<PAGE>

                                  UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 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 Quarter ended December 31, 1998

         TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES 
-----    EXCHANGE ACT OF 1934

For the transition period from _______ to ________.

                        Commission File Number: 000-21240

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

                              NEOWARE SYSTEMS, INC.
             (Exact name of registrant as specified in its charter)




            Delaware                                 23-2705700
(State or other jurisdiction of              (IRS Employer Identification No.)
 incorporation or organization)

                                400 Feheley Drive
                       King of Prussia, Pennsylvania 19406
                    (Address of principal executive offices)

                                 (610) 277-8300
               (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.

                                    Yes X    No
                                       ---     ---
 
As of February 9, 1999, there were outstanding 6,285,782 shares of the
Registrant's Common Stock.

                                                             Page 1 of 16  pages
                                                     Exhibit Index is on page 15


<PAGE>

                              NEOWARE SYSTEMS, INC.


                                      INDEX

                                                                           Page
                                                                         Number
                                                                         ------
PART I.  FINANCIAL INFORMATION

Item 1.  Unaudited Consolidated Financial Statements:

            Consolidated Balance Sheets:
            December 31, 1998 and June 30, 1998                              3

            Consolidated Statements of Operations:
            Three and Six Months Ended December 31, 1998 and 1997            4

            Consolidated Statements of Cash Flows:
            Six Months Ended December 31, 1998 and 1997                      5

            Notes to Consolidated Financial Statements                       6

Item 2.  Management's Discussion and Analysis of Financial
            Condition and Results of Operations                              9

PART II. OTHER INFORMATION
  
Item 1. Legal Proceedings                                                   14

Item 2. Changes in Securities and Use of Proceeds                           15

Item 4. Submission of Matters to a Vote of Security Holders                 15

Item 6. Exhibits and Reports on Form 8-K                                    15

            Signatures                                                      16


                                     Page 2

<PAGE>
                              NEOWARE SYSTEMS, INC.

                           CONSOLIDATED BALANCE SHEETS

                                   (Unaudited)
<TABLE>
<CAPTION>
                                                                            December 31,               June 30,
                                ASSETS                                         1998                     1998
                                ------                                   ---------------          ---------------
<S>                                                                      <C>                      <C>    
CURRENT ASSETS:
   Cash and cash equivalents                                             $     1,930,656          $     1,302,984
   Accounts  receivable,  net of allowance for doubtful accounts of       
     $220,250 and $168,710                                                     2,128,006                4,777,957
   Inventories                                                                 1,635,290                3,119,043
   Recoverable income taxes                                                       ---                   1,121,554
   Prepaid expenses and other                                                    221,487                  123,575
   Deferred income taxes                                                         416,530                  416,530
                                                                         ---------------          ---------------
                Total current assets                                           6,331,969               10,861,643

PROPERTY AND EQUIPMENT, net                                                      505,796                  636,414

NOTE RECEIVABLE                                                                  700,000                  700,000

CAPITALIZED AND PURCHASED SOFTWARE, net                                          703,185                  809,470

DEFERRED INCOME TAXES                                                             13,866                   13,866
                                                                         ---------------          ---------------
                                                                         $     8,254,816          $    13,021,393
                                                                         ===============          ===============
                 LIABILITIES AND STOCKHOLDERS' EQUITY
                 ------------------------------------

CURRENT LIABILITIES:

   Line of credit                                                        $       874,000          $     3,074,000
   Accounts payable                                                              986,510                1,834,400
   Accrued expenses                                                            1,027,551                1,106,607
   Deferred revenue                                                              177,312                  165,312
                                                                         ---------------          ---------------
                Total current liabilities                                      3,065,373                6,180,319
                                                                         ---------------          ---------------

COMMITMENTS AND CONTINGENCIES

STOCKHOLDERS' EQUITY:
   Preferred  stock,  $.001 par value,  1,000,000  shares  authorized,
     none issued and outstanding                                                  ---                      --- 
   Common stock, $.001 par value,  50,000,000 shares  authorized,
     6,285,782 and  6,264,158 shares issued and outstanding                        6,285                    6,264
   Additional paid-in capital                                                 10,178,358               10,154,052
   Accumulated deficit                                                        (4,995,200)              (3,301,874)
   Deferred compensation                                                          ---                     (17,368)
                                                                         ---------------          ---------------
                Total stockholders' equity                                     5,189,443                6,841,074
                                                                         ---------------          ---------------
                                                                         $     8,254,816          $    13,021,393
                                                                         ===============          ===============
</TABLE>
   The accompanying notes are an integral part of these financial statements.

                                     Page 3

<PAGE>
                              NEOWARE SYSTEMS, INC.

                      CONSOLIDATED STATEMENTS OF OPERATIONS

                                   (Unaudited)
<TABLE>
<CAPTION>
                                                          Three Months Ended                      Six Months Ended
                                                              December 31,                           December 31,
                                                 -------------------------------------  -----------------------------------
                                                         1998              1997                1998             1997
                                                  ---------------    ---------------    ---------------    ---------------
<S>                                               <C>                <C>                <C>                <C>            
NET REVENUES                                      $     3,227,115    $     6,980,500    $     5,406,408    $    12,611,492
COST OF REVENUES                                        3,296,544          5,183,266          5,067,447          9,322,417
                                                  ---------------    ---------------    ---------------    ---------------
            Gross profit                                  (69,429)         1,797,234            338,961          3,289,075
                                                  ---------------    ---------------    ---------------    ---------------
OPERATING EXPENSES:
   Sales and marketing                                    394,956          1,151,741            930,526          2,195,413
   Research and development                               166,871            392,282            410,300            745,868
   General and administrative                             505,418            550,970          1,093,494            792,342
   Bridging Data Technology venture                        ---               197,254             ---               446,362
                                                  ---------------    ---------------    ---------------    ---------------

            Total operating expenses                    1,067,245          2,292,247          2,434,320          4,179,985
                                                  ---------------    ---------------    ---------------    ---------------
            Operating loss                             (1,136,674)          (495,013)        (2,095,359)          (890,910)
                                                                          
GAIN ON SALE OF EQUITY INVESTMENT                        (406,930)            ---              (406,930)            --- 
                                                          
INTEREST (INCOME) EXPENSE, NET                             (9,793)            81,722              4,897            175,260
                                                  ---------------    ---------------    ---------------    ---------------

            Loss before income taxes                     (719,951)          (576,735)        (1,693,326)        (1,066,170)

INCOME TAX BENEFIT                                         ---              (178,732)            ---              (332,904)
                                                  ---------------    ---------------    ---------------    ---------------
            Net loss                              $      (719,951)   $      (398,003)   $    (1,693,326)    $     (733,266)
                                                  ===============    ===============    ===============     ==============

BASIC AND DILUTED LOSS  PER SHARE                 $         (0.11)   $          (.07)   $         (0.27)    $         (.13)
                                                  ===============    ==============     ===============     ==============

WEIGHTED AVERAGE NUMBER OF SHARES
  OUTSTANDING IN BASIC AND DILUTED LOSS
  PER SHARE COMPUTATION                                 6,277,784          5,760,820          6,270,971          5,760,820
                                                  ===============    ==============     ===============     ==============
</TABLE>
   The accompanying notes are an integral part of these financial statements.

                                     Page 4
<PAGE>
                              NEOWARE SYSTEMS, INC.

                      CONSOLIDATED STATEMENTS OF CASH FLOWS

                                  (Unaudited)
<TABLE>
<CAPTION>
                                                                                        Six  Months Ended
                                                                                          December 31,
                                                                                -------------------------------     
                                                                                     1998             1997
                                                                                ------------     --------------
<S>                                                                             <C>              <C>    
CASH FLOWS FROM OPERATING ACTIVITIES:
   Net loss                                                                     $ (1,693,326)    $     (733,266)  
   Adjustments  to reconcile  net loss to net cash  provided by (used          
     in) operating activities-                                                 
       Depreciation and amortization                                                 364,620            444,712
       Amortization of deferred compensation                                          17,368             24,630
       Gain on sale of  equity investment                                           (406,930)             ---    
       Provision for inventory obsolescence                                          800,000              ---
   Changes in operating assets and liabilities-                                
     (Increase) decrease in:                                                   
       Accounts receivable                                                         2,649,951          1,541,674
       Inventories                                                                   683,753           (151,631)
       Recoverable income taxes                                                    1,121,554           (332,904)
       Prepaid expenses and other                                                    (97,912)            67,338
     Increase (decrease) in:                                                   
       Accounts payable                                                             (847,890)        (1,125,371)
       Accrued expenses                                                              (79,056)          (163,009)             
       Deferred revenue                                                               12,000             (1,785)
                                                                                ------------     --------------
           Net cash provided by                                                
             (used in) operating activities                                        2,524,132           (429,612)
                                                                                ------------     --------------
                                                                               
CASH FLOWS FROM INVESTING ACTIVITIES:                                          
   Proceeds from sale of equity investment                                           406,930              ---
   Purchases of property and equipment                                                  (936)          (173,338)           
   Capitalized software                                                             (126,781)          (221,892)
                                                                                ------------     --------------
           Net cash provided by (used in) investing          
             activities                                                              279,213           (395,230)
                                                                                ------------     --------------
CASH FLOWS FROM FINANCING ACTIVITIES:                                          
   Net borrowings (repayments) under line of credit                               (2,200,000)           143,000
   Sale of common stock                                                               24,327              ---
   Increase in note receivable                                                        ---              (700,000)
                                                                                ------------     --------------
           Net cash used in  financing activities                                 (2,175,673)          (557,000)
                                                                                ------------     --------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS                                     627,672         (1,381,842)
                                                                               
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD                                     1,302,984          1,452,409
                                                                                ------------     --------------
CASH AND CASH EQUIVALENTS, END OF PERIOD                                        $  1,930,656     $       70,567
                                                                                ============     ==============
SUPPLEMENTAL DISCLOSURES:                                                      
       Cash paid for interest                                                   $     56,998     $      175,260
       Cash paid for income taxes                                                     ---                50,719
                                                                               
</TABLE>
   The accompanying notes are an integral part of these financial statements.

                                     Page 5
<PAGE>

                              NEOWARE SYSTEMS, INC.

              NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS


1. BASIS OF PRESENTATION:

The accompanying unaudited consolidated financial statements of Neoware Systems,
Inc. and Subsidiaries (the "Company") have been prepared in conformity with
generally accepted accounting principles. The interim financial information,
while unaudited, reflects all normal recurring adjustments which are, in the
opinion of management, necessary to present a fair statement of financial
position and operating results for the interim periods presented. The results of
operations for the three and six month periods ended December 31, 1998 are not
necessarily indicative of results expected for the full year. These financial
statements should be read in conjunction with the audited financial statements
and notes thereto included in the Company's Annual Report on Form 10-K filed
with the Securities and Exchange Commission.


2. REVENUE RECOGNITION AND MAJOR CUSTOMERS:

Product revenue is recognized at the time of title transfer, which ordinarily
occurs at the time of shipment. From time to time, customers request delayed
shipment, usually because of customer scheduling for systems integration and
lack of storage space at customers' facilities during the implementation. In
such "bill and hold" transactions, the Company recognizes revenues when the
following conditions are met: the equipment is complete, ready for shipment and
segregated from other inventory; the Company has no further significant
performance obligations in connection with the completion of the transaction;
the commitment and delivery schedule is fixed; the customer requested the
transaction be completed on this basis; and the risks of ownership have passed
to the customer. Revenues recognized from "bill and hold" transactions for
products which had not shipped by December 31, 1998 and 1997 were $524,000 and
$4,093,000, respectively. Accounts receivable relating to "bill and hold"
transactions were $317,000 and $5,016,000 at December 31, 1998 and 1997,
respectively. Service contract revenue is recognized ratably over the contract
period. Product warranty costs and an allowance for sales returns are accrued at
the time revenues are recognized.

No customer accounted for 10% or more of total net revenues for the three and
six month periods ended December 31, 1998. Net revenues from two customers
represented 22% and 14% of total net revenues for the three month period ended
December 31, 1997 and 16% and 21% of net revenues for the six month period then
ended.

                                     Page 6

<PAGE>


3. INVENTORIES:

Inventories are stated at the lower of cost or market (first-in, first-out
method) and consisted of the following:

                                                 December 31,     June 30, 
                                                     1998           1998
                                                 ------------  -------------  

       Purchased components and subassemblies    $   889,798   $   1,599,136
       Work-in-process                               199,969         283,587
       Finished goods                                545,523       1,236,320
                                                 -----------   -------------
                                                 $ 1,635,290   $   3,119,043
                                                 ===========   =============

During the three month period ended December 31,1998, the Company entered into
an agreement in principle with SCI Technology, Inc. (SCI), a leading contract
manufacturer, under which SCI will begin to provide a significant portion of the
Company's manufacturing and fulfillment services. Primarily as a result of this
decision, the Company recorded a charge of $800,000 to cost of revenues for the
write down of certain inventory components as of December 31, 1998. Other
factors contributing to this write down were the decline in market prices for
certain inventory components and the Company's emphasis on marketing its newer
NeoStation product line at the expense of its @Work Station family of products.

4. NOTE RECEIVABLE:

In October 1997, the Company merged Information Technology Consulting, Inc., a
wholly-owned subsidiary, into Broadreach Consulting, Inc.
("Broadreach")(formerly The Reohr Group, Inc.) in exchange for a 2% stock
interest in Broadreach and the reimbursement of $1 million of expenses incurred
by the Company in connection with its efforts to make certain acquisitions in
the information technology consulting and staffing field. Of the total
reimbursement, $300,000 was paid in cash and the remaining $700,000 is due on
the earlier of three years or upon the completion of an initial public offering
of Broadreach. The note bears interest at 8%. Of the total reimbursement,
$292,000 was offset against general and administrative expenses during the three
months ended September 30, 1997 for costs previously incurred and charged to
expense.

During the three month period ended December 31, 1998, the Company sold its 2%
stock interest in Broadreach for $406,930, which is included as a gain on sale
of equity investment in the accompanying consolidated statement of operations.

5. LINE OF CREDIT:

The Company has a $5,000,000 revolving line of credit with a bank which, as
amended, expires on February 28, 1999 and is subject to annual renewal.
Borrowings under the line are at the bank's prime rate. Under the line, the
Company is required to maintain specified ratios of working capital and debt to
net worth, as defined.

Subsequent to December 31,1998, the Company and the bank executed a commitment
letter which provides for a new line of credit of $2,000,000 to bear interest at
the bank's prime rate plus 2% and which will mature on December 31, 1999.

                                     Page 7

<PAGE>

6.   EARNINGS PER SHARE

Effective December 31, 1997 the Company adopted SFAS No. 128, "Earnings per
Share," which supersedes APB Opinion No. 15, "Earnings per Share." SFAS 128
requires dual presentation of basic and diluted earnings per share (EPS) for
complex capital structures on the face of the income statement. Basic EPS is
computed by dividing income (loss) by the weighted average number of common
shares outstanding for the period. Diluted EPS reflects the potential dilution
from the exercise or conversion of securities into Common stock, such as stock
options. For the three month and six months ended December 31, 1998 and 1997,
there were no dilutive effects of stock options or warrants as the Company
incurred a net loss during those periods. Options and warrants to purchase
7,406,246 shares of Common stock at prices ranging from $1.06 to $8.75 per share
were outstanding at December 31, 1998.

                                     page 8

<PAGE>

Item 2. Management's Discussion and Analysis of Financial Condition and Results
        of Operations.

Introduction

Neoware Systems, Inc. (the "Company") designs, manufactures and markets a family
of Windows-based terminals and thin client computers that are designed to allow
users to access Windows-based applications from a multi-user Windows(R) NT
server, plus connect to mainframes, minicomputers and the Internet. The
Company's NeoStationTM family of Windows-based terminals and related software
allows users to utilize all of their existing computer systems and applications
running on Windows platforms, UNIX, mainframes and minicomputers, and access
them across a network. Unlike Java network computers, an alternative type of
thin client, Neoware's products do not require customers to rewrite their
applications in the Java language or to use Java emulators to access their
existing systems. Unlike personal computers, the Company's products are designed
primarily to run applications on a server, not on the desktop. This offers a
number of significant advantages compared to an architecture based upon personal
computers. Windows-based terminals and thin clients such as the Company's
NeoStation line of products are designed to be easier to install, maintain and
administer than traditional personal computers. Such lower administration costs
are intended to lower the total cost of ownership of systems utilizing the
Company's products when compared to personal computers.

The Company's current strategy is to become a leader in the Windows-based
terminal and thin client computers market by focusing on expanding its software
products and its thin client computer hardware. The Company also plans to
continue to develop strategic partnerships on the basis of technology and/or
expanding its sales and distribution channels. In this regard, the Company has
engaged The Platinum Group of New York to assist in these areas as well as to
identify potential equity investors and other business combinations. The Company
sells its products in North America directly to end users, resellers, system
integrators and OEMs while international sales are generally made through
distributors.

In October 1997, the Company merged Information Technology Consulting, Inc.
("ITC"), a wholly owned subsidiary, with Broadreach Consulting, Inc.
("Broadreach") and Global Consulting Group ("Global"). Under the merger, ITC and
Global merged into Broadreach, and Neoware received stock that represented a 2%
ownership of Broadreach. The Company was also reimbursed for the expenses
incurred by the Company and ITC in connection with ITC's efforts to make these
acquisitions, $300,000 of which was paid in cash. The remainder of the expenses
in the amount of $700,000 is repayable by Broadreach on the earlier of three
years or the consummation of an initial public offering of Broadreach. The note
bears interest at 8% per annum. During the three months ended December 31, 1998,
the Company sold its 2% stock interest in Broadreach for $406,930 which is
included as a gain on sale of equity investment in the accompanying consolidated
statement of operations.

In February 1997, the Company formed a new subsidiary, Bridging Data Technology,
Inc. ("BDT"). BDT acquired and further developed a software product,
SmartBridge(TM), which utilizes the "intelligent bridging" approach to upgrading
programs and data for Year 2000 compliance. The Company entered into an
agreement effective January 1, 1998 which reduced the Company's ownership
position in Bridging Data Technology, Inc. and eliminated the Company's
requirement to fund future operations. In addition, effective March 31, 1998,
the Company wrote off the full amount of its investment in BDT. The write-off
reflects the Company's evaluation that recovery, if any, of its investment in
BDT will not occur in the near future. Future cash distributions, if any, from
BDT will be recorded as income in the period during which the transaction
occurs.

                                     Page 9
<PAGE>

In June 1998, the Company entered into a joint marketing and development
agreement and an equity purchase agreement with Motorola, Inc., under which
Motorola purchased approximately 6% of the Company's outstanding Common stock.
Under the joint marketing and development agreement, the two companies agreed to
collaborate on technology for the Windows-based terminal market, and to jointly
promote this technology to OEM customers. Although the Company believes that its
agreements with Motorola allow it to compete more effectively in the market for
customers who wish to create Windows-based terminals under their own brand
names, there can be no assurance that the Company will generate significant
revenue from this agreement.


Results of Operations

The following table sets forth, for the periods indicated, certain items from
the Company's consolidated statements of operations as a percentage of net
revenues.
<TABLE>
<CAPTION>
                                              Three Months Ended                 Six Months Ended
                                                  December 31,                     December  31,
                                            -------------------------         ------------------------
                                              1998             1997             1998            1997
                                            -------          --------         --------        --------
<S>                                         <C>             <C>               <C>            <C>    
Gross Profit                                   (2.2)%          25.7%              6.3%         26.1%
Operating expenses 
    Sales and marketing                        12.2            16.5              17.3          17.4
    Research and development                    5.2             5.6               7.6           5.9
    General and administrative                 15.6             7.9              20.2           6.3
    Bridging Data Technology venture            --              2.8               --            3.6
                                             ------          ------            ------        ------
Operating loss                                (35.2)           (7.1)            (38.8)         (7.1)
Gain on sale of equity investment              12.6             --                7.6           --
Interest (income) expense, net                   .3            (1.2)              (.1)         (1.4)
                                             ------          ------            ------        ------
Loss before taxes                             (22.3)           (8.3)            (31.3)         (8.5)
Income tax benefit                              --             (2.6)              --           (2.7)
                                             ------          ------            ------        ------
Net loss                                      (22.3)%          (5.7)%           (31.3)%        (5.8)%
                                             ------          ------            ------        ------
</TABLE>
Net revenues for the three months ended December 31, 1998 decreased to
$3,227,115 from $6,980,500 for the comparable period in the prior fiscal year.
Net revenues for the six months ended December 31, 1998 decreased to $5,406,408
from $12,611,492 for the comparable period in the prior fiscal year. The
decrease in net revenues was attributable to the continued transition to the
NeoStation family of products which have lower average selling prices ("ASPs")
than older products, and the gradual process associated with the full scale
implementation of thin client computers by corporate customers subsequent to the
deployment of Windows NT 4.0 Terminal Server Edition from Microsoft in August
1998. In addition, revenues from sales to two of the Company's major customers
declined significantly in the three and six months ended December 31,1998 as
compared to the comparable periods in the prior year as a result of completing
delivery of products under existing purchase orders during the quarter ended
December 31, 1997. Net revenues for the three months ended December 31, 1998
increased over the previous quarter ended September 30 1998 by $1,047,822, which
represents an increase of 48%. The Company is subject to significant variances
in its quarterly operating results because of the fluctuations in the timing of
the receipt of large orders.

                                    Page 10
<PAGE>

For the three months ended December 31, 1998, the Company's gross profit
percentage, before the provision for inventory obsolescence of $800,000,
amounted to 22.6% versus 25.7% for the comparable period of the prior fiscal
year. The change in gross profit percentage was a result of fixed overhead costs
representing a higher percentage of revenue and, to a lesser extent, the impact
of reduced ASPs which were not offset by lower manufacturing costs. The Company
anticipates that its gross margin percentage will vary from quarter to quarter
depending on the mix of business, including the mix of hardware and software
revenues. The gross profit margin also varies in response to competitive market
conditions as well as periodic fluctuations in the cost of memory and other
significant components. The market in which the Company competes remains very
competitive and although the Company intends to continue its efforts to reduce
the cost of its products, there can be no certainty that the Company will not be
required to reduce prices of its products without compensating reductions in the
cost to produce its products in order to increase its market share or to meet
competitors' price reductions.

Operating expenses for the three and six month periods ended December 31, 1998
were $1,067,245 and $2,434,320, respectively, compared to $2,292,247 and
$4,179,985 in the comparable periods of the prior fiscal year. Sales and
marketing expenses decreased to $394,956 and $930,526 for the three and six
months ended December 31, 1998 as compared to $1,151,741 and $2,195,413 for the
comparable periods of the prior year as a result of the continued restructuring
of the U.S. and international sales force and reduced commissions attributable
to lower revenues. During the six months ended December 31, 1998, the Company
terminated its relationship with its U.S. distributor. The Company believes that
the elimination of a level of distribution will allow it to price its products
more competitively without a negative impact on gross profit. The Company is
utilizing a low cost telesales channel to complement its current sales efforts
and is selling to Value Added Resellers ("VARs"). Research and development
expenses for the three and six months ended December 31, 1998 decreased to
$166,871 and $410,300, respectively, as compared to $392,282 and $745,868 for
the comparable periods in the prior year as the Company completed the
introduction of the NeoStation family of products in fiscal 1998 and the
decrease was accomplished primarily through staffing changes and a substantial
reduction in the use of outside consultants and services. General and
administrative expenses decreased by $45,552 to $505,418 for the three months
ended December 31, 1998 from $550,970 in the prior year due primarily to the
Company's cost reduction efforts. General and administrative expenses for the
six months ended December 31, 1998 were $1,093,494, an increase of $301,152 over
general and administrative expenses of $792,342 in the comparable period in the
prior year primarily as a result of the reimbursement of expenses related to ITC
totaling $292,00 during the six month period ended December 31, 1997. The
reduction of BDT expenses for the three and six month periods ended December 31,
1998 as compared to the comparable periods in the prior year reflects the impact
of an agreement which reduced the Company's ownership position and eliminated
the Company's requirement to fund future operations of BDT effective January 1,
1998.

The Company realized net interest income of $9,793 during the three months ended
December 31, 1998 as compared to net interest expense of $81,722 for the
comparable period in the prior year and incurred net interest expense of $4,897
and $175,260 for the three and six month periods ended December 31, 1997. The
decline in interest expense was primarily due to decreased borrowings under the
Company's line of credit combined with the collection of recoverable income
taxes of $1,121,554 and the proceeds of $406,930 from the sale of its equity
investment in Broadreach and the investment of such funds in interest bearing
accounts.

The effective income tax rate was approximately 30.1% and 31.2% for the three
and six month periods ended December 31, 1997, respectively. No income tax
benefit was recognized as a result of the net operating losses incurred during
the three and six month periods ended December 31, 1998. The tax benefits for
the three and six month periods ended December 31, 1997 reflect recovery of
taxes paid in prior years.

                                    Page 11
<PAGE>

For the three and six month periods ended December 31, 1998, the Company's net
loss was $719,951 and $1,693,326, respectively, as compared to a net loss of
$398,003 and $733,266 for the comparable periods of the prior year. The increase
in net loss was attributable to reduced revenues, a lower gross margin (caused
primarily by the provision for inventory obsolescence of $800,000) and the lack
of an income tax benefit from the net operating loss, which factors were
partially offset by reduced operating and interest expense and the gain of
$406,930 on the sale of the Company's equity investment in Broadreach.

Liquidity and Capital Resources

At December 31, 1998, the Company had net working capital of approximately
$3,267,000 composed primarily of cash and cash equivalents and accounts
receivable. The Company's principal sources of liquidity included approximately
$1,931,000 of cash and cash equivalents and a $5,000,000 bank line of credit
facility, $4,126,000 of which was available as of December 31,1998. The bank
line of credit, which is subject to annual renewal, expires on February 28,
1999. Management is currently negotiating with its bank, and the Company and the
bank have executed a commitment letter which provides for a new line of credit
of $2,000,000, which will expire on December 31, 1999, and will bear interest at
the rate of 2% over prime. The commitment letter provides that the Company grant
security interests in its accounts receivable, inventory and intangibles and
that borrowing will be based upon eligible accounts receivable, as defined. The
commitment letter calls for closing no later than February 28, 1999 and the new
line will expire on December 31, 1999. Management of the Company believes that
the new line, in conjunction with its existing cash reserves and the recently
completed restructuring of its operations, will provide adequate funding for its
operating requirements for the calendar year 1999.

Cash and cash equivalents increased by approximately $628,000 during the six
month period ended December 31, 1998, primarily due to the collection of
recoverable income taxes, the proceeds from the sale of its equity investment in
Broadreach and a decrease in accounts receivable offset by the loss from
operations, repayments under the line of credit and a decrease in accounts
payable and accrued expenses.

The Company generated cash from operations of approximately $2,524,000 during
the six months ended December 31, 1998 compared to using cash from operations of
approximately $430,000 during the comparable period in the prior fiscal year.

The Company expects to fund current operations and other cash expenditures
through the use of available cash, cash from operations, funds available under
its credit facility and possible new debt sources. However, the Company must
achieve profitable operations in order to provide adequate funding for the long
term.


Year 2000 Compliance

The Company continues to evaluate its Year 2000 exposures. The following areas
were evaluated: internal management information and embedded systems, products,
vendors and customers.

                                    Page 12
<PAGE>

The Company utilizes various computer software programs and systems as part of
its internal management information systems which are primarily off-the-shelf
products purchased from commercial sources with minor customization. Updates to
these products are routinely installed by the Company to upgrade the systems and
correct known defects in the software. All major systems have been reviewed for
Year 2000 issues. The Company's financial accounting software is not Year 2000
compliant. The Company is testing an upgrade to the current software, which is
Year 2000 compliant and will cost approximately $25,000 for the software and
training. Conversion to the updated software is scheduled for early calendar
1999. The Company's engineering department utilizes UNIX based systems, which
are not Year 2000 compliant; however, the nature of the utilization is not date
sensitive. The operating systems can be upgraded for less than $5,000. The
Company is in the process of implementing a sales conact management and service
data base software application which is Year 2000 compliant. The total cost of
such software is expected to be less than $15,000. All other significant
internal systems are either compliant or not critical to ongoing operations. The
Company does not utilize any significant systems with embedded technology.

All of the Company's products sold after March 1997 were tested and found to be
Year 2000 compliant.

None of the Company's vendors provides more than 20% of the Company's annual raw
material requirements and alternative sources are generally available. The
Company will evaluate the Year 2000 readiness of its sole source vendors by June
30, 1999. Contingency plans will be developed to ensure continued supply in the
event a vendor expects to incur difficulties achieving Year 2000 compliance. In
addition, any customers which represent more than 10% of the Company's annual
revenues will be surveyed for compliance with Year 2000 by June 30, 1999 in an
effort to identify possible interruptions to the Company's revenue streams. The
Company intends to complete this analysis and contingency planning by September
30, 1999. There can be no assurance that the Company will not be adversely
affected by the failure of distributors, suppliers, customers and vendors with
which it interacts to become Year 2000 compliant. The Company has not determined
the extent to which its business and customers might be affected in that event.

The Company estimates that the total cost to complete its Year 2000 evaluation
and remediation, including normal planned system upgrades, of all internal
systems will be less than $75,000, of which approximately $20,000 has been
incurred to date. Funding for these costs is expected to be provided by cash
flows from operations. The Company has not deferred any significant system
projects due to its Year 2000 efforts.

Forward-Looking Statements

Certain statements under "Management's Discussion and Analysis of Financial
Condition and Results of Operations" are forward-looking statements within the
meaning of the Private Securities Litigation Reform Act of 1995, and relate to
the development of the Company's products and future operating results that are
subject to certain risks and uncertainties that could cause actual results to
differ materially from those in such forward-looking statements. Forward-looking
statements include anticipated purchases by customers, future margins and margin
trends, future revenues and operating losses, the Company's competitive
position, lower cost of ownership of the Company's systems, expansion of
software products and thin client computer hardware products, statements
regarding Year 2000 compliance and statements regarding the pending litigation.
The words "believe," "expect," "intend," "anticipate," variations of such words,
and similar expressions identify forward-looking statements, but their absence
does not mean that the statement is not forward-looking. These statements are
not guarantees of future performance and are subject to certain risks,
uncertainties and assumptions that are difficult to predict. Factors that could
affect the Company's actual results include the Company's ability to lower its
costs, the ability of the Company to market its products with Motorola to OEM
customers, reliance on Microsoft's actions relating to Windows NT, customers'
acceptance of Neoware's line of thin clients and newly introduced options,
pricing pressures, rapid technological changes in the industry, growth of the
thin client computer market and increased competition. Additional factors which
could affect the Company's actual results include quarterly fluctuations in
operating results, general economic conditions affecting the demand for computer
products, the timing of significant orders, failure to reduce product costs or
maintain quality, delays in the receipt of key components, seasonal patterns of
spending by customers and the outcome of various litigation. The Company does
not undertake to update any forward-looking statements made herein.

                                    Page 13
<PAGE>
PART II. OTHER INFORMATION

Item 1.  Legal Proceedings

On March 11, 1998, a complaint entitled Cerrato, Inc. v. Neoware Systems, Inc.,
98 Civ. 1748 (JSM), was filed in the United States District Court for the
Southern District of New York, naming as defendants the Company, its Chairman,
and its former CFO (the New York action). The Complaint asserts claims under ss.
10(b) of the Securities and Exchange Act of 1934 (the "Exchange Act"), Rule
10b-5 promulgated thereunder, and common law. The complaint, which was filed as
a purported class action on behalf of purchasers of the Company's common stock
during the period from June 15, 1996 through August 15, 1997, alleges, among
other things, that the defendants made misrepresentations related to plans for
various potential acquisitions by a subsidiary of the Company and a spin-off. A
First Amended Complaint ("FAC") was filed on or about May 1, 1998. The FAC adds
claims on behalf of a second purported class -- purchasers of the Company's
stock from November 13, 1997 through May 1, 1998 -- related to the Company's
announcement, on April 30, 1998, that it would be restating certain financial
results previously reported for the first two quarters of fiscal year 1998.

Thereafter, four separate purported securities class actions: Galitzer v.
Neoware Systems, Inc., 98CV2582 (BWK), Pollison v. Neoware Systems, Inc.,
98CV2879 (BWK), Tuchman v. Neoware Systems, Inc., 98CV2868 (BWK), and Grubin v.
Neoware Systems, Inc., 98CV3651 (BWK), were filed in the United States District
Court for the Eastern District of Pennsylvania (the "Pennsylvania actions"). The
Pennsylvania actions name some of the same individual defendants as the FAC, as
well as certain additional directors and officers, and alleges violations of
ss.ss. 10(b) and 20(a) of the Exchange Act and Rule 10b-5 based on factual
allegations similar to those added to the New York action in the FAC on behalf
of a purported class of purchasers of the Company's securities between October
30, 1997 and April 30, 1998. The Pennsylvania actions have been consolidated
under the heading In re Neoware Systems, Inc. Securities Litigations, Master
File No. 98-CV-2582, lead co-plaintiffs and counsel have been appointed, and the
consolidated complaint and motion for class certification have been filed.

On October 15, 1998, a Stipulation and Order was entered by the United States
District Court for the Southern District of New York appointing lead plaintiffs
and counsel in the FAC, and reflecting plaintiffs' intent to consolidate the
action with the cases pending in Pennsylvania.

Defendants' time to respond to the amended consolidated complaint and the
amended class certification motion has not yet expired.

The Company disputes the validity of these claims and intends to defend the
cases vigorously.

On May 5, 1998, a complaint was filed in the Court of Common Pleas of Montgomery
County against the Company by Development Concepts, Inc. The complaint asserts
claims for common law breach of contract, fraud, misrepresentation, breach of
warranty and violations of the federal Lanham Act arising primarily from the
parties' contractual relationships. The complaint seeks an indeterminate amount
of monetary damages in excess of $1,500,000. On October 29, 1998, the Company
filed its Answer and Counterclaim to the Complaint asserting claims for breach
of contract, unjust enrichment, unfair competition and misappropriation of trade
secrets. The Counterclaim demands injunctive and monetary relief in excess of
$180,000. The Company disputes the validity of Development Concepts, Inc.'s
claims and intends to both defend these claims and pursue its own counterclaims
vigorously.

                                    Page 14
<PAGE>

Management does not anticipate that resolution of the pending litigation, either
separately or in the aggregate, will have a material effect on the Company's
financial position or results of operations. This is a forward-looking
assessment, which may change as the cases develop. While management may reassess
this from time to time, it does not undertake to do so on any regular basis.

Item 2. Changes in Securities and Use of Proceeds

On November 3, 1998, the Company issued 21,624 shares of the Company's Common
stock to Edward C. Callahan, Jr., the Company's President and Chief Executive
Officer, in payment of one-half of Mr. Callahan's bonus in the amount of
$24,327. The shares were issued in reliance upon the exemption from the
registration requirements of the Securities Act of 1933 under Section 4(2)
thereof. The shares were acquired for investment and not with the view to the
distribution thereof by an officer of the Company who has access to information
respecting the Company and its business.


Item 4. Submission of Matters to a Vote of Security Holders

On December 10, 1998, the Company held its Annual Meeting of Stockholders. The
Stockholders voted to elect six members to the Board of Directors and to ratify
the selection of Arthur Andersen LLP as the Company's independent accountant for
the fiscal ending June 30, 1999.

Elected to the Board of Directors were Arthur R. Spector (5,667,706 shares voted
for election and 49,898 shares were withheld), Edward C. Callahan, Jr.
(5,664,506 shares voted for election and 53,098 shares were withheld), Michael
G. Kantrowitz (5,665,706 shares voted for election and 51,898 shares were
withheld), Christopher G. McCann (5,604,885 shares voted for election and112,719
shares were withheld), John M. Ryan (5,667,306 shares voted for election and
50,928 shares were withheld), and Carl G. Sempier (5,665,906 shares voted for
election and 51,698 shares were withheld).

The selection of Arthur Andersen LLP as the Company's independent accountant was
ratified with 5,667,756 shares voting in favor of ratification, 35,748 shares
voting against ratification and 4,100 shares abstaining.

Item 6.  Exhibits and Reports on Form 8-K

                  (a) Exhibits:

                      None
                  (b) Reports on Form 8-K:

                      None


                                    Page 15
<PAGE>


                                   SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunder duly authorized.


                                     NEOWARE SYSTEMS, INC.



Date:  February 15, 1999             By: /S/ EDWARD C. CALLAHAN, JR.  
                                         -----------------------------
                                         Edward C. Callahan, Jr., President and
                                         Chief Executive Officer




Date:  February 15, 1999             By: /S/ VINCENT T. DOLAN             
                                         ---------------------------------
                                         Vincent T. Dolan, Chief Financial 
                                         Officer (Principal Accounting Officer
                                         and Principal Financial Officer)


                                    Page 16