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 Quarterly Period Ended December 31, 1999

                                       OR
   |_|         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: 000-6377

                         DREXLER TECHNOLOGY CORPORATION
--------------------------------------------------------------------------------
             (Exact name of registrant as specified in its charter)

           Delaware                                              77-0176309
-------------------------------                              -------------------
(State or other jurisdiction of                              (I.R.S. Employer
 incorporation or organization)                              Identification No.)

1077 Independence Avenue, Mountain View, CA                      94043-1601
-------------------------------------------                  -------------------
  (Address of principal executive offices)                       (Zip Code)

                                 (650) 969-7277
              ----------------------------------------------------
              (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

          Number of outstanding shares of Common Stock, $.01 par value,
                         at February 8, 2000: 9,831,854
<PAGE>

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

                 DREXLER TECHNOLOGY CORPORATION AND SUBSIDIARIES
             CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

      The condensed consolidated financial statements included herein have been
prepared by the Company, without audit, pursuant to the rules and regulations of
the Securities and Exchange Commission. Certain information and footnote
disclosures normally included in financial statements prepared in accordance
with generally accepted accounting principles have been condensed or omitted
pursuant to such rules and regulations, although the Company believes the
disclosures which are made are adequate to make the information presented not
misleading. Further, the condensed consolidated financial statements reflect, in
the opinion of management, all adjustments (which included only normal recurring
adjustments) necessary to present fairly the financial position and results of
operations as of and for the periods indicated.

      Note 1: During the fiscal second quarter ended September 30, 1999, the
Company began investing in short-term investments, consisting primarily of
commercial paper, resulting in $5,151,000 classified as short-term investments
instead of cash at December 31, 1999. In accordance with Statement of Financial
Accounting Standards (SFAS) No. 115, "Accounting for Certain Investments in Debt
and Equity Securities," the investments are classified on the Company's balance
sheet as available-for-sale securities (short-term investments) and are recorded
at fair value. If material, any unrealized gains and losses would be excluded
from earnings and classified as other comprehensive income, which is a separate
component of stockholders' equity, net of income tax effect. At December 31,
1999, the cost and fair value of the short-term investments were not materially
different.

      It is suggested that these condensed consolidated financial statements be
read in conjunction with the financial statements and the notes thereto for the
year ended March 31, 1999, included in the Company's Form 10-K Annual Report.

      The results of operations for the nine months ended December 31, 1999 are
not necessarily indicative of results to be expected for the entire year ending
March 31, 2000.

      Fiscal Period: For purposes of presentation, the Company has indicated its
accounting period as ending on March 31 and its interim quarterly periods as
ending on the corresponding month end. The Company, in fact, operates and
reports quarterly periods ending on the Friday closest to month end. The 13-week
period presented as December 31, 1998 ended on January 1, 1999, and the 13-week
period presented as December 31, 1999 ended on December 31, 1999.

      Net Income per Share: SFAS No. 128, "Earnings Per Share," requires the
computation of basic and diluted earnings per share. Basic earnings per share is
computed using the weighted average number of common shares outstanding. Diluted
earnings per share is computed using the weighted average number of shares of
common stock outstanding and the dilutive common stock equivalents (using the
treasury stock method). The reconciliation of the numerators and denominators of
the basic and diluted earnings per share computation is shown on the following
page.


                                      -2-
<PAGE>

<TABLE>
<CAPTION>
                                                               Income             Shares                  Per Share
                                                             (Numerator)       (Denominator)               Amount
                                                            -------------      -------------               ------
                                                            (In thousands)    (In thousands)
<S>                                                          <C>                     <C>                 <C>
For three months ended December 31, 1998:
  Basic earnings per share .................................                                             $       .10
                                                                                                         ===========
  Income available to common stockholders................... $     1,003              9,781
  Common shares issuable upon exercise of
     stock options using treasury stock method..............          --                137
                                                             -----------        -----------
  Diluted earnings per share ...............................                                             $       .10
                                                                                                         ===========
  Income available to common stockholders................... $     1,003              9,918
                                                             ===========        ===========

For three months ended December 31, 1999:
  Basic earnings per share .................................                                             $       .14
                                                                                                         ===========
  Income available to common stockholders................... $     1,378              9,816
  Common shares issuable upon exercise of
     stock options using treasury stock method..............          --                 74
                                                             -----------        -----------
  Diluted earnings per share................................                                             $       .14
                                                                                                         ===========
  Income available to common stockholders................... $     1,378              9,890
                                                             ===========        ===========

For nine months ended December 31, 1998:
  Basic earnings per share .................................                                             $       .31
                                                                                                         ===========
  Income available to common stockholders................... $     2,971              9,736
  Common shares issuable upon exercise of
     stock options using treasury stock method..............          --                280
                                                             -----------        -----------
  Diluted earnings per share ...............................                                             $       .30
                                                                                                         ===========
  Income available to common stockholders................... $     2,971             10,016
                                                             ===========        ===========

For nine months ended December 31, 1999:
  Basic earnings per share .................................                                             $       .37
                                                                                                         ===========
  Income available to common stockholders................... $     3,610              9,800
  Common shares issuable upon exercise of
     stock options using treasury stock method..............          --                 80
                                                             -----------        -----------
  Diluted earnings per share................................                                             $       .37
                                                                                                         ===========
  Income available to common stockholders................... $     3,610              9,880
                                                             ===========        ===========
</TABLE>

     Because they have an exercise price greater than the average market value
for the periods, stock options representing 1,138,073 shares are excluded from
the calculation of diluted earnings per share for the three months ended
December 31, 1998, and stock options representing 1,486,750 shares are excluded
from the calculation of diluted earnings per share for the three months ended
December 31, 1999. For the same reason, stock options representing 304,300
shares are excluded from the calculation of diluted earnings per share for the
nine months ended December 31, 1998, and stock options representing 1,461,750
shares are excluded from the calculation of diluted earnings per share for the
nine months ended December 31, 1999.

     In June 1998, the Financial Accounting Standards Board (FASB) issued
Statement No. 133, "Accounting for Derivative Instruments and Hedging
Activities" (SFAS 133). As modified by Statement No. 137, "Accounting for
Derivative Instruments and Hedging Activities - Deferral of the Effective Date
of FASB Statement No. 133," this statement is effective for all fiscal quarters
of fiscal years beginning after June 15, 2000. SFAS 133 established standards
for reporting derivative instruments and hedging activities. Application of SFAS
133 is not expected to impact the Company's consolidated financial position or
results of operations.


                                      -3-
<PAGE>

                 DREXLER TECHNOLOGY CORPORATION AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEETS
                                   (UNAUDITED)
               (In thousands, except share and per share amounts)

<TABLE>
<CAPTION>
                                                             March 31,   December 31,
                                                               1999         1999
                                                               ----         ----
<S>                                                          <C>         <C>
                             Assets
Current assets:
    Cash and cash equivalents ............................   $  8,066    $  1,540
    Short-term investments ...............................         --       5,151
    Accounts receivable ..................................      1,061       1,670
    Note receivable ......................................        150         150
    Inventories ..........................................      1,909       4,117
    Other current assets .................................        299         411
                                                             --------    --------
       Total current assets ..............................     11,485      13,039
                                                             --------    --------

Property and equipment, at cost ..........................     16,549      16,776
    Less--accumulated depreciation and amortization ......    (12,926)    (12,133)
                                                             --------    --------
       Property and equipment, net .......................      3,623       4,643

Patents, net .............................................      1,308       1,583
Deferred tax asset, net ..................................         --       1,737
Note receivable ..........................................        150         150
                                                             --------    --------

          Total assets ...................................   $ 16,566    $ 21,152
                                                             ========    ========

          Liabilities and Stockholders' Equity

Current liabilities:
    Accounts payable .....................................   $    976    $    722
    Accrued payroll costs ................................        369         258
    Advance payments from customers ......................         36       1,220
    Income taxes payable .................................         99          53
    Other accrued liabilities ............................        132         167
                                                             --------    --------
       Total current liabilities .........................      1,612       2,420
                                                             --------    --------

Stockholders' equity:
    Preferred stock, $.01 par value:
       Authorized--2,000,000 shares
       Outstanding--none .................................         --          --
    Common stock, $.01 par value:
       Authorized--15,000,000 shares
       Outstanding--9,794,180 shares at March 31, 1999 and
           9,821,104 shares at December 31, 1999 .........         98          98
    Additional paid-in capital ...........................     36,485      36,660
    Accumulated deficit ..................................    (21,629)    (18,026)
                                                             --------    --------
       Total stockholders' equity ........................     14,954      18,732
                                                             --------    --------

          Total liabilities and stockholders' equity .....   $ 16,566    $ 21,152
                                                             ========    ========
</TABLE>


                                      -4-
<PAGE>

                 DREXLER TECHNOLOGY CORPORATION AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                                   (UNAUDITED)
                    (In thousands, except per share amounts)

<TABLE>
<CAPTION>
                                                                  Three Months Ended       Nine Months Ended
                                                                      December 31,            December 31,

                                                                    1998        1999        1998        1999
                                                                    ----        ----        ----        ----
<S>                                                               <C>         <C>         <C>         <C>
Revenues ......................................................   $  4,056    $  4,321    $ 11,563    $ 12,314
                                                                  --------    --------    --------    --------

Costs and expenses:
    Cost of sales .............................................      1,982       2,398       5,674       6,918
    Selling, general, and administrative expenses .............        973         936       2,647       2,929
    Research and engineering expenses .........................         99         358         350         841
                                                                  --------    --------    --------    --------
       Total costs and expenses ...............................      3,054       3,692       8,671      10,688
                                                                  --------    --------    --------    --------

          Operating income ....................................      1,002         629       2,892       1,626

Other income and expense:
    Other income (expense), net ...............................        (52)         --         (58)         --
    Interest income ...........................................         87          95         233         275
    Interest expense ..........................................         (2)         --          (5)         (1)
                                                                  --------    --------    --------    --------
       Total other income, net ................................         33          95         170         274
                                                                  --------    --------    --------    --------

          Income before income taxes ..........................      1,035         724       3,062       1,900

Provision for (benefit from) income taxes .....................         32        (654)         91      (1,710)
                                                                  --------    --------    --------    --------

          Net income ..........................................   $  1,003    $  1,378    $  2,971    $  3,610
                                                                  ========    ========    ========    ========

Net income per share:
          Basic ...............................................   $    .10    $    .14    $    .31    $    .37
                                                                  ========    ========    ========    ========
          Diluted .............................................   $    .10    $    .14    $    .30    $    .37
                                                                  ========    ========    ========    ========

Weighted average number of common and common equivalent shares:
          Basic ...............................................      9,781       9,816       9,736       9,800
          Diluted .............................................      9,918       9,890      10,016       9,880
</TABLE>


                                      -5-
<PAGE>

                 DREXLER TECHNOLOGY CORPORATION AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                   (UNAUDITED)
                                 (In thousands)

<TABLE>
<CAPTION>
                                                                                      Nine Months Ended
                                                                                         December 31,

                                                                                        1998       1999
                                                                                        ----       ----
<S>                                                                                    <C>        <C>
Cash flows from operating activities:
   Net income ......................................................................   $ 2,971    $ 3,610
   Adjustments to reconcile net income to net cash provided by operating activities:
       Depreciation and amortization ...............................................       596        819
       Provision for doubtful accounts receivable ..................................         4         24
       Increase in deferred tax asset ..............................................        --     (1,737)
       Compensation on stock plan activity .........................................        18         25

   Changes in operating assets and liabilities:
       Increase in accounts receivable .............................................      (132)      (633)
       (Increase) decrease  in inventories .........................................       184     (2,208)
       Increase in other current assets ............................................       (68)      (112)
       Decrease in accounts payable and accrued expenses ...........................       (62)      (376)
       Increase in advance payments from customers .................................       162      1,184
                                                                                       -------    -------

          Net cash provided by operating activities ................................     3,673        596
                                                                                       -------    -------

Cash flows from investing activities:
   Purchases of property and equipment .............................................    (1,321)    (1,625)
   Investment in commercial paper ....................................(Note 1)......        --     (5,151)
   Increase in patents .............................................................      (415)      (489)
                                                                                       -------    -------

          Net cash used for investing activities ...................................    (1,736)    (7,265)
                                                                                       -------    -------

Cash flows from financing activities:
   Proceeds from sale of common stock ..............................................       990        143
                                                                                       -------    -------

          Net cash provided by financing activities ................................       990        143
                                                                                       -------    -------

          Net increase (decrease) in cash and cash equivalents .....................     2,927     (6,526)

Cash and cash equivalents:
   Beginning of period .............................................................     4,830      8,066
                                                                                       -------    -------
   End of period .....................................................(Note 1)......   $ 7,757    $ 1,540
                                                                                       =======    =======
</TABLE>


                                      -6-
<PAGE>

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

RESULTS OF OPERATIONS--FISCAL 2000 THIRD QUARTER AND FIRST NINE MONTHS
COMPARED WITH FISCAL 1999 THIRD QUARTER AND FIRST NINE MONTHS

Revenues

      For the fiscal 2000 third quarter ended December 31, 1999, the Company's
total revenues were $4,321,000 compared with $4,056,000 for last year's third
quarter. Total revenues for the first nine months of fiscal 2000 were
$12,314,000 compared with $11,563,000 for last year's first nine months.

      Product Revenues. Sales of LaserCard(R) optical memory cards and related
products were $12,292,000 for the first nine months of fiscal 2000 versus
$11,343,000 for last year's comparable period.

      The Company sold approximately 3,225,000 LaserCard optical memory cards
for the fiscal 2000 first nine months compared with nearly 3,000,000 for last
year's first nine months.

      Applications for the Company's LaserCard products include: medical data
applications in the United States; various programs in Europe and Asia,
including a hospital patient-record card system and a vehicle warranty and
maintenance records card; and U.S. government-related programs, including the
U.S. Department of Defense cargo shipment "Automated Manifest" card, the U.S.
Immigration and Naturalization Service (INS) Permanent Resident Card ("Green
Card"), and the U.S. Department of State (DoS) border crossing card ("Laser
Visa").

      In addition to using its own marketing staff, the Company utilizes
value-added reseller (VAR) companies and licensees for the development of
commercial markets and applications for LaserCard products. Product sales to
VARs and licensees include the Company's optical memory cards, the Company's
system software, optical card reader/writers, and add-on peripherals made by
other companies (such as equipment for adding a digitized photo, fingerprint,
hand template, or signature to the cards). The VARs/licensees may add
application software, personal computers (PCs), and other peripherals, and then
resell these products, integrated into data systems, for end-user customers.

      In order to upgrade its customer base to increase the probability of
success, the Company will continue its efforts to recruit new VARs/licensees and
eliminate nonproductive VARs. The Company provides customer technical support
and system software to assist VARs and licensees.

      Software is an important factor in developing the commercial markets for
optical memory cards. The Company's system software consists of optical card
interface software/device drivers, file systems, software development tools, and
demonstration software. The Company's VARs and/or their customers develop
software for specific end-user applications. Several VARs have written optical
card software programs for applications such as automobile warranty and
maintenance records, cargo manifesting, digital optical key systems,
admissions/ID, data logging systems, and various medical-related applications
such as medical image storage and health history cards. During fiscal 2000, the
Company finished development of a complete card issuing application (software
program) in coordination with an existing commercial software company. This is
available for sale to all VARs and should greatly reduce the need for VARs to
develop their own card-personalization software.


                                      -7-
<PAGE>

      Optical memory cards are used in conjunction with a card reader/writer
device that connects to a personal computer (PC). The reader/writer is
integrated as a PC logical drive and has drive-letter access in the same manner
as floppy disk drives. Reader/writers are sold to VARs/licensees and other
customers of the Company. The price, performance, and availability of
reader/writers are factors in the commercialization of optical cards. The
Company sells reader/writers for a few thousand dollars per unit, and these
units generally include the Company's interface software/device drivers.

      As reported previously, until July of 1999, the Company purchased
reader/writers from a Japanese licensee, Nippon Conlux Co., Ltd., ("Conlux"),
which was the Company's sole supplier of reader/writers. On May 28, 1999,
arrangements were completed with Conlux for the Company to purchase sets of
parts to assemble reader/writers in the United States, rather than continuing to
purchase complete reader/writers assembled in Japan by Conlux. The launching of
this reader/writer manufacturing and development operation in a
5,000-square-foot, leased facility, with added staff was estimated to reduce
pretax profit during fiscal 2000 by $1 million. The actual reduction through
three quarters was $780,000. This includes occupancy-related expenses,
depreciation, amortization, salaries and fringe benefits, and certain one-time
expenditures estimated at $250,000 for reader/writer assembly training.
Investment in reader/writer-related inventory is estimated at $2 million, and
capital expenditures for reader/writer assembly and design are budgeted for
approximately $1.2 million in fiscal 2000, including an estimated $300,000 in
capitalized technology transfer costs to be amortized over three years. In
December, 1999, the Company shipped the first units that it manufactured. The
Company will be obligated to pay patent royalties on its sales of
reader/writers. In 1995, the Company assumed worldwide responsibility for all
repair and maintenance of Conlux reader/writer units and, as a result, has a
skilled technical staff to support reader/writer operations.

      The Company maintains an inventory of reader/writers and sets of
reader/writer parts that it believes are adequate to meet customer demand.
However, an interruption or change in the supply of reader/writer parts or
difficulties encountered in reader/writer assembly could cause a delay in both
reader/writer and optical memory card shipments and a possible loss of sales,
which would adversely affect operating results.

      License Revenues. There were no licenses sold in the first nine months of
fiscal 2000 versus $200,000 in the first nine months of fiscal 1999. The Company
does not rely on license fees to finance operations.

Backlog

      As of December 31, 1999, the backlog for LaserCard optical memory cards
was approximately $8.8 million. Deliveries from this backlog are estimated to
average from 250,000 to 350,000 cards per month over a nine-month period
beginning January, 2000. About 80% of the Company's December 31, 1999 backlog is
for U.S. government orders, including a $6.8 million card order received in
December of 1999 for INS Green Cards and Department of State Laser Visa cards.

      The U.S. government has issued a request for proposal (RFP) for a
five-year, competitively bid contract for up to 20.6 million optical memory
cards. It is anticipated that this procurement contract may be awarded in May of
2000. This RFP, for INS Green Cards and DoS Laser Visa cards, states that to
qualify, the bidder must be capable of delivering 500,000 optical memory cards
per month. The Company believes that it is presently the only qualified bidder
for this program.


                                      -8-
<PAGE>

Margins

      The gross margin on product sales was 44% for the first nine months of
fiscal 2000 compared with 50% for the first nine months of fiscal 1999. Gross
profit decreased $296,000 for the first nine months of fiscal 2000 as compared
to last year's first nine months. Reader/writer gross profit decreased by about
$320,000 due to the following: (a) reader/writer selling prices were reduced to
stimulate sales and (b) reader/writer costs increased due to the yen/dollar
exchange rate and staffing and overhead costs for in-house production of
reader/writers. The Company's gross margin on sales of the current reader/writer
probably will be negligible through fiscal 2001. The gross profit on cards
increased approximately $150,000 for the third quarter as compared to the same
period last year, due to higher card sales volume.

Income and Expenses

      Selling, General, and Administrative Expenses (SG&A). For the fiscal 2000
third quarter, SG&A expenses were $936,000 compared with $973,000 for the third
quarter of fiscal 1999. For the fiscal 2000 first nine months, SG&A expenses
were $2,929,000 compared with $2,647,000 for the first nine months of fiscal
1999. The $282,000 increase in SG&A spending for the first nine months of fiscal
2000 primarily consists of $156,000 for marketing and customer service and an
$89,000 increase in patent amortization expense. The Company believes that SG&A
expenses during the remainder of fiscal 2000 will remain above fiscal 1999
levels.

      Research and Engineering Expenses (R&E). Research and engineering expenses
were $358,000 for the third quarter of fiscal 2000 compared with $99,000 for the
year-earlier quarter. For the fiscal 2000 first nine months, R&E expenses were
$841,000 compared with $350,000 for the first nine months of fiscal 1999.
Approximately 80% of the increase in R&E spending for the fiscal 2000 first nine
months is due to reader/writer manufacturing development and product design. The
Company anticipates that for the remainder of fiscal 2000, R&E expenses will
remain above fiscal 1999 levels.

      Other Income and Expense. Total net other income for the first nine months
of fiscal 2000 consisted of $274,000 of net interest income. For last year's
first nine months, total net other income was $170,000, consisting of $233,000
for interest income, $5,000 for interest expense, and a $58,000 loss for
miscellaneous items.

      Income Taxes. The Company recorded a $654,000 income tax benefit for the
third quarter of fiscal 2000 versus a $32,000 income tax expense for the same
period last year. The income tax benefit for the fiscal 2000 third quarter
included a credit of $660,000 due to the change in the deferred tax asset
discussed below, partially offset by a $6,000 expense for alternative minimum
taxes payable. For the first nine months of fiscal 2000, the Company's income
tax benefit was $1,710,000 versus an income tax expense of $91,000 for the
previous year's first nine months. For the first nine months of fiscal 2000, the
income tax benefit included a credit of $1,737,000 resulting from the change in
the deferred tax asset, partially offset by a $27,000 expense for alternative
minimum taxes payable.

LIQUIDITY AND CAPITAL RESOURCES

      As of December 31, 1999, the Company had cash, cash equivalents, and
short-term investments of $6,691,000, a current ratio of 5.4 to 1, and no
long-term debt.


                                      -9-
<PAGE>

      Net cash provided by operating activities was $596,000 for the first nine
months of fiscal 2000 compared with $3,673,000 for the first nine months of
fiscal 1999. Fluctuations in operating assets and liabilities will use cash in
some quarters and provide cash in other quarters. Cash used for
reader/writer-related inventory purchases, primarily for components and parts
for reader/writer manufacturing, totaled approximately $1,682,000 for the first
nine months of fiscal 2000. For fiscal 2000, an investment of $2 million in
reader/writer-related inventory is estimated. The current level of revenues is
sufficient to generate cash from operations after expenses. Losses would occur
if both of the Company's largest U.S. government programs were to be canceled or
not renewed and not be replaced by other card orders or other sources of income.

      The Company has not established a line of credit and has no current plans
to do so. The Company may negotiate a line of credit if and when it becomes
appropriate, although no assurance can be made that such financing would be
available, if needed.

      As a result of the $3,610,000 profit recorded for the first nine months of
fiscal 2000, the Company's accumulated deficit was reduced to $18,026,000 and
stockholders' equity increased to $18,732,000.

      The Company's total deferred income tax asset was $13,622,000 at December
31, 1999. When utilized, the total deferred tax asset reduces income tax
expense. The Company believes that it is more likely than not that at least a
portion of this income tax asset will be realized and therefore has reduced the
valuation allowance against it. The net deferred income tax asset amounted to
$1,737,000 at December 31, 1999. There are timing differences between when
certain items are included in book income and when the same items are included
on income tax returns. Therefore, tax payments or credits often occur in
different periods than when an income tax expense or benefit is included in the
statement of operations.

      For card production, the Company added capital equipment and leasehold
improvements of approximately $845,000 during the first nine months of fiscal
2000. The Company's card production capacity will exceed 7 million cards per
year by March 31, 2000, for the production of state-of-the-art optical memory
cards. This capacity will be further expanded during fiscal year 2001. The
Company plans to purchase additional production equipment in a series of steps
as optical memory card orders expand to justify production capacity increases,
to a rate of up to 25 million cards per year. In addition to investment used for
expansion, the Company also will make additional capital expenditures for cost
savings, quality improvements, and other purposes. The Company believes that
during the next few years, capital expenditures will be a minimum of $1.5
million per year for card production equipment and automatic inspection
equipment.

      For the new reader/writer manufacturing and design operation, the Company
added capital equipment and leasehold improvements of approximately $400,000
during the first nine months of fiscal 2000. The Company's plans for the
remainder of fiscal 2000 include an additional $500,000 investment for this
purpose. In addition, during the first nine months of fiscal 2000, the Company
capitalized approximately $315,000 in costs associated with the transfer from
Conlux of reader/writer designs. Additional capital investments will be made
during fiscal 2001.


                                      -10-
<PAGE>

YEAR 2000 DISCLOSURE

      The Company is not aware of any Year 2000-related consequences in its
operations as of January 1, 2000 or the weeks following that date. Further, no
Year 2000 complaints or problems from vendors or customers have been reported to
the Company. The Company will continue to monitor and assess its exposure
related to this issue.

      Information Technology Systems. For purposes of upgrading in response to
ordinary business requirements, rather than in connection with Year 2000
preparedness, the Company comprehensively renovated its internal computer and
network systems during the past three years. As a result, the Company has
virtually no hardware systems more than three years old. Similarly, most of the
Company's software systems operate with recent Microsoft products, which
Microsoft has indicated are Year 2000 compliant. The Company has conducted an
internal audit of its information technology systems; and, based on this review
and on information provided by the manufacturers, the Company does not believe
that the prospect of Year 2000 disruption of its information technology systems
is likely to be material. With respect to information processing conducted for
the Company by third parties, such as payroll processing and banking, the
Company has obtained explicit assurances of Year 2000 compliance.

      Embedded Systems. Among the Company's embedded systems, including plant
and manufacturing systems, the Company has identified only one date-sensitive
system, which is amenable to manual adjustment to bypass any potential Year 2000
interruption. With respect to certain plant systems controlled by third parties,
including certain security systems, the Company has obtained explicit assurances
of Year 2000 compliance. The Company identified one plant system, the energy
management system, that was disconnected prior to year end 1999, with minimal
effect on costs.

      Third Party Relationships; Contingency Plans. The Company has requested
information from certain key suppliers, customers, and VARs with respect to Year
2000 preparedness. The Company has assessed the responses received to date and
followed up with non-respondents. Interruptions in supply of key components,
such as OEM equipment and raw materials for the Company's products, could
interfere with the Company's ability to continue supplying its products. The
Company believes it has sufficient backup inventory of raw materials and
supplies to continue production in the event of a short-term supply
interruption. Similarly, an interruption in the ability of key purchasers to
continue to meet payment obligations to the Company could hinder the Company's
cash flow. Such key customers include the U.S. Immigration and Naturalization
Service, the U.S. Department of Defense, and the Company's VARs supporting those
accounts. The Company currently maintains substantial cash reserves against that
contingency.

      Costs of Year 2000 Preparation; Effect on the Company's Business. Based
upon the factors described above, the Company's separately identifiable costs to
prepare for Year 2000 contingencies to date and estimated costs for future
efforts are not material and, apart from contingencies beyond the Company's
reasonable ability to foresee or control, such as general economic or
infrastructure disruption, the Company does not anticipate that Year 2000 issues
would have a material effect on the Company's business, other than possibly to
require the Company to invest in backup inventory, to draw down cash reserves,
or both. To the extent the Company incurs costs specifically relating


                                      -11-
<PAGE>

to Year 2000 preparedness, the Company will expense those costs during the
period in which they are incurred. In October of 1999, the Company replaced its
manufacturing tracking software, at no cost, with the inventory control module
of the management-accounting software already owned by the Company.

      Assumptions and Uncertainties. The Company's expectations about future
costs associated with Year 2000 preparedness, and potential effects of Year 2000
disruptions, are subject to uncertainties which could allow a greater financial
impact than currently anticipated. Factors that could influence the amount and
timing of future costs and effects include the Company's success in identifying
systems and programs that contain, or are subject to corruption as a result of
receiving data containing, two-digit year codes; the nature and amount of
programming required to upgrade, or the cost required to replace, each affected
program or system; the rates and magnitude of effort required for labor and
consulting with the appropriate skills for remediation; the availability of
replacement systems and components; and the success of the Company's customers
and suppliers in addressing Year 2000 issues.

FORWARD-LOOKING STATEMENTS

      Certain statements made in this report relating to plans, objectives, and
economic performance go beyond historical information and may provide an
indication of future results. To that extent, they are forward-looking
statements within the meaning of Section 21E of the Securities Exchange Act of
1934, as amended, and each is subject to factors that could cause actual results
to differ from those in the forward-looking statement. There can be no
assurances that any new or existing VAR or licensee company in any country will
be successful in its markets or that it will place follow-on orders with the
Company for additional quantities of cards and systems. Furthermore, as is the
case in all U.S. government procurement, the government reserves the right to
change specifications, delay the start date or deliveries, and cancel all or
part of an order. In addition, the ability of the Company to maintain a
profitable level of optical memory card sales is subject to risks and
uncertainties with respect to changes in technology, customer diversification,
customer expansion, the ability to economically produce optical card
reader/writers, the implementation of ongoing commercial applications by
customers, and the economic configuration and operation of the Company's card
manufacturing facility for increased output levels. Such factors are described
above, in the Company's Report on Form 10-K, and in other documents filed by the
Company from time to time with the Securities and Exchange Commission.

PART II. OTHER INFORMATION

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

      (a)     Exhibit No.          Exhibit Description

              27                   Financial Data Schedule


                                      -12-
<PAGE>

      The above-listed exhibits are filed herewith. No other exhibits are
included in this report as the contents of the required exhibits are either not
applicable to Registrant, to be provided only if Registrant desires, or
contained elsewhere in this report.

      (b) No reports on Form 8-K were filed by Registrant during the period for
which this report is filed.

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 thereunto duly authorized:

                             DREXLER TECHNOLOGY CORPORATION (Registrant)


Date: February 10, 2000      /s/Jerome Drexler
                             --------------------------------------------------
                             Jerome Drexler, Chairman of the Board of Directors
                             and Chief Executive Officer (Principal Executive
                             Officer)


Date: February 10, 2000      /s/Steven G. Larson
                             --------------------------------------------------
                             Steven G. Larson, Vice President of Finance and
                             Treasurer (Principal Financial Officer and
                             Principal Accounting Officer)


                                      -13-
<PAGE>

                              EXHIBIT INDEX

                   Exhibit
                   Number            Description
                   ------            -----------

                   27                Financial Data Schedule


                                      -14-