<PAGE>

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


                                    FORM 10-Q


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

                For the Quarterly Period Ended December 31, 2002


                        Commission File Number: 000-06377


                         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
January 30, 2003: 10,433,140

<PAGE>
<TABLE>
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                                             TABLE OF CONTENTS

PART I.   FINANCIAL INFORMATION                                                           Page Number
<S>                <C>                                                                    <C>
          Item 1.  Condensed Consolidated Financial Statements (Unaudited)
                     Condensed Consolidated Balance Sheets                                     3
                     Condensed Consolidated Statements of Income                               4
                     Condensed Consolidated Statements of Cash Flows                           5
                   Notes to Condensed Consolidated Financial Statements                        6

          Item 2.  Management's Discussion and Analysis of Financial
                     Condition and Results of Operations (Unaudited)                           8

          Item 3.  Quantitative and Qualitative Disclosures about Market Rate Risks           18

          Item 4.  Controls and Procedures                                                    18

PART II.  OTHER INFORMATION                                                                   19

          Item 5.  Other Information                                                          19

          Item 6.  Exhibits and Reports on Form 8-K                                           19

SIGNATURES                                                                                    19

CERTIFICATIONS                                                                                20


--------------------------------------------------------------------------------------------------------
</TABLE>

PART I.   FINANCIAL INFORMATION

ITEM 1.   CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)



                                                      -2-
<PAGE>
<TABLE>
<CAPTION>

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

                                                                                                    March 31,           December 31,
                                                                                                      2002                 2002
                                                                                                      ----                 ----
                                                               ASSETS
<S>                                                                                                 <C>                  <C>
Current assets:
   Cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .  $   8,193            $   8,967
   Short-term investments  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      8,883                4,737
   Accounts receivable, net  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      1,659                1,467
   Inventories . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      4,973                6,105
   Deferred tax asset, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      3,849                3,849
   Other current assets. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .        561                  858
                                                                                                    ---------            ---------
      Total current assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .     28,118               25,983
                                                                                                    ---------            ---------

Property and equipment, at cost  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .     20,979               22,211
   Less--accumulated depreciation and amortization . . . . . . . . . . . . . . . . . . . . . . . .    (14,561)             (15,427)
                                                                                                    ---------            ---------
      Property and equipment, net  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      6,418                6,784
                                                                                                    ---------            ---------

Long-term investments  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      1,002                4,452
Patents and other intangibles, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .        612                  597
Deferred tax asset, net  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      4,563                3,146
                                                                                                    ---------            ---------

         Total assets  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .  $  40,713            $  40,962
                                                                                                    =========            =========

                                                LIABILITIES AND STOCKHOLDERS' EQUITY

Current liabilities:
   Accounts payable  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .  $     738            $     761
   Accrued liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      1,117                1,547
   Deferred revenue  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .        235                  235
   Advance payments from customers . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      2,551                1,724
   Deferred gross profit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      2,860                   --
                                                                                                    ---------            ---------
      Total current liabilities  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      7,501                4,267
   Deferred revenue, long-term . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .        875                   --
                                                                                                    ---------            ---------

         Total liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .  $   8,376            $   4,267
                                                                                                    =========            =========

Stockholders' equity:
   Preferred stock, $.01 par value:
      Authorized--2,000,000 shares
      Issued--none . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .         --                   --
   Common stock, $.01 par value:
      Authorized--30,000,000 shares
      Issued--10,240,687 shares at March 31, 2002 and
         10,433,140 shares at December 31, 2002  . . . . . . . . . . . . . . . . . . . . . . . . .        102                  104
   Additional paid-in capital  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .     40,334               42,259
   Accumulated deficit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .     (8,099)              (5,668)
                                                                                                    ---------            ---------
      Total stockholders' equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .     32,337               36,695
                                                                                                    ---------            ---------

         Total liabilities and stockholders' equity  . . . . . . . . . . . . . . . . . . . . . . .  $  40,713            $  40,962
                                                                                                    =========            =========

                 The accompanying notes are an integral part of these condensed consolidated financial statements.
</TABLE>


                                                                -3-
<PAGE>
<TABLE>
<CAPTION>

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


                                                                            Three Months Ended            Nine Months Ended
                                                                               December 31,                  December 31,
                                                                           2001            2002          2001           2002
                                                                           ----            ----          ----           ----
<S>                                                                      <C>             <C>           <C>           <C>
Revenues:
   Product revenue  . . . . . . . . . . . . . . . . . . . . . . . . . .  $  7,030        $  4,490      $ 14,911      $ 20,571
   License and royalty revenue  . . . . . . . . . . . . . . . . . . . .        --             875         1,076           875
                                                                         --------        --------      --------      --------
      Total revenues  . . . . . . . . . . . . . . . . . . . . . . . . .     7,030           5,365        15,987        21,446
                                                                         --------        --------      --------      --------

Cost of product revenues  . . . . . . . . . . . . . . . . . . . . . . .     3,734           2,580         8,070        10,960
                                                                         --------        --------      --------      --------

      Gross profit  . . . . . . . . . . . . . . . . . . . . . . . . . .     3,296           2,785         7,917        10,486
                                                                         --------        --------      --------      --------

Operating expenses:
   Selling, general, and administrative expenses  . . . . . . . . . . .     1,289           1,566         3,653         4,574
   Research and engineering expenses  . . . . . . . . . . . . . . . . .       894             653         2,253         2,171
                                                                         --------        --------      --------      --------
      Total operating expenses  . . . . . . . . . . . . . . . . . . . .     2,183           2,219         5,906         6,745
                                                                         --------        --------      --------      --------

         Operating income   . . . . . . . . . . . . . . . . . . . . . .     1,113             566         2,011         3,741
                                                                         --------        --------      --------      --------

Other income  . . . . . . . . . . . . . . . . . . . . . . . . . . . . .        88              96           299           310
                                                                         --------        --------      --------      --------

         Income before income taxes   . . . . . . . . . . . . . . . . .     1,201             662         2,310         4,051

Income tax expense (benefit)  . . . . . . . . . . . . . . . . . . . . .     (458)             265        (1,901)        1,620
                                                                         --------        --------      --------      --------

         Net income   . . . . . . . . . . . . . . . . . . . . . . . . .  $  1,659        $    397      $  4,211      $  2,431
                                                                         ========        ========      ========      ========

Net income per share:
         Basic  . . . . . . . . . . . . . . . . . . . . . . . . . . . .  $    .17        $    .04      $    .43      $    .24
                                                                         ========        ========      ========      ========
         Diluted  . . . . . . . . . . . . . . . . . . . . . . . . . . .  $    .15        $    .04      $    .41      $    .22
                                                                         ========        ========      ========      ========

Weighted average number of common and common equivalent shares:
         Basic  . . . . . . . . . . . . . . . . . . . . . . . . . . . .    10,015          10,376         9,883        10,330
         Diluted  . . . . . . . . . . . . . . . . . . . . . . . . . . .    10,847          10,788        10,335        10,915


                 The accompanying notes are an integral part of these condensed consolidated financial statements.
</TABLE>


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

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


                                                                                                        Nine Months Ended
                                                                                                           December 31,
                                                                                                      2001             2002
                                                                                                      ----             ----
<S>                                                                                                <C>               <C>
Cash flows from operating activities:
   Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .  $  4,211          $  2,431
   Adjustments to reconcile net income to net cash provided by operating activities:
      Depreciation and amortization . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .     1,151             1,355
      Provision for doubtful accounts receivable  . . . . . . . . . . . . . . . . . . . . . . . .       (18)               11
      Provision for product return reserve  . . . . . . . . . . . . . . . . . . . . . . . . . . .       (26)               --
      Compensation on stock plan activity . . . . . . . . . . . . . . . . . . . . . . . . . . . .        54                43
      (Increase) decrease in deferred tax asset . . . . . . . . . . . . . . . . . . . . . . . . .    (2,172)            1,417
      Provision for excess and obsolete inventory, net  . . . . . . . . . . . . . . . . . . . . .       288               387
      Tax benefit for stock option exercises  . . . . . . . . . . . . . . . . . . . . . . . . . .       149               202

Changes in operating assets and liabilities:
      Decrease in accounts receivable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .       147               181
      Increase in inventories . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      (660)           (1,519)
      (Increase) decrease in other assets . . . . . . . . . . . . . . . . . . . . . . . . . . . .       103              (297)
      Increase (decrease) in accounts payable and accrued liabilities . . . . . . . . . . . . . .      (407)              453
      Decrease in deferred revenue  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      (119)             (875)
      Increase (decrease) in advance payments from customers  . . . . . . . . . . . . . . . . . .       576              (827)
      Decrease in deferred gross profit . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      (862)           (2,860)
                                                                                                   --------          --------

         Net cash provided by operating activities  . . . . . . . . . . . . . . . . . . . . . . .     2,415               102
                                                                                                   --------          --------

Cash flows from investing activities:
   Purchases of property and equipment  . . . . . . . . . . . . . . . . . . . . . . . . . . . . .    (1,083)           (1,436)
   Investment in patents and other intangibles  . . . . . . . . . . . . . . . . . . . . . . . . .       (81)             (270)
   Purchases of investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .   (10,352)           (9,379)
   Proceeds from maturities of investments  . . . . . . . . . . . . . . . . . . . . . . . . . . .     8,866            10,075
                                                                                                   --------          --------

         Net cash used for investing activities . . . . . . . . . . . . . . . . . . . . . . . . .    (2,650)           (1,010)
                                                                                                   --------          --------

Cash flows from financing activities:
      Proceeds from sale of common stock through stock plans  . . . . . . . . . . . . . . . . . .     3,086             1,682
      Purchases of common stock through an open market repurchase program . . . . . . . . . . . .      (175)               --
                                                                                                   --------          --------

         Net cash provided by financing activities  . . . . . . . . . . . . . . . . . . . . . . .     2,911             1,682
                                                                                                   --------          --------

         Net increase in cash and cash equivalents  . . . . . . . . . . . . . . . . . . . . . . .     2,676               774

Cash and cash equivalents:
   Beginning of period  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .     6,221             8,193
                                                                                                   --------          --------
   End of period. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .  $  8,897          $  8,967
                                                                                                   ========          ========


                 The accompanying notes are an integral part of these condensed consolidated financial statements.
</TABLE>

                                                                -5-
<PAGE>

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

     BASIS OF PRESENTATION. The condensed consolidated financial statements
contained herein include the accounts of Drexler Technology Corporation and its
wholly owned subsidiaries. All significant intercompany accounts and
transactions have been eliminated in consolidation.

     The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.

     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 accounting principles generally accepted in the United States of America
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 include only normal recurring adjustments) necessary to present fairly
the financial position and results of operations as of and for the periods
indicated.

     These condensed consolidated financial statements should be read in
conjunction with the consolidated financial statements and the notes thereto for
the year ended March31,2002,included in the Company's Annual Reporton Form 10-K.

     The results of operations for the nine months ended December 31, 2002 are
not necessarily indicative of results to be expected for the entire fiscal year
ending March 31, 2003.

     FISCAL PERIOD: For purposes of presentation, the Company labels its annual
accounting period end as March 31 and its interim quarterly periods as ending on
the last day of the corresponding month. The Company, in fact, operates and
reports based on quarterly periods ending on the Friday closest to month end.
The 13-week third quarter of fiscal 2002 ended on December 28, 2001, and the
13-week third quarter of fiscal 2003 ended on December 27, 2002.

     Inventories: Inventories are stated at the lower of cost or market, with
cost determined on a first-in, first-out basis and market based on the lower of
replacement cost or estimated realizable value. The components of inventories
are (in thousands):

                                          March 31,       December 31,
                                            2002              2002
                                            ----              ----
        Raw materials . . . . . . . . .  $   3,063         $   3,397
        Work-in-process . . . . . . . .        479               645
        Finished goods  . . . . . . . .      1,379             2,047
        Systems and components
          held for resale . . . . . . .         52                16
                                         ---------         ---------
                                         $   4,973         $   6,105
                                         =========         =========

     RECLASSIFICATIONS. Certain items have been reclassified in the prior
periods to conform to the current presentation.

     RECENT ACCOUNTING PRONOUNCEMENTS. In July 2002, the Financial Accounting
Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS)
No. 146, "Accounting for Costs Associated with Exit or Disposal Activities"
(SFAS No. 146). SFAS No. 146 addresses financial accounting and reporting for
costs associated with exit or disposal activities and nullifies Emerging Issues
Task Force (EITF) Issue No. 94-3, "Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring)." SFAS No. 146 requires that a liability be
recognized for those costs only when the liability is incurred; that is, when it
meets the definition of a liability in the FASB's conceptual framework. SFAS No.
146 also establishes fair value as the objective for initial measurement of
liabilities related to exit or disposal activities. SFAS No. 146 is effective
for exit or disposal activities that are initiated after December 31, 2002, with
early application encouraged. The Company is currently evaluating the provisions
of SFAS No. 146 but does not believe that the adoption will have a material
impact on its results of operations, financial position, or cash flows.

                                      -6-
<PAGE>

     In November 2002, the FASB issued Interpretation Number 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others" (FIN 45). This interpretation elaborates
on the disclosures to be made by a guarantor in its interim and annual financial
statements about its obligations under certain guarantees that it has issued. It
also clarifies that a guarantor is required to recognize, at the inception of a
guarantee, a liability for the fair value of the obligation undertaken in
issuing the guarantee. The disclosure requirements of FIN 45 are effective for
interim and annual periods after December 15, 2002, which we have adopted for
our condensed consolidated financial statements included in this Form 10-Q
Report. The initial recognition and initial measurement requirements of FIN 45
are effective prospectively for guarantees issued or modified after December 31,
2002. The Company is currently reviewing the provisions of FIN 45, but does not
believe the adoption of the recognition and initial measurement requirements of
FIN 45 will have a material impact on its financial position, cash flows or
results of operations.

     In November 2002, the Emerging Issues Task Force (EITF) reached a consensus
on Issue No. 00-21, "Revenue Arrangements with Multiple Deliverables." EITF
Issue No. 00-21 provides guidance on how to account for arrangements that
involve the delivery or performance of multiple products, services and/or rights
to use assets. The provisions of EITF Issue No. 00-21 will apply to revenue
arrangements entered into in fiscal periods beginning after June 15, 2003. The
Company is currently evaluating the impact that adoption of EITF Issue No. 00-21
will have on its consolidated financial statements.

     In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure - an amendment of FASB Statement No.
123." SFAS No. 148 amends SFAS No. 123, "Accounting for Stock-Based
Compensation," to provide alternative methods of transition for a voluntary
change to the fair value based method of accounting for stock-based employee
compensation. In addition, SFAS No. 148 amends the disclosure requirements of
SFAS No. 123 to require prominent disclosures in both annual and interim
financial statements about the method of accounting for stock-based employee
compensation and the effect of the method used on reported results. The
disclosure requirements apply to all companies for fiscal years ending after
December 15, 2002. The interim disclosure provisions are effective for financial
reports containing financial statements for interim periods beginning after
December 15, 2002. The adoption of SFAS No. 148 is not expected to have a
material impact on the Company's consolidated financial statements.

     NET INCOME PER SHARE: The Company computes net income per share in
accordance with SFAS No. 128, "Earnings Per Share." SFAS No. 128 requires
companies to compute net income per share under two different methods, basic and
diluted, and present per share data for all periods in which a statement of
income is presented. Basic net income per share is computed by dividing net
income by the weighted average number of shares of common stock outstanding.
Diluted net income per share is computed by dividing net income by the weighted
average number of shares of common stock and common stock equivalents
outstanding. Common stock equivalents consist of stock options using the
treasury stock method. The reconciliation of the denominators of the basic and
diluted net income per share computation for the three months and nine months
ended December 31, 2001 and December 31, 2002 is shown in the following table
(in thousands, except per share data):

<TABLE>
<CAPTION>
                                                            Three Months Ended             Nine Months Ended
                                                               December 31,                   December 31,
                                                           2001           2002            2001            2002
                                                           ----           ----            ----            ----
<S>                                                      <C>            <C>             <C>            <C>
Net income . . . . . . . . . . . . . . . . . . . . . . . $  1,659       $     397       $   4,211      $   2,431
                                                         ========       =========       =========      =========

Basic earnings per share:
   Weighted average common shares outstanding  . . . . .   10,015          10,376           9,883         10,330
                                                         --------       ---------       ---------      ---------
Basic earnings per share . . . . . . . . . . . . . . . . $    .17       $     .04       $     .43      $     .24
                                                         ========       =========       =========      =========

Diluted earnings per share:
   Weighted average common shares outstanding  . . . . .   10,015          10,376           9,883         10,330
   Weighted average common shares from
      stock option grants  . . . . . . . . . . . . . . .      832             412             452            585
                                                         --------       ---------       ---------      ---------
   Weighted average common shares and common
      stock equivalents outstanding  . . . . . . . . . .   10,847          10,788          10,335         10,915
                                                         --------       ---------       ---------      ---------
Diluted earnings per share   . . . . . . . . . . . . . . $    .15       $     .04       $     .41      $     .22
                                                         ========       =========       =========      =========
</TABLE>
                                      -7-
<PAGE>

     Stock options having an exercise price greater than the average market
value for the periods are excluded from the calculation of diluted earnings per
share. As their effect would be antidilutive, 22,000 shares and 401,200 shares
are excluded from the calculation of diluted earnings per share for the three
months ended December 31, 2001 and 2002, respectively. For the same reason,
stock options representing 427,100 shares and 32,000 shares are excluded from
the calculation of diluted earnings per share for the nine months ended December
31, 2001 and 2002, respectively.

     REVENUE RECOGNITION. The Company recognizes revenue when the following
criteria are met: (1) persuasive evidence of an arrangement exists; (2) delivery
has occurred or services have been rendered; (3) the fee is fixed or
determinable; and (4) collectibility is reasonably assured. Where appropriate,
provision is made for estimated warranty costs and estimated returns relating to
product sales at the time revenue is recognized.

     The Company's U.S. government subcontract requires delivery to a secure,
government-funded vault built on Company premises. Deliveries are made into the
vault on a fixed schedule specified by the prime contractor. At the time the
cards are delivered to the vault, title to the cards transfers to the
government, the prime contractor is invoiced, and payment is due according to
normal trade payment terms. Revenue is recognized when the cards are shipped
from the vault, unless the Company receives a fixed schedule, notification, or
plan for shipments out of the vault, in which case revenue is recognized upon
the later of the receipt of such fixed shipment schedule or delivery of the
cards into the vault. During the second quarter of fiscal 2003, for the first
time, the Company received a fixed schedule for shipments out of the vault.
Therefore, revenue on all of the 2.17 million cards located in the vault was
recognized upon the receipt of such fixed shipment schedule. Had the Company not
received this fixed schedule, its revenue would have been based only on shipment
of cards out of the vault, as in prior periods, which would have reduced revenue
by approximately $6.9 million for the three months ended September 30, 2002.
During the third quarter of fiscal 2003, the Company received a fixed schedule
for shipments out of the vault for all cards ordered by the government through
August 2003 and not covered under the prior fixed schedule obtained in the
second quarter. Revenues recognized in the third quarter of fiscal 2003 for
cards delivered to the government-funded vault were pursuant to the fixed
schedule obtained during the third quarter. For cards delivered into the vault
after August 2003, the Company will continue to recognize revenues upon the
delivery of cards into the vault as long as it receives a fixed schedule,
notification, or plan for shipment of those cards out of the vault.

     ACCOUNTING FOR INCOME TAXES. As part of the process of preparing its
condensed consolidated financial statements, the Company is required to estimate
income taxes in each of the jurisdictions in which it operates. This process
involves estimating the actual current tax exposure together with assessing
temporary differences resulting from differing treatment of items, such as
deferred revenue, for tax and accounting purposes. These differences result in
deferred tax assets and liabilities, which are included within the consolidated
balance sheets.

     Significant management judgment is required in determining the provision
for income taxes, deferred tax assets and liabilities, and any valuation
allowance recorded against the net deferred tax assets. The Company has recorded
a valuation allowance of $6 million as of December 31, 2002, due to
uncertainties related to the Company's ability to utilize some of the deferred
tax assets, arising primarily from certain net operating loss carryforwards,
before they expire. The valuation allowance is based on management's estimates
of taxable income by jurisdiction in which the Company operates and the period
over which the deferred tax assets will be recoverable. In the event that actual
results differ from these estimates or that these estimates are adjusted in
future periods, the Company may need to establish an additional valuation
allowance which could materially impact the Company's results of operations.

     CONCENTRATION OF CREDIT RISK. One United States customer comprised 98% of
accounts receivable at March 31, 2002 and at December 31, 2002.

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

     The following discussion and analysis of the Company's financial condition
and results of operations should be read in conjunction with the condensed
consolidated financial statements and related notes included elsewhere in this
Form 10-Q Report and the consolidated financial statements and notes thereto for
the year ended March 31, 2002, included in the Company's fiscal 2002 Annual
Report on Form 10-K.


                                      -8-
<PAGE>

FORWARD-LOOKING STATEMENTS

     When used in this discussion, the words "expects," "anticipates,"
"believes," "estimates," "plans," and similar expressions are intended to
identify forward-looking statements. These are statements that relate to future
periods and include the Company's forecast that it will recognize revenue on
approximately 8 million cards during FY 2003, including revenues during the
fourth quarter on 1 million cards on order from the US government and on 0.8
million cards from orders not yet booked, anticipated primarily from programs in
Italy and Macedonia; the objectives of the Company in its efforts to sell
read/write drives; the expectation that the Company's read/write drive inventory
is adequate to meet customer demands and beliefs about where potential markets
are for such inventory; statements regarding the Company's research and
engineering efforts, including the expected development of lower cost drives,
customer-optimized drive systems, and drive systems with advanced security
features; the Company's efforts to recruit new value-added resellers (VARs) and
eliminate nonproductive VARs; anticipated orders and/or shipment quantities and
schedules under the Company's U.S. government and Canadian government
subcontracts; expectations regarding revenues, margins, and the Company's
deferred tax asset and related valuation allowance; anticipated reductions of
federal tax cash payments due to current Company tax benefits; statements about
selling, general, and administrative expenses and research and engineering
expenses for the remainder of fiscal 2003; statements as to potential customers,
applications, orders, or market segments for optical memory card products;
estimates of optical card production capacity, expected card yields therefrom,
and plans and expectations regarding the growth and associated capital costs of
such capacity; estimate that revenues will be sufficient to generate cash from
operations; and expectations regarding market growth, product demand, and
foreign business including emerging programs or prospective applications in
China, India, Italy, Macedonia, Mexico, and Saudi Arabia; and expectations as to
continuation or expansion of U.S. government card programs and other
governmental card programs. Forward-looking statements are subject to risks and
uncertainties that could cause actual results to differ materially from those
projected.

     These risks and uncertainties include, but are not limited to those risks
discussed below, as well as the impact of litigation or governmental or
regulatory proceedings; the Company's ability to initiate and grow new programs
utilizing the Company's card products; the Company's reliance on VARs,
licensees, or other third parties to generate sales, perform customer system
integration, or develop application software; risks associated with doing
business in and with foreign countries; potential manufacturing difficulties and
complications associated with increasing manufacturing capacity of cards and
drives; uncertainties associated with the design, development, manufacture, and
deployment of optical card drives and systems; customer concentration and
reliance on continued U.S. government business; lengthy sales cycles and
reliance on government policy-making; general economic trends; the
unpredictability of customer demand for products and customer issuance and
release of corresponding orders; government rights to withhold order releases,
reduce the quantities released, and extend shipment dates; whether the Company
receives a fixed schedule, notification, or plan for shipments out of the
government vault enabling the Company to recognize revenues on cards located in
the vault instead of when cards later are shipped from the vault; the impact of
technological advances and competitive products and the ability of the Company
or its customers to develop software and integrate optical card systems with
other technologies; and other risks detailed from time to time in the SEC
filings of Drexler Technology Corporation, including its Annual Report on Form
10-K for the fiscal year ended March 31, 2002.

     These forward-looking statements speak only as of the date hereof. The
Company expressly disclaims any obligation or undertaking to release publicly
any updates or revisions to any forward-looking statements contained herein to
reflect any change in the Company's expectations with regard thereto or any
change in events, conditions, or circumstances on which any statement is based.

CRITICAL ACCOUNTING POLICIES

     REVENUE RECOGNITION. The Company recognizes revenue when the following
criteria are met: (1) persuasive evidence of an arrangement exists; (2) delivery
has occurred or services have been rendered; (3) the fee is fixed or
determinable; and (4) collectibility is reasonably assured. Where appropriate,
provision is made for estimated warranty costs and estimated returns relating to
product sales at the time revenue is recognized.

     The Company's U.S. government subcontract requires delivery to a secure,
government-funded vault built on Company premises. Deliveries are made into the
vault on a fixed schedule specified by the prime contractor. At the time

                                      -9-
<PAGE>

the cards are delivered to the vault, title to the cards transfers to the
government, the prime contractor is invoiced, and payment is due according to
normal trade payment terms. Revenue is recognized when the cards are shipped
from the vault, unless the Company receives a fixed schedule, notification, or
plan for shipments out of the vault, in which case revenue is recognized upon
the later of the receipt of such fixed shipment schedule or delivery of the
cards into the vault. During the second quarter of fiscal 2003, for the first
time, the Company received a fixed schedule for shipments out of the vault.
Therefore, revenue on all of the 2.17 million cards located in the vault was
recognized upon the receipt of such fixed shipment schedule. Had the Company not
received this fixed schedule, its revenue would have been based only on shipment
of cards out of the vault, as in the past, which would have reduced revenue by
approximately $6.9 million for the three months ended September 30, 2002. During
the third quarter of fiscal 2003, the Company received a fixed schedule for
shipments out of the vault for all cards ordered by the government through
August 2003 and not covered under the prior fixed schedule obtained in the
second quarter. Revenues recognized in the third quarter of fiscal 2003 for
cards delivered to the government-funded vault were pursuant to the fixed
schedule obtained during the third quarter. For cards delivered into the vault
after August 2003, the Company will continue to recognize revenues upon the
delivery of cards into the vault as long as it receives a fixed schedule,
notification, or plan for shipment of those cards out of the vault.

     ACCOUNTING FOR INCOME TAXES. As part of the process of preparing its
condensed consolidated financial statements, the Company is required to estimate
income taxes in each of the jurisdictions in which it operates. This process
involves estimating the actual current tax exposure together with assessing
temporary differences resulting from differing treatment of items, such as
deferred revenue, for tax and accounting purposes. These differences result in
deferred tax assets and liabilities, which are included within the consolidated
balance sheets. The Company must then assess the likelihood that the deferred
tax assets will be recovered from future taxable income and to the extent that
management believes recovery is not likely, the Company must establish a
valuation allowance. To the extent that a valuation allowance is established or
increased in a period, the Company must include an expense within the tax
provision in the statements of income to the extent such deferred tax assets
were previously recognized.

     Significant management judgment is required in determining the provision
for income taxes, deferred tax assets and liabilities, and any valuation
allowance recorded against the net deferred tax assets. The Company has recorded
a valuation allowance of $6 million as of December 31, 2002, due to
uncertainties related to the Company's ability to utilize some of the deferred
tax assets, arising primarily from certain net operating loss carryforwards,
before they expire. The valuation allowance is based on management's estimates
of taxable income by jurisdiction in which the Company operates and the period
over which the deferred tax assets will be recoverable. In the event that actual
results differ from these estimates or that these estimates are adjusted in
future periods, the Company may need to establish an additional valuation
allowance which could materially impact the Company's results of operations.

     INVENTORIES. The Company values its inventory at the lower of the actual
cost to purchase and/or manufacture the inventory or the current estimated
market value of the inventory. Management regularly reviews inventory quantities
on hand and records a provision for excess and obsolete inventory based
primarily on the estimated forecast of product demand. During the first nine
months of fiscal 2003, the Company wrote off $386,000 of obsolete and excess
parts. Demand for read/write drive products can fluctuate significantly. If the
Company is unable to produce and sell read/write drives in volumes and at prices
competitive with alternate technologies, its operating results could be
adversely affected. In order to obtain favorable pricing, purchases of
read/write drive parts are made in quantities that exceed the historical annual
sales rate. Therefore, based upon last year's sales quantity, the Company has
more than one-year's supply of read/write drive parts on hand. The Company
purchases read/write drive parts for its anticipated read/write drive demand and
takes into consideration the order-to-delivery lead times of vendors and the
economic purchase order quantity for such parts. Read/write drive parts and
finished goods inventory totaled $2.8 million at December 31, 2002 compared with
$3.1 million at March 31, 2002. As of December 31, 2002, finished goods
inventory contained approximately 700 read/write drives of the current design.
The Company could assemble approximately 925 read/write drives of a new design
with the current parts inventory and the purchase of about $350,000 of
additional parts. The Company believes there is a market for read/write drives
to support and expand optical card sales and, based on current proposals in
process, that the read/write drive inventory on hand at December 31, 2002 will
be ordered by customers. If these anticipated orders do not materialize, the
Company may need to write-down the value of its inventory for any potential
excess quantities. During fiscal 2002, the Company sold 450 read/write drives
and during the first three quarters of 2003 sold 158 read/write drives. The
Company believes that assembly and sales of approximately 475 read/write drives
per quarter would be necessary to achieve a gross profit on read/write drive
sales at current selling prices and costs based on current expense levels for


                                      -10-
<PAGE>

overhead costs. The Company believes that the read/write drive inventory as of
December 31, 2002 is reflected at its net realizable value. If lower cost
read/write drive designs become available from the Company before the existing
parts are utilized, a portion of this inventory may be deemed obsolete and would
then require an inventory write-down. However, it is anticipated that the
introduction of any new read/write drive would be timed to minimize this risk.
In addition, the Company is investing in research and engineering in an effort
to develop new optical card drive products.

RECENT ACCOUNTING PRONOUNCEMENTS

     In July 2002, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities" (SFAS No. 146). SFAS No. 146
addresses financial accounting and reporting for costs associated with exit or
disposal activities and nullifies Emerging Issues Task Force (EITF) Issue No.
94-3, "Liability Recognition for Certain Employee Termination Benefits and Other
Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)." SFAS No. 146 requires that a liability be recognized for those
costs only when the liability is incurred; that is, when it meets the definition
of a liability in the FASB's conceptual framework. SFAS No. 146 also establishes
fair value as the objective for initial measurement of liabilities related to
exit or disposal activities. SFAS No. 146 is effective for exit or disposal
activities that are initiated after December 31, 2002, with early application
encouraged. The Company is currently evaluating the provisions of SFAS No. 146
but does not believe that the adoption will have a material impact on its
results of operations, financial position, or cash flows.

     In November 2002, the FASB issued Interpretation Number 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others" (FIN 45). This interpretation elaborates
on the disclosures to be made by a guarantor in its interim and annual financial
statements about its obligations under certain guarantees that it has issued. It
also clarifies that a guarantor is required to recognize, at the inception of a
guarantee, a liability for the fair value of the obligation undertaken in
issuing the guarantee. The disclosure requirements of FIN 45 are effective for
interim and annual periods after December 15, 2002, which we have adopted for
our condensed consolidated financial statements included in this Form 10-Q
Report. The initial recognition and initial measurement requirements of FIN 45
are effective prospectively for guarantees issued or modified after December 31,
2002. The Company is currently reviewing the provisions of FIN 45, but does not
believe the adoption of the recognition and initial measurement requirements of
FIN 45 will have a material impact on its financial position, cash flows or
results of operations.

     In November 2002, the Emerging Issues Task Force (EITF) reached a consensus
on Issue No. 00-21, "Revenue Arrangements with Multiple Deliverables." EITF
Issue No. 00-21 provides guidance on how to account for arrangements that
involve the delivery or performance of multiple products, services and/or rights
to use assets. The provisions of EITF Issue No. 00-21 will apply to revenue
arrangements entered into in fiscal periods beginning after June 15, 2003. The
Company is currently evaluating the impact that adoption of EITF Issue No. 00-21
will have on its consolidated financial statements.

     In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure - an amendment of FASB Statement No.
123." SFAS No. 148 amends SFAS No. 123, "Accounting for Stock-Based
Compensation," to provide alternative methods of transition for a voluntary
change to the fair value based method of accounting for stock-based employee
compensation. In addition, SFAS No. 148 amends the disclosure requirements of
SFAS No. 123 to require prominent disclosures in both annual and interim
financial statements about the method of accounting for stock-based employee
compensation and the effect of the method used on reported results. The
disclosure requirements apply to all companies for fiscal years ending after
December 15, 2002. The interim disclosure provisions are effective for financial
reports containing financial statements for interim periods beginning after
December 15, 2002. The adoption of SFAS No. 148 is not expected to have a
material impact on the Company's consolidated financial statements.


                                      -11-
<PAGE>

RESULTS OF OPERATIONS--FISCAL 2003 THIRD QUARTER AND FIRST NINE MONTHS
COMPARED WITH FISCAL 2002 THIRD QUARTER AND FIRST NINE MONTHS

OVERVIEW

     The Company's principal LaserCard(R) optical memory card market today
involves high-security, counterfeit-resistant, tamper-resistant cards for
"digital governance," defined as the utilization of digital information
technology by a nation, state, region, municipality, agency, or institution.
Digital governance cards grant certain rights, privileges, or entitlements to
citizens, residents, or participants. Within this market, the Company's largest
customer for LaserCard products is the United States government, predominantly
as a result of two card programs--U.S. Immigration and Naturalization Service
(INS) "Green Card" Permanent Resident Cards and U.S. Department of State "Laser
Visa" Border Crossing Cards (BCCs), which the INS also refers to as the "new
biometric BCC, Form DST-150." Under the Company's current subcontract and
previous subcontracts to provide cards to the government, the Company has sold a
total of approximately 19.5 million optical memory cards as of December 31,
2002, for use as U.S. government Green Cards and border-security Laser Visa
BCCs. On March 1, 2003, the INS will become part of the new U.S. Department of
Homeland Security. The Company's second largest card customer is the government
of Canada, which has started issuing the Company's LaserCard as the new Canadian
Permanent Resident Card.

     Optical memory card digital governance programs that are emerging programs
or prospective applications in various countries include the new national ID
cards for Italy, Macedonia, and Saudi Arabia; motor vehicle registration cards
for two states of India; building construction permit cards and children's
healthcare cards in the People's Republic of China; a document card program in
Mexico; and the expanding need for enhanced U.S. border security. Since these
card programs typically rely on government policy-making, which in turn is
subject to technical requirements, budget approvals, and political
considerations, there is no assurance that these programs will be implemented as
visualized.

     In addition to using its own marketing staff, the Company utilizes
value-added reseller (VAR) companies and card distribution licensees for the
development of government and 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 read/write drives, 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. The
Company is continuing its efforts to recruit new VARs and card distribution
licensees and eliminate nonproductive VARs. The Company provides customer
technical support and system software to assist VARs and licensees.

REVENUES

     For the fiscal 2003 third quarter ended December 31, 2002, the Company's
total revenues were $5,365,000 compared with $7,030,000 for the comparable
prior-year quarter. Total revenues for the first nine months of fiscal 2003
increased 34%, to $21,446,000 from $15,987,000 for the comparable first nine
months of fiscal 2002.

     PRODUCT REVENUES. Sales of LaserCard optical memory cards and related
products were $4,490,000 for the third quarter and $20,571,000 for the nine
months ended December 31, 2002 versus $7,030,000 for the third quarter and
$14,911,000 for the nine months ended December 31, 2001. Optical memory cards
sold for U.S. government card programs (Green Cards, Laser Visa BCCs, and
Automated Manifest System cards, as described above) represented 78% of total
revenues for the full fiscal year 2002, 65% of revenues for the third quarter of
fiscal 2003, and 87% of revenues for the first nine months of fiscal 2003. Sales
of cards for the Canadian Permanent Resident Card program represented 16% of
revenues for the third quarter of fiscal 2003 and 7% of revenues for the first
nine months of fiscal 2003.

     The Company sold approximately 1.2 million LaserCard optical memory cards
in the third quarter of fiscal 2003 and approximately 6 million cards in the
first nine months of fiscal 2003 compared with approximately 2.1 million cards
in the third quarter of fiscal 2002 and approximately 4.4 million cards in the
first nine months of fiscal 2002. LaserCard revenues for the nine months ended
December 31, 2002 include 2.44 million U.S. government cards that are located in
a secure, government-funded vault on the Company's premises, that have not yet
been shipped to the customer but for


                                      -12-
<PAGE>

which the Company received fixed shipment schedules during the three months
ended September 30, 2002 and Decem-ber 31, 2002 for shipment of the cards out of
the vault.

     The Company sold 55 LaserCard read/write drives in the third quarter of
fiscal 2003 and 158 drives in the first nine months of fiscal 2003 compared with
52 drives in the third quarter of fiscal 2002 and 211 drives in the first nine
months of fiscal 2002.

     On October 4, 2002, the Company received a $177,000 order for 24 of its new
LaserCard Biometric Identity Verification Systems and related software and
biometric analysis tools for use in a test program for biometric ID border
crossing/tracking. The Space and Naval Warfare Systems Center in San Diego is
conducting the tests. These LaserCard identity verification systems are designed
to function with the more than 5 million Drexler-manufactured Laser Visa BCCs
issued by the INS and U.S. Department of State since 1998. The biometric
verification system can quickly confirm validity of the government-issued cards,
read and display digitally stored photographs and other digital data from the
cards, and biometrically verify the cardholders' live fingerprints with the
fingerprint templates stored on the cards at time of card issuance. The systems
were shipped during the third quarter of fiscal 2003; and in December 2002, the
U.S. government began the extensive testing of these 24 LaserCard Biometric ID
Verification Systems at six U.S. border entry points (including Los Angeles and
Atlanta airports) in connection with the Enhanced border Security and Visa Entry
Reform Act signed into law on May 14, 2002.

     Total sales during the first nine months ended December 31, 2002 included
U.S. Department of State Laser Visa BCCs for southwestern border security; INS
Green Cards; military cargo manifest cards and read/write drives for the U.S.
Department of Defense Automated Manifest System; cards for the Canadian
government's new Permanent Resident Card program; and optical card encoder
read/write drives for the Italian government's planned electronic national ID
card program. The Company sold approximately 6 million cards during the first
nine months of fiscal 2003. The Company has forecast that it will recognize
revenues on approximately 8 million cards of all types during the current fiscal
year. Card sales during the remainder of fiscal 2003 ending March 31, 2003 are
expected to include about 1 million cards on order for the U.S. government,
which will be booked as revenue when the Company has delivered the cards into
the vault, as the Company has received a fixed schedule for shipment of the
cards out of the vault (as discussed previously), and about 200,000 cards that
are on order for the Canadian Permanent Resident Card program. Therefore, to
achieve the 8 million card sales goal, the Company estimates that it will need
to receive additional orders in time to manufacture and ship approximately
800,000 cards during the fiscal 2003 fourth quarter. These bookings are forecast
to come primarily from anticipated orders for programs in Italy and Macedonia.
The Company will announce any such orders when they are received.

     LICENSE FEE REVENUES. Licensing revenue in the amount of $875,000 for the
fiscal 2003 third quarter and first nine months represents the unamortized
portion of a $1,000,000 nonrefundable distribution license fee received in 2000
from a licensee in Asia that had committed to purchase a minimum number of
optical memory cards for a program in the licensee's country. The Company
recorded this fee as deferred revenue and has been amortizing it as revenue in
proportion to the actual card purchases by the licensee. During the quarter
ended December 31, 2002, the Company determined that, due to the licensee's
failure to meet the minimum contractual purchase commitment, the licensee's
distribution rights had become unenforceable and that the licensee would no
longer be acting as the card supplier for that program. For the first nine
months of fiscal 2002, revenues from license fees were $1,076,000. This license
revenue included $956,000 recognized on digital sound patent licenses and
$119,000 earned on a license that allows a licensee in Italy to purchase parts
kits from the Company and assemble read/write drives from the parts kits.

BACKLOG

     As of December 31, 2002, the backlog for LaserCard optical memory cards
totaled approximately $6.3 million. Of this backlog, 67% is for U.S. government
Green Cards or Laser Visa BCCs under the Company's U.S. government subcontract
for supplying optical memory cards, and 33% is for the Canadian Permanent
Resident Card program described below. As of December 31, 2001, the backlog for
LaserCard optical memory cards totaled approximately $8.1 million, all under the
Company's U.S. government subcontract. As of December 31, 2001, the U.S.
government backlog consisted of approximately $3.8 million in firm card orders
under card supply contracts and approximately $4.3 million in cards produced and
delivered to the government-funded vault, while as of December 31, 2002, it
consisted entirely of firm card orders.

                                      -13-
<PAGE>

     Announced in June 2000, the Company's current U.S. government subcontract
for Green Cards and Laser Visa BCCs has an authorized maximum of $81 million for
up to 24 million cards, at an average selling price of about $3.23 per card,
over a period of up to five years. The subcontract was received by the Company
through a LaserCard VAR that is a U.S. government prime contractor, under a
competitively bid, government procurement contract. The subcontract states that
the U.S. government anticipates placing orders in units of at least one million
optical memory cards per order. The subcontract provides for an initial one-year
contract period and four additional one-year contract options. Under the
Company's current supply subcontract for up to 24 million optical memory cards,
the number of optical memory cards sold (and recorded as revenue) from September
2000 through December 2002 totaled approximately 10 million cards. In addition,
the Company has supplied 9.5 million optical memory cards to the U.S. government
since 1997 under previous subcontracts.

     The Company's current U.S. government subcontract for Green Cards and Laser
Visa BCCs requires delivery to a secure, government-funded vault built on
Company premises. Deliveries are made into the vault on a fixed schedule
specified by the prime contractor. At the time the cards are delivered to the
vault, title to the cards transfers to the government, the prime contractor is
invoiced, and payment is due according to normal trade payment terms. Through
June 30, 2002, revenue was recognized when the cards were shipped from the vault
because the Company had never received a fixed schedule, notification, or plan
for shipments out of the vault. During the second quarter of fiscal 2003, for
the first time, the Company received a fixed schedule for shipment of cards from
the vault to the customer. Therefore, revenue was recognized as these cards were
delivered into the vault.

     At December 31, 2002, the vault contained 2.4 million cards with a sales
value of $7.8 million. The $7.8 million in sales value was recorded as revenue
and the associated costs were recorded in cost of sales during the first nine
months of fiscal 2003 since the Company received a fixed schedule for shipments
out of the vault during this period. These 2.4 million cards are owned by the
U.S. government and are not included in inventory on the Company's consolidated
balance sheets. As of March 31, 2002, the vault contained 1.67 million cards
with a sales value of $5.3 million. As the Company had not then received a fixed
schedule for shipment of these cards out of the vault, their sales value had not
been recorded as revenue. Instead, the net of the revenue value of $5.34 million
and the $2.48 million cost was recorded as deferred gross profit in the amount
of $2.86 million on the condensed consolidated balance sheets as of March 31,
2002. These 1.67 million cards were owned by the U.S. government and were not
included in inventory on the Company's consolidated balance sheets as of March
31, 2002.

     Card backlog as of December 31, 2002 includes scheduled deliveries under
the following card orders:

     On July 26, 2002, the Company received an order valued at $1.8 million for
400,000 optical memory cards to be supplied to the Canadian government under a
subcontract under Canada's new Permanent Resident Card program. Orders to date
under this subcontract now total 750,000 cards. Deliveries on the initial order
received in February of this year commenced in June. The purchase orders specify
that deliveries of the 750,000 cards occur over an eleven-month period. About
281,000 cards have been delivered as of December 31, 2002, leaving a backlog of
approximately 469,000 cards. The subcontract provides for a minimum purchase of
2.3 million cards over the five-year term of the subcontract.

     On September 24, 2002, the Company received a $7.4 million order for 2.3
million U.S. government multi-biometric ID cards to be used as INS Green Cards
denoting permanent resident status or as U.S. Department of State Laser Visa
BCCs for southwestern border security. This was the seventh in a series of
LaserCard orders received under the Company's U.S. government subcontract,
discussed above. Including this order, a total of 11.3 million cards have been
ordered thus far under the subcontract, and 10 million cards have been sold and
recorded as revenue. The $7.4 million LaserCard order calls for deliveries
beginning in October 2002 at a rate slightly above $1 million per month for
seven months. Revenue will be recognized on this order when the cards are
delivered to the vault, as the Company has received a fixed schedule for
shipments for this order out of the vault.

GROSS PROFIT MARGIN

     Excluding license and royalty revenue, the gross margin on product sales
was 43% for the third quarter of fiscal 2003 and 47% for the first nine months
of fiscal 2003 compared with 47% for the third quarter of fiscal 2002 and 46%
for the first nine months of fiscal 2002.


                                      -14-
<PAGE>

     Historically, optical memory card gross margins have approximated 50%. As
discussed below, read/write drive gross margins are currently negative and will
remain below 10% for the foreseeable future. The decrease in gross margin for
the third quarter of fiscal 2003 compared with the third quarter of fiscal 2002
was mainly due to two factors: (1) there was a greater percentage of optical
memory card sales compared with total product sales in the third quarter of
fiscal 2002 than there was during the third quarter of fiscal 2003 and (2) there
were certain start-up expenses relating to the initial production of cards for
the Canadian program during the third quarter of fiscal 2003.

     OPTICAL MEMORY CARDS. The Company continues to depend on gross profit
generated from optical memory card sales. Gross profit on optical memory card
sales was approximately $2 million for the third quarter of fiscal 2003 and
$10.2 million for the first nine months of fiscal 2003 compared with
approximately $3.5 million for the third quarter of fiscal 2002 and $7.3 million
for the first nine months of fiscal 2002. The decrease in gross profit for the
third quarter of fiscal 2003 was mainly due to the decrease in the sales volume
of cards. The increase in gross profit for the first nine months of fiscal 2003
was mainly due to the higher sales volume of cards. Optical memory card gross
profit and margins can vary based on average selling price, sales and production
volume, mix of card types, production efficiency and yields, and changes in
fixed costs.

     READ/WRITE DRIVES. For the third quarter of fiscal 2003, gross profit on
read/write drive sales was a negative gross profit of about $120,000 compared
with a negative gross profit of $200,000 for the third quarter of fiscal 2002.
For the first nine months of fiscal 2003, gross profit on read/write drive sales
was a negative gross profit of $720,000 compared with a negative gross profit of
about $500,000 for the first nine months of fiscal 2002. The negative gross
profit is due to (1) the provision for inventory write-offs of $300,000 in the
first nine months of fiscal 2003 and $200,000 in the first nine months of fiscal
2002 and (2) fixed overhead costs which were expensed during the relevant
periods. Currently, in an effort to stimulate optical memory card sales, the
Company's priority is to increase the number of read/write drives in the
marketplace rather than maximizing per-unit gross profit on read/write drives.

     The Company believes that potential markets for read/write drives include
the U.S. Immigration and Naturalization Service, U.S. Department of State, the
U.S. armed forces, Canada, Italy, and several other countries. The Company
maintains an inventory of read/write drive parts and finished drives that it
believes is adequate to meet customer demand. However, an interruption in the
supply of read/write drive parts or difficulties encountered in read/write drive
assembly could cause a delay in deliveries of drives and optical memory cards
and a possible loss of sales, which would adversely affect the Company's
operating results.

INCOME AND EXPENSES

     SELLING, GENERAL, AND ADMINISTRATIVE EXPENSES (SG&A). SG&A expenses were
$1,566,000 for the third quarter of fiscal 2003 compared with $1,289,000 for the
third quarter of fiscal 2002. The increase of $277,000 for the third quarter of
fiscal 2003 compared with the third quarter of fiscal 2002 was due mainly to a
$100,000 increase in marketing and selling expenditures, mainly for increased
activities related to homeland security opportunities, a $73,000 increase in
insurance expense due mainly to an increase in rates, and a $48,000 increase in
legal and accounting fees. For the first nine months of fiscal 2003, SG&A
expenses were $4,574,000 compared with $3,653,000 for the first nine months of
fiscal 2002. The increase of $921,000 for the first nine months of fiscal 2003
compared with the first nine months of fiscal 2002 was due mainly to a $493,000
increase in marketing and selling expenditures, a $74,000 increase in insurance
expenses, and a $182,000 increase in legal and accounting fees. The Company
believes that SG&A expenses for fiscal 2003 will remain above fiscal 2002
levels, mainly due to increases in marketing expenses, increases in the cost of
insurance, and other general increases.

     RESEARCH AND ENGINEERING EXPENSES (R&E). The Company is continuing its
efforts to develop new optical memory card read/write drives and read-only
drives and software products in order to provide new products that can stimulate
optical memory card sales growth. The Company anticipates that these R&E efforts
will result in lower cost drives, customer-optimized drive systems, and drive
systems with advanced security features. R&E expenses were $653,000 for the
third quarter of fiscal 2003 compared with $894,000 for the comparable
prior-year period. For the first nine months of fiscal 2003, R&E expenses were
$2,171,000 compared with $2,253,000 for the first nine months of fiscal 2002.
The Company anticipates that R&E expenses for the remainder of fiscal 2003 will
be approximately the same as last year.


                                      -15-
<PAGE>

     OTHER INCOME AND EXPENSE. Total net other income for the third quarter of
fiscal 2003 was $96,000, consisting of interest income, compared with $88,000
for interest income in the third quarter of fiscal 2002. Total net other income
for the first nine months of fiscal 2003 consisted of $310,000 of interest
income compared with $299,000 of interest income for the first nine months of
fiscal 2002. The nominal increases for both periods reflect higher amounts
invested, partially offset by lower interest rates on invested funds.

     PRETAX PROFIT. Pretax profit for the third quarter of fiscal 2003 decreased
by $539,000, compared with last year's third quarter, mainly due to the $511,000
decrease in gross profit. Pretax profit for the first nine months of fiscal 2003
increased by $1,741,000, or 75% over last year's first nine months, mainly due
to the $2,569,000 increase in gross profit, partially offset by an $839,000
increase in operating expenses.

     INCOME TAXES. Results for the quarter ended December 31, 2002 included a
provision for income tax expense of $265,000 compared with an income tax BENEFIT
of $458,000 for the quarter ended December 31, 2001. Results for the nine months
ended December 31, 2002 included a provision for income tax EXPENSE of
$1,620,000 compared with an income tax BENEFIT of $1,901,000 for the nine months
ended December 31, 2001. The income tax benefits recorded in the fiscal 2002
periods resulted from a release of the valuation allowance which the Company had
previously established due to the uncertainty that its deferred tax assets would
be realized. As of March 31, 2002, the Company had recognized all prior federal
income tax benefits for income statement purposes, but still has substantial
benefits to reduce actual tax payments, as described below. As such, the Company
recorded income tax expense for the fiscal 2003 third quarter and first nine
months based on its estimated annual effective tax rate.

     The Company analyzes its deferred tax assets with regard to potential
realization. The Company has established a valuation allowance on a portion of
the deferred tax assets based upon the uncertainty of their realization. The
Company has considered estimated future taxable income and ongoing prudent and
feasible tax planning strategies in assessing the amount of the valuation
allowance. Any benefit from the reversal of the valuation allowance would be
recorded as a credit to stockholders' equity as such assets relate to net
operating loss carryforwards due to stock option exercises.

     The Company has recorded $7 million of deferred tax assets which the
Company anticipates will be available to offset future tax cash payments; the
Company has an additional $6 million of deferred tax assets not recognized
which, if and when realized, would also be available to offset future tax cash
payments.

LIQUIDITY AND CAPITAL RESOURCES

     As of December 31, 2002, the Company had cash, cash equivalents, and
short-term investments of $13,704,000, a current ratio of 6.1 to 1, and no
long-term debt.

     Net cash provided by operating activities was $102,000 for the first nine
months of fiscal 2003 compared with $2,415,000 provided by operating activities
for the first nine months of fiscal 2002. The major categories comprising cash
provided by operating activities are (in thousands):


                                      -16-
<PAGE>
<TABLE>
<CAPTION>
                                                                             Nine Months Ended
                                                                                December 31,
                                                                            2001         2002
                                                                            ----         ----
<S>                                                                       <C>          <C>
Earnings before taxes, depreciation, and amortization . . . . . . . . .   $ 3,461      $ 5,406
Provisions for doubtful accounts receivable, product return
   reserve, and excess and obsolete inventory, net  . . . . . . . . . .       244          398
Decrease in deferred gross profit . . . . . . . . . . . . . . . . . . .      (862)      (2,860)
Tax payments  . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      (124)          --
Decrease in accounts receivable . . . . . . . . . . . . . . . . . . . .       147          181
Increase in inventory . . . . . . . . . . . . . . . . . . . . . . . . .      (660)      (1,519)
Increase (decrease) in accounts payable and accrued liabilities . . . .      (407)         453
Increase (decrease) in advance payments from customers
   and deferred revenue . . . . . . . . . . . . . . . . . . . . . . . .       457       (1,702)
Other . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .       159         (255)
                                                                          -------      -------
                                                                          $ 2,415      $   102
                                                                          =======      =======
</TABLE>

     The Company believes that the estimated level of revenues, including an
expected increase in foreign business, over the next 12 months will be
sufficient to generate cash from operations. Operating cash flow could be
negatively impacted to a significant degree if the Company's largest U.S.
government programs were to be delayed, canceled, or not extended and not be
replaced by other card orders or other sources of income, or if increases in
product revenues or licenses do not keep pace with increased marketing and R&E
expenditures.

     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 on favorable terms or at all, if needed.

     As a result of the $2,431,000 of net income recorded for the first nine
months of fiscal 2003, the Company's accumulated deficit decreased to
$5,668,000. Stockholders' equity increased to $36,695,000 due to the net income
recorded and $1,927,000 in additions to equity in connection with sales of
common stock through the Company's stock-option and employee stock-purchase
plans.

     Net cash used for investing activities was $1,010,000 for the first nine
months of fiscal 2003 compared with $2,650,000 provided by investing activities
for the first nine months of fiscal 2002. These amounts include $696,000
provided from the net purchases and maturities of liquid investments for the
first nine months of fiscal 2003 and $1,486,000 used for this purpose during the
first nine months of fiscal 2002, purchases of property and equipment of
$1,436,000 for the first nine months of fiscal 2003 and $1,083,000 for the first
nine months of fiscal 2002, and increases in patents and other intangibles of
$270,000 for the first nine months of fiscal 2003 and $81,000 for the first nine
months of fiscal 2002.

     Cash, cash equivalents, short-term investments, and long-term investments
were $18,156,000 at December 31, 2002 as compared with $18,078,000 at March 31,
2002. The Company considers all highly liquid investments, consisting primarily
of commercial paper, taxable notes, and U.S. government agency notes, with
original maturities of three months or less when purchased, to be cash
equivalents. All investments with original maturities of more than three months
but not more than one year, are classified as short-term investments. Management
determines the appropriate classification of debt and equity securities at the
time of purchase and reevaluates the classification of investments as of each
balance sheet date. As of December 31, 2002, the Company had $4,737,000
classified as short-term investments, compared with $8,883,000 at March 31,
2002. All marketable securities were classified as held-to-maturity. Cash, cash
equivalents, and short-term investments were $13,704,000 at December 31, 2002
and $17,076,000 at March 31, 2002. Long-term investments, which have maturities
ranging from 1 to 2.5 years, were $4,452,000 at December 31, 2002 compared with
$1,002,000 at March 31, 2002. The Company determines the length of its
investments after considering its cash requirements and yields available for the
type of investment considered by the Company.


                                      -17-
<PAGE>

     For optical memory card production and support, the Company added capital
equipment and leasehold improvements of approximately $1,138,000 during the
first nine months of fiscal 2003 compared with $695,000 during the first nine
months of fiscal 2002. The Company's card production capacity is approximately
11 million cards per year, depending on card type, color-printing
specifications, and numerical serialization requirements, which is double the
actual card production of slightly more than 5 million cards for fiscal 2002 and
more than one and one-half times the 6.5 million card estimated production for
fiscal 2003. The Company plans to purchase additional production equipment as
optical memory card orders expand or are anticipated. In addition to investment
used for expansion, the Company expects to 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 $3
million per year for card production equipment and automatic inspection
equipment to support growth of optical memory card production.

     In connection with the manufacturing and design of read/write drives,
related systems and support, the Company added capital equipment and leasehold
improvements of approximately $315,000 during the first nine months of fiscal
2003 compared with $385,000 during the first nine months of fiscal 2002. The
Company expects that during fiscal 2003, it will make capital investments of
between $400,000 and $800,000 relating to read/write drives and systems.

     Net cash provided by financing activities was $1,682,000 for the first nine
months of fiscal 2003 compared with $2,911,000 for the first nine months of
fiscal 2002, consisting primarily of proceeds on sales of common stock through
the Company's stock-option and employee stock-purchase plans.

     During fiscal 2001, the Company commenced a share repurchase program under
which up to 200,000 shares of common stock could be purchased by the Company
from time to time in Nasdaq Stock Market transactions in an aggregate amount not
exceeding $3 million. During the fiscal 2002 first quarter, the Company used
$175,000 of cash for share repurchases. As of June 30, 2001, the Company had
completed this program.

     There were no debt financing activities for the first nine months of fiscal
2003 or 2002.

ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RATE RISKS

     INTEREST RATE RISK. There were no material changes during the third quarter
of fiscal 2003 to the Company's exposure to market risk for changes in interest
rates.

     FOREIGN CURRENCY EXCHANGE RATE RISK. There were no material changes during
the third quarter of fiscal 2003 to the Company's foreign currency exchange rate
risk.

ITEM 4.  CONTROLS AND PROCEDURES

     EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES. The Company's principal
executive officer and principal financial officer have evaluated the Company's
disclosure controls and procedures (as defined in Exchange Act Rules 13a-14(c)
and 15d-14(c)) within the 90 days prior to the filing of this Form 10-Q and have
determined that they are reasonable taking into account the totality of the
circumstances.

     CHANGES IN INTERNAL CONTROLS. There were no significant changes in the
Company's internal controls or in other factors that could significantly affect
these controls subsequent to the date of their evaluation, which was shortly
prior to the release of the Company's earnings statement for the period covered
by this Form 10-Q.


                                      -18-
<PAGE>

PART II.  OTHER INFORMATION

ITEM 5.   OTHER INFORMATION

     The Company's Audit Committee has approved certain non-audit services
provided or to be provided by PricewaterhouseCoopers LLP, the Company's
independent accountants. These services relate to consultation, advice, and
other services in connection with tax planning and compliance, SEC registration
statements and regulatory matters, and application of generally accepted
accounting principles.

ITEM 6.   EXHIBITS AND REPORTS ON FORM 8-K

     (a)  No 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)  Reports on Form 8-K

          On November 15, 2002, the Company filed a Report on Form 8-K, which
reported under Item 5, the issuance of a press release dated November 13, 2002,
entitled "Drexler Technology Comments on Tampa News Story Concerning Raymond
James Probe by SEC."

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:

<TABLE>
<CAPTION>

                            DREXLER TECHNOLOGY CORPORATION (Registrant)

<S>                         <C>
Date: January 31, 2003      /s/Jerome Drexler
                            ---------------------------------------------------------------
                            Jerome Drexler, Chairman of the Board of Directors
                            and Chief Executive Officer (Principal Executive Officer)

Date: January 31, 2003      /s/Steven G. Larson
                            ---------------------------------------------------------------
                            Steven G. Larson, Vice President of Finance and Treasurer
                            (Principal Financial Officer and Principal Accounting Officer)
</TABLE>

The certification statements by Registrant's chief executive officer and chief
financial officer relating to this Quarterly Report on Form 10-Q, as required by
section 906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. section 1350), have
been submitted to the Securities and Exchange Commission as additional
correspondence accompanying this report.


                                      -19-
<PAGE>

                                 CERTIFICATIONS
                                 --------------

     I, Jerome Drexler, certify that:

     1. I have reviewed this quarterly report on Form 10-Q of Drexler Technology
Corporation, a Delaware corporation;

     2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;

     3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;

     4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

        (a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;

        (b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and

        (c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;

     5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit committee
of registrant's board of directors (or persons performing the equivalent
function):

        (a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and

        (b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and

     6. The registrant's other certifying officer and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.

Date: January 31, 2003


By:         /s/Jerome Drexler
   ---------------------------------------
    Jerome Drexler, Chairman of the Board
        (Principal Executive Officer)


                                      -20-
<PAGE>

                                 CERTIFICATIONS
                                 --------------

     I, Steven G. Larson, certify that:

     1. I have reviewed this quarterly report on Form 10-Q of Drexler Technology
Corporation, a Delaware corporation;

     2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;

     3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;

     4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

        (a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;

        (b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and

        (c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;

     5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit committee
of registrant's board of directors (or persons performing the equivalent
function):

        (a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and

        (b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and

     6. The registrant's other certifying officer and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.

Date: January 31, 2003


By:                  /s/Steven G. Larson
   --------------------------------------------------------
    Steven G. Larson, Vice President Finance and Treasurer
                 (Principal Financial Officer)


                                      -21-