the University of Detroit.

Patrick W. Bradley, Ph.D., age 50, joined CardioDynamics in September 2000 as vice president of business development. Dr. Bradley served as director of new technologies for Cardiac Science, Inc. from 1999 to 2000 and from 1993 to 1999; Dr. Bradley was associate vice president for OEM Technologies at VitalCom, Inc.

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Prior to that, he was director of product management at Quinton Instrument Company. Dr. Bradley has served on the Scientific Peer Review Committee for the American Heart Association and on the Sports Science Research Group for the United States Olympic Committee. He has a bachelor’s degree in biology from Texas A&M University and a master’s degree and Ph.D. in physiology from University of Houston.

Richard E. Trayler, age 53, is our vice president of international operations and served as our chief operating officer from July 1997 to January 2003. From 1982 to 1997, Mr. Trayler held sales management positions at Quinton Instrument Company. He has also held positions at the Heart Institute for CARE, the University of Washington and the Boeing Company. Mr. Trayler earned a bachelor’s degree from Texas A&M University and a master’s degree from the University of Washington.

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PART II

Our common stock is quoted on the Nasdaq National Market under the symbol “CDIC.” The following table sets forth, for the periods indicated, the high and low bid and ask prices per share of our common stock as furnished by the Nasdaq National Market.

On February 15, 2004 there were 467 holders of record of our common stock with 46,571,764 shares outstanding. Our total shareholder base is just over 13,000. We have not declared or paid any cash dividends on shares of our common stock and do not anticipate paying any cash dividends in the foreseeable future. We currently intend to retain any future earnings for use in the operation of our business.

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The following table summarizes certain selected financial information for, and as of the end of, each of the fiscal years in the five-year period ended November 30, 2003. The information set forth below is derived from the financial statements of the Company and should be read in conjunction with the Management’s Discussion and Analysis of Financial Condition and Results of Operations, the Financial Statements and related Notes.

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The following management’s discussion and analysis of financial condition and results of operation should be read together with our Financial Statements and the Notes related to those statements, as well as the other financial information included in this Form 10-K. Some of our discussion is forward-looking and involves risks and uncertainties. For information regarding risk factors that could have a material adverse effect on our business, refer to Part I, Item 1 of this Form 10-K, “Business—Risk Factors”. This discussion refers to fiscal years that ended on November 30.

Results of Operations

CardioDynamics is the innovator and market leader of a breakthrough technology called Impedance Cardiography (ICG). We develop, manufacture, and market noninvasive monitoring technologies. Unlike other traditional cardiac function monitoring technologies, our monitors are noninvasive (without cutting into the body). Our BioZ ICG Systems obtain data in a safe, efficient and cost-effective manner not previously available in the physician’s office and many hospital settings. Just as electrocardiography noninvasively measures the heart’s electrical characteristics, ICG makes it possible to noninvasively measure the heart’s mechanical characteristics by monitoring the heart’s ability to deliver blood to the body and the amount of fluid in the chest. Our products measure 12 hemodynamic parameters, the most significant of which is cardiac output, or the amount of blood pumped by the heart each minute. Our lead products, the BioZ ICG Monitor and the BioZ ICG Module for GE Medical Systems Information Technologies (GEMS-IT) Patient Monitoring Systems have been cleared by the U.S. Food and Drug Administration (FDA) and carry the CE mark, which is a required certification of essential environmental and safety compliance by the European Community for sale of electronic equipment.

The aging of the worldwide population along with continued cost containment pressures on healthcare systems and the desire of clinicians and administrators to use less invasive (or noninvasive) procedures are important trends that are helping drive adoption of our BioZ ICG Systems. These trends are likely to continue into the foreseeable future and should provide continued growth prospects for our Company.

We derive our revenue primarily from the sale of our BioZ ICG Monitors and associated sensors, which are consumed each time a patient test is performed. During 2003, 17% of our revenue came from our disposable sensors, and that percentage has increased each year from approximately 4% in 1999, to 6% in 2000, 9% in 2001, and 12% in 2002. The compound annual revenue growth for our sensors during the past 4 years has been 123% per year with sensor sets for nearly 1 million patient applications being shipped to customers during 2003. We estimate that sensor revenue will comprise as much as 40% of our total revenue within the next five years. We employ a workforce of clinical application specialists (CAS) who are responsible for driving customer satisfaction and use of the BioZ ICG Systems. Our CAS investment has helped us to accelerate the growth of our sensor business, which improves the predictability of our revenue, earnings, and cash flow over time.

Our management team is focused on expanding the adoption of ICG technology. In the healthcare industry, there is often a slow, steady adoption of successful new technologies. Making physicians aware of the availability and benefits of a new technology and the changing of physician habits, time required to secure adequate reimbursement levels, and the malpractice and legal issues that overlay the healthcare industry are all factors that tend to slow the rate of adoption for any new medical technology. We are investing a significant amount of our resources in clinical trials, which, if results prove successful, will contribute to further physician acceptance and market adoption of our technology. We have assembled a well-respected and experienced group of medical advisors that have guided the development and implementation of our clinical trials. As with any clinical trial, there is not absolute assurance of the desired positive outcome, however, we have exercised considerable diligence in designing and managing these clinical trials to provide a strong foundation for success.

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Additionally, we continue to invest in our partnerships to increase the presence and adoption of ICG technology. Our principal strategic partners include GEMS-IT and Philips. Both of these partners are among the premier medical technology companies in the world and have a substantial installed base of medical devices. We are currently selling the BioZ ICG Module through GEMS-IT and are co-developing with Philips, a first of its kind, combined ICG/ECG device. These strategic relationships further validate the importance of our technology to the clinical community and provide additional distribution channels for our systems. We intend to seek additional partnerships over time to further the validation, distribution, and adoption of our technology.

We believe that the greatest risks in executing our business plan would be an adverse change in U.S. reimbursement policies for our technology, negative clinical trial results, or the inability to hire, train, and develop the necessary sales and clinical personnel to meet our growth objectives. We continue to prepare for increased competition from emerging ICG companies or other new technologies that could yield similar clinical outcomes at reduced cost or provide superior outcomes. Our management team devotes a considerable amount of time to assuring that we are mitigating these and other risks to the greatest extent possible. For information regarding additional risk factors that could have a material adverse effect on our business, refer to Part I, Item 1 of this Form 10-K.

Following is a list of some of our key milestones in 2003:

Net Sales were $30,332,000, $23,523,000, and $19,598,000 for 2003, 2002, and 2001, respectively, representing growth of 29% in 2003 over 2002 and 20% growth in 2002 over 2001. The sales growth was achieved primarily through increased unit sales by our domestic direct sales force and increased disposable sensor revenue as our installed base of monitors continues to grow. We sold 769 BioZ Monitors in 2003, up from 630 in 2002 and 558 in 2001, increasing our active installed base of stand-alone BioZ Monitors to over 2,300. We believe the demand for our products will continue to grow as the medical community’s recognition of the clinical usefulness of our ICG technology increases.

In March 1998, we received 510(k) marketing clearance for our BioZ ICG Monitor. The BioZ ICG Monitor incorporates our Z MARC^® algorithm, which allows the system to sense and modulate values on patients with over-compliant or under-compliant aortas. The BioZ ICG Monitor accounted for 80% of our overall revenues in 2003, compared with 85% and 78% of our sales in 2002 and 2001, respectively. The fluctuation in the percentage of BioZ sales is due to increasing sales of our disposable sensors, extended warranty, and, in 2001, $2,263,000 of our net sales were from the initial shipments of the BioZ ICG Module kits to our strategic partner, GEMS-IT.

Sales by our domestic direct sales force, which targets physician offices and hospitals, increased 28% in 2003 with sales of $28,542,000, from $22,212,000 in 2002, and increased 43% in 2002 over 2001 sales of $15,571,000. We achieved an 18% increase in unit productivity by our direct sales force in 2003 and a 2%

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improvement in 2002 over 2001. These improvements were primarily driven by lower sales force turnover and the sales support provided by our clinical application specialists.

Disposable sets of four dual sensors are required each time our BioZ products are used. In May 2000, we received FDA 510(k) clearance on the BioZtect^® sensor and cable system, which provides enhanced features to our customers and promotes the exclusive use of our patented sensors with our equipment. To protect our electrode technology, we hold several utility patents and three United States design patents. The BioZtect^® sensors for our stand-alone BioZ ICG Monitors have a list price of $10.95 per application and $19.95 per application for the BioZ ICG Module. We offer a Discount Sensor Program (formerly Auto-Ship Sensor Program) to our domestic outpatient customers that provides significant discounts and price protection on sensor purchases in exchange for minimum monthly sensor purchase commitments. At November 30, 2003, approximately 47% of our customers were participating in the Discount Sensor Program. At $5,170,000, $2,858,000 and $1,746,000, our disposable sensor revenue grew 81% in 2003, and 64% in 2002, respectively. This growth has been primarily driven by a 39% increase in the number of units in the active installed base in 2003 and 40% in 2002 over 2001, along with a 24% increase in the average price per sensor shipped and a 31% increase in the average number of applications used per system per day over the two year period ended November 30, 2003. As the installed base of BioZ ICG Systems grows, we expect the sales generated by our disposable sensors to continue to comprise a larger portion of our overall revenue stream.

The list price for our BioZ Monitors is $38,710 and the average net revenue achieved per unit sold by our direct sales force has increased over the three-year period by just over 10%. There are several reasons that we are able to continue to sell our BioZ Monitors at increasing amounts including:

In November 1998, we received CE Mark approval for our BioZ ICG Monitor, which expanded our opportunities for distribution in Europe. In 1999 and 2000, we entered into several strategic distribution agreements with GEMS-IT for exclusive distribution of our BioZ ICG Monitors to select countries around the world. Through GEMS-IT and our other international distributors, ICG technology is now represented in over 30 countries throughout Europe, Asia Pacific, Africa, the Middle East, Australia, New Zealand and Latin America. In May 2000, we received State Drug Administration approval from the People’s Republic of China and in November 2000, a license to sell medical devices in Canada. In February 2002, our distribution partners received MHLW and KFDA approvals, enabling our products to be sold in Japan and Korea. Sales to our international distributors and strategic partner internationally were $1,559,000, $1,181,000, and $914,000 for 2003, 2002 and 2001, respectively.

Sales to our domestic strategic partners were $231,000, $130,000 and $3,113,000 for 2003, 2002 and 2001, respectively. Our agreement with GEMS-IT called for annual minimum purchase commitments that expired in 2001 and therefore sales in 2002 and 2003 were significantly less as they sold from their inventory. In the second quarter of 2001, we commenced shipments to GEMS-IT of the BioZ ICG Module, a custom plug-in module for the GEMS-IT series of bedside monitors. This product extends the capabilities of the GEMS-IT Solar and DASH product families to provide the hemodynamic parameters of our BioZ ICG Monitor. The BioZ ICG Module is

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distributed worldwide by GEMS-IT for their Solar^® 7000, 8000, 8000M, and DASH 3000, 4000 patient monitors. In the second quarter of 2002, we entered into an OEM agreement with GEMS-IT which provides our direct sales force exclusive rights to sell BioZ ICG Modules directly into the GEMS-IT installed customer base of over 30,000 units while allowing the GEMS-IT sales force to continue to sell the BioZ ICG Module as an additional high-value parameter for new system sales. GEMS-IT has recently placed modest orders for additional BioZ ICG Modules for shipment in 2004.

In July 2002, we signed a Co-Development and OEM Agreement with Philips, a worldwide leader in clinical measurement and diagnostic solutions for the healthcare industry. This joint product development initiative will allow us to offer an ICG-only monitor on the Philips platform, as well as combine our proprietary ICG technology with Philips’ diagnostic 12-lead ECG. Initial release of the ICG product is targeted for the end of 2004. The agreement allows both companies to market the combined ICG/ECG product.

In November 2002, we entered into a distribution agreement with SunTech Medical Instruments, Inc. (SunTech), the world leader in motion-tolerant noninvasive blood pressure monitoring products and technology, which gave us the right to sell SunTech’s new ambulatory blood pressure (ABP) throughout North, Central, and South America. Our sales of ABP’s in 2003 were nominal and are not expected to comprise a significant portion of future revenue.

Revenue derived from extended warranty contracts, spare parts, accessories and non-warranty repairs of our BioZ Monitors in 2003 was $764,000, $657,000 in 2002 and $265,000 in 2001.

Gross Margins were $23,210,000, $17,378,000 and $13,984,000 for the years ended 2003, 2002 and 2001, respectively. As a percentage of net sales, gross margins have improved steadily to 77% in 2003 from 74% in 2002 and 71% in 2001. The improved gross margin percentage has resulted from several factors including:

We do not expect our gross margins to continue to increase. As the market begins to mature and penetration increases, we believe that prices will naturally decline as ICG technology becomes more of a standard of care, driving our gross margin to lower levels.

Selling and Marketing expenses increased 18% to $15,548,000 in 2003 from $13,124,000 and $10,184,000 in 2002 and 2001 respectively. Measured as a percent of sales, these expenses have fluctuated from 51% in 2003, down from 56% in 2002 and 52% in 2001. Higher sales and increased sales productivity, coupled with the 81% growth in recurring sensor revenue, contributed to the improvement in sales and marketing as a percentage of net sales. The expense increases in 2003 and 2002 are largely due to higher salaries and commissions on increased sales by our direct sales force, the addition of CAS and marketing personnel during the two-year period, and additional provision for doubtful accounts resulting from higher accounts receivable balances. Our objective is to

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reduce selling and marketing expenses as a percentage of revenue each year over the next several years. With the current operating leverage in our business, this improvement provides a significant opportunity to improve net income and cash flow in the near term.

Research and Development expenses for the years ended November 30, 2003, 2002 and 2001 were $3,272,000, $2,423,000 and $3,215,000, respectively. The 35% increase in comparing 2003 to 2002 expenditures is primarily attributable to the addition of five engineering and research personnel during the year providing us with the capacity to focus increased attention on the development of new products and product enhancements. Development of the joint ICG/ECG product with Philips consumed most of these resources in 2003. Our investments in research, product development and clinical studies were lower in 2002, as the development of the GEMS-IT BioZ ICG Module which required substantial outside engineering services was concluded and initial expenditures on several clinical studies leveled out.

General and Administrative expenses were $2,062,000, $1,821,000 and $1,747,000 in 2003, 2002 and 2001 respectively. As a percentage of net sales, general and administrative expenses continued to decrease to 7% in 2003, from 8% in 2002 and 9% in 2001 as we continue to focus on ongoing cost containment in all areas of our business with specific emphasis in the areas that are not directly related to sales growth. However, we anticipate that compliance with certain provisions of the Sarbanes-Oxley Act of 2002, including Section 404 relating to internal controls, will increase our general and administrative costs in future periods.

Other Income and Expense includes interest income of $366,000, $361,000, and $584,000 in 2003, 2002 and 2001, respectively. The decrease in 2003 and 2002 from 2001 was due to lower rates of interest earned on invested funds and decreased interest earned on internally financed leases. We incurred interest expense of $15,000, $10,000 and $47,000 for years 2003, 2002 and 2001, respectively. The decrease in interest expense in 2002 over 2001 is due to several capital leases coming to the end of their terms during 2002.

Provision For Income Taxes in 2002 and 2001 were the minimum annual amount of $1,000. We have federal and California state net operating loss carryforwards to offset taxable income; however, as a result of the budget shortfall, California has suspended the use of net operating loss carryforwards for 2003 and 2004, therefore we incurred $227,000 of franchise tax expense in 2003 on income earned in California.

Net Income (Loss) was of $2,452,000, or $.05, per share in 2003, up from $310,000 in 2002, or $.01 per share. In 2001, we recorded a net loss of $659,000, or ($.01) per share.

Liquidity and Capital Resources

Net cash provided by operating activities in 2003 was $2,229,000, up from a net cash usage of $143,000 in 2002, contributing to a $3,164,000 increase in our working capital to $21,328,000 at November 30, 2003, up from $18,164,000 at November 30, 2002. The 17% increase in 2003 is primarily due to improved accounts receivable collections and tighter inventory flow management, offset partially by quicker payments to our vendors. In 2003 and 2002, we invested our excess cash and cash equivalents in short-term highly liquid investments.

We maintain a reserve for excess, slow moving and obsolete inventory, and we value our inventory at the lower of cost or market using the first-in, first-out method. In 2003, 2002, 2001 we charged $377,000, $216,000

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and $209,000, respectively, against the inventory reserve and wrote off as obsolete $89,000 $659,000 and $142,000, respectively, in those same periods. We have not had to write-down any inventory due to the market value being lower than our cost. We believe that our inventory reserves are adequate and appropriate and we do not expect changes in these reserves to have a material impact on our current or future results of operations, capital resources or liquidity.

In 2003, 2002 and 2001, we invested $510,000, $228,000 and $200,000, respectively, in property and equipment, principally for new computers, software and equipment. Much of the increased investment in capital assets during fiscal 2003 was for a new computer information system that was implemented in September 2003. We generated $767,000, $849,000 and $393,000 from financing activities in 2003, 2002 and 2001, respectively, primarily from the exercise of stock options and warrants.

In June 1997, we entered into a five-year lease for an 18,000 square-foot manufacturing facility that also houses our research, development, marketing, sales and administrative activities. The lease was renewed in March 2002 for the period commencing August 1, 2002 and continuing through July 31, 2007. The current lease payments are approximately $22,000 per month, including common area maintenance charges and property taxes. We are currently considering expansion options to accommodate our current and anticipated growth, however we do not anticipate significantly increasing our facility costs in the near term.

We have a secured revolving credit line with Comerica Bank that provides for borrowings up to $4,000,000 at the bank’s prime rate through September 2004. All the assets of the Company collateralize the credit line. Under the terms of the agreement, we are required to maintain minimum ratios of current assets to liabilities and not to exceed certain loss levels. We do not believe that any of the covenants are reasonably likely to materially limit our ability to borrow on the credit line. During 2003 and 2002, there were no outstanding borrowings under the line of credit.

In the near term, we intend to use our cash on hand, marketable securities, operating cash flows and availability under our line of credit to support our ongoing operating and financing requirements such as ongoing research and development efforts, expansion of our direct sales force, capital expenditures and to meet our working capital requirements. As we continue to pursue opportunities to acquire or make investments in other technologies, products and businesses, we may choose to finance such acquisitions or investments by incurring debt or issuing equity. Our long-term liquidity will depend on our ability to commercialize the BioZ and other diagnostic products and may require us to raise additional funds through public or private financing, bank loans, collaborative relationships or other arrangements. We can give no assurance that such additional funding will be available on terms attractive to us, or at all.

Our contractual cash obligations for periods subsequent to November 30, 2003 are as follows: (in thousands):

We have operating loss carryforwards of approximately $21,704,000 for federal income tax purposes. The Tax Reform Act of 1986 contains provisions that limit the federal net operating loss carryforwards that can be

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used in any given year in the event of specified occurrences, including significant ownership changes. If these specified events occur, or are deemed to have occurred, we may lose some or all of the tax benefits of these carryforwards. A valuation allowance has been recognized for the full amount of the deferred tax asset created by these carryforwards. As a result of the California state budget shortfall, California has suspended the use of net operating loss carryforwards for 2003 and 2004, which will require us to pay franchise tax on any income earned in California in those years.

Off-Balance Sheet Arrangements

The Company is not a party to off-balance sheet arrangements, does not engage in trading activities involving non-exchange traded contracts, and is not a party to any transaction with persons or activities that derive benefits, except as disclosed herein, from their non-independent relationships with the Company.

Critical Accounting Policies and Estimates

The preparation of our financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and judgments that affect our reported amounts of assets and liabilities, revenues and expenses and related disclosures of contingent assets and liabilities. We evaluate our estimates on an ongoing basis, including those related to the allowance for doubtful accounts receivable, sales returns, inventory obsolescence and warranty reserve. We state these accounting policies in the notes to the financial statements and at relevant sections in this discussion and analysis. The estimates are based on the information that is currently available to us and on various other assumptions that we believe to be reasonable under the circumstances. Actual results could vary from those estimates under difference assumptions or conditions.

In response to the SEC’s Release numbers 33-8040 “Cautionary Advice Regarding Disclosure About Critical Accounting Policies” and 33-8056, “Commission Statement about Management’s Discussion and Analysis of Financial Condition and Results of Operations,” we have identified the following critical accounting policies that affect the more significant judgments and estimates used in the preparation of our financial statements. Our management has discussed the development and selection of the critical accounting estimates with the audit committee and our board of directors and the audit committee has reviewed our disclosure relating to in this discussion and analysis.

We maintain an allowance for doubtful accounts receivable to cover estimated losses resulting from the inability of our customers to make required payments. We determine the adequacy of this allowance by regularly reviewing our accounts receivable aging and evaluating individual customer receivables, considering customer’s credit and financial condition, payment history and relevant economic conditions. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances for doubtful accounts may be required.

We also maintain an estimate of potential future product returns related to current period product sales. We analyze the rate of historical returns when evaluating the adequacy of the allowance for product returns, which is included with the allowance for doubtful accounts receivable on our balance sheet. At November 30, 2003, gross trade accounts receivable totaled $11,500,000 and the allowance for doubtful accounts was $1,940,000, which included an allowance for sales returns of $1,056,000. At November 30, 2002 gross trade accounts receivable totaled $10,342,000 and the allowance for doubtful accounts was $1,726,000, which included an allowance for sales returns of $746,000.

We recognize revenue from the sale of product when persuasive evidence of a sale exists, the product has been shipped, the sales price is fixed and determinable and collection of the resulting receivable is reasonably assured. We sell some products under long-term financing arrangements and recognize the present value of the

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minimum payments as revenue at the time of sale and recognize interest income over the term of the contract. Revenue for extended warranty contracts is recognized evenly over the life of the contract. Amounts received for warranty contracts that have not yet been earned, are recorded as deferred revenue.

We maintain a reserve for excess, slow moving, and obsolete inventory as well as inventory with a carrying value in excess of its net realizable value. We value our inventory at the lower of cost, using the first-in, first-out method, or market. We review inventory on hand at least quarterly and record provisions for excess and obsolete inventory based on several factors, including our current assessment of future product demand, historical experience, and product expiration.

We also maintain a reserve for product warranties. Estimates for warranty costs are calculated based primarily upon historical warranty experience, but may include assumptions related to anticipated changes in warranty costs, failure rates, etc. Assumptions and historical warranty experience are evaluated on at least a quarterly basis to determine the appropriateness of such assumptions. Warranty accruals are adjusted from time to time when actual warranty claim experience differs from our estimates.

Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. To the extent that available evidence about future taxable earnings raises doubt about the realization of a deferred income tax asset, a valuation allowance is established.

New Accounting Standards

In June 2002, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 146, Accounting for Costs Associated with Exit or Disposal Activities. SFAS No. 146 addresses issues regarding the recognition, measurement and reporting of costs associated with exit or disposal activities. SFAS No.146 is effective prospectively for exit or disposal activities initiated after December 31, 2002. The adoption of this statement had no effect on our results of operations and financial position.

In November 2002, the FASB issued Interpretation No. 45 (FIN No. 45), Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness to Others. FIN No. 45 elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under guarantees issued. FIN No. 45 also clarifies that a guarantor is required to recognize, at inception of a guarantee, a liability for the fair value of the obligation undertaken. The initial recognition and measurement provisions of FIN No. 45 are applicable to guarantees issued or modified after December 31, 2002. The disclosure requirements are effective for financial statements of interim and annual periods ending after December 31, 2002. Other than for additional disclosures regarding our warranty reserve, the adoption of this interpretation had no impact on our financial position or results of operations.

In December 2002, the FASB issued SFAS No. 148, Accounting for Stock Based Compensation—Transition and Disclosure, an amendment of FASB Statement No. 123. SFAS No. 148 amends SFAS No. 123 by providing alternative methods of transition for a voluntary change to the fair value method of accounting for stock based employee compensation. In addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in both annual and interim financial statements. We have implemented the disclosure provisions of SFAS No. 148 and have decided to continue to account for stock-based employee compensation using the intrinsic value method under APB opinion No. 25, Accounting for Stock Issued to Employees, as permitted under SFAS 148. Other than for additional disclosures regarding our stock options, the adoption of this interpretation had no impact on our financial position or results of operations.

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In January 2003, the FASB issued Interpretation No. 46, Consolidation of Variable Interest Entities, an interpretation of ARB No. 51. This interpretation addresses the consolidation by business enterprises of variable interest entities as defined in the Interpretation. The interpretation applies immediately to variable interests in variable interest entities created or obtained after January 31, 2003. The interpretation requires certain disclosures in financial statements issued after January 31, 2003 if it is reasonably possible that the Company will consolidate or disclose information about variable interest entities when the Interpretation becomes effective. The application of this interpretation had no effect on our financial position or results of operations.

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Interest Rate Sensitivity

The primary objective of our investment activities is to preserve principal, while at the same time, maximize the income we receive from our investments without significantly increasing risk. In the normal course of business, we employ established policies and procedures to manage our exposure to changes in the fair value of our investments. Under our current policies, we do not use interest rate derivative instruments to manage exposure to interest rate changes. We attempt to ensure the safety and preservation of our invested principal funds by limiting default risks, market risk and reinvestment risk. We mitigate default risk by investing in investment grade securities. Some of the securities that we have invested in may be subject to market risk. This means that a change in prevailing interest rates may cause the principal amount of the investment to fluctuate. For example, if we hold a security that was issued with a fixed rate equal to the then-prevailing interest rate and the prevailing interest rate later rises, the fair value of our investment will decline. To minimize this risk, we maintain substantially all of our portfolio of cash equivalents and short-term investments in commercial paper, certificates of deposit, money market and mutual funds. Our interest income is sensitive to changes in the general level of U.S. interest rates; however, due to the nature of our short-term investments, we have concluded that there is no material market risk exposure.

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INDEPENDENT AUDITORS’ REPORT

The Board of Directors and Shareholders

CardioDynamics International Corporation:

We have audited the accompanying balance sheets of CardioDynamics International Corporation as of November 30, 2003 and 2002, and the related statements of operations, shareholders’ equity and comprehensive income, and cash flows for each of the years in the three-year period ended November 30, 2003. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of CardioDynamics International Corporation as of November 30, 2003 and 2002 and the results of its operations and its cash flows for each of the years in the three-year period ended November 30, 2003, in conformity with accounting principles generally accepted in the United States of America.

/s/ KPMG LLP

San Diego, California

January 20, 2004

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CARDIODYNAMICS INTERNATIONAL CORPORATION

Balance Sheets

November 30, 2003 and 2002

(In thousands, except share data)

See accompanying notes to financial statements.

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CARDIODYNAMICS INTERNATIONAL CORPORATION

Statements of Operations

For the years ended November 30, 2003, 2002 and 2001

(In thousands, except per share data)

See accompanying notes to financial statements.

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CARDIODYNAMICS INTERNATIONAL CORPORATION

Statements of Shareholders’ Equity and Comprehensive Income

For the years ended November 30, 2003, 2002 and 2001

(In thousands, except share data)