UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                              Washington, DC 20549

                                   FORM 10-Q


(Mark One)

[ X ] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
      Exchange Act of 1934 for the period ended September 30, 1998,

                                       or

[ ]   Transition Report Pursuant to Section 13 or 15(d) of the Securities
      Exchange Act of 1934

                         Commission File Number 2-93124

                               SGI International
             (Exact name of registrant as specified in its charter)

           Utah                                                 33-0119035
(State or other jurisdiction of                              (I.R.S. Employer
incorporation or organization)                              Identification No.)


          1200 Prospect Street, Suite 325, La Jolla, California 92037
                    (Address of principal executive offices)


                                 (619) 551-1090
               Registrant's telephone number, including area code

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

                                                             [ X ] Yes   [ ] No

The number of shares of Common Stock, no par value, outstanding as of November
12, 1998, was 19,915,973.



<PAGE>




                               TABLE OF CONTENTS
                                   FORM 10-Q


PART I.   FINANCIAL INFORMATION

          ITEM 1. FINANCIAL STATEMENTS

          Condensed Consolidated Balance Sheets                             3

          Condensed Consolidated Statements of Operations                   4

          Condensed Consolidated Statement of Stockholders' Deficiency      5

          Condensed Consolidated Statements of Cash Flows                   6

          Notes to Condensed Consolidated Financial Statements              7

 
          ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
                  FINANCIAL CONDITION AND RESULTS OF OPERATIONS

          Introductory Note                                                11

          Results of Operations                                            11

          Liquidity and Capital Resources                                  13


          ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
                  MARKET RISK                                              14


PART II.  OTHER INFORMATION

          ITEM 1. LEGAL PROCEEDINGS                                        15

          ITEM 2. CHANGES IN SECURITIES                                    15

          ITEM 3. DEFAULTS UPON SENIOR DEBT SECURITIES                     16

          ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS      16

          ITEM 5. OTHER INFORMATION                                        16

          ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K                         17


PART III. SIGNATURES                                                       18


                                       2
<PAGE>

                                      SGI INTERNATIONAL AND SUBSIDIARIES
                                     CONDENSED CONSOLIDATED BALANCE SHEETS
<TABLE>

                                                        September 30,            December 31,
                                                            1998                     1997
                                                         (Unaudited)
==============================================================================================
<S>                                                     <C>                      <C>

ASSETS
Current assets:
   Cash                                                 $   117,016              $   429,232
   Restricted time deposit                                  402,500                  402,500
   Receivable from TEK-KOL Partnership                       67,503                   26,066
   Trade accounts receivable, less allowance for
      doubtful accounts of $84,460                          481,111                  346,763
   Costs and estimated earnings in
      excess of billings on contracts                       262,439                  146,364
   Inventories                                               64,644                   64,843
   Prepaid expenses and other current assets                 74,029                  232,977
----------------------------------------------------------------------------------------------
Total current assets                                      1,469,242                1,648,745
----------------------------------------------------------------------------------------------

LFC Process related assets:
   Notes receivable, net                                    150,000                  150,000
   Royalty rights, net                                    1,335,562                1,571,250
   LFC cogeneration project, net                            342,174                  421,137
   Investment in TEK-KOL Partnership                        394,820                  481,685
   Australia LFC project, net                                94,117                  115,836
   Other technological assets, net                           25,192                   29,598
----------------------------------------------------------------------------------------------
                                                          2,341,865                2,769,506

Property and equipment, net of accumulated
      depreciation of $819,188 and $589,789                 858,931                  788,740
Goodwill, net of accumulated amortization
      of $132,738 and $96,790                               347,506                  383,454
----------------------------------------------------------------------------------------------
                                                        $ 5,017,544              $ 5,590,445
==============================================================================================

LIABILITIES AND STOCKHOLDERS' DEFICIENCY
Current liabilities:
   Accounts payable                                     $   542,839               $  287,458
   Borrowings on line-of-credit                             400,000                  400,000
   Billings in excess of costs and
      estimated earnings on contracts                       118,615                  193,792
   Current maturities of long-term notes payable          3,311,875                3,061,875
   12% convertible debentures                               976,573                  976,573
   Accrued salaries, benefits and related taxes             176,448                  240,368
   Payable to TEK-KOL Partnership                                 -                  100,000
   Interest payable                                         485,443                  483,930
   Other accrued expenses                                   119,754                  189,308
----------------------------------------------------------------------------------------------
Total current liabilities                                 6,131,547                5,933,304

Long-term notes payable, less current maturities            107,125                  114,250
----------------------------------------------------------------------------------------------
Total liabilities                                         6,238,672                6,047,554
----------------------------------------------------------------------------------------------

Commitments and Contingencies

Stockholders' deficiency
   Convertible preferred stock                                  650                      910
   Common stock                                          44,516,275               39,927,760
   Paid-in capital                                        8,728,852                8,511,878
   Accumulated deficit                                  (54,466,905)             (48,897,657)
----------------------------------------------------------------------------------------------
Total stockholders' deficiency                           (1,221,128)                (457,109)
----------------------------------------------------------------------------------------------
                                                        $ 5,017,544              $ 5,590,445
==============================================================================================
</TABLE>

See notes to condensed consolidated financial statements.


                                       3
<PAGE>

                                        SGI INTERNATIONAL AND SUBSIDIARIES
                                 CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
                                                  (Unaudited)


<TABLE>

                                                     Three months                  Nine months
                                                   ended September 30,          ended September 30,
-------------------------------------------------------------------------------------------------------
                                                  1998           1997           1998           1997
=======================================================================================================
<S>                                          <C>            <C>            <C>            <C>
Revenues:
   Net sales                                 $ 1,107,021    $ 1,195,745    $ 3,696,209    $ 3,779,897
   Other                                           7,923         10,239         35,261         29,753
-------------------------------------------------------------------------------------------------------
                                               1,114,944      1,205,984      3,731,470      3,809,650

Expenses:
   Cost of sales                                 833,019        888,226      2,811,129      2,893,349
   Engineering, research and consulting          283,796        388,178        789,972        939,479
   Loss from investment in TEK-KOL               100,576        326,212        527,865        657,960
   Selling, general and administrative           540,665        719,698      2,018,859      1,874,244
   Legal and accounting                          156,930        106,064        510,488        411,137
   Depreciation and amortization                 220,623        198,943        608,498        550,624
   Interest                                      138,134        160,858        599,016        429,801
-------------------------------------------------------------------------------------------------------
                                               2,273,743      2,788,179      7,865,827      7,756,594
-------------------------------------------------------------------------------------------------------
Net loss                                      (1,158,799)    (1,582,195)    (4,134,357)    (3,946,944)

Imputed preferred stock dividends for
   Series 97B 8%, 97D 7%, 97G 8%, and
   98A 6% convertible preferred stock            122,372        381,073      1,434,891        381,073
-------------------------------------------------------------------------------------------------------

Net loss applicable to common stock          $(1,281,171)   $(1,963,268)   $(5,569,248)   $(4,328,017)
-------------------------------------------------------------------------------------------------------
Net loss per common share - basic            $     (0.08)   $     (0.26)   $     (0.42)   $     (0.63)
=======================================================================================================
Weighted average common shares outstanding    15,259,805      7,472,958     13,123,331      6,851,470
=======================================================================================================
</TABLE>

See notes to condensed consolidated financial statements.


                                       4
<PAGE>
<TABLE>

                                                             SGI INTERNATIONAL AND SUBSIDIARIES
                                               CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' DEFICIENCY
                                                                      (Unaudited)

 
                                 Preferred convertible
                                        stock                    Common stock                                             Total
                                -----------------------   -------------------------                    Accumulated    stockholders'
                                Shares           Amount     Shares         Amount    Paid-in capital     deficit       deficiency
-----------------------------------------------------------------------------------------------------------------------------------
<S>                               <C>            <C>       <C>          <C>           <C>             <C>             <C>        
Balances at December 31, 1997     90,997         $ 910     9,258,250    $39,927,760   $ 8,511,878     $(48,897,657)   $ (457,109)
  Issuance of common stock
   for cash                                                  194,502        156,800                                      156,800
  Exercise of warrants
   for cash                                                   25,000         15,000                                       15,000
  Issuance of common stock
   for services and
   operating activities                                      166,571        162,665                                      162,665
  Issuance of preferred
   stock for cash                  3,300            33                                  2,803,167                      2,803,200
  Conversion of preferred
   stock                         (29,285)         (293)    6,820,163      4,254,050    (4,253,757)                            -
  Issuance of warrants to
   purchase common stock to
   non-employees                                                                           44,640                         44,640
  Interest expense related
   to warrant issue                                                                       188,033                        188,033
  Net loss                                                                                              (4,134,357)   (4,134,357)
  Preferred Series 97G and
   98A imputed dividends                                                                1,434,891       (1,434,891)            -
-----------------------------------------------------------------------------------------------------------------------------------

Balances at September 30, 1998    65,012         $ 650    16,464,486    $44,516,275   $ 8,728,852     $(54,466,905)  $(1,221,128)
===================================================================================================================================
</TABLE>


See notes to condensed consolidated financial statements.

                                       5
<PAGE>


                                        SGI INTERNATIONAL AND SUBSIDIARIES
                                 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
                                                   (Unaudited)

<TABLE>

Nine months ended September 30,                                                1998                 1997
============================================================================================================
<S>                                                                      <C>                  <C>
Operating activities:
Net loss                                                                 $ (4,134,357)        $ (3,946,944)
Adjustments to reconcile net loss to net
     cash used in operating activities:
   Equity in net loss of TEK-KOL Partnership                                  527,865              657,960
   Depreciation and amortization                                              608,498              550,624
   Common stock issued for interest, services,
     and other operating activities                                           162,665              249,401
   Non-employee compensation expense on issuance of warrants                   44,640                    -
   Imputed interest on warrants issued to note holders                        188,033                    -
   Changes in operating assets and liabilities:
     Receivable from TEK-KOL Partnership                                      (41,437)             (29,529)
     Trade accounts receivable                                               (250,423)             (38,999)
     Inventories                                                                  199                1,830
     Other current assets                                                     158,948             (279,774)
     Accounts payable                                                         255,381              165,902
     Billings in excess of costs and estimated
       earnings on contracts                                                  (75,177)            (186,672)
     Accrued salaries, benefits and related taxes                             (63,920)             218,314
     Interest payable                                                           1,513              125,029
     Other accrued expenses                                                   (69,554)             198,135
------------------------------------------------------------------------------------------------------------
Net cash used in operating activities                                      (2,687,126)          (2,314,723)
------------------------------------------------------------------------------------------------------------
Investing activities:
LFC Process related assets:
   Investment in TEK-KOL Partnership                                         (441,000)            (650,000)
   Payable to TEK-KOL Partnership                                            (100,000)             116,748
Purchase of property and equipment                                           (299,590)            (348,847)
Other assets                                                                   (2,375)              (4,765)
------------------------------------------------------------------------------------------------------------
Net cash used in investing activities                                        (842,965)            (886,864)
------------------------------------------------------------------------------------------------------------
Financing activities:
   Borrowings on line-of-credit                                                     -              100,000
   Payments of notes payable                                                   (7,125)             (28,750)
   Proceeds from issuance of debt                                             250,000                    -
   Proceeds from issuance of common stock                                     171,800            1,165,970
   Proceeds from issuance of preferred stock                                2,803,200            1,372,162
------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities                                   3,217,875            2,609,382
------------------------------------------------------------------------------------------------------------
Net decrease in cash                                                         (312,216)            (592,205)
Cash at beginning of period                                                   429,232              740,018
------------------------------------------------------------------------------------------------------------
Cash at end of period                                                    $    117,016         $    147,813
============================================================================================================
Supplemental disclosure of cash flow information:
   Interest paid                                                         $    338,452         $    217,451
Supplemental disclosure of non-cash activities:
   Common stock issued for services and other operating activities       $    162,665         $    249,401
------------------------------------------------------------------------------------------------------------
</TABLE>

See notes to condensed consolidated financial statements.

                                       6
<PAGE>

                       SGI INTERNATIONAL AND SUBSIDIARIES
         NOTES TO CONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
                               SEPTEMBER 30, 1998


(1) BASIS OF PRESENTATION

The accompanying condensed consolidated financial statements of SGI
International and subsidiaries (the "Company") for the three and nine month
periods ended September 30, 1998, and 1997, are unaudited and have been prepared
in accordance with generally accepted accounting principles for interim
financial information and the instructions to Form 10-Q. Accordingly, they do
not include all information and footnotes required by generally accepted
accounting principles for complete financial statements. These financial
statements reflect all adjustments, consisting of only normal recurring
adjustments which, in the opinion of management, are necessary for a fair
statement of the consolidated financial position as of September 30, 1998, and
the consolidated results of operations for the three and nine month periods
ended September 30, 1998, and 1997. The results of operations for the three and
nine month periods ended September 30, 1998, are not necessarily indicative of
the results to be expected for the year ending December 31, 1998. For more
complete financial information, these financial statements, and the notes
thereto, should be read in conjunction with the consolidated audited financial
statements for the year ended December 31, 1997, included in the Company's Form
10-K/A filed with the Securities and Exchange Commission.


(2) ORGANIZATION AND BUSINESS

The principal businesses of the Company are developing, commercializing, and
licensing new energy technologies; and manufacturing automated assembly
equipment.

The recovery of amounts invested in the Company's principal assets, the LFC
Process related assets, is dependent upon the Company's ability to successfully
attract sufficient additional equity, debt, third party financing or other
collaboration arrangements to complete the commercialization of the LFC Process.
The Company is engaged in continuing negotiations to secure additional capital
financing and collaboration arrangements, and while management believes these
negotiations will be successful, there is no assurance thereof.

On May 11, 1998, the Company gave notice to Bluegrass Coal Holding Company
("Bluegrass") a subsidiary of Zeigler Coal Holding Company, in accordance with
the TEK-KOL Partnership Agreement (the "Partnership Agreement"), that it was
unilaterally terminating the Partnership Agreement effective six months from the
date of the notice. Upon termination, the parties are required to take those
steps necessary to dissolve the partnership and wind up all partnership affairs.
All tangible assets are to be sold or otherwise disposed of and all intangible
assets comprising intellectual property are transferred to both parties such
that each party owns an undivided 50% interest in all patents, trade secrets,
trademarks, and all other intellectual property. However, upon termination, the
Company has a worldwide exclusive through April 12, 2000, to market and license
the LFC Technology. After April 12, 2000, both parties have the right to market
and license the present technology worldwide. Bluegrass may continue to use the
LFC Technology on any of its sole projects.

Royalties earned on licenses entered into through the term of the Company's
exclusive period ending on April 12, 2000, are paid 80% to the Company and 20%
to Bluegrass, up to a date 10 years from the date of dissolution. For licenses
entered into after April 12, 2000, royalties are divided equally between the
parties for a period of 10 years after the date of dissolution. Both the Company
and Bluegrass are obligated to continue funding the TEK-KOL Partnership until
dissolution. While not anticipated, the termination of the Partnership Agreement
could have a material adverse impact on the business and operations of the
Company.



                                       7
<PAGE>
On August 6, 1998, the Company entered into a Letter of Intent with Mitsubishi
Corporation ("Mitsubishi") to form a joint venture. The Letter of Intent
provides for the formation of a new company (the "Joint Venture") to be owned
equally by Mitsubishi and SGI. The Joint Venture's primary objective is to
develop LFC projects in the Powder River Basin of Wyoming and further develop
and market the LFC Technology and its products. This is a non-binding Letter of
Intent and contemplates the parties will negotiate the additional terms of and
enter into a definitive Joint Venture and other agreements.

In accordance with the Letter of Intent, SGI is to provide the Joint Venture
with personnel for engineering, LFC project development, and technology and
product marketing in the United States. In addition, SGI is to develop strategic
relationships and refine the CDL upgrading process. In consideration for these
services, Mitsubishi is to pay SGI a set annual fee per year for at least two
years or until the parties transition the Joint Venture into an operating
entity.

Pursuant to the Letter of Intent, Mitsubishi is to provide to the Joint Venture,
engineering to optimize the LFC technology, to reduce the cost of LFC plant
equipment, to optimize the CDL upgrading process, and to market the technology
and products outside of the United States. Upon the occurrence of certain
events, the parties have agreed to convert the Joint Venture to an operating
entity, and SGI is to then transfer the LFC patents to this entity for an agreed
upon payment from Mitsubishi.

All agreements between the parties pertaining to the Joint Venture have been
prepared and are currently under review prior to execution. However, there can
be no assurance that a Joint Venture or other definitive agreement will
eventually be executed.


(3) EQUITY TRANSACTIONS

The common stock of the Company is currently traded and prices quoted on the
NASD OTC Bulletin Board under the symbol SGII. In the course of accounting for
the issuance of its various equity securities the Company frequently refers to
the closing bid price of its common stock, as quoted on the OTC Bulletin Board.
The Company believes that the OTC Bulletin Board quoted bid price is the best
indication of the stock's fair market value. This belief is premised on the
stock's daily trading volumes which averaged approximately 76,000, 53,000, and
38,000 shares for the years 1995, 1996 and 1997, respectively. Average daily
trading volume for the nine months ended September 30, 1998 was approximately
163,000 shares.


(4) NET LOSS PER SHARE

Net loss per share is computed in accordance with SFAS No. 128, "Earnings per
Share" ("EPS"). Basic EPS includes no dilution and is computed by dividing net
loss available to common stockholders by the weighted-average number of common
shares outstanding for the period. For purposes of computing the net loss
available to common stockholders, preferred stock dividends are deducted from
the net loss. Preferred stock dividends include "imputed dividends" for
preferred stock issued with a non-detachable beneficial conversion feature near
the date of issuance. Imputed dividends represent the aggregate difference
between conversion price and the fair market value of the common stock as of the
date of issuance of the preferred stock, without regard to the actual date on
which the preferred stock may be converted. Shares issuable upon conversion of
preferred stock, convertible debentures and upon exercise of outstanding stock
options and warrants are not included since the effects would be anti-dilutive.
Diluted EPS reflects the potential dilution from securities that could share in
the earnings of the Company, similar to fully diluted EPS under APB No. 15. The
Statement requires dual presentation of basic and diluted EPS by entities with
complex capital structures. All per share amounts for all periods presented must
be restated to conform to SFAS No. 128 requirements. No restatement of the
previously determined per share amounts is necessary as the effects of the
outstanding convertible securities, warrants and options would be anti-dilutive.


                                       8
<PAGE>
(5) RECENT ACCOUNTING PRONOUNCEMENTS

Statement No. 130 of the Financial Accounting Standards Board, "Reporting
Comprehensive Income," (SFAS No. 130) establishes standards for the reporting
and display of comprehensive income and its components (revenues, expenses,
gains and losses) in a full set of general-purpose financial statements.
Comprehensive income includes items such as unrealized gains on
available-for-sale securities that are not included in net income. SFAS No. 130
requires that all items required to be recognized under accounting standards as
components of comprehensive income, be reported in a financial statement that is
displayed with the same prominence as other financial statements. SFAS No. 130
is effective in 1998 and had no material impact on the Company's results of
operations or related disclosures for the nine months ended September 30, 1998.

Statement No. 131, "Disclosures about Segments of an Enterprise and Related
Information," (SFAS No. 131) is effective for financial statements for periods
beginning after December 15, 1997. SFAS No. 131 establishes standards for the
way that public business enterprises report financial and descriptive
information about reportable operating segments in annual financial statements
and interim financial reports issued to stockholders. SFAS No. 131 requires the
disclosure of financial information on operating segments on the basis used by
management in evaluating performance and deciding how to allocate resources.
SFAS No. 131 will first be reflected in the Company's 10-K for the year ending
December 31, 1998.


(6) COMPOSITION OF CERTAIN FINANCIAL STATEMENT CAPTIONS

Property and Equipment
<TABLE>

                                               September 30,      December 31,
                                                   1998               1997
==============================================================================
<S>                                             <C>               <C>        
Office furniture and fixtures                   $   115,000       $   109,000
Laboratory equipment                              1,021,000           836,000
Machinery and equipment                             121,000           118,000
Computer equipment                                  369,000           295,000
Leasehold improvements                               52,000            21,000
------------------------------------------------------------------------------
                                                  1,678,000         1,379,000
Less accumulated depreciation                      (819,000)         (590,000)
------------------------------------------------------------------------------
  Net property and equipment                    $   859,000       $   789,000
==============================================================================
</TABLE>


(7) RECLASSIFICATION

Certain prior period amounts have been reclassified to conform to the current
period presentation. These changes had no impact on previously reported results
of operations, cash flows or stockholder's equity.


(8) Subsequent Events

On October 1, 1998, the Company issued incentive stock options to employees, at
fair market value pursuant to its 1996 Omnibus Stock Plan. The incentive options
are exercisable for a total of 205,000 shares of common stock at $0.265 per
share, the closing bid price on the date of grant, to employees of the Company.
The options expire on October 1, 2003, and are not exercisable until either a
registration statement under the Securities Act shall be effective at the time
of exercise, or the common shares underlying the option are issuable under an
applicable exemption from the registration requirements of the Securities Act.
The incentive options were granted in reliance upon exemptions from registration
pursuant to Section 4(2) of the Securities Act and Regulation D promulgated
thereunder.


                                       9
<PAGE>
As provided in related service or consulting agreements, the Company on October
1, 1998, granted six warrants to purchase an aggregate 130,000 common shares to
two consultants and four directors for services rendered, pursuant to the
exemptions provided by Section 4(2) of the Securities Act and Regulation D.
Investment representations were obtained from the individuals and legends were
placed on the certificates. The exercise prices were not lower than the closing
bid price on the grant date and expire on October 1, 2003. The warrants are
first exercisable one year from the date of grant at $0.265 per share.

On October 30, 1998, the Company was able to extend or exchange approximately
$4.4 million in existing debt for new securities of the Company including
amended or new convertible debt securities, preferred stock and also paid
approximately $30,000 in existing debt. The Company retired approximately
$3,650,416 in existing 10%, 11% and 12% interest bearing notes and convertible
debentures which were required to be paid prior to October 31, 1998, in exchange
for new or amended 12% convertible debentures, in the same amount, due September
30, 1999. These debentures may be prepaid by the Company, in whole or in part,
at any time prior to September 30, 1999. The debentures are convertible at the
option of the holder subsequent to November 13, 1998, in whole or in part, at
the lower of a calculated number as of the closing date ($0.406), or the average
of the ten day closing bid price of the Company's common stock prior to the date
the notice of conversion is received by the Company. The Company obtained an
extension to September 30, 1999, of approximately $724,000 of debt, and in
connection therewith, agreed to grant 69 Series 98D preferred shares convertible
with no further payment into an aggregate of approximately 48,000 shares of the
common stock. These securities were issued only to existing debt holders
pursuant to the exemptions provided by Sections 3(a)(9) and Section 4(2) of the
Securities Act and Regulation D.

On November 4, 1998, the Company issued 950 shares of $0.01 par value, 6%
Convertible Preferred Series 98C and six warrants to four foreign investors for
cash and notes payable. The Company received net proceeds of $918,000
representing the completion of the first tranche of this Preferred series. The
securities were issued by the Company in reliance upon exemptions from
registration provided by Section 4(2) of the Securities Act and the provisions
of Regulation D. These shares have a liquidation preference of $1,000 per share
and accrue dividends at the rate of 6% per annum which are cumulative. The
number of shares of common stock to be issued upon conversion of the 98C
Preferred Shares will be the lesser of $0.46 or 75% of the five lowest closing
bid prices of the common stock during the Lookback Period. The Lookback Period
is defined as the five trading days immediately preceding the date the notice of
conversion is received by the Company. After the last trading day of each month
that the Series 98C Preferred Stock remains outstanding, starting on the first
day of the fourth month after November 4, 1998, the Lookback Period will be
increased by two trading days per month until the Lookback Period equals a
maximum of 30 trading days. The 98C Preferred Stock is redeemable at the option
of the Company, in whole or in part, in cash, at 125% of the Liquidation value
plus accrued and unpaid dividends. In the event the 98C Preferred Stock is not
converted two years from the Closing Date then the outstanding 98C Preferred
Stock shall be redeemed by the Company as if the Company voluntarily elected
such redemption. The six warrants which are convertible into 47,500 shares of
common stock, contain an exercise price equal to 110% of the average closing bid
price for the five trading days preceding the closing date. The warrants are
exercisable two days following the closing date and expire on November 4, 2003.

The shares of common stock underlying the 98C Preferred shares and warrants are
subject to a Registration Rights Agreement, which requires the Company to file a
registration statement for these securities with the Securities and Exchange
Commission ("SEC"), within thirty calendar days after the closing date (November
4, 1998). In the event the registration statement is not filed, by the Company,
by the 30th calendar day after closing date, or if the registration statement is
not declared effective by the SEC by the 90th day after the closing date, then
the Company will pay, in cash, to the holders thereof on a pro-rata basis, as
liquidated damages 1.5% of the investment amount for the first month late and 2%
thereafter. In the event the registration statement is not declared effective
prior to the 180th calendar day after the closing date the Company must redeem
the 98C Preferred Stock.

In connection with the sale of the 98C Preferred Shares, the Company paid an
unaffiliated placement agent (Settondown Capital International, Ltd.) a fee
consisting of $25,000 in cash, 70 shares of 98C Preferred Stock having a value
of $70,000 and warrants to purchase 47,500 shares of common stock as
compensation for


                                       10
<PAGE>
placement services. The securities were issued by the Company in reliance upon
exemptions from registration provided by Section 4(2) of the Securities Act and
the provisions of Regulation D. The warrants are exercisable at 110% of the
average closing bid price for the five trading days preceding the closing date.
The warrants are exercisable two days following the closing date and expire on
November 4, 2003. In addition to the placement agent fees the Company paid
$7,000 in cash for legal and escrow fees incurred in connection with this
transaction. The net proceeds of this transaction will be used for working
capital purposes.


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
        OF OPERATIONS


                               INTRODUCTORY NOTE

This Quarterly Report on form 10-Q contains statements relative to (i)
projections, (ii) estimates, (iii) future research plans and expenditures, (iv)
potential collaborative arrangements, (v) opinions of management and (vi) the
need for and availability of additional financing which may be considered
"forward-looking statements."

The forward-looking statements included herein are based on current expectations
that involve a number of risks and uncertainties. These forward-looking
statements are based on assumptions regarding the Company's business and
technology, which involve judgments with respect to, among other things, future
scientific, economic and competitive conditions, and future business decisions,
as well as risk factors detailed from time to time in the Company's Securities
and Exchange Commission reports including this form 10-Q, all of which are
difficult or impossible to predict accurately and many of which are beyond the
control of the Company. Although the Company believes that the assumptions
underlying the forward-looking statements are reasonable, any of the assumptions
could prove inaccurate and, therefore, there can be no assurance that the
results contemplated will be realized and actual results may differ materially.

Readers are urged to carefully review and consider the various disclosures made
by the Company in this report and in the Company's other reports filed with the
Securities and Exchange Commission that attempt to advise interested parties of
the risks and factors that may affect the Company's business. Therefore,
historical results and percentage relationships will not necessarily be
indicative of the operating results of any future period.


                             RESULTS OF OPERATIONS

Net Loss per Common Share. Net loss per common share for the three and nine
month periods ended September 30, 1998, decreased approximately $0.14 per share
and $0.26 per share, respectively, over the same prior year periods after
excluding non-recurring imputed dividends. The imputed dividends are related to
the beneficial conversion feature associated with the issuance of the Series 97G
and 98A convertible preferred stock. Also see Note 4 "Net Loss per Share" to the
condensed consolidated financial statements. The decrease in net loss per share
for the three month period is attributable to an increase in the weighted
average number of common shares outstanding and a net loss decrease of
approximately $423,000 over the same prior year period. The decrease in net loss
per share for the nine month period is primarily attributable to an increase in
the weighted average number of common shares outstanding, as the overall net
loss increased approximately $187,000 over the same prior year period.

Sales and Cost of Sales. Sales and cost of sales for the three months ended
September 30, 1998, decreased 7% and 6%, respectively, over the same prior year
periods. Sales and cost of sales are primarily attributable to AMS and are
recorded using the percentage of completion method. Sales and cost of sales for
the three and nine months ended September 30, 1998, remained relatively flat,
showing a small decline of 2% and 3%, respectively, over the same prior year
periods. The Company believes this decline in sales is primarily the result of
the General Motors strikes which began in early June and ended in late July,
impacting third quarter orders for automated assembly equipment in the
automotive sector. The Company does not anticipate any significant long-term


                                       11
<PAGE>
effects on future sales to this sector. Furthermore, due to the Asian-Pacific
regions reported economic instability certain domestic customers in the
electronics or high-tech sectors, who have seen their Asian-Pacific revenues
decline, are expected to reduce their orders for automated assembly equipment.
The Company does not anticipate an improvement in this sector before the end of
calendar 1998. Consequently, the Company is no longer confident that its 1998
revenues will exceed 1997's record results.

Other Income. Other income for the three and nine months ended September 30,
1998, remained substantially unchanged over the same prior year periods. The
small fluctuations are directly related to the cash balances maintained and the
interest rates available for short term deposits earned over the same prior year
periods.

Loss on Investment in TEK-KOL. The Company's share of the TEK-KOL loss for the
three months ended September 30, 1998, decreased 69% over the same prior year
period. The Company's share of the TEK-KOL loss for the nine month period ended
September 30, 1998, decreased approximately 20% over the same prior year period.
The overall decrease for both periods is primarily attributable to a significant
amount of development work being performed on CDL upgrading in the third quarter
of 1997. During the third quarter of 1997 the CDL enhancement program was in
full swing and TEK-KOL spent approximately $362,000 during that time period,
compared to only $42,000 in 1998. This decrease in expenses is primarily
attributable to the results obtained from the program in 1997 which allowed the
parties to narrow their development focus. CDL enhancement efforts by the
Company and TEK-KOL are continuing alone and in collaboration with other outside
third parties who are absorbing some of the costs of development.

Engineering Research and Consulting Expenses. Engineering research and
development expenses are essentially related to the Company's activities
pertaining to the OCET and LFC technologies. Engineering research and
development expenses for the three month period ended September 30, 1998,
decreased 27% over the same prior year period. The decrease is primarily
attributable to a 38% reduction in the number of employees working at the
Company's OCET laboratory compared to the previous period. Engineering research
and development expenses for the nine month period ended September 30, 1998,
decreased 16% over the same prior year period. The decrease is primarily
attributable to a 38% reduction in the number of employees working at the
Company's OCET laboratory which is partially offset by an increase in laboratory
costs, as the Company endeavors to bring the process development unit on line.
Start-up and testing of the Process Development Unit (PDU) commenced during this
current period and the Company expects laboratory costs to increase in the next
quarter as the PDU becomes fully operational.

Selling, General and Administrative Expenses. Selling, general and
administrative expenses for the three months ended September 30, 1998, decreased
25% over the same prior year period. The decrease is essentially related to a
$92,000 reduction in financial consulting and public relation expenses, and a
non-recurring charge of approximately $70,000, ocurring in 1997, for payroll
related expenses. In addition, selling, general and administrative expenses for
AMS decreased approximately $28,000 over the prior year period due primarily to
a reduction in administrative personnel.

Selling, general and administrative expenses for the nine months ended September
30, 1998, increased 8% over the same prior year period. The increase is related
to the Company agreeing to issue an additional 110,000 shares of restricted
common stock, valued at approximately $105,000, to the 97D convertible preferred
stock investors, an increase of approximately $50,000 in insurance costs for
improved coverage and approximately $50,000 of financial penalties associated
with delays in registering the common shares underlying certain securities of
the Company. These 1998 charges are offset in part by a $107,000 reduction in
financial consulting and public relation expenses. In addition, selling, general
and administrative expenses for AMS increased approximately $20,000 over the
prior year period due to an increase in marketing personnel and related
expenses.

Legal and Accounting Expenses. Legal and accounting expenses for both the three
and nine months ended September 30, 1998, increased 48% and 24%, respectively,
over the same prior year periods. The increase is related primarily to legal and
accounting expenses incurred in preparing and filing the Company's registration
statement on Form S-2 with the Securities and Exchange Commission.


                                       12
<PAGE>
Depreciation and Amortization Expenses. Depreciation and amortization expenses
for the both three and nine months ended September 30, 1998, increased 11% over
the same prior year periods. The increase for both periods is due primarily to
purchases and construction of additional equipment at the OCET laboratory and
AMS.

Interest Expense. Interest expense for the three month period ended September
30, 1998, remained substantially unchanged, after excluding a non-recurring
charge of approximately $23,000 occurring in 1997.

Interest expense for the nine month period ended September 30, 1998, increased
39% over the same prior year period. The increase of approximately $188,000 for
the nine month period was due to imputed interest expense associated with the
issuance of warrants to certain debt holders participating in the Company's 1997
debt restructuring. The warrants are granted and issued quarterly in arrears,
with the last issuance taking place on September 30, 1998.


                        LIQUIDITY AND CAPITAL RESOURCES

As of September 30, 1998, the Company had assets totaling $5.0 million,
including restricted cash of $0.4 million, and a working capital deficiency of
$4.7 million. The Company anticipates continued operating losses over the next
twelve months and has both short-term and long-term liquidity deficiencies as of
September 30, 1998. Current notes payable and associated accrued interest
aggregating $4.5 million required to be paid prior to October 31, 1998,
primarily contribute to the Company's short-term deficiency at September 30,
1998. The Company satisfied these liabilities subsequent to September 30, 1998,
through its 98D exchange offering. This exchange offering extended the due date
of these liabilities to September 30, 1999, in exchange for primarily
convertible debt and equity securities. (See Note 8 to the condensed
consolidated financial statements.) Other short-term liquidity requirements are
expected to be satisfied from existing cash balances, proceeds from the sale of
future equity securities or other collaborative arrangements. Negotiations are
on-going for the public and private placement of equity securities, the proceeds
of which are intended to be used to satisfy the short-term liquidity deficiency.
In the event that the Company is unable to finance operations at the current
level, various administrative activities would be curtailed and certain research
and development efforts would be reduced. The Company will not be able to
sustain operations if it is unsuccessful in securing sufficient financing and/or
generating revenues from operations.

The Company had long-term liquidity deficiencies at September 30, 1998. Over the
long-term, the Company will require substantial additional funds to maintain and
expand its research and development activities and ultimately to commercialize,
with or without the assistance of corporate partners, any of its proposed
technologies. The Company believes the long-term liquidity deficiency will be
satisfied through future equity sales, increased positive cash flows from
operations, and research or other collaborative agreements, until such time, if
ever, as the commercialization of the LFC and OCET Processes result in positive
cash flows. The Company is seeking collaborative or other arrangements with
larger well capitalized companies, under which such companies would provide
additional capital to the Company in exchange for exclusive or non-exclusive
licenses or other rights to certain technologies and products the Company is
developing. Although the Company is presently engaged in discussions with a
number of suitable candidate companies, there can be no assurance that an
agreement or agreements will arise from these discussions in a timely manner, or
at all, or that revenues that may be generated thereby will offset operating
expenses sufficiently to reduce the Company's short-term or long-term funding
requirements.

Cash used in operating activities increased 16% over the same prior year period.
The use of funds from operating activities is essentially attributable to the
Company's net loss of approximately $4.1 million, incurred primarily in pursuing
its administrative and development activities.

The Company's investing activities amounted to approximately $843,000 for the
nine month period ended September 30, 1998. The funds were utilized primarily in
the funding of the TEK-KOL Partnership's operations, acquisition and
construction of equipment at the OCET laboratory and the acquisition of
equipment


                                       13
<PAGE>

at AMS. Additional capital contributions to the TEK-KOL Partnership are expected
to be required from time to time prior to its final pending dissolution. The
Company is required to contribute one-half of any such required capital
contributions. Management presently estimates that the Company will be required
to contribute between $0.75 million and $1.0 million in 1998 with year-to-date
contributions totaling approximately $0.5 million. This estimate is based in
part on the Company's pending joint venture with Mitsubishi Corporation, which
in accordance with the August 6, 1998, letter of intent will assist in the
funding of the Company's LFC development and marketing activities. In the event
the joint venture is not consummated, the Company does not anticipate any
significant change in its estimate as certain activities and expenses will be
curtailed until funds are available or other collaborative arrangements with
third parties are made. The amount of funds used for investing activities in a
given period are directly related to development requirements and funds
availability. The Company does not have material commitments for capital
expenditures as of September 30, 1998.

The Company's financing activities raised approximately $3.2 million for the
nine month period ended September 30, 1998. These funds were raised primarily
through the private placement of equity securities and the issuance of a
$250,000 note payable. The amount of money raised during a given period is
dependent upon financial market conditions, technological progress and the
Company's projected funding requirements. The Company anticipates that future
financing activities will be influenced by the aforementioned factors.

As noted previously, significant future financing activities will be required to
fund future operating and investing activities and to maintain debt service.
While the Company is engaged in continuing negotiations to secure additional
capital and financing, there is no assurance such funding will be available or
if received will be adequate.


ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

[Not Applicable]







                                       14
<PAGE>


                           PART II. OTHER INFORMATION


ITEM 1. LEGAL PROCEEDINGS

The Company and its subsidiaries are from time to time involved in litigation
arising in the ordinary course of their respective businesses. The only lawsuit
currently pending against the Company is Walsh vs. AMS, filed on September 7,
1997, in the San Diego Superior Court. The Walsh case relates to events
occurring prior to the acquisition of AMS by the Company. The lawsuit asserts
claims, for among other things, breach of contract relating to a loan of
approximately $300,000. AMS has filed an answer denying liability and discovery
is proceeding. In the opinion of the Company, the pending litigation, if
adversely decided, should not have a material adverse effect on the Company.


ITEM 2. CHANGES IN SECURITIES

On July 28, 1998, the Company, for net proceeds of $490,000, issued 550 shares
of Series 98A 6% Convertible Preferred Stock pursuant to the provisions of
Section 4(2) of the Securities Act and Regulation D, to two accredited
investors. The 98A Preferred Shares accrue dividends at a rate of 6% per annum
and are cumulative. The dividend is only payable in common stock of the Company.
The Company also issued warrants to purchase a total of 70,000 common shares at
$1.18 per share to these investors. The Series 98A Preferred Stock is
convertible, at the earlier of the date the underlying common shares are
included in a registration statement which has been declared effective by the
SEC, or sixty days from the closing date, July 28, 1998. Each Series 98A
Preferred Share is convertible into the number of shares of common stock derived
by dividing the conversion rate by the conversion price. The conversion rate is
the liquidation preference of $1,000 per share of the Series 98A Preferred
Stock. The conversion price is determined based on the date the conversion
notice is received and is equal to the lesser of (a) the average closing bid
price of the common stock over the five day trading period prior to March 6,
1998, or (b) 75% of the average of the closing bid price of the common stock on
the five trading days ending on the date preceding the conversion notice. No
sale can occur absent an effective registration statement for the underlying
stock. The warrants were exercisable 10 days after issuance and expire on March
6, 2003. The 98A Preferred Shares are redeemable at the option of the Company,
in whole or in part, in cash, at 130% of the Liquidation Value plus accrued and
unpaid dividends. The 98A Preferred Shares will automatically convert into
common stock two years from the closing date. The Company has included the
common shares underlying the warrants and preferred stock in an amendment to its
S-2 registration statement effective July 22, 1998. These securities were issued
pursuant to the exemptions provided by Section 4(2) of the Securities Act and
Regulation D. Investment representations were obtained from the investors and
legends were placed on the certificates.

On August 19, 1998, the Company issued 40,000 restricted common shares to two
consultants in accordance with their related service agreements pursuant to the
exemptions provided by Section 4(2) of the Securities Act and Regulation D,
valued at approximately $34,500. Investment representations were obtained from
the individuals and legends were placed on the certificate.

On September 9, 1998, the Company issued a 12% short term note payable for
$250,000 to a foreign corporation pursuant to the exemptions provided by Section
4(2) of the Securities Act and Regulation D. The note was satisfied on November
4, 1998, when by agreement, it was exchanged for 250 shares of 98C Preferred
Stock. (See Note 8 to condensed consolidated financial statements for details.)

On September 30, 1998, the Company granted certain debt holders, pursuant to the
Company's 1997 debt restructuring, warrants to purchase an aggregate of 152,500
restricted common shares exercisable on or before December 31, 1999, at an
exercise price of $1.20 per share. The warrants were issued to existing security
holders of the Company in reliance upon exemptions from registration pursuant to
Sections 3(a)(9) and 4(2) of the Securities Act and Rule 506 of Regulation D
promulgated thereunder.



                                       15
<PAGE>
ITEM 3. DEFAULTS UPON SENIOR DEBT SECURITIES

[NONE]


ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.

The annual Meeting of Stockholders was scheduled on June 19, 1998. The Company
did not receive sufficient proxies to constitute a quorum and the meeting was
adjourned to August 28, 1998, at which time a quorum was obtained. At that
meeting the following matters were submitted to a vote of the stockholders of
SGI International:

1998 SGI International Annual Meeting
Final Voting Results

Proposal

Item No. 1     Election of Directors

The following nominees for director received the number of votes set opposite
their respective names:
<TABLE>

                                                   Voting Results
                                           ------------------------------
                                              Votes             Percent
                                           ------------      ------------
<S>                          <C>             <C>                  <C>   
Dr. Ernest P. Esztergar      For             7,096,187            97.00%
                             Withhold          219,470             3.00%

William R. Harris            For             7,111,045            97.20%
                             Withhold          204,612             2.80%
</TABLE>

Directors Bernard V. Baus, Norman A. Grant, William A. Kerr and Joseph A.
Savoca, whose terms of office had not expired, continued in their respective
capacities as directors.


Item No. 2   Ratification of Selection of J.H. Cohn LLP, as Independent Public
             Accountants
<TABLE>

                      Voting Results
                --------------------------
                   Votes         Percent
                -----------     ----------
<S>              <C>               <C>  
For              7,220,108         98.7%
Against             61,452           .8%
Abstain             34,097           .5%
</TABLE>


ITEM 5. OTHER INFORMATION

On October 26, 1998, AMS filed a lawsuit against Anatol Automation and Anatol
Manufacturing in Orange County Superior Court. The lawsuit seeks approximately
$600,000 in compensatory damages and in excess of $2,000,000 in punitive damages
for interference with advantageous business relationships, interference with
contract, and appropriation of trade secrets in violation of the California
Uniform Trade Secret Act.

In addition, see Note 8 to the condensed consolidated financial statements
specifically pertaining to the October 30 and November 4, 1998, transactions.


                                       16
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

1.   Exhibits

     3.1    Amended Certificate of Secretary re: Designation of Series 98C
            Preferred Stock.(1)

     3.2    Amended Certificate of Secretary re: Designation of Series 98A
            Preferred Stock.(2)

     3.3    Amended Certificate of Secretary re: Designation of Series 98D
            Preferred Stock.(1)

     4.1    Form of Stock Purchase Warrant re: Series 98C Preferred Stock dated
            November 4, 1998. (1)

     4.2    Form of Series 98C Convertible Preferred Stock Subscription
            Agreement dated November 4, 1998, between the Registrant and the
            holders thereof. (1)

     4.3    Form of Registration Rights Agreement re: Series 98C Preferred Stock
            dated November 4, 1998, between the Registrant and the holders
            thereof. (1)

     4.4    Form of Series 98D Convertible Preferred Stock.(1)

     4.5    Form of Series 98D Convertible Debentures.(1)

     4.6    Form of Stock Purchase Warrant re: Series 98A Preferred Stock dated
            July 28, 1998.(2)

     4.7    Form of Series 98A Convertible Preferred Stock Subscription
            Agreement dated July 28, 1998, between the Registrant and the
            holders thereof.(2)

     4.8    Form of Registration Rights Agreement re: Series 98A Preferred Stock
            dated July 28, 1998, between the Registrant and the holders
            thereof.(2)

     4.9    Form of Stock Purchase Warrant re: Series 97E.(3)

     4.10   $250,000 Promissory Note dated September 9, 1998.(1)

     27.1   Financial Data Schedule.(1)

     ----------------

     (1)     Filed herewith.
     (2)     Incorporated by reference to Report on Form 10-Q (File No. 2-93124)
             for the quarter ending June 30, 1998.
     (3)     Incorporated by reference to Exhibit 4 in Registration Statement on
             Form S-2 (File No. 2-93124) filed on January 23, 1998.

2.   Reports on Form 8K: [NONE]



                                       17
<PAGE>


                              PART III. SIGNATURES

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


SGI INTERNATIONAL



/s/ JOSEPH A. SAVOCA                                   November 13, 1998
------------------------------------
Joseph A. Savoca,
Chief Executive Officer
Chief Financial Officer
and Chairman of the Board


Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.



/s/ JOSEPH A. SAVOCA                                   November 13, 1998
------------------------------------
Joseph A. Savoca,
Chief Executive Officer
Chief Financial Officer
and Chairman of the Board



                                       18