UNITED STATES
                              SECURITIES AND EXCHANGE COMMISSION
                                    Washington, D.C. 20549

                                          FORM 10-K
(Mark One)
    [X]    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                  SECURITIES EXCHANGE ACT OF 1934 [FEE REQUIRED]
                         For the fiscal year ended July 28, 1996

                                            OR
    [   ]  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
           SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
             For the transition period from ...............to ...............

                                Commission File No. 0-5411

                                 Herley Industries, Inc.
                  (Exact name of registrant as specified in its charter)

       Delaware                                                   23-2413500
       State or other jurisdiction                          (I.R.S. Employer
       of incorporation or organization                  Identification No.)

       10 Industry Drive, Lancaster, Pennsylvania                      17603
       (Address of Principal Executive Offices )                  (Zip Code)

           Registrant's telephone number, including area code:(717) 397-2777

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

 Title of each class                    Name of Exchange on which registered
                                                     None        None

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

                            Common Stock, $ .10 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 (ss.229.405 of this chapter) 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.[ ]

Based on the  closing  sale price of $9.125 as of October 4, 1996 the  aggregate
market value of the voting stock held by  non-affiliates  of the  registrant was
$16,913,005.

The number of shares  outstanding of registrant's  common stock, $ .10 par value
was 2,938,522 as of October 4, 1996

Documents incorporated by reference:
Registrant's  definitive  proxy statement to be filed pursuant to Regulation 14A
of the Securities Exchange Act of 1934.

<PAGE>





                                  HERLEY INDUSTRIES, INC.

                                     TABLE OF CONTENTS


                                                                            Page
PART I
          Item 1   Business                                                  1
          Item 2   Properties                                                6
          Item 3   Legal Proceedings                                         6
          Item 4   Submission of Matters to a Vote of Security Holders       6

PART II
          Item 5   Market for Registrant's Common Equity and Related
                      Stockholder Matters                                    7
          Item 6   Selected Financial Data                                   7
          Item 7   Management's Discussion and Analysis of Financial
                      Condition and Results of Operations                    8
          Item 8   Financial Statements and Supplementary Data              10
          Item 9   Changes in and Disagreements with Accountants on
                      Accounting and Financial Disclosure                   10
PART III
          Item 10  Directors and Executive Officers of the Registrant       10
          Item 11  Executive Compensation                                   10
          Item 12  Security Ownership of Certain Beneficial
                      Owners and Management                                 10
          Item 13  Certain Relationships and Related Transactions           10

PART IV
          Item 14  Exhibits, Financial Statement Schedules and Reports
                   on Form 8K                                               11

SIGNATURES                                                                  12

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULES                   F-1

<PAGE>



PART I

Item 1.  Business

Herley  Industries,  Inc.  ("Herley"  or  the  "Company")  principally  designs,
manufactures and sells flight instrumentation  products,  primarily to aerospace
companies,  the U.S.  government,  and several foreign  governments.  One of the
Company's main products is a variety of  transponders  which are used to enhance
radar  signals to  accurately  track the  flight of space  launch  vehicles  and
aircraft.

The  transponders  are used in  conjunction  with  target  command  and  control
systems,  also  manufactured  by the Company,  in the training of troops and the
testing of weapons.  These command and control systems are housed in shelters on
training and testing ranges in the U. S. and in foreign  countries.  The Company
has an  established  base of  approximately  100  command  and  control  systems
installed  around the world.  These command and control systems are both shelter
mounted and portable radar units.  Herley also  manufactures  microwave  devices
used in its flight instrumentation products and in connection with the radar and
defense electronic systems on tactical fighter aircraft.

Since its inception in 1965, the Company has designed and manufactured microwave
devices for use on various tactical military programs.  In June 1986 the Company
acquired a small  engineering  company  engaged in the design and development of
transponders.   This  acquisition  enabled  the  Company  to  enter  the  flight
instrumentation  business  beginning  with the design and  manufacture  of range
safety transponders.  In September 1992, the Company acquired  substantially all
of the assets of  Micro-Dynamics,  Inc.  of Woburn,  Massachusetts,  a microwave
subsystem designer and manufacturer.  In June of 1993, the Company acquired Vega
Precision  Laboratories,  Inc.  ("Vega")  of  Vienna,  Virginia,  and  moved the
operations  to Lancaster,  Pennsylvania  in October,  1993.  In March 1994,  the
Company  entered  into an  exclusive  license  agreement  for  the  manufacture,
marketing  and sale of the Multiple  Aircraft GPS  Integrated  Command & Control
(MAGIC2)  systems.  In July,  1995, the Company  acquired certain assets and the
business  of  Stewart  Warner   Electronics  Corp.  of  Chicago,   Illinois,   a
manufacturer of high frequency radio and IFF interrogator systems.

With these recent acquisitions, the Company has reorganized into three operating
facilities;  HERLEY-VEGA SYSTEMS ("HVS"), operating in Lancaster,  Pennsylvania;
HERLEY-MDI  ("MDI")  operating  in Woburn,  Massachusetts,  and  Stewart  Warner
Electronics  Co.  ("SWE")  operating in Chicago,  Illinois.  In January 1996 the
Company created its Global Security Systems ("GSS") division, a marketing group,
to serve the international marketplace.

The  Company   manufactures  flight   instrumentation   products,   encompassing
transponder  products  and command & control  systems;  and  microwave  products
including  microwave  integrated circuits  ("MIC's"),  receiver-protectors,  and
magnetrons.   Revenues  from  flight  instrumentation   products  accounted  for
approximately  69%, 58% and 62%, and revenues from microwave  products accounted
for  approximately  31%, 42% and 38%, of net revenues for the fiscal years 1996,
1995 and 1994, respectively.

Herley's  business  strategy is to expand its product line by acquisition and by
designing and manufacturing  other flight  instrumentation  products for sale to
the Company's existing domestic customers.  In addition,  the Company due to its
broad  product  line,  will seek to expand its  foreign  business.  These  major
products include transponders,  flight termination receivers,  telemetry systems
and  telemetry  data  encoders.  The Company  believes that  significant  growth
potential  for the sale of flight  instrumentation  products to the space launch
industry  has been  created by  changes in  government  space  policy,  enabling
private  industry  to launch  satellites,  and new  technologies  providing  for
broader use of satellites.


                                        1

<PAGE>



Products

The Company manufactures and sells transponders,  microwave devices, command and
control systems, and other related products,  in one industry segment,  military
electronics. The Company's business is not considered to be seasonal in nature.

Transponders

The Company  manufactures  a variety of  transponders,  including  range safety,
identification friend or foe (IFF), command and control, and scoring systems.

Transponders are small electronic systems consisting of a transmitter, sensitive
receiver and internal signal  processing  equipment.  These electronic boxes are
comprised of active and passive components,  including  microwave  subassemblies
such as  amplifiers,  oscillators  and  circulators.  The  transponder  receives
signals from radars,  changes and amplifies  the  frequency of the signals,  and
sends back a reply on a different frequency and signal level. This reply will be
a strong  signal,  free of noise,  upon which the tracking radar can "lock." The
transponder  is  generally  placed  upon the  booster  stage  of a space  launch
vehicle,  a missile being tested, a target at which a missile is being directed,
or another  unmanned or remotely  piloted  vehicle being operated and/or tested.
Frequently, transponders are destroyed in the process of a test or space launch.
The transponder  provides  "enhancement" or  "augmentation" to the radar return,
which is superior to the weak  noise-filled echo produced by the skin reflection
of the target.  Certain transponders also provide communication with the vehicle
in which the transponder is installed.

In range  safety  applications,  transponders  enable  accurate  tracking of the
vehicle so that its position and direction are known  throughout its flight.  In
the case of several defense and commercial  space launch vehicles (i.e.,  Delta,
Atlas,  Titan and  Pegasus),  the  Herley  transponder  is tracked by the ground
launch team all the way to space orbit, and in certain instances through several
orbits, as a reference location point in space to assure that the launch payload
has been  properly  placed  in  orbit.  The use of the  transponder  is far more
effective  than  simple  skin  tracking,   particularly  under  adverse  weather
conditions after the launch.

Identification  friend or foe (IFF) transponders,  which are used in conjunction
with the FAA Air Traffic Control System,  enable ground  controllers to identify
the unmanned  targets,  drones and cruise missiles on which these units fly. The
transponders  on board these vehicles reply to the ground  interrogation  with a
unique  signature  response  which both  identifies  the vehicle as unmanned and
provides  the means to track it.  The ground  controller  can then  ensure  that
commercial  and private  aircraft are vectored  away from the flight path of the
unmanned vehicle and kept at safe separations from it.

Command and control  transponders  provide the link through the telemetry system
for relaying ground signals to direct the vehicle's flight.  The uplink from the
ground  control  station,  a series of coded pulse  groups,  carries the signals
which command the flight control guidance system of the vehicle. The downlink to
the  ground  provides  both  tracking  signals  for  range  safety,  as  well as
acknowledgment and status of the uplink commands and their implementation in the
vehicle. The transponder is therefore the means to fly the vehicle.

Scoring  systems are mounted on both airborne and sea targets.  Scoring  systems
enable test and evaluation engineers to determine the "miss-distance"  between a
projectile and the target at which it has been launched.


Command And Control Systems (C2S)

For over thirty years,  Vega  Precision  Laboratories,  (now part of HERLEY-VEGA
SYSTEMS  ("HVS")  in  Lancaster,  Pennsylvania)  has been a leader  in the radar
enhancement  field.  HERLEY-VEGA  command and control  systems have been used to
remotely fly a large variety of unmanned aerial vehicles, typically missiles

                                        2

<PAGE>



or aircraft used as target drones or Remote Piloted Vehicles  (RPV's),  and some
surface targets. Operations have been conducted by many users on the open ocean,
remote land  masses,  and  instrumented  test and training  ranges.  HERLEY-VEGA
command  and control  systems are  currently  in service  throughout  the world,
making  HVS a  primary  supplier  after  three  decades  of  experience  and C2S
specialization. The HERLEY-VEGA pulse-positioned-coded (PPC) concept enables the
use of standard radar technology to track and control unmanned  vehicles.  Using
the radar  beacon  mode,  PPC pulse  groups are  transmitted  and  received  for
transfer of command and telemetry  data while  employing the location  precision
and advantages of radar techniques.

Command  and control  systems  permit a ground  operation  to fly a target or an
Unmanned Airborne Vehicle (UAV) through a pre-planned mission.  That mission may
be for  reconnaissance,  where the vehicle is equipped  with high  definition TV
sensors and the necessary data links to send information back to its C2 station.
The UAV may also be used as a decoy,  since the  operator  can direct the flight
operations that will make the small drone appear to be a larger combat aircraft.
Many foreign governments that maintain armed forces are users of HVS C2 S.

A multi-million  dollar  development  effort by Vega Precision  Laboratories has
resulted in the  introduction of a new line of Target  Tracking  Control Systems
(TTCS),  the 6104 series.  This new system  technology  centers largely around a
multiple  processor design,  which provides  improved  operator control,  system
signal conditioning, high resolution graphics displays, resident software driven
built-in-test, and enhanced system versatility.

The new  HERLEY-VEGA  Model 6104 TTCS is a highly  flexible  design which can be
field configured within minutes to fly or control any selected vehicle for which
it is equipped.  The system is delivered  with the necessary  command panels and
graphics display  software to operate with a large variety of vehicles.  A basic
TTCS  configuration  is normally  supplied with a standard  HERLEY-VEGA  command
panel and the software  peculiar to one vehicle.  Telemetry  display software is
embedded for the specified  vehicle,  and a magnetic hard disk drive is supplied
with a mission map set prepared in accordance with a customer-supplied  detailed
map of the area.

With the 1994 licensing of the MAGIC2 systems,  HVS has significantly  increased
the selection of command and control systems it offers.  The 6104 TTCS unit is a
reliable  line-of-sight C2 using system with a large installed base of equipment
worldwide.  HVS  engineers and marketers are now able to offer the MAGIC2 system
as a  supplement  to  this  installed  base of  equipment.  The  MAGIC2  affords
over-the-horizon  C2 using GPS guidance  and control of multiple  targets from a
single  ground  station.  The  increasing  interest by the U. S. Navy as well as
foreign  navies in littoral  warfare  scenarios can be ideally met by the use of
the MAGIC2 system.

In today's military world,  surveillance of one's neighbors using UAV's,  RPV's,
or drones has become a standard operational  discipline.  A key advantage of the
use of a UAV is that in the event of an accident or if the vehicle is shot down,
the user is not faced  with a hostage  problem.  These  inexpensive  drones  are
controlled in their flight by a HERLEY-VEGA  shelter C2S,  which is mounted in a
trailer  that  may be  moved  from  place  to  place  by  helicopter  or  truck.
HERLEY-VEGA also supplies  portable command and control systems that are mounted
on tripods that can be easily  transported by an operational  team. The portable
units  permit  ready  deployment  in  rugged  terrain  and  may  also be used on
shipboard during open ocean exercises.

Microwave Devices

Herley   manufactures   solid  state   microwave   devices  in  both  Lancaster,
Pennsylvania  and in Woburn,  Massachusetts  for use in its transponders and for
use in existing  long-term  military programs both as part of new production and
for spare  parts and repair  services.  These  microwave  devices  are used in a
variety of radar,  communications and missile  applications,  including airborne
and shipboard navigation and missile guidance systems.


                                        3

<PAGE>



In Woburn,  HERLEY-MDI designs and manufactures  complex MIC's, which consist of
sophisticated  assemblies  that  perform  many  functions,  primarily  involving
switching of microwave signals. MIC's manufactured by MDI are employed in almost
all defense electronics military systems as well as in missile programs.

A  growing  part of MDI's  business  is the  production  of  receiver  protector
devices. These high power devices protect a radar receiver from transient bursts
of microwave  energy and are employed in almost  every  military and  commercial
radar. With the contraction of the defense  business,  only two domestic primary
producers of receiver protectors remain - HERLEY-MDI and C.P.I., Inc.

In  Chicago,  Stewart  Warner  Electronics  Co.  designs and  manufactures  high
frequency  radio  and  IFF  interrogators.  The  high  frequency  communications
equipment is used extensively by the U S. Navy as well as by foreign navies that
conduct joint military exercises with the U. S. Navy.

The IFF  interrogators  are  used as part of  shipboard  equipment  and are also
placed on coastlines, where they are employed as silent sentries.

Government Contracts

A substantial part of the Company's sales are made to U.S.  government  agencies
or prime contractors or subcontractors on military or aerospace programs.

Government  contracts  are  awarded  either on a  competitive  bid basis or on a
negotiated  sole  source  procurement  basis.  Contracts  awarded on a bid basis
involve several  competitors bidding on the same program with the contract being
awarded  based  upon  price and  ability  to  perform.  Negotiated  sole  source
procurement  is  utilized  if the  Company  is  deemed by the  customer  to have
developed  proprietary equipment not available from other parties or where there
is a very stringent delivery schedule.

All of the Company's  government  contracts are fixed price  contracts,  some of
which require  delivery over time periods in excess of one year.  With this type
of contract,  the Company agrees to deliver products at a fixed price except for
costs incurred because of change orders issued by the customer.

In accordance with  Department of Defense  procedures,  all contracts  involving
government programs may be terminated by the government, in whole or in part, at
the  government's  discretion.  In  the  event  of  such  a  termination,  prime
contractors on such contracts are required to terminate  their  subcontracts  on
the program and the  government or the prime  contractor is obligated to pay the
costs incurred by the Company under the contract to the date of termination plus
a fee based upon work completed.

Marketing and Distribution

The Company's  marketing approach is to determine  customer  requirements in the
early stages of a program.  Marketing and  engineering  personnel  work directly
with the customer's  engineering  group to develop product  specifications.  The
Company  receives  its awards  based upon an  evaluation  of a number of factors
including  technical  ranking,  price,  overall capability and past performance.
Follow-up  contracts on the same program are normally  negotiated with customers
rather than being subject to a competitive bidding process.

Backlog

The Company's backlog of firm orders was  approximately  $23,770,000 on July 28,
1996  ($13,632,000  in domestic  orders and  $10,138,000  in foreign  orders) as
compared to approximately  $24,975,000 on July 30, 1995 ($17,754,000 in domestic
orders and  $7,221,000  in foreign  orders).  Approximately  $17,000,000  of the
backlog is expected to be shipped during the fiscal year ending August 3, 1997.



                                        4

<PAGE>



Manufacturing, Assembly and Testing

Flight  instrumentation  devices  manufactured  by the Company for  military and
space launch applications are subject to stringent testing procedures based upon
customer  requests.  All of such  testing  is  performed  by the  Company at its
Lancaster facility.

All  electronic  parts are procured in  controlled  lots which are  subjected to
extensive  physical  inspection  and screening at Herley before use in products.
Physical inspection requires the use of high power microscopes and laser scanned
optical  comparators,   which  match  the  characteristics  of  the  part  under
inspection to previously stored images.

The  testing  of high  reliability  space  equipment  is  performed  by  complex
computer-controlled  consoles which take measurements that continuously  monitor
and analyze operating  parameters.  Flight  instrumentation  products are tested
over their full  operating  temperature  range,  after  which the  equipment  is
evaluated under combined vibration and temperature  cycling.  For initial design
qualification,   this  testing  may  extend  for  several  months  and  includes
evaluation of electromagnetic  interference  behavior (EMI),  ability to survive
pyrotechnic  shock  (simulating  explosive  charge  detonation for space vehicle
stage  separation) and the combined  effects of external vacuum with heating and
cooling.

Electronic components and other raw materials used in the Company's products are
purchased  by the  Company  from a large  number  of  suppliers  and all of such
materials are readily available from alternate sources.

The  Company  does not  maintain  any  significant  level of  finished  products
inventory.  Raw  materials are  generally  purchased for specific  contracts and
common  components  are purchased  for stock based on the  Company's  firm fixed
backlog.

There are no significant  environmental  control procedures  required concerning
the discharge of materials into the  environment  that would require the Company
to invest in any  significant  capital  equipment  or that would have a material
effect on the earnings of the Company or its competitive position.

Product Development

The Company  believes that its growth depends on its ability to constantly renew
and expand its technology, products, and design and manufacturing processes with
an emphasis on cost effectiveness.  The Company's primary efforts are focused on
engineering design and product development activities rather than pure research.
Several of the Company's  officers and  engineers  have been involved at various
times and in varying degrees in these activities.  The cost of these development
activities,  including employees' time and prototype development, net of amounts
paid by customers,  was approximately  $1,453,000,  $970,000,  and $1,367,000 in
fiscal 1996, 1995, and 1994, respectively.

Competition

The flight  instrumentation  products which the Company manufactures are subject
to varied competition dependent on the product and market serviced.  Competition
is generally based upon technology,  design, price and past performance. Many of
Herley's  competitors are larger and may have greater  financial  resources than
the Company.  Competitors include Aydin Corporation,  Lockheed Martin, Motorola,
Inc., Microsystems,  Inc, and AMP, Inc. Competition in follow-on procurements is
generally  limited after an initial  award unless the original  supplier has had
performance problems.



                                        5

<PAGE>



Employees

As of October 1, 1996, the Company  employed 222 full-time  persons.  A total of
159 employees were engaged in manufacturing, 29 in engineering, 13 in marketing,
contract  administration  and field  services  and the  balance in  general  and
administrative  functions.  None  of the  Company's  employees  are  covered  by
collective   bargaining  agreements  and  the  Company  considers  its  employee
relations to be satisfactory.

The Company  believes  that its future  success  will  depend,  in part,  on its
continued ability to recruit and retain highly skilled technical, managerial and
marketing personnel.  To assist in recruiting and retaining such personnel,  the
Company has established  competitive  benefits programs,  including an incentive
stock option plan.

Item 2.  Properties

The Company's operations are conducted at the following facilities:

                                                                 Area      Owned
                                                               Occupied     or
Location                      Purpose of Facility              (sq. ft)   Leased
--------                      -------------------              --------   ------
Lancaster, PA (1)   Production, engineering, administrative     71,200     Owned
                    and executive offices
Woburn, MA          Production, engineering and administration  60,000     Owned

Chicago, IL         Production, engineering and administration   9,700    Leased
---------------------------
       (1) The Company's executive offices occupy approximately 4,000 sq. ft. of
space at this facility with  engineering and  administrative  offices  occupying
10,000 sq. ft. each.  The Company  believes that its facilities are adequate for
its current and presently anticipated future needs.

Item 3.  Legal Proceedings

In May and June 1994,  the Company was served with two class  action  complaints
against  the Company and certain of its  officers  and  directors  in the United
States District Court for the Eastern District of Pennsylvania.  The claims were
made under  Section 10(b) and 20(a) of the  Securities  Exchange Act of 1934 and
Rule 10b-5 thereunder.  One of the claims is also based upon alleged negligence.
The claims relate to the Company's  acquisition of Carlton Industries,  Inc. and
its subsidiary, Vega Precision Laboratories,  Inc. The claims were combined into
one matter and a consolidated  Complaint.  In April,  1995, the Court  certified
that the claims  based on the  Securities  Exchange  Act may  proceed as a Class
Action  pursuant to Rule 23(b) (3),  but without  prejudice to the rights of the
parties  thereafter to seek  modification of the Class or revocation of leave to
proceed. The Court refused to certify the negligence claim as a Class Action. In
May,  1995, the parties  negotiated a settlement of all claims in  consideration
for a payment of $450,000  subject to Notice to the Class and Court approval.  A
hearing on the proposed settlement is scheduled for October 15, 1996.

In May, 1995, the Company was served with a Class Action  Complaint  against the
Company and its Chief Executive  Officer in the United States District Court for
the Eastern District of Pennsylvania. The claim was made under Section 10(b) and
20(a) of the Securities  Exchange Act of 1934 and Rule 10(b)-5  thereunder.  The
claim  relates to the  Company's  settlement  of the Litton  Action in the Essex
Superior  Court of  Massachusetts  and  alleges,  inter  alia,  that  there  was
insufficient  disclosure by the Company of its true  potential  exposure in that
claim. Cross motions for summary judgment have been filed and are pending before
the Court.  The  Company  believes it has a  meritorious  defense and intends to
vigorously defend against the action.

Item 4.  Submission of Matters to a Vote of Security Holders
      Not Applicable.

                                        6

<PAGE>



PART II

Item 5. Market for the Registrant's Common Equity and Related Stockholders
        Matters

      (a) The Company's Common Stock is traded in the over-the-counter  National
Market System under the symbol HRLY. The following table sets forth the high and
low closing  sales price as reported by NASDAQ  National  Market  System for the
Company's Common Stock for the periods indicated.
                                                                Common Stock
                                                                ------------
                                                              High         Low
                                                              ----         ---
    Fiscal Year 1995
        First Quarter..................................      5-1/2        3-5/8
        Second Quarter.................................      4-1/8        2-9/16
        Third Quarter .................................      3-13/16      1-3/4
        Fourth Quarter ................................      5-5/8        3-3/16

    Fiscal Year 1996
        First Quarter..................................       6-1/8       4-7/8
        Second Quarter.................................       8-1/4       5-1/8
        Third Quarter .................................     10-5/8        7
        Fourth Quarter ................................     12-1/4        8

        The closing price on October 4, 1996 was $9.125.

      (b) As of October 4, 1996, there were  approximately  1,000 record holders
          of the Company's Common Stock.
      (c) There have been no cash  dividends  declared or paid by the Company on
          its Common Stock during the past two years.

     Item 6.  Selected Financial Data
<TABLE>
<CAPTION>

                                                                   52 Weeks ended
                                                  ------------------------------------------------
                                              July 28,    July 30,    July 31,    August 1,   August 2,
                                                1996        1995        1994        1993        1992
                                                ----        ----        ----        ----        ----
<S>                                         <C>           <C>         <C>         <C>         <C>

Net Revenues                                $ 29,001,404  24,450,267  30,508,211  21,334,985  14,880,260
Earnings (loss) from continuing operations  $  3,668,956  (4,890,166)  1,861,429   1,391,098   2,495,960
Loss from discontinued operations           $      -           -           -      (2,463,642)   (261,577)
Cumulative effect of
     accounting change                      $      -           -           -       2,081,028       -
                                              ----------  ----------  ----------  ----------  ----------
Net Income (loss)                           $  3,668,956  (4,890,166)  1,861,429   1,008,484   2,234,383
                                              ==========  ==========  ==========  ==========  ==========
Earnings (loss) per common
    and common equivalent share:
Continuing operations                           $ 1.15       (1.31)        .44         .35         .73
Discontinued operations                            -           -            -         (.62)       (.07)
Change in accounting                               -           -            -          .53          -
                                                  ----        ----         ---         ---         ---
Net Income (loss)                               $ 1.15       (1.31)        .44         .26         .66
                                                  ====        ====         ===         ===         ===

Total Assets                                $ 42,508,942  42,229,282  53,752,454  58,813,878  31,972,809

Total Current Liabilities                   $  7,559,306   9,973,866  10,217,598  14,369,213   3,116,177
Long-Term Debt
    net of current portion                  $ 11,021,000  10,525,000  14,822,834  14,054,128   4,270,000
</TABLE>

                                        7

<PAGE>



Item 7.  Management's Discussion and Analysis of Financial Condition and
            Results of Operations

Liquidity and Capital Resources

As of July 28,  1996  and  July 30,  1995,  working  capital  was  approximately
$8,704,000  and  $5,479,000,  respectively,  and the ratio of current  assets to
current liabilities was 2.15 to 1 and 1.55 to 1, respectively.

As is customary  in the defense  industry,  inventory  is partially  financed by
progress  payments.  The  unliquidated  balance of these  advanced  payments was
approximately $1,480,000 in 1996, and $1,477,000 in 1995.

Net cash provided from  operations  was  approximately  $4,687,000 in 1996.  The
Company used approximately  $4,013,000 in financing activities primarily for the
payment of the litigation settlement of $2,000,000, and the purchase of treasury
stock for $1,734,000.

Net cash provided from investing activities of approximately  $7,469,000 in 1995
results primarily from the liquidation of $8,105,000 of the Company's marketable
securities.  The Company used the proceeds  from the sales of  securities to pay
down  $6,000,000 of its long term bank debt,  and $2,105,000 for the purchase of
treasury stock.

The Company  maintains a revolving  credit facility with a bank for an aggregate
of $11,000,000  which expires January 31, 1998. As of July 28, 1996 and July 30,
1995,  the company had  borrowings  outstanding  of $6,950,000  and  $7,000,000,
respectively.

The Company  paid the final  installment  of  $2,000,000  in July 1996 to Litton
Systems,  Inc. Electron Devices Division in connection with the settlement of an
action  brought  against the Company in April,  1992.  The Company  borrowed the
funds under its credit facility to satisfy this obligation.

During the year the Company  acquired  270,339 shares of its outstanding  common
stock for $1,734,233 through open market purchases,  and 215,959 shares,  valued
at $2,483,552, in connection with the cashless exercise of stock options.

At July 28, 1996, the Company owned high grade  investment  securities  having a
market  value of  approximately  $4,912,000,  and cash and cash  equivalents  of
approximately  $1,104,000. In September 1996 the investment securities were sold
and the proceeds were used to reduce outstanding bank debt.

The Company believes that presently anticipated future cash requirements will be
provided by internally generated funds and existing credit facilities.

Results of Operations

    Fiscal 1996 Compared to Fiscal 1995

Net sales for the 52 weeks  ended July 28, 1996 were  approximately  $29,001,000
compared to  $24,450,000  for fiscal  1995.  The sales  increase  of  $4,551,000
(18.6%) is  attributable  to an increase of  approximately  $5,845,000 in flight
instrumentation  products,  of which Stewart Warner Electronics Co., acquired in
July  1995,  contributed  $4,321,000;  offset by a  decrease  of  $1,294,000  in
microwave components.

Gross  profit of 31.7% for the 52 weeks ended July 28, 1996  exceeded  the prior
year of 25.9% due to an increase of $2,648,000  in higher  margin  foreign sales
from  $3,908,000  in 1995 to  $6,556,000  in  1996,  as well as an  increase  in
absorption of fixed costs due to the higher sales volume.


                                        8

<PAGE>



Selling and  administrative  expenses  for the 52 weeks ended July 28, 1996 were
$5,832,000  compared to  $5,072,000  for fiscal 1995, an increase of $760,000 of
which  $388,000 is  attributable  to  increased  representative  fees on foreign
sales,  an  increase of $233,000 in  personnel  and related  expenses  and other
expenses of $46,000;  offset by the  reduction of $150,000 in the  provision for
customer  disputed  charges,  and  decreases  in  group  insurance  of  $90,000,
depreciation of $69,000 and outside services of $48,000. The addition of Stewart
Warner Electronics Co. added $450,000 in selling and administrative  expenses in
fiscal 1996.

Included  in  unusual  items in 1995 are  settlement  costs in  connection  with
certain  legal  actions of  $4,310,000,  legal  fees of  $829,000,  and  related
expenses of $308,000.

Other income (expense) for the 52 weeks ended July 28, 1996 increased $1,100,000
from the prior year due to net gains on available-for-sale  securities and other
long-term investments of $898,000 as compared to losses of $356,000 in 1995, and
a decrease in interest  expense of $88,000;  offset by  decreased  dividend  and
interest income of $242,000.

The  effective tax rate in 1996 was 2.7%.  The 1996 tax  provision  reflects the
utilization  of prior  year net  operating  loss  carryforwards.  No income  tax
benefit was recorded in 1995 due to an increase in the valuation allowance.  The
valuation  allowance has been provided relating to that portion of net operating
loss carryforwards which management believes may expire unutilized.

    Fiscal 1995 Compared to Fiscal 1994

Net sales from  continuing  operations for the 52 weeks ended July 30, 1995 were
approximately  $24,450,000  compared to  $30,508,000  for fiscal 1994. The sales
decrease of  $6,058,000  (20%) is  attributable  to a decrease of  approximately
$4,699,000  in flight  instrumentation  products  and  $1,359,000  in  microwave
components.

Gross profit  decreased  for the 52 weeks ended July 30, 1995 as compared to the
prior year from 35.7% in 1994 to 25.9% in 1995 due to the decrease of $3,983,000
in higher margin foreign sales from $7,891,000 in 1994 to $3,908,000 in 1995, as
well as a decrease in absorption of fixed costs due to the  significantly  lower
sales volume.

Selling and  administrative  expenses  for the 52 weeks ended July 30, 1995 were
$5,072,000  compared to $7,743,000  for fiscal 1994, a decrease of $2,671,000 of
which  $1,794,000 is  attributable to decreased  representative  fees on foreign
sales, and $315,000 to a reduction in personnel and related expenses;  offset by
a provision  of  $150,000  for  customer  disputed  charges,  and an increase in
employee medical benefits of $122,000.

Included  in  unusual  items in 1995 are  settlement  costs in  connection  with
certain  legal  actions of  $4,310,000,  legal  fees of  $829,000,  and  related
expenses of $308,000.

During the fiscal year ended July 31, 1994, the Company incurred unusual charges
of  $745,663  in excess of  reserves  in  connection  with  warranty  claims for
products shipped by Vega Precision  Laboratories,  Inc. prior to its acquisition
by the Company. These claims were resolved during the 1994 fiscal year.

Other income  (expense) for the 52 weeks ended July 30, 1995 decreased  $842,000
from the  prior  year  due to net  losses  on the  sales  of  certain  long-term
investments  of $356,000  as  compared  to gains of $524,000 in 1994,  decreased
dividend  and interest  income of $182,000,  and a decrease of $156,000 in other
income  (primarily  rental  income in 1994);  offset by a decrease  in  interest
expense of $375,000.

No income tax benefit  was  recorded in 1995.  A  valuation  allowance  has been
provided  relating to that portion of net  operating  loss  carryforwards  which
management believes may expire unutilized.



                                        9

<PAGE>



Item 8.  Financial Statements and Supplementary Data

The financial  statements and supplementary data listed in the Index on Page F-1
are filed as a part of this report.

Item 9.  Changes in and Disagreements on Accounting and Financial Disclosure

Not applicable

PART III

The  information  required  by Part  III is  incorporated  by  reference  to the
Company's  definitive  proxy  statement in connection with its Annual Meeting of
Stockholders  scheduled  to be held in  December  1996,  to be  filed  with  the
Securities  and Exchange  Commission  within 120 days  following  the end of the
Company's fiscal year ended July 28, 1996.

                                       10

<PAGE>



PART IV

Item 14.  Exhibits, Financial Statement Schedules, and Reports on Form 8-K

(a)  Exhibits

  3.1     Certificate of Incorporation, as amended (Exhibit 3(a) of Form S-1
          Registration Statement  No. 2-87160).
  3.2     By-Laws, as amended (Exhibit 3(b) of Form S-1 Registration Statement
          No. 2-87160).
  4.1     Convertible Note issued to certain officers and directors, including
          Form of Warrant (Exhibit 4.1 of Annual Report on Form 10-K for the
          fiscal year ended July 31, 1989).
 10.1     1996 Stock Option Plan.
 10.2 (a) Employment Agreement with Lee N. Blatt as modified, (Exhibit 10 of
          Report on Form 8-K dated June 11, 1984 and Exhibit 10 of Report on
          Form 8-K dated May 19, 1988).
      (b) Modification Agreement to Employment Agreement with Lee N. Blatt dated
          February 1, 1990 and
          July 31, 1990,  (Exhibit 10.3(b) of Annual Report on Form 10-K for the
          fiscal year ended July 31, 1990).
      (c) Modification Agreement to Employment Agreement with Lee N. Blatt dated
          as of April 1, 1992,  (Exhibit  10.4(c) of Annual  Report on Form 10-K
          for the fiscal year ended August 2, 1992).
      (d) Modification Agreement to Employment Agreement with Lee N. Blatt dated
          November 30, 1992, (Exhibit 10(a) of Report on Form 8-K dated November
          30, 1992).
 10.3 (a) Employment Agreement with Myron Levy (Exhibit 10 of Report on Form 8-K
          dated October 6, 1988).
      (b) Modification  Agreement to Employment  Agreement with Myron Levy dated
          February 1, 1990,  (Exhibit  10.4(b) of Annual Report on Form 10-K for
          the fiscal year ended July 31, 1990).
      (c) Modification  Agreement to Employment  Agreement with Myron Levy dated
          as of April 1, 1992,  (Exhibit  10.4(c) of Annual  Report on Form 10-K
          for the fiscal year ended August 2, 1992).
      (d) Modification  Agreement to Employment  Agreement with Myron Levy dated
          November 30, 1992, (Exhibit 10(c) of Report on Form 8-K dated November
          30, 1992).
 10.4     (a)  Employment  Agreement  with  Gerald I. Klein dated April 1, 1990,
          (Exhibit  10.5 of Annual Report on Form 10-K for the fiscal year ended
          July 31, 1990).
      (b) Employment Agreement with Gerald I. Klein dated January 1, 1992,
          (Exhibit 10.7 of Form S-2 Registration Statement No. 33-44959).
      (c) Modification  Agreement to Employment  Agreement  with Gerald I. Klein
          dated  November 30, 1992,  (Exhibit  10(b) of Report on Form 8-K dated
          November 30, 1992).
 10.5     Loan  Agreement  between  Registrant  and  Allstate  Municipal  Income
          Opportunities  Trust  (Exhibit  10.6 of Annual Report on Form 10-K for
          the fiscal year ended July 31, 1989).
 10.6     Asset Purchase Agreement dated as of September 1, 1992 between Micro-
          Dynamics, Inc. and Herley Industries, Inc. (Exhibit 7(c) of Report on
          Form 8-K dated October 22, 1992).
 10.7     Stock Purchase Agreement dated as of June 1, 1993 between Herley
          Industries, Inc., Herley Interim Corp., Milton C. Barnard, Edward M.
          Webber, Marvin Adler and Carlton Industries, Inc. (Exhibit 7(c) of
          Report on Form 8-K dated June 18, 1993).
 11.       Computation of per share earnings.
 23.       Consent of Independent Public Accountants.
 27.       Financial Data Schedule (for electronic submission only).

(b)  Financial Statements

     See Index to Consolidated Financial Statements at Page F-1.

(c)  Reports on Form 8-K
     None

                                       11

<PAGE>



SIGNATURES:

Pursuant to the  requirements of Section 13 or 15(d) of the Securities  Exchange
Act of 1934,  the Company has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized on the 8 day of October, 1996.

                                        HERLEY  INDUSTRIES,  INC.


                                        By:   /S/  Lee N. Blatt
                                           -----------------------------------
                                           Lee N. Blatt, Chairman of the Board

Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been  signed  below on  October  8,  1996 by the  following  persons  in the
capacities indicated:


By:    /S/  Lee N. Blatt
   ---------------------                Chairman of the Board
       Lee N. Blatt                     (Principal Executive Officer)

By:    /S/  Myron Levy
   -------------------                  President and Director
     Myron Levy

By:    /S/  Gerald I. Klein
   ------------------------             Chief Technical Officer and Director
      Gerald I. Klein

By:    /S/  Anello C. Garefino
   ---------------------------          Vice President Finance, CFO, Treasurer
      Anello C. Garefino                (Principal Financial Officer)

By:    /S/  David H. Lieberman
   ---------------------------          Director
      David H. Lieberman

By:    /S/  Thomas J. Allshouse
   ----------------------------         Director
      Thomas J. Allshouse

By:    /S/  John A. Thonet
   -----------------------              Director
        John A.  Thonet


                                       12

<PAGE>


Item 8.  Financial Statements and Supplementary Data


                             HERLEY INDUSTRIES, INC.

                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS


                                                                            Page

REPORTS OF INDEPENDENT PUBLIC ACCOUNTANTS...............................    F-2

FINANCIAL STATEMENTS:

   Consolidated Balance Sheets, July 28, 1996 and  July 30, 1995........    F-4

   Consolidated Statements of Operations for the 52 Weeks Ended
     July 28, 1996, July 30, 1995 and July 31, 1994......................   F-5

   Consolidated Statements of Shareholders' Equity for the 52 Weeks Ended
      July 28, 1996, July 30, 1995 and July 31, 1994.....................   F-6

   Consolidated Statements of Cash Flows for the 52 Weeks Ended
     July 28, 1996, July 30, 1995 and July 31, 1994......................   F-7

   Notes to Consolidated Financial Statements............................   F-8



Schedules have been omitted as not applicable.


















                                       F-1


<PAGE>







                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS


To the Board of Directors of
Herley Industries, Inc.


We  have  audited  the  accompanying   consolidated  balance  sheets  of  Herley
Industries,  Inc. and  Subsidiaries  as of July 28, 1996, and July 30, 1995, and
the related consolidated statements of operations, shareholders' equity and cash
flows for the 52 weeks ended July 28, 1996 and July 30,  1995.  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. The financial  statements for the 52 weeks ended July 31, 1994, were
audited by other  auditors  whose  report dated  October 13, 1994,  expressed an
unqualified opinion on those statements.

We  conducted  our  audits  in  accordance  with  generally   accepted  auditing
standards.  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 consolidated financial position of Herley Industries,
Inc.  and  Subsidiaries  as of  July  28,  1996,  and  July  30,  1995,  and the
consolidated  results of their  operations and cash flows for the 52 weeks ended
July  28,  1996,  and  July  30,  1995 in  conformity  with  generally  accepted
accounting principles.



                                            ARTHUR ANDERSEN LLP



Lancaster, PA
 September 27, 1996





                                       F-2

<PAGE>





                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS


To the Board of Directors of
Herley Industries, Inc.

We  have  audited  the  accompanying   consolidated  statements  of  operations,
shareholders' equity and cash flows of Herley Industries,  Inc. and Subsidiaries
for the 52 weeks  ended  July  31,  1994.  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 audit.

We conducted our audit in accordance with generally accepted auditing standards.
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 audit provides a reasonable basis for our opinion.

In our opinion,  the financial  statements  referred to above present fairly, in
all  material  respects,  the  consolidated  results  of  operations  of  Herley
Industries,  Inc. and Subsidiaries and their  consolidated cash flows for the 52
weeks ended July 31,  1994 in  conformity  with  generally  accepted  accounting
principles.


                                             WOLINETZ, GOTTLIEB & LAFAZAN, P. C.

Rockville Centre, New York
October 13, 1994

                                       F-3

<PAGE>
<TABLE>
<CAPTION>
                                   HERLEY INDUSTRIES, INC. AND SUBSIDIARIES
                                              CONSOLIDATED BALANCE SHEETS

                                                                                 July 28,        July 30,
                                                                                   1996            1995
                                                                                -----------    -----------
<S>                                                                           <C>            <C>

                           ASSETS
Current Assets:
        Cash and cash equivalents                                             $   1,104,445  $     272,755
        Accounts receivable                                                       3,249,225      4,679,917
        Notes receivable-officers                                                 2,083,543          -
        Other receivables                                                           124,992        163,402
        Inventories                                                               8,010,687      9,330,053
        Deferred taxes and other                                                  1,689,988      1,006,503
                                                                                -----------    -----------
                                  Total Current Assets                           16,262,880     15,452,630
Property, Plant and Equipment, net                                               12,579,044     13,775,710
Intangibles, net of amortization of $861,650 in 1996
        and $589,550 in 1995                                                      4,580,236      4,852,336
Available-for-sale Securities                                                     4,912,387      4,114,614
Other Investments                                                                 3,000,000      3,727,506
Other Assets                                                                      1,174,395        306,486
                                                                                ===========    ===========
                                                                              $  42,508,942  $  42,229,282
                                                                                ===========    ===========
        LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
        Current portion of long-term debt                                     $     300,000  $     357,078
        Accounts payable and accrued expenses                                     5,123,868      7,644,148
        Income taxes payable                                                        166,295          -
        Reserve for contract losses                                                 489,110        496,000
        Advance payments on contracts                                             1,480,033      1,476,640
                                                                                -----------    -----------
                                  Total Current Liabilities                       7,559,306      9,973,866
Long-term Debt                                                                   11,021,000     10,525,000
Deferred Income Taxes                                                             1,923,058      1,282,179
Excess of fair value of net assets of business
        acquired over cost, net of amortization of
        $486,833 in 1996                                                            973,667      1,460,500
                                                                                -----------    -----------
                                                                                 21,477,031     23,241,545
                                                                                -----------    -----------
Commitments and Contingencies
Shareholders' Equity:
        Common stock, $.10 par value; authorized
          10,000,000 shares; issued and outstanding
          2,936,122 in 1996 and 3,015,988 in 1995                                   293,612        301,599
        Additional paid-in capital                                               11,448,827     13,040,622
        Retained earnings                                                         9,289,472      5,620,516
                                                                                -----------    -----------
                                                                                 21,031,911     18,962,737
        Unrealized gain on available-for-sale
          securities                                                                  -             25,000

                                                                                -----------    -----------
                                  Total Shareholders' Equity                     21,031,911     18,987,737

                                                                                ===========    ===========
                                                                              $  42,508,942  $  42,229,282
                                                                                ===========    ===========
</TABLE>

        The  accompanying   notes  are  an  integral  part  of  these  financial
statements.



                                       F-4
<PAGE>
<TABLE>
<CAPTION>

                                                 HERLEY INDUSTRIES, INC. AND SUBSIDIARIES
                                             CONSOLIDATED STATEMENTS OF OPERATIONS


                                                                                52 weeks ended
                                                                        -----------------------------
                                                                    July 28,       July 30,       July 31,
                                                                      1996           1995           1994
                                                                  -----------    -----------    -----------
<S>     <C>    <C>    <C>

Net sales                                                       $  29,001,404  $  24,450,267  $  30,508,211
                                                                  -----------    -----------    -----------
                                                                                                
Cost and expenses:                                                                              
      Cost of products sold                                        19,798,692     18,117,874     19,624,788
      Selling and administrative expenses                           5,831,830      5,071,840      7,743,059
      Unusual items                                                 -              5,447,005        745,663
                                                                  -----------    -----------    -----------
                                                                   25,630,522     28,636,719     28,113,510
                                                                  -----------    -----------    -----------
                                                                                                
           Operating income (loss)                                  3,370,882     (4,186,452)     2,394,701
                                                                  -----------    -----------    -----------
                                                                                                
Other income (expense):                                                                         
      Net gain (loss) on available-for-sale                                                     
           securities and other investments                           897,919       (355,709)       523,612
      Dividend and interest income                                    376,007        617,645        799,478
      Other income                                                  -              -                155,996
      Interest expense                                               (873,452)      (961,650)    (1,336,358)
                                                                  -----------    -----------    -----------
                                                                      400,474       (699,714)       142,728
                                                                  -----------    -----------    -----------
                                                                                                
           Income (loss) before income taxes                        3,771,356     (4,886,166)     2,537,429
Provision for income taxes                                            102,400          4,000        676,000
                                                                  -----------    -----------    -----------
                                                                                                
           Net income (loss)                                    $   3,668,956  $  (4,890,166) $   1,861,429
                                                                  ===========    ===========    ===========
                                                                                                 

Earnings (loss) per common and common
      equivalent share                                              $ 1.15          $(1.31)        $ .44
                                                                      ====            ====          ====

Weighted average number of common and
      common equivalent shares outstanding                          3,190,339      3,734,151      4,276,422
                                                                  ===========      =========      =========

</TABLE>

      The accompanying notes are an integral part of these financial statements.


                                       F-5

<PAGE>
<TABLE>
<CAPTION>
                    HERLEY INDUSTRIES, INC. AND SUBSIDIARIES
                 CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
          52 weeks ended July 28, 1996, July 30, 1995 and July 31, 1994

                                                                                     Unrealized
                                                                                     Gain (Loss)
                                                             Additional             on Available-
                                             Common Stock      Paid-in    Retained     for-sale      Treasury
                                 Shares         Amount         Capital    Earnings    Securities      Stock            Total
                                 ------         ------         -------    --------    ----------      -----            -----
<S>                             <C>            <C>           <C>         <C>          <C>            <C>          <C>
Balance at August 1, 1993        4,273,189     $  427,319    18,166,054   8,649,253    (60,610)         -         $ 27,182,016

Net income                                                                1,861,429                                  1,861,429
Decrease in market value
  of non-current
  marketable securities                                                               (140,507)                       (140,507)
Cancellation of common stock
  in connection with
  business acquired                (35,000)        (3,500)     (272,125)                                               (275,625)
Common stock issued
  as compensation                    1,000            100         6,525                                                  6,625
Exercise of stock options           39,000          3,900        88,920                                                 92,820
Purchase of 102,500 shares
  of treasury stock                                                                                    (445,620)      (445,620)

                                ----------        -------    ----------  ----------    --------       ---------     ----------
Balance at July 31, 1994         4,278,189     $  427,819    17,989,374  10,510,682   (201,117)        (445,620)  $ 28,281,138

Net (loss)                                                               (4,890,166)                                (4,890,166)
Issuance of common stock            35,000          3,500        99,313                                                102,813
Unrealized gain on
  available-for-sale
  securities                                                                           226,117                         226,117
Purchase of 1,194,701 shares
  of treasury stock                                                                                  (4,732,165)    (4,732,165)
Retirement of 1,297,201 shares
  of treasury stock             (1,297,201)      (129,720)   (5,048,065)                              5,177,785          -

                                ----------        -------    ----------  ----------    -------        ----------    ----------
Balance at July 30, 1995         3,015,988     $  301,599    13,040,622   5,620,516     25,000            -       $ 18,987,737

Net income                                                                3,668,956                                  3,668,956
Exercise of stock options          406,432         40,643     2,577,360                                              2,618,003
Unrealized loss on
  available-for-sale
  securities                                                                           (25,000)                        (25,000)
Purchase of 486,298 shares
  of treasury stock                                                                                  (4,217,785)    (4,217,785)
Retirement of treasury shares     (486,298)       (48,630)   (4,169,155)                              4,217,785          -

                                ----------        -------    ----------  ----------    -------        ---------     ----------
Balance at July 28, 1996         2,936,122     $  293,612    11,448,827   9,289,472       -               -       $ 21,031,911
                                ==========        ========   ==========  ==========    =======        =========     ==========
</TABLE>


The accompanying notes are an integral part of these financial statements.


                                       F-6


<PAGE>
<TABLE>
<CAPTION>
                                HERLEY INDUSTRIES, INC. AND SUBSIDIARIES
                                  CONSOLIDATED STATEMENTS OF CASH FLOWS


                                                                                  52 weeks ended
                                                                         --------------------------------
                                                                     July 28,        July 30,         July 31,
                                                                       1996            1995             1994
                                                                   -----------     -----------      -----------
<S>                                                              <C>             <C>              <C>
Cash flows from operating activities:
      Net Income (loss)                                          $   3,668,956   $  (4,890,166)   $   1,861,429
                                                                   -----------     -----------      -----------
      Adjustments  to  reconcile  net  income  (loss)
       to net cash  provided  by operations:
           Depreciation and amortization                             1,563,354       2,116,233        2,085,245
           (Gain) loss on sale of available-for-sale
               securities and other investments                     (1,018,643)        355,709         (595,334)
           Decrease (increase) in deferred tax assets                 (393,389)        596,055         (421,215)
           Increase in deferred tax liabilities                        376,723         255,240          623,522
           Common stock issued as compensation                           -               -                6,625
           Unrealized loss on available-for-sale securities            121,550           -               71,721
           Unusual item                                                  -           5,447,005            -
           Changes in operating assets and liabilities:
               Decrease (increase) in accounts receivable            1,430,692       1,285,694         (645,786)
               (Increase) in notes receivable-officers              (2,083,543)          -                -
               Decrease (increase) in other receivables                 38,410         136,635           69,584
               Decrease (increase) in inventories                    1,319,366       2,208,137        1,260,010
               Decrease (increase) in prepaid expenses
                    and other                                          (25,940)       (753,838)       1,198,343
               (Decrease) in accounts payable and
                    accrued expenses                                  (513,649)     (3,879,974)      (1,604,711)
               Increase (decrease) in income taxes payable             166,295        (162,543)         162,543
               (Decrease) in reserve for contract losses                (6,890)         (4,000)      (2,129,113)
               Increase (decrease) in advance payments
                    on contracts                                         3,393      (1,397,334)      (1,034,346)
               Other, net                                               40,000         153,335         (126,457)
                                                                   -----------     -----------      -----------
                    Total adjustments                                1,017,729       6,356,354       (1,079,369)
                                                                   -----------     -----------      -----------
           Net cash provided by operations                           4,686,685       1,466,188          782,060
                                                                   -----------     -----------      -----------

Cash flows from investing activities:
      Purchase of available-for-sale securities
           and other investments                                   (11,077,331)    (22,766,138)     (32,674,407)
      Proceeds from sale of available-for-sale securities
           and other investments                                    11,879,157      30,417,016       32,178,382
      Capital expenditures                                            (643,330)       (182,241)        (936,314)
                                                                   -----------     -----------      -----------
           Net cash provided by (used in) investing activities         158,496       7,468,637       (1,432,339)
                                                                   -----------     -----------      -----------

Cash flows from financing activities:
      Borrowings under bank line of credit                           9,875,000       4,044,668        4,174,316
      Proceeds from exercise of stock options                          134,451           -               92,820
      Payments under lines of credit                               (10,200,000)     (8,025,000)      (2,500,000)
      Payments under litigation settlement                          (2,000,000)     (2,000,000)           -
      Payments of long-term debt                                       (88,709)       (512,735)        (727,223)
      Purchase of treasury stock                                    (1,734,233)     (2,708,732)        (445,620)
                                                                   -----------     -----------      -----------
           Net cash provided by (used in) financing activities      (4,013,491)     (9,201,799)         594,293
                                                                   -----------     -----------      -----------

           Net increase (decrease) in cash and cash equivalents        831,690        (266,974)         (55,986)
Cash and cash equivalents at beginning of period                       272,755         539,729          595,715
                                                                   -----------     -----------      -----------

Cash and cash equivalents at end of period                       $   1,104,445   $     272,755    $     539,729
                                                                   ===========     ===========      ===========
Supplemental cash flow information:
      Cashless exercise of stock options                         $   2,483,552
                                                                   =========== 
      Intangibles arising from basis differences in connection
           with acquisitions                                                                      $  (2,540,948)
                                                                                                    ===========
      Liabilities assumed in connection with acquisition                         $     915,000
                                                                                   ===========
      Cancellation of 35,000 shares of common stock
           reclassified as an accrued liability                                                   $     275,625

                                                                                                    ===========
</TABLE>

The accompanying notes are an integral part of these financial statements.

                                       F-7


<PAGE>


 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

1.    Nature of Operations

      The  Company   principally   designs,   manufactures   and  sells   flight
      instrumentation  products,  primarily  to  aerospace  companies,  the U.S.
      government,  and several  foreign  governments.  One of the Company's main
      products  is a variety of  transponders  which are used to  enhance  radar
      signals  to  accurately  track the  flight of space  launch  vehicles  and
      aircraft.

2.    Fiscal Year

      The Company's  fiscal year ends on the Sunday closest to July 31. Normally
      each  fiscal year  consists  of 52 weeks,  but every five or six years the
      fiscal  year will  consist of 53 weeks.  Fiscal  years 1994  through  1996
      consisted of 52 weeks.

3.    Basis of Financial Statement Presentation

      The  consolidated  financial  statements  include  the  accounts of Herley
      Industries, Inc. and its subsidiaries,  all of which are wholly-owned. All
      significant intercompany accounts and transactions have been eliminated in
      consolidation. The presentation of financial statements in conformity with
      generally  accepted  accounting  principles  requires  management  to make
      estimates and assumptions  that affect the reported  amounts of assets and
      liabilities and disclosure of contingent  assets and liabilities as of the
      date of the financial  statements as well as revenues and expenses  during
      the period. Actual results could differ from those estimates.

4.    Revenue and Cost Recognition

      Under  fixed-price  contracts,   sales  and  related  costs  are  recorded
      primarily  as  deliveries  are  made.   Certain  costs  under   long-term,
      fixed-price contracts  (principally either directly or indirectly with the
      U. S. Government),  which include  non-recurring  billable engineering are
      deferred  until  these costs are  contractually  billable.  Revenue  under
      certain  long-term,  fixed  price  contracts,   principally  shelters,  is
      recognized  using the  percentage  of  completion  method  of  accounting.
      Revenue recognized on these contracts is based on estimated  completion to
      date (the total  contract  amount  multiplied  by percent of  performance,
      based on direct  labor  dollars).  Losses on contracts  are recorded  when
      first reasonably determined.

      Contract  costs  include  all direct  material  and labor  costs and those
      indirect  costs  related to  contract  performance.  Selling,  general and
      administrative costs are charged to expense as incurred.

5.    Inventories

      Inventories,  other than inventory  costs relating to long-term  contracts
      and  programs,   are  stated  at  lower  of  cost  (principally  first-in,
      first-out) or market.  Inventory costs relating to long-term contracts and
      programs  are stated at the actual  production  costs,  including  factory
      overhead,  reduced by amounts  identified with revenue recognized on units
      delivered or progress completed.

      Inventory  costs relating to long-term  contracts and programs are reduced
      by any  amounts  in  excess  of  estimated  realizable  value.  The  costs
      attributed to units delivered  under long-term  contracts and programs are
      based on the average costs of all units produced.


                                       F-8

<PAGE>



6.    Property, Plant and Equipment

      Property,  plant  and  equipment  are  stated  at cost.  Depreciation  and
      amortization are provided principally by the straight-line method over the
      estimated  useful lives of the related  assets.  Gains and losses  arising
      from the sale or disposition of property, plant and equipment are recorded
      in income.

7.    Intangibles

      Intangibles  are comprised of customer  lists,  installed  products  base,
      drawings,   patents,   licenses,  certain  government  qualifications  and
      technology  and  goodwill  in  connection  with  the  acquisition  of Vega
      Precision Laboratories, Inc. in 1993. Intangibles are being amortized over
      twenty years.

      The carrying  amount of  intangibles  is  evaluated on a recurring  basis.
      Current   and  future   profitability   as  well  as  current  and  future
      undiscounted cash flows of the acquired  businesses are primary indicators
      of recoverability.  For the three years ended July 28, 1996, there were no
      adjustments  to the  carrying  amount of the cost in excess of net  assets
      acquired resulting from these evaluations.

8.    Marketable Securities

      In May 1993 the Financial  Accounting  Standards Board issued Statement of
      Financial   Accounting   Standards  No.  115,   "Accounting   for  certain
      Investments  in Debt and  Equity  Securities."  The  Company  adopted  the
      provisions of the new standard for investments  held as of August 1, 1994.
      Adoption of this statement did not have a material effect on the financial
      statements of the Company.

      Management determines the appropriate classification of debt securities at
      the time of purchase and reevaluates  such  designation as of each balance
      sheet date.  Debt securities are classified as  held-to-maturity  when the
      Company  has the  positive  intent and ability to hold the  securities  to
      maturity.  Marketable equity securities and debt securities not classified
      as    held-to-maturity     are    classified    as     available-for-sale.
      Available-for-sale   securities  are  carried  at  fair  value,  with  the
      unrealized gains and losses,  net of tax, reported as a separate component
      of shareholders'  equity.  Realized gains and losses and declines in value
      judged to be other-than-temporary  are included in other income (expense).
      The  cost of  securities  sold is  based  on the  specific  identification
      method.  Interest and dividends on securities are included in other income
      (expense).

      Realized  gains or losses are  determined  on the specific  identification
      method and are reflected in income.  Net unrealized  losses on non-current
      marketable  securities are recorded  directly in a separate  shareholders'
      equity account except those unrealized  losses that are deemed to be other
      than temporary, which losses are reflected in income.

9.    Other Investments

      The  Company  is  a  limited  partner  in  certain  nonmarketable  limited
      partnerships in which it owns  approximately  a 10% interest.  The Company
      has no ability to influence  the  operating  or financial  policies of the
      partnership.  These  investments  are  carried at cost,  adjusted  for any
      permanent impairment in value.

10.   Income Taxes

      Income  taxes  are  accounted  for  by  the  asset/liability  approach  in
      accordance  with  Statement of  Financial  Accounting  Standards  No. 109,
      "Accounting  for Income  Taxes."  Deferred  taxes  represent  the expected
      future  tax   consequences   when  the  reported  amounts  of  assets  and
      liabilities are recovered or paid.  They arise from temporary  differences
      between the financial  reporting  and tax bases of assets and  liabilities
      and are adjusted for changes in tax laws and tax rates when those  changes
      are enacted. The provision for income taxes represents the total of income
      taxes paid or payable  for the current  year,  plus the change in deferred
      taxes during the year.

                                       F-9

<PAGE>



11.   Earnings Per Common Share

      Earnings  per  common  share and common  equivalent  share is based on the
      weighted  average number of outstanding  shares of common stock  including
      common stock  equivalents  (options and warrants) as determined  under the
      treasury  stock  method as follows:  3,190,339  shares in 1996;  3,734,151
      shares in 1995; and 4,276,422 shares in 1994.

12.   Cash and Cash Equivalents

      For purposes of the statement of cash flows,  short-term investments which
      have a  maturity  of ninety  days or less at the date of  acquisition  are
      considered cash equivalents.

13.   Product Development

      The  Company's  primary  efforts  are  focused on  engineering  design and
      product  development  activities  rather than pure  research.  The cost of
      these  development  activities,  including  employees'  time and prototype
      development,   net  of  amounts  paid  by  customers,   was  approximately
      $1,453,000,  $970,000,  and  $1,367,000  in fiscal 1996,  1995,  and 1994,
      respectively.

14.   New Accounting Standards

      In March 1995, the Financial  Accounting  Standards Board issued Statement
      of Financial  Accounting Standards No. 121, "Accounting for the Impairment
      of Long-Lived  Assets and for Long-Lived  Assets to Be Disposed Of" ("SFAS
      121"),  which  is  required  to  be  adopted  by  fiscal  1997.  SFAS  121
      establishes  the  accounting  standards  for the  impairment of long-lived
      assets,  certain  intangible  assets  and  cost in  excess  of net  assets
      acquired  to be held and  used,  and for  long-lived  assets  and  certain
      intangible  assets to be disposed of. The Company  adopted this  statement
      during fiscal year ended July 30, 1995; it did not have a material  impact
      on the consolidated financial position of the Company.

NOTE B - ACQUISITIONS AND DISPOSALS

      In July 1995,  the Company  entered into an agreement  effective as of the
      close of  business  June 30,  1995,  to  acquire  certain  assets  and the
      business (consisting  principally of inventories and trade receivables) of
      Stewart  Warner  Electronics  Corporation,  a  Delaware  corporation.  The
      transaction,  which closed on July 28,  1995,  provided for the payment of
      $250,000  in  cash  and  the  assumption  of  approximately   $915,000  in
      liabilities  and  has  been  accounted  for by the  purchase  method.  The
      acquisition  resulted  in excess  of fair  value  over cost of net  assets
      acquired of $1,460,500 which is being amortized over a three-year period.

NOTE C - NOTES  RECEIVABLE-OFFICERS

      In November 1995, and March 1996 the Company lent  $1,700,000 and $300,000
      respectively,   to  certain  officers,  as  authorized  by  the  Board  of
      Directors,  pursuant to the terms of nonnegotiable  promissory  notes. The
      loans are secured by 445,774  shares of common stock of the  Company.  The
      notes are due  November  1996 and  March  1997,  respectively,  and may be
      renewed  by  the  Company  for up to  four  additional  one-year  periods.
      Interest is payable at maturity  at the average  rate of interest  paid by
      the Company on borrowed funds during the fiscal year. The pledge agreement
      also  provides  for the  Company  to have the  right of first  refusal  to
      purchase  the pledged  securities,  based on a formula as defined,  in the
      event of the death or disability of the officer.


                                      F-10

<PAGE>



NOTE D - INVENTORIES

      The major components of inventories are as follows:

                                                    July 28,            July 30,
                                                      1996                 1995
         Purchased parts and raw materials        $ 3,358,256        $ 5,749,455
         Work in process                            4,580,538          3,478,268
         Finished products                             71,893            102,330
                                                  $ 8,010,687        $ 9,330,053

NOTE E - AVAILABLE-FOR-SALE SECURITIES

      Available-for-sale   securities  are  carried  at  fair  value,  with  the
      unrealized gains and losses,  net of tax, reported as a separate component
      of shareholders'  equity.  Realized gains and losses and declines in value
      judged to be other-than-temporary  are included in other income (expense).
      The  cost of  securities  sold is  based  on the  specific  identification
      method.  Interest and dividends on securities are included in other income
      (expense).

      The following is a summary of available-for-sale securities:

                                               Gross        Gross     Estimated
                                            Unrealized   Unrealized     Fair
                                Cost           Gains       Losses       Value
                                ----           -----       ------       -----
    July 28, 1996
      Government bonds    $ 3,783,402      $    -        $    -      $ 3,783,402
      Other                 1,125,700           -             -        1,125,700
                            ---------         ------        ------     ---------
         Total              4,909,102           -             -        4,909,102
      Equity securities         3,285           -             -            3,285
                            ---------         ------        ------     ---------
                          $ 4,912,387      $    -        $    -      $ 4,912,387
                            =========         ======        ======     =========

    July 30, 1995
      Government bonds    $ 3,878,937      $  72,968      $ 31,302   $ 3,920,603
      Other                   189,919           -             -          189,919
                            ---------         ------        ------     ---------
         Total              4,068,856         72,968        31,302     4,110,522
      Equity securities         4,092           -             -            4,092
                            ---------         ------        ------     ---------
                          $ 4,072,948      $  72,968      $ 31,302   $ 4,114,614
                            =========         ======        ======     =========

      In September 1996 the Company liquidated its available-for-sale securities
      for approximately $4,912,000 and used the proceeds to reduce its long-term
      bank debt. A provision  for  unrealized  losses of $121,550 is included in
      the statement of operations.

NOTE F - OTHER INVESTMENTS

      In December  1995 the  Company  sold its  investment  and  terminated  its
      limited partnership interest in M.D. Sass Re/Enterprise Partners,  L.P., a
      Delaware   limited   partnership  for  $3,823,233   realizing  a  gain  of
      $1,095,727.

      In April 1996 the Company acquired a limited partnership  interest in M.D.
      Sass   Re/Enterprise-II,   L.P.,  a  Delaware   limited   partnership  for
      $2,000,000.  The  objective  of the  partnership  is to  achieve  superior
      long-term capital appreciation through investments consisting primarily of
      securities of companies  that are  experiencing  significant  financial or
      business  difficulties.  At July 28, 1996 the  percentage of ownership was
      approximately  10%.  The  Company's  interest  in the  partnership  may be
      redeemed,  based upon its proportionate share of partnership capital, upon
      ninety-days notice to the managing general partner.

                                      F-11

<PAGE>



      Redemptions are generally made as of the last day of a fiscal quarter. The
      estimated fair market value, as determined by the general partner, at July
      28, 1996 was $2,002,838.

      In July 1994 the Company  invested  $1,000,000  for a limited  partnership
      interest in M.D. Sass Municipal  Finance  Partners-I,  a Delaware  limited
      partnership.  The objectives of the partnership are the  preservation  and
      protection  of its capital and the earning of income  through the purchase
      of  certificates  or other  documentation  that evidence  liens for unpaid
      local  taxes on parcels of real  property.  At July 28,  1996 and July 30,
      1995 the  percentage  of ownership  was  approximately  10%. The Company's
      interest in the  partnership  may be transferred  to a substitute  limited
      partner,  upon written notice to the managing general partners,  only with
      the unanimous  consent of both general  partners at their sole discretion.
      The estimated fair market value, as determined by the general partner,  at
      July  28,  1996  and  July  30,  1995  was   $1,247,313   and   $1,104,243
      respectively.

      These  investments  are  carried  at  cost in the  consolidated  financial
      statements at July 28, 1996 and July 30, 1995.

NOTE G - PROPERTY, PLANT AND EQUIPMENT

      Property, plant and equipment are comprised of the following:

                                            July 28,     July 30,    Estimated
                                              1996         1995      Useful Life
                                              ----         ----      -----------
      Land                              $   880,270   $   880,270
      Building and building
          improvements                    5,362,409     5,310,925   10-40 years
      Machinery and equipment            16,788,901    16,329,395    5-8  years
      Furniture and fixtures                494,056       492,597    5-10 years
      Automotive equipment                     -           30,243     3   years
      Tools                                  24,869        24,869     5   years
      Leasehold improvements                288,757       251,876    5-10 years
                                         ----------    ----------
                                         23,839,262    23,320,175
      Less accumulated depreciation      11,260,218     9,544,465
                                         ----------     ---------
                                        $12,579,044   $13,775,710
                                         ==========    ==========

NOTE H - COMMITMENTS AND CONTINGENCIES

      Leases

      The Company  leases  office,  production  and  warehouse  space as well as
      computer equipment and automobiles under noncancellable operating leases.

      Rent expense for the 52 weeks ended July 28, 1996,  July 30, 1995 and July
      31, 1994 was approximately $284,600,  $158,000, and $584,000 respectively.
      Rent expense in 1994 includes $308,000 for a facility formerly occupied by
      Vega Precision  Laboratories,  Inc. This lease was terminated in December,
      1993.

      Minimum annual rentals under noncancellable leases are as follows:

                                                            Amount
                          Year ending fiscal 1997         $172,000
                                             1998          147,800
                                             1999          116,900
                                             2000           66,900

                                      F-12

<PAGE>



      Employment Agreements

      The  Company  has  employment   agreements  with  various  executives  and
      employees  of the  Company,  which,  as amended,  expire at various  dates
      through  December  31, 2002,  subject to extension  each January 1 for six
      years from that date not to extend, in any event, beyond December 31, 2006
      . These  agreements  provide for aggregate  annual salaries of $1,185,000.
      Certain agreements provide for an annual increment equal to the greater of
      a cost of living  adjustment based on the consumer price index or 10%, and
      also  provide  for  incentive   compensation  related  to  pretax  income.
      Incentive  compensation in the amount of $446,750 has been accrued for the
      fiscal year ended July 28, 1996. No incentive compensation was due for the
      fiscal year ended July 30, 1995. Incentive compensation for the year ended
      July 31, 1994 was waived by these executives.

      Certain  agreements  also provide  that, in the event there is a change in
      control of the  Company,  as defined,  the  executives  have the option to
      terminate the  agreements and receive a lump-sum  payment.  As of July 28,
      1996,  the  amount  payable  in the  event  of such  termination  would be
      approximately $2,013,500.

      One of the employment  contracts,  as amended November 30, 1992,  provides
      for a  consulting  agreement  commencing  January 1, 1998 and  terminating
      December 31, 2010 at the annual rate of $100,000

      Litigation

      In May and June  1994,  the  Company  was  served  with two  class  action
      complaints  against the Company and certain of its officers and  directors
      in  the  United  States  District  Court  for  the  Eastern   District  of
      Pennsylvania.  The claims were made under  Section  10(b) and 20(a) of the
      Securities  Exchange  Act of 1934 and Rule  10b-5  thereunder.  One of the
      claims is also based upon  alleged  negligence.  The claims  relate to the
      Company's acquisition of Carlton Industries, Inc. and its subsidiary, Vega
      Precision Laboratories,  Inc. The claims were combined into one matter and
      a consolidated  Complaint.  In April,  1995, the Court  certified that the
      claims based on the Securities  Exchange Act may proceed as a Class Action
      pursuant  to Rule 23(b) (3),  but without  prejudice  to the rights of the
      parties  thereafter  to seek  modification  of the Class or  revocation of
      leave to proceed.  The Court refused to certify the negligence  claim as a
      Class Action.  In May,  1995,  the parties  negotiated a settlement of all
      claims in consideration for a payment of $450,000 subject to Notice to the
      Class  and  Court  approval.  A  hearing  on the  proposed  settlement  is
      scheduled for October 15, 1996.

      In May, 1995, the Company was served with a Class Action Complaint against
      the Company and its Chief Executive  Officer in the United States District
      Court for the Eastern District of  Pennsylvania.  The claim was made under
      Section  10(b) and 20(a) of the  Securities  Exchange Act of 1934 and Rule
      10(b)-5 thereunder.  The claim relates to the Company's  settlement of the
      Litton Action in the Essex  Superior Court of  Massachusetts  and alleges,
      inter alia, that there was  insufficient  disclosure by the Company of its
      true potential  exposure in that claim. Cross motions for summary judgment
      have been filed and are pending before the Court.  The Company believes it
      has a  meritorious  defense and intends to vigorously  defend  against the
      action.

      In July  1996,  the  Company  was  notified  by the  American  Arbitration
      Association of the decision of the  arbitrators in an action  commenced in
      March 1994 by the principal  selling  shareholders of Carlton  Industries,
      Inc. and its subsidiary,  Vega Precision  Laboratories,  Inc. According to
      the award,  the Company was to pay to the claimants the sum of $1,052,900,
      inclusive  of interest.  Correspondingly,  the  claimants  were to pay the
      Company the sum of  $277,719,  inclusive  of  interest.  The Company  paid
      $775,181 to claimants,  representing  the difference  between the award to
      the claimants and the award to the Company, in August,  1996. The award to
      the  claimants  was  offset by  $593,162  otherwise  payable to one of the
      selling shareholders.

      The Company is also involved in other legal  proceedings  and claims which
      arise  in the  ordinary  course  of its  business.  While  any  litigation
      contains an element of uncertainty,  management  believes that the outcome
      of such litigation,  including  actions  described above,  will not have a
      material adverse effect on the Company's  financial position or results of
      operations.

                                      F-13

<PAGE>



      Stand-by Letters of Credit

      The  Company  maintains  a letter  of  credit  facility  with a bank  that
      provides for the  issuance of stand-by  letters of credit and requires the
      payment of a fee of 1.0% per annum of the  amounts  outstanding  under the
      facility. The facility expires January 31, 1998. At July 28, 1996 stand-by
      letters  of credit  aggregating  $1,526,292  were  outstanding  under this
      facility.

NOTE I - INCOME TAXES

      Income tax provision consisted of the following:

                                                     52 Weeks ended
                                             -----------------------------
                                         July 28,      July 30,       July 31,
                                           1996          1995           1994
                                           ----          ----           ----
           Current
               Federal                 $  90,000       $  -          $    -
               State                      12,400          -            236,000
           Deferred, Federal
               and State                 -               4,000         440,000
                                         -------         -----         -------
                                       $ 102,400       $ 4,000       $ 676,000
                                         =======         =====         =======

       The Company paid income taxes of approximately  $19,000 in 1996, $122,000
       in 1995,  and $77,000 in 1994. The following is a  reconciliation  of the
       U. S. statutory  income  tax rate and the  effective  tax rate on  pretax
       income:
                                                     52 weeks ended
                                               --------------------------
                                           July 28,     July 30,     July 31,
                                             1996         1995         1994
                                             ----         ----         ----
        U.S. Federal statutory rate          34.0 %      (34.0) %      34.0 %
        State taxes, net of
           federal tax benefit                0.2           -           6.2
        Alternative minimum tax               2.4           -            -
        Benefit of net operating loss
           carryforward                     (35.2)          -         (10.8)
        Non-taxable income                     -            -          (9.2)
        Non-deductible expenses               1.3           -            -
        Increase in valuation allowance        -          34.0           -
        Other, net                             -            -          (6.4)
                                             ----         ----         ---- 
          Effective tax rate                  2.7 %         -   %      26.6 %
                                             ====         ====         ====  

      The effective tax rate in 1996 was 2.7%.  The 1996 tax provision  reflects
      the utilization of prior year net operating loss carryforwards.  No income
      tax  benefit was  recorded  in 1995 due to an  increase  in the  valuation
      allowance.  A valuation allowance has been provided to reduce deferred tax
      assets to their net realizable value for amounts which management believes
      may expire  unutilized.  The  uncertainty  that past  performance  will be
      indicative  of  future  earnings  due to the  unpredictable  nature of the
      industry  in which  the  Company  operates  was a  determining  factor  in
      assessing the need for a valuation allowance.

      Deferred income taxes reflect the impact of temporary  differences between
      the amount of assets and  liabilities  recognized for financial  reporting
      purposes and such amounts recognized for tax purposes.

      As of July 28, 1996, the Company has net operating loss  carryforwards for
      Federal  income  tax  purposes  of  approximately   $8,181,000,  of  which
      $1,134,000 expires in 2008, $2,843,000 in 2009, and $4,204,000 in 2010.


                                      F-14

<PAGE>



      Components of deferred tax assets and liabilities are as follows:

                                     July 28, 1996           July 30, 1995
                                     -------------           -------------
                                 Deferred     Deferred   Deferred     Deferred
                                    Tax         Tax         Tax          Tax
                                  Assets     Liabilities  Assets     Liabilities
                                  ------     -----------  ------     -----------

        Intangibles             $  807,537   $   -      $     -      $   73,687
        Alternative minimum tax    176,707       -          86,707         -
        Accrued vacation pay       118,104       -         126,231         -
        Accrued bonus              243,760       -            -            -
        Warranty costs             220,000       -            -            -
        Inventory                  910,081       -         503,360         -
        Depreciation                  -       1,923,058       -       1,455,982
        Net operating loss 
         carryforwards           2,781,480       -       4,209,952         -
        Litigation settlement      495,080       -         880,000         -
        Contract losses            215,208       -         218,240         -
        Other                       97,645       -         171,600       16,666
                                 6,065,602    1,923,058  6,196,090    1,546,335
                                 ---------    ---------  ---------    ---------
        Valuation allowance      4,454,627       -       4,978,504         -
                                 ---------    ---------  ---------    ---------
                                $1,610,975   $1,923,058 $1,217,586   $1,546,335
                                 =========    =========  =========    =========

NOTE J- LONG-TERM DEBT

      Long-term debt is summarized as follows:
                                                    July 28,       July 30,
                                      Rate            1996           1995
                                      ----            ----           ----
      Note payable bank (a)        6.26%-8.25%   $  6,950,000    $  7,000,000
      Mortgage note (b)            10.4%            3,525,000       3,800,000
      Long term liability (c)           -             846,000            -
      Other                        Various               -             82,078
                                                   11,321,000      10,882,078
      Less current portion                            300,000         357,078
                                                   ----------      ----------
                                                 $ 11,021,000    $ 10,525,000
                                                   ==========      ==========

      (a)In January 1996, the Company entered into a revolving  credit agreement
         with a new bank  that  provides  for the  extension  of  credit  in the
         aggregate  principal  amount of $11,000,000 and may be used for general
         corporate  purposes,  including  business  acquisitions.  The  facility
         requires the payment of interest only on a monthly basis and payment of
         the outstanding  principal balance on January 31, 1998. Interest is set
         biweekly  at 1% over the bank's  Federal  Funds Rate (5.26% at July 28,
         1996) applied to outstanding balances up to 80% of the net equity value
         of available-for-sale securities, and at the bank's Base Rate (8.25% at
         July 28, 1996) for  outstanding  balances in excess of this limit.  The
         premium  rate  portion of the  facility  is  secured by the  marketable
         securities.  The credit  facility  also  provides  for the  issuance of
         stand-by  letters of credit with a fee of 1.0% per annum of the amounts
         outstanding under the facility.  At July 28, 1996,  stand-by letters of
         credit aggregating $1,526,292 were outstanding.

         The agreement contains various financial  covenants,  including,  among
         other matters, the maintenance of working capital,  tangible net worth,
         and restrictions on cash dividends and other borrowings.

      (b)The  mortgage note provides for annual  principal  payments  at varying
         amounts  through  2004  plus  semiannual  interest  payments.  Land and
         buildings in Lancaster, Pa. are pledged as collateral.

         The mortgage  note  agreement  contains  various  financial  covenants,
         including, among other matters, the

                                      F-15

<PAGE>

         maintenance  of specific  amounts of working  capital and  tangible net
         worth.  In connection  with this loan,  the Company paid  approximately
         $220,000 in financing costs. Such costs are included in Other Assets in
         the accompanying  consolidated balance sheets at July 28, 1996 and July
         30,1995 and are being amortized over the term of the loan (15 years).

      (c)Under a contract for the purchase of an industrial  parcel of land from
         its Chairman, the Company is obligated to pay $846,000 at settlement on
         or before April 30, 1998.

      The Company paid interest of approximately $854,000 in 1996, $1,010,000 in
      1995, and $1,296,000 in 1994.

      Future payments required on long-term debt are as follows:

                 Fiscal year ending during:              Amount
                 --------------------------            ---------
                         1997                        $   300,000
                         1998                          8,131,000
                         1999                            370,000
                         2000                            410,000
                         2001                            450,000
                         Thereafter                    1,660,000
                                                       ---------
                                                     $11,321,000
                                                      ==========

NOTE K - ACCOUNTS PAYABLE AND ACCRUED EXPENSES

      Accounts payable and accrued expenses include the following:

                                                       July 28,       July 30,
                                                         1996           1995
                                                         ----           ----
        Accounts payable                            $ 1,579,230    $ 1,302,789
        Accrued payroll and bonuses                   1,160,348        553,276
        Accrued commissions                             247,687        390,097
        Accrued interest                                 95,925         98,141
        Accrued litigation expenses                   1,206,914      3,282,430
        Accrued expenses                                833,764      2,017,415
                                                      ---------      ---------
                                                    $ 5,123,868    $ 7,644,148
                                                      =========      =========

NOTE L - EMPLOYEE BENEFIT PLANS

      In August 1985, the Board of Directors  approved an Employee  Savings Plan
      which  qualified  as a thrift plan under  Section  401(k) of the  Internal
      Revenue  Code.  This Plan, as amended and  restated,  allows  employees to
      contribute  between 2% and 15% of their salaries to the Plan. The Company,
      at its discretion  can  contribute  100% of the first 2% of the employees'
      contribution and 25% of the next 4%. Additional Company  contributions can
      be made depending on profits. The aggregate benefit payable to an employee
      is dependent upon his rate of contribution,  the earnings of the fund, and
      the length of time such employee continues as a participant.

      The Company has accrued  approximately  $159,000 for the fiscal year ended
      July 28, 1996, and  contributed  approximately  $151,000,  and $199,000 to
      this plan for the fifty-two  weeks ended July 30, 1995, and July 31, 1994,
      respectively.

NOTE M - SHAREHOLDERS' EQUITY

      In October  1995,  the Board of  Directors  approved the 1996 Stock Option
      Plan which covers  500,000 shares of the Company's  common stock.  Options
      granted under the plan may be incentive stock options qualified

                                      F-16
<PAGE>

      under  Section 422 of the Internal  Revenue Code of 1986 or  non-qualified
      stock options. Under the terms of the Plan, the exercise price for options
      granted under the plan will be the fair market value at the date of grant.
      The nature and terms of the  options  to be granted is  determined  at the
      time of grant by the Board of  Directors.  If not  specified,  100% of the
      shares  can be  exercised  one year  after the date of grant  The  options
      expire ten years from the date of grant.  No options were  granted  during
      the fiscal year ended July 28, 1996.

      In December 1992, the Board of Directors  approved the 1992  Non-Qualified
      Stock  Option Plan which  covers  1,000,000  shares,  as  amended,  of the
      Company's common stock. Under the terms of the Plan, the purchase price of
      the  shares,  subject to each option  granted,  is 100% of the fair market
      value at the date of grant. The date of exercise is determined at the time
      of grant by the Board of Directors;  however, if not specified, 50% of the
      shares can be  exercised  each year  beginning  one year after the date of
      grant.  The options  expire ten years from the date of grant.  Options for
      255,000, and 254,000 shares were issued during the fiscal years ended July
      30, 1995 and July 31, 1994,  respectively.  These options may be exercised
      cumulatively at the rate of 25% per year beginning one year after the date
      of grant.  Options for 322,023 and 534,800 shares were exercisable at July
      28,  1996 and July 30,  1995  respectively.  This plan was  terminated  in
      December 1995, except for outstanding options thereunder.

      In October 1987,  the Board of Directors  approved the 1988  Non-Qualified
      Stock  Option Plan which covers  500,000  shares of the  Company's  common
      stock.  Under the terms of the Plan,  the  purchase  price of the  shares,
      subject  to each  option  granted,  will not be less  than 85% of the fair
      market value at the date of grant.  The date of exercise may be determined
      at the time of grant by the Board of Directors; however, if not specified,
      20% of the shares can be exercised  each year beginning one year after the
      date of grant and generally  expire five years from the date of grant.  At
      July 31,  1996,  July 30,  1995 and July 31,  1994,  options  to  purchase
      23,100,  29,775,  and 19,850  shares of common stock,  respectively,  were
      exercisable.  This  plan was  terminated  in  December  1995,  except  for
      outstanding options thereunder.

A summary of stock option  activity  under all plans for the 52 weeks ended July
28, 1996, July 30, 1995, and July 31, 1994 follows:

                             Non-Qualified Stock Options   Warrant Agreements
                             ---------------------------   ------------------
                                 Number   Price Range       Number  Price Range
                               of shares   per share      of shares  per share
                               ---------   ---------      ---------  ---------

Outstanding August 1, 1993...   515,700   $ 2.38-12.01    430,000         $ 7.13
   Granted ..................   254,000     6.00- 6.88
   Exercised.................   (39,000)          2.38
   Canceled..................   (33,000)    5.69-12.01
                                -------     ----------    -------    -----------
Outstanding July 31, 1994....   697,500   $ 5.69-12.01    430,000         $ 7.13
   Granted ..................   255,000           3.38
   Canceled..................   (10,000)    3.38- 7.00
                                -------     ----------    -------    -----------
Outstanding July 30, 1995....   942,500   $ 3.38-12.01    430,000         $ 7.13
   Granted ..................      -                      220,000           6.19
   Exercised.................  (406,432)    3.38- 7.50
   Canceled..................   (23,500)    3.38- 7.00   (400,000)          7.13
                                -------     ----------    -------    -----------
Outstanding July 28, 1996....   512,568   $ 3.38-12.01    250,000   $6.19 - 7.13
                                =======                   =======    

      In April 1993,  common stock warrants were issued to certain  officers and
      directors for the right to acquire  430,000  shares of common stock of the
      Company at the fair market value of $7.125 per share at date of issue.  In
      December  1995  warrants  for 400,000  shares were  canceled  The warrants
      expire April 30, 1998. In December 1995, common stock warrants were issued
      to  certain  officers  for the right to acquire  220,000  shares of common
      stock of the Company at the fair  market  value of $6.19 per share at date
      of issue. The warrants expire December 13, 2005.

      In  connection  with  the sale of common stock to the public in 1992,  the
      Company issued to the underwriter,

                                      F-17

<PAGE>



      for its own account,  warrants to purchase  127,897 shares of common stock
      of the Company (as adjusted under the agreement), exercisable for a period
      of four  years at a price of  $12.08  per  share  (as  adjusted  under the
      agreement),  subject to further adjustment in certain events. The warrants
      expire in February 1997.

      On July 31, 1993,  the Company issued 35,000 shares of common stock valued
      at $7.875 per share in connection  with the  acquisition of  substantially
      all of the assets of  Micro-Dynamics,  Inc. These shares were subsequently
      canceled and reissued in January 1995.

NOTE N - RELATED PARTY TRANSACTIONS

      On March 6, 1996,  the Board of  directors  approved  the  purchase  of an
      industrial parcel of land from the Chairman of the Company for $940,000. A
      deposit of $94,000 was paid on execution of the contract,  and the balance
      of $846,000 will be paid at  settlement  on or before April 30, 1998.  The
      Company intends to use this land for possible future expansion.

NOTE O - MAJOR CUSTOMERS

      Net sales to the U.S.  Government in 1996,  1995,  and 1994  accounted for
      approximately  33%,  30%,  and 25% of net  sales,  respectively.  No other
      customer  accounted for 10% or more of net sales in 1996 and 1995. In 1994
      sales to a major  customer  accounted for 16% of net sales.  Foreign sales
      amounted to approximately $6,556,000, $3,908,000, and $7,891,000 in fiscal
      1996, 1995, and 1994, respectively.

      Included in accounts  receivable as of July 28, 1996 and July 30, 1995 are
      amounts  due  from the  U.S.  Government  of  approximately  $933,000  and
      $718,000, respectively.

NOTE P - UNUSUAL ITEM

      The  Consolidated  Statements of Operations for the fifty-two  weeks ended
      July 30, 1995  includes an unusual  charge of  $5,447,005  for  settlement
      costs,  legal fees, and related expenses in connection with the settlement
      of certain legal claims against the Company.  Payments of $2,000,000 each,
      without interest,  were made in July 1995 and July 1996 in connection with
      the settlement of one of the claims.

      During the fiscal year ended July 31, 1994, the Company  incurred  unusual
      charges of  $745,663 in excess of reserves  in  connection  with  warranty
      claims  for  products  shipped  by Vega  prior to its  acquisition  by the
      Company. These claims were resolved during the fiscal year and the Company
      does not anticipate any further costs as a result of these claims.

NOTE Q - FAIR VALUES OF FINANCIAL INSTRUMENTS

      The  following  methods  and  assumptions  were  used  by the  Company  in
      estimating its fair value disclosures for financial instruments:

        Cash and cash  equivalents:  The carrying amount reported in the balance
        sheet for cash and cash equivalents approximated its fair value.

        Notes  receivable-officers:  The carrying amount reported in the balance
        sheet for notes receivable from officers approximated its fair value.

        Available-for-sale  securities:  The fair  value  of  available-for-sale
        securities was based on quoted market prices.

        Other investments:  The fair value of the Company's limited  partnership
        interest  in  M.D. Sass  Re/Enterprise-II,  L.P.  was  estimated  by the
        Managing General Partner based on quoted market prices for

                                      F-18

<PAGE>


        widely traded securities,  at representative "bid" or "asked" quotations
        for  unlisted  securities,  and for those  securities  for which  market
        quotations are not readily  available,  by one or more third parties who
        are  independent of the  partnership.  Because of the absence of readily
        ascertainable  market values,  the tax liens held by M.D. Sass Municipal
        Finance  Partners-I  are recorded at historical  cost with provision for
        impairment of values as determined by the Managing General Partners.

        Long-term  debt: The carrying  amount  reported in the balance sheet for
        notes  payable-bank  and the real estate contract  approximated its fair
        value.  The  fair  value  of  the  mortgage  note  was  estimated  using
        discounted   cash  flow  analysis,   based  on  the  Company's   current
        incremental borrowing rate for similar types of borrowing arrangements.

      Off balance sheet financial instruments:

        Stand-by   letters  of  credit:   These  letters  of  credit   primarily
        collateralize  the  Company's  obligations  to  customers  for  advanced
        payments  received under contracts.  The contract amounts of the letters
        of credit approximate their fair value.

The carrying amounts and fair values of the Company's financial  instruments are
presented below:

                                                      July 28, 1996
                                                      -------------
                                              Carrying AmountFair Value
                                              -------------------------

               Cash and cash equivalents    $  1,104,445    $ 1,104,445
               Notes receivable-officers       2,083,543      2,083,543
               Available-for-sale securities   4,912,387      4,912,387
               Other investments               3,000,000      3,250,151
               Long-term debt                 11,021,000     12,001,418
               Stand-by letters of credit      -              1,526,292

NOTE R - CONCENTRATION OF CREDIT RISK

      Financial instruments which potentially subject the Company to credit risk
      consist primarily of trade accounts  receivable.  Credit risk with respect
      to trade receivables is minimized since most of the Company's  business is
      direct to the U. S.  Government or as a  subcontractor  to companies  with
      significant  financial  resources acting as prime contractors to the U. S.
      Government, as well as to foreign governments.  Additionally, shipments to
      foreign governments are generally under irrevocable letters of credit.


                                      F-19