MICROLOG CORPORATION - CONNECTING PEOPLE TO A WORLD OF INFORMATION(TM)
     ----------------------------------------------------------------------

In today's  competitive  business  environment,  customer  satisfaction is every
company's bottom line. Microlog's interactive  communications and contact center
solutions  give our clients  powerful  tools to enhance  customer  service while
maintaining  competitive costs. Since 1977, we have helped clients in government
and private industry operate more efficiently and profitably.

Microlog  designs  and  supports  a robust  line of  interactive  communications
systems and applications  for customers  worldwide.  Interactive  communications
defines the myriad of ways users interact with information. Microlog's solutions
take  advantage  of new  technologies  that  provide  information  not  only  by
telephone but also through other media, including facsimile and the Internet.

Microlog's Intela(TM)  interactive voice response (IVR) platform is unparalleled
in the industry for  supporting  robust  features,  enabling  rapid  application
development,  and ensuring  reliable  performance.  Intela  supports call center
solutions  for customers  worldwide as well as  applications  for  corporations,
government agencies, and service bureaus.

With the  introduction of our uniQue(TM)  family of contact center  solutions in
1998,  Microlog is helping clients  revolutionize  the traditional "call center"
concept.  Tapping into the  pervasiveness  of the  Internet  and the  increasing
familiarity of web browsers,  uniQue changes the traditional rules of engagement
for contact center operations. The result? Fully enabled, completely interactive
customer contact centers that support virtually any inbound contact media.

The difference is dramatic.  With products like uniQue  Agent(TM),  the customer
has an  alternative  to the  frustration  of dial and wait.  Instead,  customers
interact in their most  preferred  mode of  communications.  And with  real-time
skills-based  contact  routing,  questions get answers quickly and  efficiently.
uniQue makes total customer care a competitive reality.

Old Dominion Systems  Incorporated of Maryland (ODSM), a subsidiary of Microlog,
provides technical performance analysis,  engineering services and consultation,
as  well  as  technical  and  administrative  support  services  to  prime  U.S.
government contractors.

Since 1995,  the Company has held ISO 9001  certification,  the highest level of
certification  from the International  Organization for  Standardization,  which
sets international standards for quality assurance and management.

Microlog   Corporation  is  headquartered  in  Germantown,   Maryland,   outside
Washington, DC. Its European headquarters is in Eindhoven, The Netherlands,  and
Microlog U.K. is located in Windsor, England.

A publicly held company since 1986, Microlog's stock trades on Nasdaq, under the
symbol MLOG.


                                       1
<PAGE>



                           LETTER TO THE SHAREHOLDERS
                           --------------------------

In my letter to  shareholders  last year, I stated  Microlog  would "leap to the
future in 1998." From a product  development  standpoint,  we were successful in
accomplishing this goal. But from a financial performance perspective,  1998 was
disappointing.  Old Dominion Systems Incorporated of Maryland (ODSM),  turned in
another solid year  highlighted  by a $7 million  contract  award with The Johns
Hopkins  University's  Applied  Physics  Laboratory  (APL).  However,  increased
competition and the declining rate of growth for stand-alone  interactive  voice
response (IVR) systems impacted the voice processing side of the business.

On a consolidated  basis,  our revenues  declined 17% to $26.5 million,  and the
Company  had a net  loss of $8.6  million,  which  includes  the  reversal  of a
deferred tax asset of $2.2 million.

IMPORTANT SALES

The IRS  awarded a contract  in excess of $3 million to  Microlog to upgrade all
Intela systems for Y2K compliance. This was an enormous project that the Company
delivered flawlessly; a fact that did not go unnoticed by the IRS. Microlog also
upgraded 28 IRS sites with an integrated Intela/Geotel interface,  allowing them
to  perform  intelligent  routing  of calls to other IRS  sites.  Intela  System
Release  6 (SR6),  which was  released  in April  1998  provided  the  features,
functionality,  and Y2K compliance required to win these awards and complete the
upgrades.

Internationally,  Microlog  successfully  installed our largest Intela system to
date, 1500 ports,  for KPN Telecom in The Netherlands.  In addition,  systems of
120 ports each were  purchased  by KPN's  Mobile  Group,  and KPN Orange,  a KPN
mobile service venture with Orange in Belgium. Microlog continued to upgrade our
Intela install base internationally as well, with Y2K compliant Intela software.
Global One has been actively upgrading over 1000 ports to Intela SR6.

On the  commercial  side,  Eckerd  Drug,  who  originally  bought the  Automated
Prescription  Refill System (APRS(TM)) for their stores in 1996,  purchased over
$3 million from Microlog during 1998.
 These follow-on sales confirm the benefits of APRS not only to Eckerd, but also
to their customers.

Microlog completed its first installation of The Automated  Collector(TM) system
in September. Based on the success of this installation,  subsequent orders have
been received.  New versions of The Automated  Collector are in development that
include features and functionality  that will further enhance the attractiveness
of the product in the collections industry.

LEAP TO THE FUTURE

As stated earlier, the market growth of IVR is slowing  significantly.  Microlog
acknowledged this trend in 1997, and began investing  significant time and money
in determining  the best  direction for the future of the Company.  Based on the
extensive analysis performed,  the Company's strategic direction shifted in 1998
to become  one of the  premier  companies  in the call  center  arena.  Microlog
believes this industry  leverages  the  Company's  current  strengths and offers
attractive  growth  opportunities.  Call  Centers  (or what we now term  Contact
Centers) is one of the fastest  growing  markets in the U.S.--  estimated  to be
over $12.1 billion by 2001. Growing even more rapidly is the United Kingdom (UK)
and several other European  countries,  but on a smaller base.  Recognizing this
growth and the  significant  revenue  potential it  represents,  Microlog  began
pursuing a number of prospects in the UK in late 1998.



                                       2

<PAGE>


As the first step in realizing our new direction,  Microlog began development of
uniQue(TM) (pronounced uni-queue), an open standards-based family of call center
solutions in early summer. uniQue was unveiled at the CT Expo & Demo show in New
York City on September 23, 1998.  Microlog's  bold leap to the future started to
come to fruition  when uniQue  received  CT's "Best of Show" award.  Since then,
uniQue has received  other awards  including  four  "Product of the Year" awards
from Computer Telephony Magazine, Call Center Solutions,  CTI Magazine, and Call
Center Magazine.

Intela,  our  Unix-based  interactive  communications  solution,  remains  a key
product for Microlog.  There are attractive  opportunities  to pursue in the IVR
market in the future. In addition,  Intela combined with uniQue provides a total
solution to those contact centers which have not yet purchased an IVR system.

LOOKING TOWARDS THE FUTURE

The initial  success of uniQue,  and the  validation  received  by partners  and
industry  experts,  as well as the  enthusiasm  shown by current  and  potential
customers  for this  product,  positions  Microlog to be a strong  player in the
contact  center  space for 1999 and  beyond.  However,  attaining  a  leadership
position will require continued  significant  investment and focus.  Recognizing
this, the Company  undertook a restructuring  of the IVR portion of the business
in February,  1999,  reducing  expenses and cutting staff by  approximately  one
third.  This move brings expenses in line with revenues from our major customers
and provides a way to fund uniQue development and marketing.  Operations are now
consolidated primarily into the Germantown,  MD facility,  with major reductions
in  manufacturing,  international  operations,  and IVR  expansion  business not
related to our major customers.

We want to thank our shareholders  and customers for their continued  confidence
in the Company. We also wish to recognize our distributors and business partners
for their support.  And finally, we thank our dedicated employees of whom we are
especially  proud.  It was a difficult  year,  but it's behind us.  Microlog has
termed 1999 as our "Year for Success." Together, we WILL make it happen!


                                       3

<PAGE>



     MICROLOG CORPORATION CHANGES STRATEGIC DIRECTION

Microlog  Corporation will offer  comprehensive,  open, and standards-based call
center  solutions as an expansion of its  existing  interactive  voice  response
business.  This action is in response to the needs of customers,  as well as the
need to expand the range of revenue-generating applications that the Company can
offer in the cross-industry interactive communications marketplace. Call centers
often  incorporate  interactive  voice response  applications,  and increasingly
include interactive web response applications, among other communications types,
as a means of augmenting and facilitating  the efforts of the traditional  human
call center  agents.  The trend among  customers to contact  businesses  by many
communications  media--phone,  web, e-mail, fax, hardcopy mail--while  requiring
the same types of transactions and queries, has transformed the traditional call
center  into a  customer  contact  center  and  strategic  information  hub  for
business.  Microlog is  establishing a framework for moving  existing  solutions
into the customer contact centers for these  businesses.  In addition,  Microlog
will make a phased  series of  product  and  market  moves over the next year to
properly position itself in the contact center market.

The Company based its decision to move  aggressively  into the customer  contact
market  space  upon  months  of  market  research   including  primary  customer
interviews,  secondary research,  competitive  analysis,  internal  capabilities
assessment,  and the observed  strong secular and economic trends which underpin
the growing needs of business  customers.  Looking just at the interactive voice
response  business,  the market is still growing at  approximately  10% compound
annual  growth  rate,  but this rate of growth is  decreasing  in the markets in
which Microlog sells. However, the cross-industry call center opportunity in the
U.S.  in 1998 was  estimated  to be around $5 billion,  growing  strongly at 20%
CAGR. The European  opportunity is smaller in absolute terms at $2 billion,  but
is growing even more rapidly at 48% CAGR.  Approximately  14% of the call center
opportunity  is  traditional  IVR. The remainder of this revenue  opportunity is
non-IVR,  and with the exception of the switch or ACD function,  which  Microlog
doesn't   and  will  not   supply,   requires   strongly   related   interactive
communications   skills,   channels,   and   technologies   that   Microlog  has
traditionally  possessed.  Within the  framework  described  here,  Microlog  is
therefore in a position to expand its market  opportunities beyond just IVR into
the other related offerings and services  necessary to a modern customer contact
center.  The framework is broken into  constituent  tenets,  listed below,  with
specific  implementation  milestones announced as appropriate over the period of
this statement of direction.

TENET 1: MULTIPLE MEDIA CONTACT DATA TYPES SUPPORTED

Market  research shows that most of the world's  networks have reported over the
last two years that data has overtaken voice in bandwidth share, comprising more
than 50% of the network  traffic,  even though voice traffic is still increasing
in an  absolute  sense.  People are  increasingly  comfortable  using  e-mail to
contact companies,  sometimes as an alternative to waiting in a telephone queue.
Interactive web response is a useful adjunct to IVR for those people so equipped
to browse the web,  and it provides a graphical  alternative  to the  voice-only
plain old telephone. People contact companies by faxing, and they sometimes even
write letters for delivery by the postal system. While voice will continue to be
an essential form of the contact types with which customer  contact centers will
deal,  it will  not be the  only  one.  Indeed,  in  order  to  achieve  maximum
efficiency,  modern  contact  centers  will need to deal with the same  types of
requests and transactions,  delivered by voice,  e-mail,  fax, web interactions,
and traditional  hardcopy.  Microlog's vision  accommodates these media types in
multiple  languages for voice support,  and for non-voice media types. The first
phase supports only the English language,  however, additional languages will be
added for the later phases based on business need.


                                       4

<PAGE>


TENET 2: SUPPORT FOR EXISTING PHONE SYSTEMS

Businesses  have  substantial  investments  in PBX systems and call center ACDs,
which currently work very well, and are likely to continue to serve  significant
business  needs well into the next  century.  Customers  have told us that it is
their  preference not to replace their existing  telephone  systems.  Therefore,
Microlog's strategy is to work openly with all major switch and ACD vendors in a
non-biased,  market-driven way to affect the integration of voice with the other
media  types  through  computer-telephony  integration  (CTI).  Microlog's  long
experience  with  switch  integration,  primarily  through  its work with  voice
messaging systems,  provides the skills background to accomplish this difficult,
and somewhat  esoteric work, in a quality  fashion - a need our customers  often
cite.

TENET 3: SUPPORT FOR EXISTING CTI SERVERS

Many customer contact centers have not only invested  significantly in switches,
but also in CTI servers. Businesses have stated that they are likewise unwilling
to accept a solution that requires them to replace their existing CTI server. It
is Microlog's  strategy to interface to, and  interoperate  with,  the major CTI
server  manufacturers   including  Dialogic's  CT  Connect  (through  Microlog's
existing IntelaCTI product), Genesys, and CallPath.

TENET 4: OPEN INTERFACE TO BACK-END DATA SYSTEMS

Microlog will continue its policy of integrating to existing  back-end  business
customer hosts and data systems through its systems integration operations group
within the Company.  Microlog's  first phase of  implementation  will  emphasize
web-accessible data found on corporate intranets.

TENET 5: OPEN INTERFACE TO EXISTING WORKFLOW OR CONTACT MANAGEMENT SOFTWARE

Many companies have re-engineered around workflow products or have chosen to use
specific  contact  management  tracking  software.  Microlog's  strategy  is  to
integrate  openly with any of the contact or workflow  management  packages  our
customers may specify.  Microlog will focus on  accomplishing  the  integrations
with highest demand first.

TENET 6: OPEN INTERFACE TO EXISTING IVR SERVER

Microlog  will prefer its own Intela IVR product,  but will publish  Application
Program Interface (API) specifications to allow other IVR companies to interface
to Microlog's  contact center  solutions.  This approach allows  Microlog's open
contact  center  solutions  to  integrate  smoothly  into call centers that have
another IVR product already installed.

TENET 7: STANDARDS-BASED DEVELOPMENT AND LICENSING

Where standards  exist--for  example,  e-mail and fax  standards--Microlog  will
integrate to current  industry  standards.  Our  customers  often have  existing
e-mail and/or fax servers, or they have a strong preference for certain types of
these  systems.  Microlog's  policy  will be to  integrate  openly  to  existing
de-facto industry standards in order to accommodate those customer desires.

TENET 8: OPEN CROSS-PLATFORM DEVELOPMENT


                                       5

<PAGE>


Microlog's strategic direction is to initially provide NT-based server functions
and multi-platform browser-based client functions for the contact center agents.
However,  development  on the  servers  will be  based  on the  C++  programming
language  and,  as much as  possible,  on Java for the  client  software  at the
agent's desk. The design methodology will be  object-oriented  and Corba will be
used for interprocess  communications.  In this way, server  portability to many
operating system  platforms,  such as Unix, is preserved as a near-term  option.
Client portability is assured by Java-enabled browsers on the agent desktop.

TENET 9: CROSS-INDUSTRY MARKETING

Microlog is  developing  its  contact  center  solutions  to address the general
cross-industry  opportunities.  However,  the  marketing  rollout  will focus on
Microlog's current government and commercial customers, as well as international
customers with  requirements  for English  support.  Expansion to other vertical
markets  will  occur as soon as  appropriate  channel  programs  and/or  product
enhancements will allow.

TENET 10: NETWORK COMPUTING

Because of  Microlog's  approach to the contact  center  desktop - a thin-client
design using Java and downloaded as a Java applet - any Java-enabled browser can
be "morphed" into a contact center agent's desktop  client.  This means that the
contact center can realize the  significant  reduction in costs  associated with
the network-computing model of operations. Whether the contact center chooses to
buy true  network  computers  (NCs)  or has  traditional  fat-client  Windows(R)
desktops, significant savings in administrative effort, hardware,  installation,
and long-term costs can be achieved by taking advantage of this computing model.
Microlog  supports  both  traditional  and NC computing  models while  providing
functional and cost advantages for both.

TENET 11: MICROLOG'S VALUE PROPOSITION

Currently,  there is no effective  means for contact  centers to manage multiple
media contacts and  interactions  with their  customers which also manage costs,
provide  consistent  quality of service,  and  maintain  control of the customer
contact.  Microlog's  strategic  direction  is to provide  turn-key  integration
solutions including reliable easy-to-use tools to enable Call Center Managers to
prioritize  and control the routing of customer  contacts,  independent of their
media.  This results in cost savings by optimizing  the most  expensive  asset a
call center has -- its people -- while improving its  responsiveness to its most
important asset -- its customers.

        INTRODUCING UNIQUE: CONTACT CENTER SOLUTIONS FOR THE NEXT CENTURY
        -----------------------------------------------------------------

Everyone  knows--you  only get one chance to make a first  impression.  But in a
busy  contact  center,  organizations  face the  challenge  of making  the right
impression thousands of times a day. In a matter of seconds, whether the contact
is made by phone, fax, e-mail, or other media, customers are judging a company's
ability to meet their needs.  Contact centers not only answer questions but also
create  the   customer   confidence   necessary   to  build   ongoing   business
relationships.  Mistakes and poor service  speak  volumes  about  organizational
efficiency, management effectiveness, product quality, and service performance.

Microlog understands these concerns,  and is bringing the power of technology to
the goal of total customer satisfaction.


                                       6

<PAGE>


Since 1977,  global clients have looked to Microlog for software  solutions that
turn the  customer  call  center  experience  into a  powerful  opportunity  for
companies to gain competitive  advantage.  Products like Intela(TM) for IVR have
established Microlog's reputation for excellence.

But  telephone-based  IVR systems are just one part of a total customer  contact
center  solution that is rapidly  changing to incorporate new forms of media and
new  expectations for support service  delivery.  Building on what it does best,
the  Company  introduced  uniQue  Agent in 1998,  the  first in a series of open
standards,  web-based  software  solutions  that  raises the bar in the  rapidly
growing customer contact center marketplace.

uniQue Agent gives  organizations the flexible  information  access they need to
deliver total customer  satisfaction  on every contact whether a contact is made
by  phone,  web,  e-mail,  fax,  postal  mail or  other  formats.  Contacts  are
prioritized,  routed and resolved by appropriately  skilled agents in a seamless
process  that  eliminates  mistakes,   minimizes  queuing  delays,  and  reduces
administrative clutter.

The uniQue  family also  expands  and adapts in  response  to changing  customer
requirements.   uniQue   software   logic   supports  an  unlimited   number  of
prioritization and routing  requirements,  while HTML and Java-based  technology
allows  system  administrators  down the hall or  around  the  world to  monitor
contact center performance,  expand agent networks, and even edit the content of
applications in use.

The uniQue family of contact center solutions is designed to build true customer
confidence  and loyalty by building on top of legacy  databases,  intranets  and
extranets.  As contacts are received,  uniQue  simultaneously  delivers existing
customer information,  including previous  transactions and preferences,  to the
agent's fingertips.

Integration with back office and workflow systems means uniQue is maximizing the
business  potential of every customer  contact,  gathering  information that can
lead to critical  management  decisions  in the  future.  uniQue  provides  this
capability  and more while  residing  on a Windows NT server and saves  money by
working  in  tandem  with  the   client's   installed   base  of  computer   and
communications hardware and software.

An interview with Howard Bubb  -

 "When customers have questions, they expect more than just having their calls
       answered in turn. Call centers are changing and Microlog is too."

Call  centers  are  becoming   customer  contact  centers,   or  at  least  more
customer-centric,  and Microlog is one of the companies  leading this  important
business process transformation,  according to Howard Bubb, President and CEO of
Dialogic,  Inc. Bubb should know.  His company is a key  technology  supplier to
Microlog.  In  fact,  Dialogic  hardware  is  found  in one out of  three  voice
processing  system  solutions at work today. So Bubb is more motivated than most
to see the industry's bigger picture.

Microlog's web-enabled, customer-centric approach maximizes the contact center's
productivity.  The strategy creates a far richer  interaction,  giving customers
the opportunity to make decisions,  solve problems, and retrieve information all
before speaking to a contact center agent. The approach also reduces the contact
center's  reliance on voice  telephony,  allowing  customers  to


                                       7

<PAGE>

choose  how they  communicate--whether  by  voice  recognition,  touch-tone  key
padding, fax, web form or e-mail.

"Web-enabled  is where  people  want to be," Bubb says.  Contact  centers can be
confining because agents lack the requisite skills or experience to really solve
customer  problems.  At the same time,  many companies lack the critical mass to
provide dedicated, state-of-the-art, contact center service.
The web makes a critical difference.

"Microlog's use of Java applets means that any computer in the  organization can
pull up the customer's record and interact in a very distributed and intelligent
manner."  This  Internet-based  access  allows  an  important  business  process
transformation  to take place.  The entire company  becomes the contact  center,
moving customer  interactions to the point in the organization  best equipped to
help. "The bigger opportunity is to deploy customer-centered thinking across the
organization,   better   matching   transaction   flows  to  on-going   business
activities,"  Bubb says. Adding that "this puts customers in touch with accurate
information, faster than ever before. "

An interview with Eric Arnum -

          "The Web gives messaging companies the opportunity to create
           exciting new business solutions by removing the boundaries
                between e-mail, fax, voicemail and other media."

"That's what makes Microlog's move to the Net so significant," according to Eric
Arnum,  editor of Electronic Mail & Messaging Systems. He says Microlog has made
a strategic decision to build its products around the Internet architecture, and
the  uniQue  customer  contact  center  solution  is just the  beginning.  "When
Microlog makes a product as modular as [uniQue],  it's able to link to virtually
any media," Arnum says. "There are many directions they can go."

For now,  Arnum sees  Microlog  poised to leverage its  experience  with contact
centers using not just its own products but those of other companies as well. By
designing  its  products  into a  series  of  modular  components,  the  Company
approaches  the market with  solutions  that will  provide  seamless,  web-based
access to messaging,  calendars, software applications,  office data, text files
and more.

"Voicemail,  fax and e-mail systems need not be separate,"  Arnum says.  "uniQue
allows you to treat all these messaging formats as digital objects. Anything you
can do with a Windows file you can do with a message.  Calling in for voicemail,
dialing in for e-mail or fax  forwarding are time  consuming,  to say the least.
Web browsers are a user  console  that will allow you to put  everything  on the
screen and operate with a mouse, no matter what type of message is involved."

By integrating its products with the web,  Microlog has created market access to
every browser in the world. And because customers  already  understand the basic
functionality of the web and web browsers, Microlog product functionality can be
added and used easily with little customer training.

The uniQue product and the Company's  technical  direction appear to be correct,
and its  growth  opportunities  are  extensive.  With the move to the  Internet,
Microlog is well positioned for the future.

An interview with Yves de Talhouet -


                                       8

<PAGE>

 "Systems integrators pick the best products and technology in the marketplace
            and fit them into complete solutions for their clients."

Sema Group,  the second largest  systems  integrator in Europe,  sees Microlog's
uniQue product  family as an important  part of its approach to satisfying  even
the most demanding customer contact center requirements.

"uniQue is a great product," says Yves de Talhouet.

Mr. de Talhouet heads up the Sema Group's  Networks and  Communications  Branch,
and says  "traditional call centers are undergoing an evolution to fully capable
customer  contact centers.  As this evolves,  the contact center must be able to
handle both telephone and  Internet-based  interactions in an equally  efficient
manner.  uniQue is an  important  element in  bridging  the gap  between the two
formats," he says.

"I think we will see a product like uniQue in every contact center," de Talhouet
says.  "E-mail  interaction is a top priority," he adds, noting that in the U.S.
over 50 percent of contact center traffic is now handled  electronically.  "This
is clearly an indication of how important  this type of  interaction  has become
and why every contact center will include the Internet as an access medium."

From a technology viewpoint,  Microlog has a multimedia router with the logic to
send voice calls to the appropriate  agent," de Talhouet says. "The same is true
for  e-mail  messages.  uniQue  looks  at  the  message  and  routes  it to  the
appropriate agent.  What's important is the software's ability to apply the same
logic to either telephone calls or Internet contacts."

uniQue's  flexible  approach means that contacts can be prioritized  and routed,
according to their content,  to the appropriate  person in the company,  whether
that is a hot line operator, help desk employee,  sales agent, technical support
representative or other  professional.  "uniQue brings out the synergies between
contact formats," de Talhouet says.

Microlog is helping its customers  turn the  traditional  voice  telephony-based
call center into a strategic  information  hub that better  suits the  demanding
pace of business today.

As industry  leaders like Howard  Bubb,  Eric Arnum,  and Yves de Talhouet  have
suggested,  Microlog's  uniQue family of solutions allows companies to transform
their customer contact operations with combinations  options that include voice,
e-mail,  facsimile,  web  forms  and  hardcopy  documents.  This  choice  allows
customers  to select the media with  which they are most  comfortable.  It makes
interaction  as familiar and easy to use as an Internet  browser and adds a high
degree of quality control,  regardless of the contact type selected.  Microlog's
product design  philosophy  capitalizes on existing  investments in hardware and
software. Microlog's open standards-based products work seamlessly with existing
PBX systems, phone switches, ACDs, and CTI servers. Microlog's value proposition
helps customers leverage their installed base of equipment,  reach new levels of
performance   through  integration  with  back-end  data  systems  and  workflow
processes,  and  with the  growing  popularity  of  network  computing,  provide
full-featured  customer contact center functionality to agents using thin client
network computers as well as traditional desktop PCs. uniQue routes customers to
the right information while cutting the administrative  costs of delivering high
caliber service.


                                       9

<PAGE>

The call center has become the customer  contact center.  With uniQue,  Microlog
now offers the total solution for meeting  today's most  demanding  expectations
for quality service,  cost savings and contact management.  As the Company looks
to the future,  Microlog is  confident  that its superior  reputation,  business
process  expertise,  and integrated and innovative turnkey solutions will propel
it into the forefront of this evolving marketplace.

Microlog Corporation

Consolidated Statements of Operations

(In thousands, except per share data)

<TABLE>
<CAPTION>
                                                                                      Year Ended October 31,
                                                                       1996                 1997                 1998
-----------------------------------------------------------------------------------------------------------------------
<S>                                                                  <C>                  <C>                  <C>     
Net sales:
    Products                                                         $ 11,459             $ 13,970             $  9,367
    Services                                                           14,248               17,798               17,090
        Total net sales                                                25,707               31,768               26,457
-----------------------------------------------------------------------------------------------------------------------
Costs and expenses:
    Cost of products                                                    5,190                7,203                8,688
    Cost of services                                                    9,918               12,238               11,855
    Selling, general and administrative                                 6,394                6,374                9,088
    Research and development                                            2,094                3,579                3,256
        Total costs and expenses                                       23,596               29,394               32,887
-----------------------------------------------------------------------------------------------------------------------
(Loss) income from operations                                           2,111                2,374               (6,430)
Investment income                                                          11                   29                   58
Interest expense                                                          (92)                (119)                 (56)
Other income (expense), net                                                44                  (53)                  86
-----------------------------------------------------------------------------------------------------------------------
(Loss) income before income taxes                                       2,074                2,231               (6,342)
(Provision) benefit for income taxes                                      639                1,501               (2,299)
-----------------------------------------------------------------------------------------------------------------------
Net (loss) income                                                    $  2,713             $  3,732             $ (8,641)
=======================================================================================================================
Net (loss) income per share:
        Basic                                                        $   0.67             $   0.89             $  (2.02)
        Diluted                                                      $   0.59             $   0.82             $  (2.02)
=======================================================================================================================
</TABLE>

See accompanying notes to consolidated financial statements.



                                       10

<PAGE>



Microlog Corporation

Consolidated Balance Sheets

(In thousands, except share and per share data)


<TABLE>
<CAPTION>

                                                                                   October 31,
--------------------------------------------------------------  ------------------- --------------------
                                                                        1997                      1998
<S>                                                               <C>                           <C>
Assets
Current assets:
   Cash and cash equivalents                                        $       3,980        $       2,340
   Receivables, net                                                         3,883                3,057
   Inventories, net                                                         1,921                  872
   Deferred tax asset                                                       1,200                   --
   Other current assets                                                       423                  534
--------------------------------------------------------------------------------------------------------
   Total current  assets                                                   11,407                6,803
Fixed assets, net                                                           3,734                1,353
Licenses, net                                                                 295                  181
Deferred tax asset                                                            950                   --
Other assets                                                                   61                  223
Goodwill, net                                                                 608                   --
--------------------------------------------------------------------------------------------------------
   Total assets                                                      $     17,055        $       8,560
========================================================================================================
Liabilities and Stockholders' Equity
Current liabilities:
   Current portion of long-term debt                                 $         61        $          68
   Accounts payable                                                         1,872                1,079
   Accrued compensation and related expenses                                1,808                2,082
   Deferred revenue                                                           695                  719
   Other accrued expenses                                                     300                  902
--------------------------------------------------------------------------------------------------------
   Total current liabilities                                                4,736                4,850
Long-term debt                                                                142                   74
Deferred officers' compensation                                               256                  249
Other liabilities                                                              33                   17
--------------------------------------------------------------------------------------------------------
   Total liabilities                                                        5,167                5,190
--------------------------------------------------------------------------------------------------------
Commitments and contingencies
Stockholders' equity:
   Serial preferred stock, $.01 par value,
      1,000,000 shares authorized, no shares issued and outstanding          --                    --
   Common stock, $.01 par value, 10,000,000 shares
      authorized, 4,889,205 and 4,872,753 shares issued and 4,287,335                                
      and 4,270,883 outstanding                                                49                   49
   Capital in excess of par value                                          16,294               16,417
   Treasury stock, at cost, 601,870 shares                                 (1,177)              (1,177)
   Accumulated deficit                                                     (3,278)             (11,919)
--------------------------------------------------------------------------------------------------------
   Total stockholders' equity                                              11,888                3,370
   Total liabilities and stockholders' equity                        $     17,055          $     8,560
========================================================================================================
</TABLE>

See accompanying notes to consolidated financial statements.


                                       11


<PAGE>


Microlog Corporation

Consolidated Statements of Changes in Stockholders' Equity

(In thousands)

<TABLE>
<CAPTION>
                                                                            Capital In
                                                          Common Stock      Excess of      Treasury Stock          Accumulated
                                                        Shares  Par Value   Par Value    Shares      Cost      Deficit        Total
----------------------------------------------------   --------   --------   --------   --------   --------    --------    --------

<S>                                                       <C>     <C>        <C>             <C>   <C>         <C>         <C>     
Balance as of October 31, 1995                            4,508   $     45   $ 15,015        602   $ (1,177)   $ (9,723)   $  4,160

  Exercise of common stock options                          219          2        306         --         --          --         308

  Issuance of common stock in
    conjunction with acquisition of
    Phonatic International B.V                               65          1        584         --         --          --         585

  Net income for the year ended
    October 31, 1996                                         --         --         --         --         --       2,713       2,713
----------------------------------------------------   --------   --------   --------   --------   --------    --------    --------

Balance as of October 31, 1996                            4,792         48     15,905        602     (1,177)     (7,010)      7,766

  Exercise of common stock options                           81          1        189         --         --          --         190

  Consulting expense funded through
    stock options granted                                    --         --        200         --         --          --         200

  Net income for the year ended
    October 31, 1997                                         --         --         --         --         --       3,732       3,732
----------------------------------------------------   --------   --------   --------   --------   --------    --------    --------

Balance as of October 31, 1997                            4,873         49     16,294        602     (1,177)     (3,278)     11,888

  Exercise of common stock options                           16         --         23         --         --          --          23

  Consulting expense funded through
    stock options granted                                    --         --        100         --         --          --         100

  Net loss for the year ended
    October 31, 1998                                         --         --         --         --         --      (8,641)     (8,641)
----------------------------------------------------   --------   --------   --------   --------   --------    --------    --------

Balance as of October 31, 1998                            4,889   $     49   $ 16,417        602   $ (1,177)   $(11,919)   $  3,370
====================================================   ========   ========   ========   ========   ========    ========    ========
</TABLE>

See accompanying notes to consolidated financial statements.


                                       12

<PAGE>



Microlog Corporation

Consolidated Statements of Cash Flows

(In thousands)
<TABLE>
<CAPTION>
                                                                            Year Ended October 31,
                                                                  1996               1997               1998
-----------------------------------------------------------------------------------------------------------------
<S>                                                             <C>                <C>                <C>      
Cash flows from operating activities:
     Net (loss) income                                          $ 2,713            $ 3,732            $ (8,641)
     Adjustments to reconcile net (loss) income to net
       cash (used in) provided by operating activities:
         Depreciation                                               633                839                 847
         Amortization of goodwill and licensing agreement           228                314                 722
         Loss (gain) on disposition of fixed assets                 (56)                84                  65
         Gain on sale of building and land                           --                 --                (290)
         Provision for sales returns and doubtful accounts           81                 49                  29
         Provision for inventory reserves                            --                 93               1,299
         Consulting expense funded through stock options
               granted                                               --                200                 100
           Changes in assets and liabilities:
             Receivables                                         (1,279)               328                 797
             Inventories                                           (781)               205                (250)
               Deferred tax asset                                  (650)            (1,500)              2,150
             Other assets                                            32               (174)               (273)
             Accounts payable                                      (425)               909                (793)
             Accrued compensation and related expenses             (229)               (67)                274
             Deferred revenue                                      (110)               110                (193)
             Deferred gain on sale of building and land              --                 --                 217
             Other accrued expenses and accrued liabilities        (213)              (265)                586
             Deferred officers' compensation                         (1)               (12)                 (7)
-----------------------------------------------------------------------------------------------------------------
     Net cash (used in) provided by operating activities            (57)             4,845              (3,361)
-----------------------------------------------------------------------------------------------------------------

Cash flows from investing activities:
     Purchases of fixed assets                                   (1,319)              (778)               (517)
     Proceeds from sale of fixed assets                              72                  7                  --
     Proceeds from sale of building and land                         --                 --               2,276
       Purchase of Phonatic International B.V.                     (111)                --                  --
-----------------------------------------------------------------------------------------------------------------

     Net cash provided by (used in) investing activities         (1,358)              (771)              1,759
-----------------------------------------------------------------------------------------------------------------

Cash flows from financing activities:
        Reduction in long-term debt                                 (45)               (55)                (61)
        Net borrowings under line-of-credit agreement             1,400             (1,400)                ---
      Exercise of common stock options                              308                190                  23
-----------------------------------------------------------------------------------------------------------------

     Net cash (used in) provided by financing activities          1,663             (1,265)                (38)
-----------------------------------------------------------------------------------------------------------------

Net (decrease) increase in cash and cash equivalents                248              2,809              (1,640)
Cash and cash equivalents at beginning of year                      923              1,171               3,980
-----------------------------------------------------------------------------------------------------------------

Cash and cash equivalents at end of year                        $ 1,171            $ 3,980              $2,340
=================================================================================================================
</TABLE>

See accompanying notes to consolidated financial statements.



                                       13

<PAGE>



Notes to Consolidated Financial Statements

Note 1: Basis of Presentation and Major Customers

The  accompanying  consolidated  financial  statements  include the  accounts of
Microlog  Corporation  and  its  wholly-owned  subsidiaries  (collectively,  the
Company). All intercompany transactions have been eliminated.

Microlog  Corporation  of Maryland,  and  Microlog  Europe,  both  subsidiaries,
design,  assemble,  market,  and service customized voice processing systems and
other communications  products. Old Dominion Systems Incorporated of Maryland, a
subsidiary,  is engaged  in  providing  performance  analysis  of certain  major
weapons  systems and related data processing  support to the Federal  Government
through prime contractors.

A summary of information  about the Company's  operations by business segment is
as follows (in thousands):

<TABLE>
<CAPTION>
                                                                            Year Ended October 31,
                                                                1996              1997              1998
------------------------------------------------------------------------------------------------------------
<S>                                                           <C>              <C>               <C>      
Net sales:
         Voice processing systems and other
            communications products and services              $  15,836        $  19,277         $  14,743
         Performance analysis and
            support services                                      9,871           12,491            11,714
------------------------------------------------------------------------------------------------------------
         Net sales                                            $  25,707        $  31,768         $  26,457
============================================================================================================

(Loss) income from operations:
         Voice processing systems and other
            communications products and services              $   1,131       $      829         $  (7,515)
         Performance analysis and
            support services                                        980            1,545             1,085
------------------------------------------------------------------------------------------------------------
         (Loss) income from operations                        $   2,111        $   2,374         $  (6,430)
============================================================================================================

Identifiable assets:
         Voice processing systems and other
            communications products and services              $  10,822         $ 14,333         $   8,163
         Performance analysis and
            support services                                        645              600               397
         Buildings for common use                                 2,246            2,122                --
------------------------------------------------------------------------------------------------------------
         Identifiable assets                                  $  13,713         $ 17,055         $   8,560
============================================================================================================

Capital expenditures:
         Voice processing systems and other
            communications products and services              $   1,537        $     772         $     509
         Performance analysis and
            support services                                         15                6                 8
         Buildings for common use                                    25               --                --
------------------------------------------------------------------------------------------------------------
         Capital expenditures                                 $   1,577         $    778         $     517
============================================================================================================

Depreciation expense:
         Voice processing systems and other
            communications products and services              $     501         $    704         $     734
         Performance analysis and
            support services                                          8               11                12
         Buildings for common use                                   124              124               101
------------------------------------------------------------------------------------------------------------
         Depreciation expense                                 $     633         $    839         $     847
============================================================================================================
</TABLE>

Approximately  37%,  31% and 30% of the  Company's  consolidated  net  sales for
fiscal  years 1996,  1997,  and 1998,  respectively,  involved the sale of voice
processing systems and other communications products and services to the Federal
Government.

Approximately  10%,  18% and 10% of the  Company's  consolidated  net  sales for
fiscal  years 1996,  1997,  and 1998  respectively,  involved  the sale of voice
processing  systems  and  other  communications  products  and  services  to one
customer in the pharmaceutical industry.

Approximately 6%, 9%, and 13% of the Company's consolidated net sales for fiscal
years 1996, 1997, and 1998, respectively,  involved the sale of voice processing
systems and other communications products and services to foreign countries.

                                       14

<PAGE>


Approximately  38%,  39%, and 44% of the  Company's  consolidated  net sales for
fiscal years 1996, 1997, and 1998,  respectively,  involved performance analysis
and support services  subcontracts  with prime  contractors to the U.S. Navy and
NASA. These contracts have been extended,  or have options to extend, to various
dates in fiscal years 1999 through 2001.

The Company  extends credit to its customers and billings are made in accordance
with contract terms.

Note 2: Summary of Accounting Policies

Use of Estimates

The preparation of the  consolidated  financial  statements,  in conformity with
generally accepted accounting principles,  requires management to make estimates
and  assumptions  that affect the reported  amounts of assets and liabilities on
the  consolidated  financial  statements and the reported amounts of revenue and
expenses  during the reporting  periods.  Actual results could differ from those
estimates and assumptions.  Due to the change in market strategy associated with
voice processing  technology,  certain uncertainties exist with the introduction
of new products and the Company's ability to continue as a going concern.  (Note
3).

Revenue Recognition

Sales of products and services are recognized at the time deliveries are made or
services are performed. When customers,  under terms of specific orders, request
that the Company  manufacture  and invoice  goods on a bill and hold basis,  the
Company recognizes revenue based on the completion of the manufacturing process,
acceptance  by the customer,  and passage of title to the  customer.  For fiscal
years 1996,  1997,  and 1998, the Company  recognized $0, $3.5 million,  and $0,
respectively, in sales under such bill and hold agreements.

Contract  revenues are  recognized on the  percentage  of  completion  basis for
fixed-price  contracts.  Revenues  are  recorded  to the extent  costs have been
incurred for cost-plus-fixed-fee  contracts, including a percentage of the fixed
fee computed in accordance with the contract  provisions.  Revenues for time and
materials contracts are recognized at negotiated hourly rates as incurred and as
materials  are  delivered.  Provisions  for losses on  contracts in progress are
provided  when,  in the  opinion of  management,  such  losses are  anticipated.
Certain contracts are subject to audit, possible adjustment,  or termination for
convenience  by the Federal  Government.  Contract  costs have been examined and
settled through fiscal year 1992.

Cash and Cash Equivalents

The Company  considers all liquid  investments with an original maturity of less
than  three  months to be cash  equivalents.  Cash  equivalents  consist of U.S.
treasury bills,  certificates of deposit, and repurchase agreements,  (which are
collateralized by securities issued or guaranteed by the U.S. Treasury).

Fair Value of Financial Instruments

The carrying amounts of cash, accounts receivable, accounts payable, and accrued
expenses approximate fair value because of the short maturity of these items.

The  carrying  amounts of debt  issued  pursuant  to the  Company's  bank credit
agreements   approximate   fair  value  because  the  interest  rates  on  these
instruments change with market interest rates.

Inventories

Inventories  are  stated  at the  lower  of  cost,  determined  on the  first-in
first-out method, or market.

Fixed Assets

Fixed assets are recorded at cost and depreciated on a  straight-line  basis for
financial reporting purposes and accelerated methods for income tax purposes.

Intangible Assets

Licenses are recorded at cost and amortized on a straight-line  basis over seven
years.  Accumulated  amortization  at October 31, 1997 and 1998 was $505,000 and
$619,000, respectively.

Goodwill  arising from the  acquisition  of  companies  is being  amortized on a
straight-line basis over six to seven years. Accumulated amortization at October
31, 1997 and 1998 was $882,000 and $1,490,000,  respectively. As a result of the
Company's periodic analysis of its goodwill recoverability, the goodwill balance
was fully written off during fiscal year 1998 (Note 4).


                                       15

<PAGE>



Costs incurred in basic research and development  are expensed as incurred.  The
Company  determined that the process of establishing  technological  feasibility
with  its new  products  is  completed  approximately  upon the  release  of the
products to its customers.  Accordingly, software development costs are expensed
as incurred.

Warranty Reserve

Normal  product  warranty for service and repairs is  generally  provided for 90
days to two years, subsequent to delivery. Based on experience,  the Company has
accrued expenses related to warranty obligations.

Stock-Based Compensation

The Company  accounts for  stock-based  compensation  using the intrinsic  value
method  prescribed in Accounting  Principles  Board Opinion No. 25 (APB No. 25),
"Accounting  for Stock Issued to Employees" and related  interpretations.  Under
APB No. 25,  compensation  cost is measured as the excess, if any, of the market
price of the Company's stock at the date of the grant over the exercise price of
the option granted.  Compensation cost for stock options,  if any, is recognized
ratably  over the vesting  period.  The Company  provides  additional  pro forma
disclosures as required under  Statement of Financial  Accounting  Standards No.
123 (SFAS No. 123), "Accounting for Stock-Based Compensation" (Note 11).

Transactions for which  non-employees are issued equity instruments for goods or
services  received are recorded by the Company  based upon the fair value of the
goods or services received or the fair value of the equity  instruments  issued,
whichever is more reliably measured.

Net (Loss) Income Per Share

In February 1997, the Financial  Accounting  Standards  Board (FASB) issued SFAS
No. 128,  "Earnings per Share." SFAS No. 128  simplifies  the earnings per share
(EPS)   computation  and  replaces  the  presentation  of  primary  EPS  with  a
presentation  of basic EPS. This  statement also requires dual  presentation  of
basic and diluted EPS on the face of the income  statement  for entities  with a
complex  capital  structure and requires a  reconciliation  of the numerator and
denominator  used for the basic and  diluted EPS  computations.  The Company has
implemented  SFAS No. 128 in fiscal 1998,  as required.  Accordingly,  all prior
period EPS data has been restated (Note 13).

Newly Issued Accounting Standards

In June  1997,  the FASB  issued  SFAS No.  130,  "Comprehensive  Income."  This
statement  requires  that  changes in the  amounts of certain  items,  including
foreign  currency  translation  adjustments  and  gains and  losses  on  certain
securities, be shown in the financial statements.  SFAS No. 130 does not require
a specific format for the financial statement in which  comprehensive  income is
reported,  but does  require  that an amount  representing  total  comprehensive
income be reported in that  statement.  SFAS No. 130 will be  effective  for the
Company's fiscal year 1999 and requires  reclassification  of earlier  financial
statements for comparative  purposes.  The Company believes the adoption of SFAS
No.  130  will  not  have  a  material  effect  on  the  consolidated  financial
statements.

Also, in June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of
an  Enterprise  and Related  Information."  This  statement  will change the way
public companies report  information  about segments of their business in annual
financial statements and requires them to report selected segment information in
their  quarterly  reports  issued to  stockholders.  SFAS No. 131 also  requires
entity-wide  disclosures about the products and services an entity provides, the
material countries in which it holds assets and reports revenues,  and its major
customers.  SFAS No. 131 will be effective for the  Company's  fiscal year 1999.
The  Company  believes  the  adoption  of SFAS No.  131 will not have a material
effect on the consolidated financial statements.

In October 1997, the Accounting  Standards  Executive  Committee  (AcSEC) issued
Statement of Position 97-2 (SoP 97-2),  "Software  Revenue  Recognition,"  which
supersedes SoP 91-1. This statement  provides guidance on when revenue should be
recognized  and in what  amounts for  licensing,  selling,  leasing or otherwise
marketing computer software. SoP 97-2 will be effective for the Company's fiscal
year  1999.  The  Company  does not expect  the  adoption  of SoP 97-2 to have a
material effect on the current operations. However, the effect of this statement
is uncertain as it relates to future products (Note 3).

In February 1998, the FASB issued SFAS No. 132,  "Employers'  Disclosures  About
Pensions and Other  Postretirement  Benefits." This statement  standardizes  the
disclosure  requirements for pensions and other  postretirement  benefits to the
extent practicable and requires additional information on changes in the benefit
obligations  and fair  values  of plan  assets  that will  facilitate  analysis.
Additionally,  SFAS No. 132 eliminates certain disclosures that are no longer as
useful as they were when SFAS No. 87, "Employers' Accounting for Pensions", SFAS
No. 88,  "Employers'  Accounting for  Settlements  and  Curtailments  of Defined
Benefit  Pension  Plans  and  for  Termination  Benefits",  and  SFAS  No.  106,
"Employers  Accounting  for  Postretirement  Benefits  Other than Pensions" were
issued.  SFAS No. 132 will be effective for the Company's  fiscal year 1999. The
Company believes the adoption of SFAS No. 132 will not have a material effect on
the consolidated financial statements.

In June  1998,  the  FASB  issued  SFAS  No.  133,  "Accounting  for  Derivative
Instruments and Hedging Activities." This statement requires companies to record
derivatives  on the  balance  sheet as assets or  liabilities,  measured at fair


                                       16

<PAGE>

value. Gains or losses resulting from changes in the values of those derivatives
would be accounted  for  depending on the use of the  derivative  and whether it
qualifies for hedge accounting. SFAS No. 133 will be effective for the Company's
fiscal year 2000.  The Company  believes  the  adoption of SFAS No. 133 will not
have a material effect on the consolidated financial statements.

The FASB, in its APB No. 25 Repairs and Maintenance  Project,  is in the process
of drafting an interpretation  that provides guidance on certain practice issues
related to APB No. 25. Although not yet in final form, the FASB anticipates that
the interpretation will become effective in September 1999 and should be applied
(on a prospective  basis) to  transactions  occurring  after  December 15, 1998.
Under the new  interpretation,  stock option plans under which options have been
repriced  subsequent  to December  15, 1998,  must be accounted  for as variable
plans.  Additionally,  the FASB has clarified the definition of "employee" to be
the common-law definition and, accordingly, options granted to outside directors
(non-employees)  are to be accounted  for under SFAS No. 123. If approved by the
FASB, options granted to the Company's Board of Directors will have to be valued
at fair market value and,  accordingly,  compensation  expense will be recorded.
The  Company  believes  that  this  will  not  have  a  material  effect  on the
consolidated financial statements.

Reclassifications

Certain   reclassifications  have  been  made  to  the  prior  year's  financial
statements in order to conform to the fiscal year 1998 presentation.

Note 3: Uncertainty of Future Operations

In fiscal year 1999,  the Company's  strategy for  addressing  the market trends
will be to move aggressively into the customer contact center market,  which was
a new  vertical  market for the Company in late fiscal year 1997 and fiscal year
1998. The Company will be focusing sales of its UNIX-based  Intela product,  the
Company's  principal  interactive   communications  system,  on  contact  center
applications.  The  Company  also will be  promoting  its newest  product  line,
uniQue(TM),  a family of open solutions for customer  contact center  management
that leverages the  effectiveness of unified queuing,  priority and skills-based
routing, and "zero administration" at the agent's desktop.

In February 1999, the Company  restructured its voice  processing  operations in
order to bring expenses in line with  forecasted  revenues.  In connection  with
this  restructuring,  the Company  reduced  its voice  processing  workforce  by
approximately  25%  and  wrote  off  equipment  associated  with  its  headcount
reductions. 

The Company will incur a restructuring  charge of approximately  $260,000 in the
second  quarter  of  fiscal  1999,  for  severance  and  benefits  costs for the
reduction of  approximately 25 employees in February 1999.  Temporary  employees
and contractors will also be reduced.  Included in the restructuring charge is a
write-off of assets of  approximately  $50,000  which  includes the write-off of
equipment   associated  with  headcount   reductions.   As  a  result  of  these
restructuring  activities,  the  Company  expects  to reduce  its  annual  voice
processing  operating  expenses,  in the form of reduced  salaries and wages, by
approximately $1.8 million.  The Company expects to complete most of the actions
associated  with the  restructuring  by the end of the second  quarter of fiscal
year 1999.

The  Company  expects  to also  decrease  expenses  as a result  of the  reduced
headcount  in  areas  such as  travel,  training  and  communications  expenses.
Additionally,  the Company is initiating a cost  reduction plan in areas such as
advertising,  recruiting, office and computer supplies, and professional fees to
further  reduce  voice  processing  operating  expenses.  As  a  result  of  the
restructuring  and cost reduction plan the Company expects to reduce total voice
processing  operating  expenses  by  approximately  $4.0  million  annually  and
approximately  $2.3 million for the  remainder of fiscal year 1999,  starting in
the second quarter of fiscal year 1999.

The Company is subject to the risk that its new strategy will not be successful.
The new strategy is dependent on market  acceptance  of the  Company's new focus
and new products,  ongoing research and development efforts and sales activities
over the near term.  In  addition,  the new  strategy is also  dependent  on the
Company's  ability to successfully  reduce costs.  The Company is subject to the
risk  that it will  not be  able to  obtain  and  maintain  the  necessary  debt
financing  it  requires to  implement  its new  strategy.  Failure to obtain and
maintain required financing would have a material adverse effect on the Company.
The  Company's   fiscal  year  1999  operating   budget   includes   significant
expenditures  relating to the development and marketing of its new product line,
uniQue and requires  the Company to utilize  debt  financing to maintain its new
strategy. The Company's anticipated cash flows from existing operations will not
generate  the  required  cash flows to  successfully  launch the  Company's  new
strategy.  If the Company is unable to obtain and  maintain the  necessary  debt
financing,  the  Company  will  not be able to  successfully  implement  its new
strategy  and it will be forced  to reduce  expenditures  in  addition  to those
associated  with the  restructuring  discussed  above in order to  continue as a
going  concern.  The  Company  is  subject to the risks that it may not make the
necessary  decisions  to  reduce  expenditures  in enough  time to avoid  severe
adverse  consequences.  In March 1999,  the Company has a  commitment  for a new
line-of-credit facility with a new financial institution (Note 9).

Upon closing of the $2.0 million  revolving  line-of-credit  facility with a new
financial institution as discussed above, the Company has estimated that it will
have adequate resources to sustain operations through at least March 2000, based
upon  management's  planned  expenditures  for fiscal year 1999.  The Company is
subject to the risks as to the ultimate  success of its research and development
efforts and sales  activities.  The Company is subject to the risks that it will
not be able to obtain and  maintain  adequate  financing  to  implement  its new
strategy.  Financing  activities  to  date  have  primarily  consisted  of  cash
generated from operating activities,  the sale of the building and land, and the
availability  of debt  financing.  The Company has  generated  operating  losses
resulting in an accumulated deficit of $11,919,000 at October 31, 1998.


                                       17
<PAGE>

Note 4: Microlog Europe

In  June  1996,  the  Company  acquired  Phonatic   International  B.V.  of  The
Netherlands.  The Company  changed the name of  Phonatic to Microlog  Europe,  a
wholly-owned   subsidiary  of  Microlog  Corporation  of  Maryland.  To  acquire
Phonatic,  the Company acquired assets of $152,000,  issued 65,000 shares of its
common  stock  valued  at  $584,000,  paid  $234,000  in  cash  to the  Phonatic
shareholders,  assumed $108,000 in liabilities,  and incurred  acquisition costs
totaling  approximately  $46,000.  The  acquisition  has been accounted for as a
purchase and,  therefore,  only activity  subsequent to the acquisition date has
been included in consolidated results. The excess of the purchase price over the
fair value of net assets  acquired  totaled  $775,000  and has been  recorded as
goodwill.

During fiscal year 1998, the Company  reevaluated  its  international  marketing
strategy and, as a result,  decided to terminate  three employees and intends to
relocate its office and the  remaining  employees.  As of October 31, 1998,  the
Company established reserves of $281,000  representing costs associated with the
termination  of  employees,   the  remaining  net  operating  lease   obligation
associated  with its  Netherlands  facility  and the  relocation  of its office.
Additionally,  the Company, based on current undiscounted cash flow projections,
evaluated the  recoverability  of its goodwill  balance and determined  that the
goodwill balance was impaired.  Accordingly, the Company wrote off the remaining
goodwill balance of $473,000 in October 1998.

In addition to a significant  reduction in its  international  voice  processing
operations  which  occurred  as a result of the  restructuring,  the  Company is
currently  evaluating  options for the transfer or sale of its existing Microlog
Europe interactive voice response  operations,  sales, and support activities to
organizations in similar lines of business. The Company is continuing to explore
uniQue opportunities in Europe through these organizations.

Note 5: Receivables

Receivables consist of the following (in thousands):
<TABLE>
<CAPTION>
                                                                           October 31,
                                                                 1997                      1998
--------------------------------------------------------------------------------------------------
<S>                                                           <C>                       <C>      
Billed accounts receivable                                    $   3,647                 $   2,932
Contract retention                                                   43                        23
Accumulated unbilled costs and fees                                 345                       246
--------------------------------------------------------------------------------------------------
                                                                  4,035                     3,201

Less: Allowance for doubtful accounts                              (152)                     (144)
--------------------------------------------------------------------------------------------------
                                                              $   3,883                 $   3,057
==================================================================================================
</TABLE>

Note 6:  Inventories

Inventories consist of the following (in thousands):
<TABLE>
<CAPTION>
                                                                          October 31,
                                                                1997                       1998
--------------------------------------------------------------------------------------------------
<S>                                                           <C>                       <C>      
Components                                                    $   1,475                 $   1,357
Work-in-process and finished goods                                  791                     1,159
--------------------------------------------------------------------------------------------------
                                                                  2,266                     2,516

Less: Reserve for obsolescence                                     (345)                   (1,644)
--------------------------------------------------------------------------------------------------
                                                              $   1,921                 $     872
==================================================================================================
</TABLE>

During fiscal year 1998, the Company  increased its reserve for  obsolescence by
$1,299,000.  The increase is related to inventory for certain  product lines for
which  there has been a  significant  decline in gross  margins  and demand and,
therefore, future sales are doubtful.

Note 7: Fixed Assets

Fixed assets consist of the following (in thousands):

<TABLE>
<CAPTION>
                                                                         October 31,
                                                                 1997                     1998
--------------------------------------------------------------------------------------------------
<S>                                                           <C>                      <C>       
Building                                                      $   2,511                $       --
Land                                                                520                        --
Office furniture and equipment                                    3,451                     3,700
Vehicles                                                             24                        24
Leasehold improvements                                              176                       171
--------------------------------------------------------------------------------------------------
                                                                  6,682                     3,895

Less:  Accumulated depreciation                                  (2,948)                   (2,542)
--------------------------------------------------------------------------------------------------
                                                              $   3,734                 $   1,353
==================================================================================================
</TABLE>

                                       18
<PAGE>



Estimated useful lives are as follows:
     Building:                                                          30 years
     Office furniture, equipment and vehicles:                         2-7 years
     Leasehold improvements:                               Shorter of  estimated
                                                       useful life or lease term

In August 1998,  under a sale-leaseback  agreement,  the Company sold its office
building  and land with a net book  value of  $1,986,000  for  $2,420,000,  less
selling  costs of  $144,000.  The gain of $290,000 is being  amortized  over the
anticipated  term of the lease,  which is expected to terminate on or about June
1999. At October 31, 1998, the deferred gain is $217,000 (Note 10).


Note 8: Accrued Expenses

Accrued   compensation  and  related  expenses  consist  of  the  following  (in
thousands):

<TABLE>
<CAPTION>
                                                                           October 31,
                                                                 1997                      1998
--------------------------------------------------------------------------------------------------
<S>                                                            <C>                      <C>      
Accrued wages                                                  $    630                 $   1,016
Accrued vacation and personal leave                                 686                       693
Other related expenses                                              492                       373
--------------------------------------------------------------------------------------------------
                                                               $  1,808                 $   2,082
==================================================================================================
</TABLE>

Other accrued expenses consist of the following (in thousands):

<TABLE>
<CAPTION>
                                                                           October 31,
                                                                 1997                       1998
--------------------------------------------------------------------------------------------------
<S>                                                             <C>                       <C>    
Accrued marketing, travel and other expenses                    $   300                   $   689
Accrued legal and consulting expenses                                --                       213
--------------------------------------------------------------------------------------------------
                                                                $   300                   $   902
==================================================================================================
</TABLE>

Note 9:  Debt

In January 1999, the Company learned that its  line-of-credit  facility will not
be renewed by its financial institution under the same terms and conditions.  As
discussed in Note 3, the Company's  fiscal year 1999 operating  budget  includes
significant  expenditures  relating  to the  development  and  marketing  of the
Company's  new product  line,  uniQue and  requires  the Company to utilize debt
financing to maintain its new  strategy.  If the Company is unable to obtain and
maintain adequate  financing,  the Company will not be able to implement its new
strategy  and  will be  forced  to  reduce  expenditures  in  addition  to those
associated with the restructuring,  discussed in Note 3, in order to continue as
a going  concern.  The  Company  is subject to the risk that it may not make the
necessary decision to reduce expenditures in enough time to avoid severe adverse
consequences. On February 28,1999, the line-of-credit expired.

In  February  1999,  the Company and its  financial  institution  put in place a
$750,000 line-of-credit  facility,  which allows the Company to borrow up to 75%
of the eligible  receivables of Old Dominion Systems Inc. of Maryland.  The line
of credit bears interest at the bank's prime rate plus 1.25% (9% at February 11,
1999) and is payable upon demand.  At March 17, 1999,  $500,000 was  outstanding
against  this  line-of-credit.  This credit  facility  will be  terminated  upon
closing  of the $2.0  million  revolving  line-of-credit  facility  with the new
financial institution discussed below.

The  Company  has a  commitment  for a  $2.0  million  revolving  line-of-credit
facility with a new financial institution, which allows the Company to borrow up
to 75% of its eligible  receivables to a maximum of  $2,000,000,  subject to the
right of the financial institution to make loans at its discretion.  The Company
expects  to  close  on  this  loan  facility  by the  end of  March,  1999.  The
line-of-credit  bears  interest at the bank's  prime rate plus 2.25%  (10.00% at
March 17, 1999),  and contains a 0.025% fee on the average unused portion of the
line as well as a monthly  collateral fee and a 1% upfront  commitment  fee. The
term of the loan is one year, and subjects the Company to a restrictive covenant
of not  exceeding  115% of its  consolidated  planned  quarterly  losses for its
second  and  third  quarters  of  fiscal  year  1999,  and  a  requirement   for
consolidated  profitability beginning in the fourth quarter of fiscal year 1999.
The line  also  subjects  the  Company  to a  number  of  restrictive  covenants
including  restrictions on mergers or  acquisitions,  payment of dividends,  and
certain restrictions on additional  borrowings.  The line will be secured by all
of the Company's  assets.


                                       19

<PAGE>



In February 1998, the Company renewed its line-of-credit facility with its bank,
which  allows the Company to borrow up to 70% of its eligible  receivables  to a
maximum of  $2,000,000.  The  line-of-credit  bears interest at the bank's prime
rate plus 1.25% (9.00% at October 31, 1998),  and contains a 0.5% commitment fee
on the average unused portion of the line. The line expires on February 28, 1999
and  subjects  the  Company to a number of  restrictive  covenants,  including a
requirement  to maintain a minimum  consolidated  tangible net worth,  a maximum
ratio of total  liabilities to tangible net worth,  and a minimum current ratio.
There are  restrictions on mergers or  acquisitions,  payment of dividends,  and
certain restrictions on additional borrowings. The line is secured by all of the
Company's  tangible  assets.  At  October  31,  1998,  the  Company  was  not in
compliance with the covenants for a minimum consolidated  tangible net worth and
the maximum ratio of total  liabilities  to tangible net worth.  The bank waived
these covenants at October 31, 1998 and through  January 30, 1999.  There was no
outstanding  debt against this  line-of-credit  at October 31, 1998.  At January
31,1999,  the Company was again not in compliance with the covenants for which a
waiver has not been obtained.

In February  1998, the Company also renewed its  $1,000,000  loan facility.  The
loan  facility  bears  interest  at the bank's  prime  rate plus 0.5%  (8.25% at
October 31,  1998),  and contains a 0.5%  commitment  fee on the average  unused
portion.  At October 31, 1998,  there was no outstanding  debt against this loan
facility.  The loan facility was secured by the Company's principal headquarters
building.  In August 1998,  this loan facility was terminated as a result of the
sale of the Company's office building (Note 7).

In June 1996,  the Company  entered into a contract to purchase a new management
information  system  including  a  five-year  maintenance  plan.  The  purchase,
including maintenance,  is being financed by the vendor over a five-year term at
an annual  interest rate of 8%. The financing terms require five annual payments
of $140,000 each, including interest, which began on June 30, 1996. Three annual
payments have been made to date. The final payment is due on June 30, 2000.


Note 10: Commitments and Contingencies

Compensation Arrangements

In  February  1988,   the  Company   entered  into   non-contributory   deferred
compensation  contracts (the Contracts) with three officers.  Under the terms of
the  Contracts,  (i) the  Company's  total  annual  contributions  for the three
officers  was limited to $72,000,  (ii)  contributions  ceased at the earlier of
January 31, 1993 or the officer's retirement and (iii) accumulated contributions
accrue interest at the prime rate through the officer's  retirement.  Subsequent
to retirement  and at the officer's  option,  the officer is eligible to receive
his deferred  compensation  balance in either  monthly  payments  over a 10-year
period or one lump-sum payment.  Two individuals retired in May 1991 and January
1998 and elected to receive their deferred  compensation balances over a 10-year
period.  The  company has  incurred  interest  expense of  $10,000,  $25,000 and
$27,000 in fiscal years 1996, 1997, and 1998, respectively.

The Company is a party to employment agreements,  expiring in 1999, with several
of its executive  officers.  In the event that these individuals are terminated,
they would be entitled to receive lump sum or monthly  payments which  aggregate
approximately $380,000.

Operating Lease Obligations

In May 1998, the Company entered into a 15 year lease commitment,  commencing on
or about June 1999,  for office  space  intended to  consolidate  the  Company's
headquarters,  warehouse,  and training facilities.  Total rental payments under
this lease  agreement are  approximately  $10,600,000  over the lease term.  The
Company  and  its  new  landlord  are in the  process  of  discussing  potential
alternatives concerning the new facility. At this time management cannot predict
the potential outcome of these discussions. In August 1998, the Company sold its
office building and committed to lease back the building prior to its occupation
of the new leased space (Note 7).

Additionally,  the Company leases certain facilities and other equipment through
noncancellable  operating  leases,  which expire in various  years through 2014.
Minimum future noncancellable operating lease payments, assumes that the Company
will occupy the new  facility,  discussed  above,  as of October 31, 1998 are as
follows (in thousands):

<TABLE>
<CAPTION>
         Year Ending October 31,      Gross            Sublease           Net
         ------------------------------------------------------------------------------
<S>                                <C>                 <C>                   <C>      
            1999                   $     807           $  (159)              $     648
            2000                         624                --                     624
            2001                         632                --                     632
            2002                         631                --                     631
            2003                         641                --                     641
            Thereafter                 7,979                --                   7,979
         ------------------------------------------------------------------------------
            Total                  $  11,314           $  (159)              $  11,155
         ==============================================================================
</TABLE>


                                       20

<PAGE>

Rent expense under  noncancellable  operating  lease  agreements in fiscal years
1996, 1997, and 1998 was approximately $275,000,  $299,000, and $389,000 (net of
sublease income of $278,000, $278,000, and $281,000), respectively.

Legal

The  Company  is  subject  to  litigation  from  time to time  arising  from its
operations and receives  occasional  letters  alleging  infringement  of patents
owned by third parties.  Management believes that such litigation and claims are
without  merit and will not have a material  effect on the  Company's  financial
position or results of operations.

Royalties

The Company is committed to pay annual license maintenance fees of $120,000 to a
certain party under certain call processing  patents,  which expire in 2007. The
Company will receive a credit against future license  maintenance  fees equal to
12% of the purchase price paid for products purchased from the certain party.

Note 11: Stock Option Plans

The Company has two  incentive  stock option  plans.  Under the first plan,  the
Company may grant  options to Directors  and employees to purchase up to 750,000
shares of common  stock at not less than fair market value at the time of grant.
Under the second plan, the Company may grant options to employees to purchase up
to  1,000,000  shares of common  stock at not less than fair market value at the
time of grant.  Additional  information  with  respect to both of the  incentive
stock option plans is summarized in the following table:

<TABLE>
<CAPTION>
                                              Number               Weighted Average
                                            of Shares               Exercise Price
------------------------------------------------------------------------------------
<S>                                          <C>                    <C>     
Shares under option, October 31, 1995         909,532                $   2.68
Options granted                               253,875                    5.73
Options canceled                             (104,279)                   3.25
Options exercised                            (194,114)                   1.38
------------------------------------------------------------------------------------
Shares under option, October 31, 1996         865,014                    3.79
Options granted                               300,000                    5.75
Options canceled                              (75,344)                   5.09
Options exercised                             (80,749)                   2.35
------------------------------------------------------------------------------------
Shares under option, October 31, 1997       1,008,921                    4.39
Options granted                             1,122,400                    1.83
Options canceled                           (1,159,875)                   4.26
Options exercised                             (16,452)                   1.45
------------------------------------------------------------------------------------
Shares under option, October 31, 1998         954,994                $   1.59
====================================================================================
</TABLE>

Due to the decline in the market value of the Company's  common stock, the Board
of  Directors  authorized  the  Company  to  reprice  stock  options  granted to
employees and officers  with exercise  prices in excess of the fair market value
on August 14, 1998.  Stock  options held by optionees  other than  directors and
non-employees,  which were granted under the incentive stock plans and which had
an exercise  price  greater  than $1.75 per share,  were amended to reduce their
exercise price to $1.63 per share,  which was the closing price of the Company's
common stock on August 14, 1998.  The stock  options that were repriced have the
same terms as the  original  options to which  they  relate.  A total of 907,150
options with a weighted  average  exercise  price of $5.01 were repriced and are
included in options canceled and granted for fiscal year 1998.

Options  granted  under the plans vest at  various  dates  from  immediately  to
ratably  over five years and  expire  ten years from the date of grant.  Certain
options contain possible  accelerated  vesting clauses should specific financial
measures be met. As of October 31, 1998,  options  available  for granting  were
282,200. Subsequent to October 31, 1998, the Company issued options to employees
to purchase 146,100 shares at an exercise price of $0.94.

Additionally,  the Company maintains a non-employee  Director stock option plan.
Under this plan, the Company may grant up to 125,000 shares at not less than the
fair market  value at the time of grant.  Subsequent  to October 31,  1998,  the
Company  increased  the  number  of  authorized  shares to  250,000.  Additional
information is as follows:

<TABLE>
<CAPTION>
                                               Number             Weighted Average
                                             of Shares             Exercise Price
------------------------------------------------------------------------------------
<S>                                           <C>                        <C> 
Shares under option, October 31, 1995          61,000                $   2.64
Options granted                                 6,000                    5.50
Options exercised                             (23,000)                   1.52
------------------------------------------------------------------------------------
Shares under option, October 31, 1996          44,000                    3.61
Options granted                                 6,000                    5.63
------------------------------------------------------------------------------------
Shares under option, October 31, 1997          50,000                    3.85
Options granted                                22,000                    6.13
------------------------------------------------------------------------------------
Shares under option, October 31, 1998          72,000                $   4.55
====================================================================================
</TABLE>

                                       21
<PAGE>

Options  granted under the plan vest  immediately  and expire ten years from the
date of grant.  As of October 31, 1998,  options  available  for  granting  were
30,000.

The Company also issued stock options to non-employee consultants outside of the
above  plans.  These shares may be granted at such times and under such terms as
the Board of Directors determines. Additional information is as follows:

<TABLE>
<CAPTION>
                                               Number               Weighted Average
                                             of Shares               Exercise Price
-------------------------------------------------------------------------------------
<S>                                           <C>                    <C>     
Shares under option, October 31, 1995          48,000                $   1.25
Options granted                                 5,000                    8.38
Options exercised                              (2,000)                   2.13
-------------------------------------------------------------------------------------

Shares under option, October 31, 1996          51,000                    1.91
Options granted                               205,000                    5.00
Options canceled                              (16,000)                   4.10
-------------------------------------------------------------------------------------

Shares under option, October 31, 1997         240,000                    4.40
Options granted                                21,000                    1.84
-------------------------------------------------------------------------------------

Shares under option, October 31, 1998         261,000                $   4.20
=====================================================================================
</TABLE>

Generally,  options vest upon the  achievement of certain events and expire from
two to five years from the date of grant.

In fiscal year 1997,  the Company  entered into a consulting  agreement with The
Parthenon  Group,  Inc.  ("Parthenon"),  a strategic  marketing  and  consulting
organization. The Company granted Parthenon non-statutory options to purchase up
to 195,000  shares of the common stock of the Company at an exercise price of $5
per share.  Options to purchase  40,000 shares became  exercisable  in the third
quarter  of fiscal  year  1997 upon  Parthenon's  commencement  of work.  Future
options become exercisable based upon the achievement of certain average closing
prices of the Company's common stock on the Nasdaq National Market.  The expense
associated with these options of $300,000 has been recorded over the term of the
engagement.  The Company recorded $200,000 and $100,000 as consulting expense in
fiscal years 1997 and 1998, respectively.

Subsequent  to October 31,  1998,  the Company  issued  options to  non-employee
consultants  to  purchase  52,000  shares  at an  exercise  price of  $0.94.  In
addition, the Company entered into a second consulting agreement with Parthenon.
Under the terms of this second consulting  agreement,  the Company has agreed to
reprice  options  granted in fiscal year 1997 to purchase  195,000 shares of the
common  stock  of  the  Company  at  an  exercise  price  of  $0.94  per  share.
Additionally,  the  vesting  terms have been  revised  and  options to  purchase
145,000 shares of the common stock of the Company became exercisable on the date
they were  repriced.  The  remaining  options to purchase  50,000  shares of the
common stock of the Company become exercisable once a target associated with the
uniQue(TM)  product line is met. The expense  associated  with the  repricing of
these options of $75,000 will be recorded over the term of the engagement, which
is expected to commence in fiscal year 1999.

The Company also  reserved  50,000  shares for issuance  outside  these plans as
stock options or stock bonuses to key employees.  These shares may be granted at
such times and under such terms as the Board of Directors determines.
No grants or issuances have been made as of October 31, 1998.

The following table summarizes  information about all stock options  outstanding
at October 31, 1998:


                                       22

<PAGE>

<TABLE>
<CAPTION>
                                                          Options Outstanding        Options Exercisable
                                                       ------------------------- ---------------------------
                                                         Weighted-
                                                          Average
                          Range                          Years of      Weighted-                    Weighted-
                            Of                           Remaining      Average                      Average
                         Exercise          Number       Contractual     Exercise      Number        Exercise
                          Prices         Outstanding        Life          Price     Exercisable       Price
                     ----------------  --------------- -------------  ------------ -------------  -------------
<S>                  <C>     <C>                <C>         <C>            <C>            <C>           <C>    
Incentive            $1.00 - $1.25              57,893      6.2            $  1.04        55,643        $  1.03
Stock Option         $1.63                     897,101      7.2               1.63       416,326           1.63
                     ----------------  --------------- -------------  ------------ -------------  -------------
Plans                $1.00 - $1.63             954,994      7.1            $  1.59       471,969        $  1.55
                     ================  =============== =============  ============ =============  =============

Non-Employee         $1.38                      14,000      4.7            $  1.38        14,000        $  1.38
Director             $2.00 - $2.75               6,000      3.7               2.50         6,000           2.50
Plan                 $4.75 - $6.75              52,000      5.9               5.64        42,000           5.54
                     ----------------  --------------- -------------  ------------ -------------  -------------
                     $1.38 - $6.75              72,000      5.5            $  4.55        62,000        $  4.30
                     ================  =============== =============  ============ =============  =============

Non-Employee         $1.00 - $1.06              51,000      5.4            $  1.01        21,000        $  1.00
Plan                 $2.44 - $2.94              10,000      1.4               2.69        10,000           2.69
                     $5.00                     195,000      3.6               5.00        80,000           5.00
                     $8.38                       5,000      2.4               8.38            --             --
                     ----------------  --------------- -------------  ------------ -------------  -------------
                     $1.00 - $8.38             261,000      3.8            $  4.20       111,000        $  4.04
                     ================  =============== =============  ============ =============  =============
</TABLE>


The  weighted-average  fair value of options  granted  during fiscal years 1996,
1997 and 1998 was $2.89, $3.43 and $0.97,  respectively.  The fair value of each
significant   option  grant  is  estimated  on  the  date  of  grant  using  the
Black-Scholes  model. The following weighted average assumptions are included in
the Company's fair value calculations:

<TABLE>
<CAPTION>
                                                    1996              1997             1998
                                                    ----              ----             ----
<S>                                                  <C>              <C>               <C>
            Expected life (years)                    3.3              3.9               2.5
            Risk-free interest rate                  5.5%             6.2%              5.5%
            Volatility                              80.0%            78.0%             62.5%
            Dividend yield                            --               --                --
</TABLE>

The  Company  continues  to  apply  APB No.  25 in  accounting  for  stock-based
compensation  for the incentive and  non-employee  Director  plans. To date, all
stock options have been issued at market  value;  accordingly,  no  compensation
cost has been  recognized.  Had the Company  determined costs for these plans in
accordance  with SFAS No. 123, the Company's pro forma net (loss) income and pro
forma (loss) income per share would have been as follows (in thousands):


<TABLE>
<CAPTION>
                                                                            Year Ended October 31,
                                                                  1996             1997              1998
-------------------------------------------------------------------------------------------------------------
<S>                                                             <C>              <C>               <C>     
Pro forma net (loss) income applicable to common
   stockholders                                                 $ 2,584          $ 3,447           $(8,699)

-------------------------------------------------------------------------------------------------------------
Pro forma net (loss) income per share:
   Basic                                                        $  0.64          $  0.82           $(2.03)
   Diluted                                                      $  0.57          $  0.76           $(2.03)
-------------------------------------------------------------------------------------------------------------
</TABLE>

The SFAS No. 123 method of accounting does not apply to options granted prior to
November 1, 1995, and accordingly, the resulting pro forma compensation cost may
not be representative of amounts expected in the future.

                                                     23

<PAGE>


Note 12: Income Taxes

Income taxes are provided  for the tax effects of  transactions  reported in the
financial  statements  and consist of taxes  currently due plus  deferred  taxes
related  primarily  to  differences  between  the basis of fixed and  intangible
assets and revenue  recognition  for  financial  and income tax  reporting.  The
deferred tax assets and  liabilities  represent the future tax  consequences  of
those differences, which will either be taxable or deductible when the assets or
liabilities are recovered or settled.

The (benefit)  provision for income taxes in fiscal years 1996,  1997,  and 1998
consists of (in thousands):


<TABLE>
<CAPTION>
                                                            Year Ended October 31,
                                                     1996          1997               1998 
                                                     ----          ----               ---- 

<S>                                               <C>            <C>               <C>       
Income taxes payable (refundable)                 $     11       $       (1)       $      149
Decrease (increase) in deferred tax asset             (650)          (1,500)            2,150
---------------------------------------------------------------------------------------------
                                                  $   (639)      $   (1,501)       $    2,299
=============================================================================================
</TABLE>

Income taxes payable (refundable) in fiscal years 1996, 1997, and 1998 relate to
state income taxes and the alternative  minimum tax for Federal income tax. As a
result of the Company's  profitability  in fiscal years 1995 through  1997,  the
Company recorded a deferred tax asset of $650,000 and $1,500,000 in fiscal years
1996 and 1997,  respectively,  reflecting  the  benefit  of  approximately  $5.5
million in loss carryforwards. Due to the unprofitable operations in fiscal year
1998  and  the  uncertain  future  profitability,  the  Company  reassessed  the
probability of realizing these net operating loss  carryforwards  and determined
that their expected future  realization is not likely to be realized in the near
future. Accordingly,  the Company wrote off the deferred tax asset of $2,150,000
in fiscal year 1998. The Company has provided a full valuation allowance for the
Company's  $10.3 million net operating  losses as management  determined it more
likely than not that this amount will not be realized.

A reconciliation  of the statutory  Federal tax rate to the Company's  effective
tax rate is as follows:


<TABLE>
<CAPTION>
                                                                    Year Ended October 31,
                                                           1996             1997               1998
                                                           ----             ----               ----

<S>                                                        <C>               <C>             <C>    
Statutory Federal tax rate                                 34.0%             34.0%           (34.0)%
State income taxes, net of
  Federal tax benefit                                       5.0               5.0             (5.0)
Benefit not recorded due to carryforward position           --                --              38.6
Utilization of net operating loss                         (40.9)            (43.6)              --
Goodwill amortization                                       3.0               3.0              3.3
Change in deferred tax asset                              (31.3)            (67.2)            33.9
Other                                                      (0.6)              1.5             (0.5)    
-----------------------------------------------------------------------------------------------------
                                                          (30.8)%           (67.3)%           36.3%
=====================================================================================================
</TABLE>


Deferred tax assets are comprised of the following (in thousands):

<TABLE>
<CAPTION>
                                                  October 31,
                                            1997                  1998  
                                            ----                  ----  
<S>                                    <C>                   <C>       
Accounts receivable reserve            $       59            $       84
Inventory reserves                            134                   641
Accrued vacation and benefits                 182                   181
Deferred compensation                         109                   105
Deferred revenues                             271                   261
Other                                         223                   451
Research and development credits              293                   406
Foreign net operating losses                   89                   265
Loss carryforwards                          2,756                 4,006
-----------------------------------------------------------------------

Gross deferred tax assets                   4,116                 6,400
Valuation allowance                        (1,966)               (6,400)
------------------------------------------------------------------------
Net deferred tax asset                 $    2,150            $       --
========================================================================
</TABLE>

The net  change in the  valuation  allowance  for  deferred  tax  assets  was an
increase  of  $4,434,000  during  the year.  The  Company  has  provided  a full
valuation  allowance  against the  Company's  gross  deferred  tax assets  since
management  believes  that the  realization  of such  deferred tax assets is not
likely in the near future.

                                       24
<PAGE>

Approximately  $10.3 million of tax loss  carryforwards and $406,000 of research
and  development  tax credits can be utilized by the Company  through  2013.  If
certain substantial changes in the Company's ownership should occur, there would
be an  annual  limitation  on the  amount  of  the  carryforwards  which  can be
utilized.

Note 13:  Net (Loss) Income Per Share Calculation

The following is a  reconciliation  of the  numerators and  denominators  of the
basic net (loss)  income per common share  ("basic  EPS") and diluted net (loss)
income per common and dilutive potential common share ("diluted EPS"). Basic EPS
is computed using the weighted  average number of common shares  outstanding and
diluted EPS is computed  using the weighted  average number of common and common
stock equivalent shares outstanding.


<TABLE>
<CAPTION>
                                                                          October 31,
(in thousands)                                                    1996     1997       1998
------------------------------------------------------------------------------------------
<S>                                                              <C>      <C>     <C>      
Net (loss) income                                                $2,713   $3,732  $ (8,641)
==========================================================================================

Weighted average common stock outstanding                         4,065    4,216     4,282

Stock options, if converted                                         501      335       --
------------------------------------------------------------------------------------------

Weighted average common and common stock equivalent shares
   Outstanding                                                    4,566    4,551    4,282
==========================================================================================
</TABLE>

Options  outstanding in fiscal year 1998 are not reflected in the computation of
diluted EPS because the effect is anti-dilutive and would increase diluted EPS.

Note 14: Pension and Profit Sharing Plans

The Company has a defined  contribution  pension plan  covering  all  employees.
After an employee  completes  one-year of service,  the plan provides for annual
contributions  by the  Company  equal  to 6% of  the  employee's  gross  salary,
excluding bonuses and commissions.  The Company's contributions to the plan vest
after a five-year period. Employees may also make voluntary contributions to the
plan up to a maximum of 10% of their  gross  salary on an  after-tax  basis.  In
accordance with the plan, unvested amounts relating to terminated  employees are
credited against pension contributions by the Company. Such forfeitures amounted
to  $111,000,  $81,000,  and  $128,000  in fiscal  years 1996,  1997,  and 1998,
respectively.  It is the  Company's  policy to fund pension costs  accrued.  Net
expense of the plan was approximately $365,000, $441,000, and $518,000 in fiscal
years 1996, 1997, and 1998, respectively.

The Company also  maintains a 401(k)  profit  sharing  plan and trust.  The plan
allows for  employees to contribute up to 10% of gross salary on a pre-tax basis
and 5% of gross  salary  on an  after-tax  basis.  The  Company  matches  50% of
employee  contributions up to 4% of eligible  salary.  Total expense of the plan
was approximately  $176,000,  $224,000, and $196,000 in fiscal years 1996, 1997,
and 1998, respectively.

Note 15: Supplemental Cash Flow Information

The  Company  paid cash for  interest  expense  and income  taxes as follows (in
thousands):

<TABLE>
<CAPTION>
                                                                  Year Ended October 31,
                                                         1996             1997             1998
                                                         ----             ----             ----

<S>                                                     <C>              <C>            <C>    
Interest                                                $    71          $   94         $    29
Income taxes                                            $    21          $   25         $   125


Non-cash investing and financing activities:

Note issued for purchase of fixed assets                $  258

Details of acquisition (Note 4):

Fair value of assets acquired                           $  926
Liabilities assumed                                        108
Common stock issued                                        584                                   
-------------------------------------------------------------------------------------------------

Cash paid                                                  234
Less: cash acquired                                        123                                   
-------------------------------------------------------------------------------------------------
Net cash paid for acquisition                             $111
=================================================================================================
</TABLE>


                                       25
<PAGE>


Note 16: Selected Quarterly Financial Data (Unaudited)

The following table presents unaudited quarterly operating results and the price
range of common stock for the Company's last eight fiscal quarters.

(In thousands, except per share data)


<TABLE>
<CAPTION>
                                             Jan. 31,         April 30,         July 31,          Oct. 31,
                                                 1997              1997             1997              1997
----------------------------------------------------------------------------------------------------------
<S>                                       <C>             <C>              <C>               <C>          
Net sales                                 $     7,094     $       7,239    $       8,842     $       8,593
Gross margin                                    3,043             2,716            3,375             3,193
Income from operations                            607               554              512               701
Net income per share:                             669               615              615             1,833
   Basic                                  $      0.16     $        0.15    $        0.15     $        0.43
----------------------------------------------------------------------------------------------------------
   Diluted                                $      0.15     $        0.14    $        0.14     $        0.39
==========================================================================================================

Stock prices
      High                                $     7.375     $       6.500    $       5.984     $       8.750
      Low                                 $     5.125     $       5.250    $       4.188     $       4.500
----------------------------------------------------------------------------------------------------------
                                             Jan. 31,         April 30,         July 31,          Oct. 31,
                                                 1998              1998             1998              1998
----------------------------------------------------------------------------------------------------------

Net sales                                      $6,555            $7,651           $6,929            $5,322
Gross margin                                    1,775             2,087            1,324               728
Loss from operations                           (1,117)             (727)          (1,626)           (2,960)
Net loss per share:                            (1,169)             (749)          (3,855)           (2,868)
   Basic and diluted                      $     (0.27)    $       (0.17)   $       (0.90)    $       (0.68)
==========================================================================================================

Stock prices
      High                                $     7.375     $       5.875    $       4.250     $       2.063
      Low                                 $     5.156     $       4.000    $       2.063     $       0.938
==========================================================================================================
</TABLE>


As discussed in Note 4, the Company wrote off goodwill and established  reserves
relating to Microlog  Europe which  resulted in a fourth  quarter  adjustment of
$754,000.







                                       26

<PAGE>


                        REPORT OF INDEPENDENT ACCOUNTANTS
                        ---------------------------------

To the Board of Directors and Stockholders
Microlog Corporation

In our opinion,  the  accompanying  consolidated  balance sheets and the related
consolidated statements of operations, of changes in stockholders' equity and of
cash flows present fairly, in all material  respects,  the financial position of
Microlog  Corporation and its subsidiaries at October 31, 1998 and 1997, and the
results of their  operations and their cash flows for each of the three years in
the period  ended  October 31,  1998,  in  conformity  with  generally  accepted
accounting principles.  These financial statements are the responsibility of the
Company's  management;  our  responsibility  is to  express  an opinion on these
financial  statements  based on our  audits.  We  conducted  our audits of these
statements  in accordance  with  generally  accepted  auditing  standards  which
require that we plan and perform the audit to obtain reasonable  assurance about
whether the financial  statements  are free of material  misstatement.  An audit
includes  examining,  on a test  basis,  evidence  supporting  the  amounts  and
disclosures in the financial  statements,  assessing the  accounting  principles
used and  significant  estimates made by management,  and evaluating the overall
financial  statement  presentation.   We  believe  that  our  audits  provide  a
reasonable basis for the opinion expressed above.

The  accompanying  financial  statements  have been  prepared  assuming that the
Company  will  continue  as a  going  concern.  As  discussed  in  Note 3 to the
financial statements,  the Company has suffered recurring losses from operations
and has been unable to obtain  sufficient  debt  financing  for working  capital
purposes. These conditions raise substantial doubt about its ability to continue
as a going  concern.  Management's  plans in regards to these  matters  are also
described in Note 3. The  financial  statements  do not include any  adjustments
that might result from the outcome of this uncertainty.


PRICEWATERHOUSECOOPERS LLP


McLean, Virginia
March 17, 1999





                                       27

<PAGE>


Management's Discussion and Analysis of
Financial Condition and Results of Operations

<TABLE>
<CAPTION>
                                                                                             Period-to-Period
                                                                                            Percentage Changes
                                                     Percentage of Net Sales
                                                     Year Ended October 31,                  1996          1997
                                                                                              to            to
                                                    1996         1997         1998           1997          1998
                                                    ------------------------------           ------------------
<S>                                                <C>          <C>           <C>            <C>         <C>    
Net sales:
  Voice processing                                 61.6%        60.7%         55.7%          21.7%       (23.5)%
  Performance analysis                             38.4%        39.3%         44.3%          26.5%        (6.2)%
-----------------------------------------------------------------------------------

  Total net sales                                 100.0%       100.0%        100.0%          23.6%       (16.7)%
-----------------------------------------------------------------------------------

Costs and expenses:
  Cost of sales                                    58.8%        61.2%         77.6%          28.7%         5.7%
  Selling, general and administrative              24.9%        20.1%         34.4%          (0.3)%       42.6%
  Research and development                          8.1%        11.3%         12.3%          70.9%        (9.0)%
-----------------------------------------------------------------------------------

  Total costs and expenses                         91.8%        92.6%        124.3%          24.6%        11.9%
-----------------------------------------------------------------------------------
Investment and other income
  (expense), net                                   (0.1%)       (0.4%)         0.3%        (286.5)%      161.5%
-----------------------------------------------------------------------------------

(Loss) income before income taxes                   8.1%         7.0%        (24.0)%          7.6%      (384.3)%
-----------------------------------------------------------------------------------

(Provision) benefit for income taxes                2.5%         4.7%         (8.7)%        134.9%      (253.2)%
-----------------------------------------------------------------------------------

Net (loss) income                                  10.6%        11.7%        (32.7)%         37.6%      (331.5)%
-----------------------------------------------------------------------------------
</TABLE>


Results of Operations

The Company had a net loss of $8.6 million (($2.02) per basic and diluted share)
for the fiscal year ended October 31, 1998. These results include a write-off of
$2.15 million  (($.50) per basic and diluted  share) related to the deferred tax
asset.  As a result of the  losses in fiscal  year 1998 and the  uncertainty  of
future  profitability,  management believes that the expected future realization
of the Company's net operating loss  carryforwards  is not likely to be realized
in the near future.  By  comparison,  the Company had net income of $3.7 million
($.89 per basic  share and $.82 per  diluted  share) for the  fiscal  year ended
October 31, 1997,  which  included a $1.5 million ($.36 per basic share and $.33
per  diluted  share)  income tax  benefit.  The  Company  had net income of $2.7
million  ($.67 per basic share and $.59 per  diluted  share) for the fiscal year
ended October 31, 1996, which included a $650,000 ($.16 per basic share and $.14
per diluted  share) income tax benefit.  The Company is now reporting  basic and
diluted  earnings per share as required under Statement of Financial  Accounting
Standards (SFAS No.128),  "Earnings per Share",  which became  effective for the
Company in fiscal year 1998.

The net loss of $8.6  million  for  fiscal  year  1998 was  attributable  to the
Company's voice processing  operations.  Approximately $5.3 million of this loss
was due primarily to insufficient voice processing  revenues and a change in the
sales mix in the Company's voice processing operations. The loss was also due in
part to a write-off of the deferred tax asset ($2.15 million),  a large increase
in the reserve for  inventory  obsolescence  ($1.3  million),  the  write-off of
goodwill  ($0.5  million),  and reserves  associated  with the relocation of its
operations facility in The Netherlands ($0.3 million).  These losses were offset
by the $1.0 million net income generated from the Company's performance analysis
and supports services operations.

Over the past  fiscal year the Company  has been  experiencing  reduced  demand,
increased  competition and reduced margins in the voice  processing  area, which
the Company  attributes to market forces.  The Company believes that interactive
information  response  (IIR)  systems in  general,  and in the  retail  pharmacy
vertical  market  targeted  by  the  Company's   commercial   sales  efforts  in
particular,  are becoming  commodities  which are more readily available from an
increased  number  of  vendors  and  require  less  engineering   customization.
Accordingly,  competition has increased,  margins have been reduced,  and it has
become  more  difficult  to  sell  these  products.  In  addition,  governmental
customers  have been procuring  large IIR systems as part of major  procurements
from  larger  vendors,  which has  required  the Company to work  through  prime
contractors,  also resulting in greater difficulty in making sales and increased
pressure on margins.  One of the Company's  short-term responses to these market
trends has included increased  marketing efforts focusing on the capabilities of
the  Company's  Intela  product and its ability to customize the product to meet
specific application requirements.


                                       28
<PAGE>
In February 1999, the Company  restructured its voice  processing  operations in
order to bring expenses in line with  forecasted  revenues.  In connection  with
this  restructuring,  the Company  reduced  its voice  processing  workforce  by
approximately  25%  and  wrote  off  equipment  associated  with  its  headcount
reductions. As a result of the restructuring and cost reduction plan the Company
expects to reduce total voice  processing  operating  expenses by  approximately
$4.0 million annually and approximately $2.3 million for the remainder of fiscal
year 1999, starting in the second quarter of fiscal year 1999.

In fiscal year 1999,  the Company's  strategy for  addressing  the market trends
will be to move aggressively into the customer contact center market,  which was
a new  vertical  market for the Company in late fiscal year 1997 and fiscal year
1998. The Company will be focusing sales of its UNIX-based  Intela product,  the
Company's  principal  interactive   communications  system,  on  contact  center
applications.  The  Company  also will be  promoting  its newest  product  line,
uniQue(TM),  a family of open solutions for customer  contact center  management
that leverages the  effectiveness of unified queuing,  priority and skills-based
routing,  and  "zero   administration"  at  the  agent's  desktop.   With  "zero
administration",  the system administrator makes changes to the configuration or
application  from a central  location and  distributes  to the agents'  desktops
automatically.  In fiscal year 1998, the Company launched its first product from
the  uniQue(TM)  suite  of  contact  center  products,   uniQue  Agent(TM),   an
application that allows the contact center agent to seamlessly manipulate all of
the different media types:  email,  fax, Web, and voice contacts all at one work
station.   The  Company  is  devoting  significant  efforts  to  promote  market
acceptance  of uniQue  Agent(TM),  and is  commencing  an  advertising  campaign
directed   specifically  at  contact  centers,   collections,   and  interactive
communications industries.

To a lesser  extent,  the  Company  also  will be  focusing  on  another  Intela
application, The Automated Collector(TM) (TAC), which has recently been enhanced
to add features the Company believes will meet market requirements.  The Company
will be seeking  technology  partners and  resellers  for this product in fiscal
year 1999.

Also in fiscal year 1999, the Company will continue to market its Intela product
to its base of VCS 3500  customers.  The  Company no longer  offers the VCS 3500
product;  there were no VCS 3500  product  revenues in fiscal years 1998 or 1997
and limited  revenues ($0.6 million) in fiscal year 1996. The Company  continues
to support its base of VCS 3500  customers  and receives  service  revenues from
this support,  but expects  these  revenues to decline since the Company has not
updated the  product,  including  with  respect to Year 2000  compliance,  since
fiscal year 1996.

The Company is subject to the risk that its new strategy will not be successful.
The new strategy is dependent on market  acceptance  of the  Company's new focus
and new products,  ongoing research and development efforts and sales activities
over the near term.  In  addition,  the new  strategy is also  dependent  on the
Company's  ability to successfully  reduce costs.  The Company is subject to the
risk  that it will  not be  able to  obtain  and  maintain  the  necessary  debt
financing  it  requires to  implement  its new  strategy.  Failure to obtain and
maintain required financing would have a material adverse effect on the Company.
The  Company's   fiscal  year  1999  operating   budget   includes   significant
expenditures  relating to the development and marketing of its new product line,
uniQue and requires  the Company to utilize  debt  financing to maintain its new
strategy. The Company's anticipated cash flows from existing operations will not
generate  the  required  cash flows to  successfully  launch the  Company's  new
strategy.  If the Company is unable to obtain and  maintain the  necessary  debt
financing,  the  Company  will  not be able to  successfully  implement  its new
strategy  and it will be forced  to reduce  expenditures  in  addition  to those
associated  with the  restructuring  discussed  above in order to  continue as a
going  concern.  The  Company  is  subject to the risks that it may not make the
necessary  decisions  to  reduce  expenditures  in enough  time to avoid  severe
adverse  consequences.  In March 1999,  the Company has a  commitment  for a new
line-of-credit facility with a new financial institution (Note 9).

Net Sales

Net sales for fiscal year 1998 were $26.5 million,  which represented a decrease
of 17% from net sales in fiscal  year 1997.  Net sales for fiscal year 1997 were
$31.8  million,  which  represented  an increase of 24% from net sales in fiscal
year 1996.  Net sales for fiscal year 1996 were $25.7  million.  The decrease in
fiscal  year 1998 was due to a decrease  in voice  processing  net sales of $4.5
million and a decrease in  performance  analysis net sales of $0.8 million.  The
increase  in fiscal year 1997 was due to an  increase  in voice  processing  net
sales of $3.4 million and an increase in performance  analysis net sales of $2.6
million.

Voice Processing Net Sales

The Company's  voice  processing net sales  decreased 24% in fiscal year 1998 to
$14.7  million,  compared to $19.3 million in fiscal year 1997.  The decrease in
voice  processing  net sales during  fiscal year 1998 was primarily due to a 32%
decrease in voice  processing  product sales.  The decrease in voice  processing
product sales was primarily attributable to a decrease in sales of the Company's
Automated  Prescription  Refill  System (APRS)  product to commercial  customers
($3.1 million), a decrease in sales to government customers ($1.7 million),  and
a decrease in sales to  distributors  ($0.2  million),  offset by an increase in
sales to international  customers ($0.5 million).  The Company believes that the
decrease in sales is largely attributable to the market trends discussed above.

The Company's  voice  processing net sales  increased 22% in fiscal year 1997 to
$19.3  million,  compared to $15.8 million in fiscal year 1996.  The increase in
voice  processing  net sales during  fiscal year 1997 included a 22% increase in
voice  processing  product  sales and a 21%  increase  in  product  support  and
services  sales.  The  increase 

                                       29
<PAGE>

in voice processing net sales was primarily attributable to an increase in sales
of the Company's  APRS product,  to commercial  customers  ($2.5 million) and an
increase  in  sales to  international  customers  ($1.3  million),  offset  by a
decrease in sales to distributors ($0.5 million).

In fiscal year 1998, sales to the Company's 10 largest  customers  accounted for
85% of voice processing sales. One of the three largest customers was in each of
the Company's  three sectors:  government,  commercial,  and  international.  In
fiscal year 1997, sales to the Company's 10 largest customers  accounted for 90%
of  voice  processing  sales.  Two of the  four  largest  customers  were in the
government  sector  while one  customer  was in the  commercial  sector  and one
customer  was in the  international  sector.  In fiscal year 1996,  sales to the
Company's 10 largest customers  accounted for 82% of voice processing sales. One
of the three  largest  customers  was in each of the  Company's  three  sectors:
government, commercial, and international.

Sales to  government  customers  for fiscal year 1998 were $8.0  million (54% of
voice processing net sales and 30% of consolidated net sales) which  represented
an 18% decrease from sales to government customers in fiscal year 1997. Sales to
government  customers  for  fiscal  year 1997 were  $9.7  million  (51% of voice
processing net sales and 31% of consolidated  net sales) which  represented a 1%
increase  from sales to  government  customers  in fiscal  year  1996.  Sales to
government  customers  for  fiscal  year 1996 were  $9.6  million  (61% of voice
processing  net sales  and 37% of  consolidated  net  sales).  Fiscal  year 1997
included a $3.5 million sale on a bill and hold basis requested by the customer.
The system was  accepted  and title  passed to the customer in fiscal year 1997,
and just after  year-end,  in November 1997,  the system was  operational at the
customer's  premises.  Although the Company  increased  sales ($1.8  million) to
existing  government  customers  in fiscal year 1998,  the Company was unable to
replace a $3.5 million  sale to a large  customer  that  occurred in fiscal year
1997. In addition, the Company was unable to secure any new government customers
in fiscal year 1998.  Government  sales remained  relatively flat in fiscal year
1997 as compared to fiscal year 1996.  The Company  believes sales to government
customers also are being affected by the market trends discussed above.

Sales to  commercial  customers  for fiscal year 1998 were $3.3  million (23% of
voice processing net sales and 12% of consolidated net sales ) which represented
a 48% decrease from sales to commercial  customers in fiscal year 1997. Sales to
commercial  customers  for  fiscal  year 1997 were  $6.4  million  (33% of voice
processing net sales and 20% of consolidated net sales) which  represented a 64%
increase  from sales to  commercial  customers  in fiscal  year  1996.  Sales to
commercial  customers  for  fiscal  year 1996 were  $3.9  million  (24% of voice
processing  net  sales and 15% of  consolidated  net  sales).  The  decrease  in
commercial  sales in fiscal year 1998,  as well as the  increase  in  commercial
sales  in  fiscal  year  1997  compared  to  fiscal  year  1996,  was  primarily
attributable  to  significant  sales of the APRS product in the retail  pharmacy
market to the Company's  principal  customer in the retail pharmacy  market.  As
discussed above, due to market trends the Company's commercial sales of the APRS
product  are  subject to  increased  competition,  including  the  internal  MIS
departments of potential retail pharmacy customers.

Sales to international  customers for fiscal year 1998 were $3.4 million (23% of
voice processing net sales and 13% of consolidated net sales) which  represented
a 17% increase from sales to international  customers in fiscal year 1997. Sales
to  international  customers in fiscal year 1997 were $2.9 million (15% of voice
processing net sales and 9% of consolidated net sales) which  represented an 80%
increase  from sales to  international  customers in fiscal year 1996.  Sales to
international  customers  for fiscal year 1996 were $1.6  million  (10% of voice
processing  net  sales  and 6% of  consolidated  net  sales).  The  increase  in
international sales in fiscal year 1998 was primarily due to a $1.6 million sale
to a subsidiary of KPN Telecom of The Netherlands,  offset by decreased sales of
$1.1 million to the Company's European third party resellers. During fiscal year
1998,  the Company and its Board of  Directors  approved a plan to relocate  its
facility  based in The  Netherlands.  As of October  31,  1998,  the Company has
established  reserves of $0.3 million  representing  costs  associated  with the
termination  of  employees,   the  remaining  net  operating  lease   obligation
associated with its Netherlands  facility and the relocation of its office.  The
increase in  international  sales in fiscal year 1997 was primarily due to sales
from new third party  resellers of the  Company's  products  such as Devotech of
France and KPN Telecom of The Netherlands.

As of October 31, 1998,  the Company had a backlog of existing  orders for voice
processing  systems  totaling $2.0 million.  By comparison,  the backlog,  as of
October 31, 1997, was $2.9 million. The Company has experienced  fluctuations in
its  backlog  at  various  times  in  the  past  attributable  primarily  to the
seasonality of governmental  purchases.  The Company anticipates that all of the
outstanding  orders at October 31, 1998 will be shipped and the sales recognized
during fiscal year 1999.  Although the Company  believes that its entire backlog
of orders  consists  of firm  orders,  because of the  possibility  of  customer
changes in delivery schedules and delays inherent in the government  contracting
process,  the Company's  backlog as of any particular date may not be indicative
of actual sales for any future period.


                                       30
<PAGE>
Performance Analysis and Support Services Net Sales

Net sales from  performance  analysis and support  services for fiscal year 1998
were  $11.7  million  which  represented  a 6%  decrease  from  net  sales  from
performance  analysis  and support  services  in fiscal year 1997.  Net sales of
performance analysis and support services in fiscal year 1997 were $12.5 million
which  represented  a 27% increase  over net sales of  performance  analysis and
support  services of $9.9 million in fiscal year 1996. The decrease in net sales
from performance analysis and support services in fiscal year 1998 resulted from
a reduction in the level of work  authorized  under existing  contracts from the
Johns  Hopkins  University  Applied  Physics  Laboratory  (APL),  the  Company's
principal  customer  for  these  services.   The  increase  in  net  sales  from
performance  analysis and support services in fiscal year 1997 resulted from the
addition of new  contracts as well as increases in the level of work  authorized
under existing contracts with APL.

The Company  believes  that its  performance  analysis  contracts  are likely to
continue  to provide a stable  source of sales for the  Company.  The Company is
beginning to experience (indirectly, through its contracts with APL) the effects
of  some  reductions  in  defense  spending  due  to  changes  in  U.S.  defense
priorities. The Company is not aware of any proposed reductions in spending that
will result in any material  adverse affect over the next fiscal year on its net
sales from  performance  analysis  and support  services nor alter the manner in
which it procures  contracts for such services.  However,  there is no assurance
that changes in defense  priorities or  continuing  budget  reductions  will not
cause such an effect during the fiscal year or thereafter.

As of October  31,  1998,  the  Company  had a backlog  of  funding on  existing
contracts for performance  analysis and support services  totaling $0.2 million.
By comparison, the backlog as of October 31, 1997 was $2.9 million. The decrease
in backlog was primarily  due to the types of contracts  that the Company had in
backlog at October  31,  1998,  as  compared  to October  31,  1997.  At October
31,1998,  the Company's contracts  consisted  primarily of indefinite  delivery,
indefinite  quantity  (IDIQ)  contracts  which  generally  do not have a funding
amount,  and  therefore  are not included in backlog.  At October 31, 1997,  the
Company  had a  contracts  portfolio  which  included  fixed  price and time and
materials contracts which have a funding amount, as well as IDIQ contracts which
generally do not have a funding  amount.  The Company  estimates that the entire
$0.2  million  of backlog at October  31,  1998 will be  recognized  as sales in
fiscal year 1999.  Because of the delays inherent in the government  contracting
process or possible  changes in defense  priorities  or spending,  the Company's
backlog as of any particular  date may not be indicative of actual sales for any
future  period.  Although  the Company  believes  that its backlog of funding on
existing  contracts  is firm,  the  possibility  exists  that  funding  for some
contracts on which the Company is  continuing  to work,  in the  expectation  of
renewal,  may not be  authorized.  In addition,  the Government has the right to
cancel contracts,  whether funded or not funded,  at any time,  although to date
this has not occurred.

Costs and Expenses

Cost of sales of products  were $8.7  million,  or 93% of net sales of products,
for fiscal year 1998; $7.2 million, or 52% of net sales of products,  for fiscal
year 1997;  and $5.2 million,  or 45% of net sales of products,  for fiscal year
1996. The increase in cost of sales of products,  both in dollar amount and as a
percentage  of sales,  for fiscal  year 1998 was  primarily  attributable  to an
increase in the reserve for inventory  obsolescence  ($1.3  million)  related to
inventory  for  certain  product  lines for which  there has been a  significant
decline in gross margins and demand,  and  therefore  future sales are doubtful.
The  increase  is also  attributable  to  lower  margins  on  products  sales to
commercial and government customers.  The Company believes both of these factors
are due to the market trends discussed above. The fiscal year 1998 lower margins
are  attributable to the lack of sales of software  licenses in fiscal year 1998
compared to sales of software licenses ($3.1 million) in fiscal year 1997. Sales
of software licenses have significantly lower costs of sales than product sales.
Additionally,  the  increase in cost of sales of products,  as a  percentage  of
sales,  for fiscal year 1998 was attributable to certain fixed costs that do not
vary directly with sales volume, therefore, the decline in net sales of products
did not result in a similar decline in costs.

The  increase  in cost of sales of  products,  both in  dollar  amount  and as a
percentage  of  sales,  for  fiscal  year  1997 was  primarily  attributable  to
increased  pricing  pressures in the  international  sector  resulting in higher
costs as a percentage of sales,  as well as a large  government  contract  which
yielded lower margins than the Company's average margins.

Cost of sales of services were $11.9  million,  or 69% of net sales of services,
for fiscal year 1998; $12.2 million, or 69% of net sales of services, for fiscal
year 1997;  and $9.9 million,  or 70% of net sales of services,  for fiscal year
1996.  The  decrease  in cost  of  sales  in  fiscal  year  1998  was  primarily
attributable to the decrease in net sales of performance analysis services.  The
increase  in cost of sales in  fiscal  1997 was  primarily  attributable  to the
increase in net sales of performance analysis services.

Selling, general and administrative costs were $9.1 million or 34% of net sales,
for fiscal year 1998; $6.4 million,  or 20% of net sales,  for fiscal year 1997;
and $6.4  million,  or 25% of net sales,  for fiscal year 1996.  The increase in
fiscal  year 1998,  both in dollar  amount  and as a  percentage  of sales,  was
primarily  attributable  to  increased  staffing  in  the  sales  and  marketing
departments,  expanded  marketing  programs,  the  write-off  of  the  remaining
goodwill balance resulting from the determination  that the goodwill balance was
impaired,  and the relocation of operations  associated with the Company's voice
processing operations in The Netherlands. The decrease in fiscal year 1997, as a
percentage of sales, was primarily  attributable to increased sales. The Company
anticipates that selling,  


                                       31
<PAGE>
general, and administrative costs,  excluding certain one-time charges in fiscal
year 1998,  will  decrease in fiscal year 1999 as a result of the  restructuring
discussed below.

Research and development  expenses reflect costs associated with the development
of  applicable  software  and  product  enhancements  for  the  Company's  voice
processing  systems.  The  Company  believes  that the  process of  establishing
technological  feasibility with its new products is completed approximately upon
release of the products to its customers. Hence, the Company does not anticipate
capitalizing  research and development costs.  Research and development expenses
were $3.3 million,  or 12% of net sales for fiscal year 1998;  $3.6 million,  or
11% of net sales for fiscal year 1997; and $2.1 million,  or 8% of net sales for
fiscal year 1996.

Research and  development  expenses  for 1998 were  focused on the Intela,  TAC,
APRS,  and  uniQue  products.  uniQue  Agent  was  announced  and  substantially
completed in November 1998 as a product offering available for customer trial in
the contact  center  market.  uniQue Agent is the first in a series of offerings
the Company is developing to provide a comprehensive  range of solutions  within
the  contact  center  market in fiscal  year 1999.  This  open,  standards-based
product  enables  companies to route and prioritize  phone calls,  e-mails,  web
contacts,  faxes,  and hardcopy mail and other contact types to the  appropriate
skilled agent for handling.  The uniQue  development  activities  will also be a
major  focus in fiscal  year 1999 for the  Company's  research  and  development
efforts.  The Company is subject to the risk that it may not have the  financial
resources to support its research and development strategy.  Intela was enhanced
for new features and Year 2000  compliance in the System Release 6 (SR6) version
of the  product.  TAC  was  enhanced  to meet  market  requirements  to  readily
integrate with both custom and widely available  collections databases in use in
customer  sites.  APRS was  extended  and  customized  for a number of  customer
opportunities in 1998 which did not materialize.  A significant amount of custom
engineering  is  undertaken  by  the  Company  in  providing  special  features,
application development, and system integration services to our customers.

Investment and Other Income, Net

The Company had net investment and other income of $88,000 for fiscal year 1998,
as compared to net investment and other expense of $143,000 for fiscal year 1997
and $37,000 for fiscal year 1996.  The higher  income  level in fiscal year 1998
was primarily due to the recognized gain of $73,000 on the sale of the Company's
office building and land, higher interest income on short term investments,  and
less  interest  expense on short term  borrowings.  The higher  expense level in
fiscal year 1997 resulted from an $84,000 write off of obsolete fixed assets.

Provision for Income Taxes

Income taxes  payable  (refundable)  of $149,000 in fiscal year 1998,  $(545) in
fiscal year 1997,  and $11,000 in fiscal year 1996 relate to state income taxes,
and the  alternative  minimum tax for Federal income tax. Based on the Company's
recent  profitability  in fiscal years 1995 through 1997, the Company recorded a
deferred  tax asset of $650,000  and  $1,500,000  in fiscal years 1996 and 1997,
respectively,  reflecting  the  benefit of  approximately  $5.5  million in loss
carryforwards.  Due to the  unprofitable  operations in fiscal year 1998 and the
uncertain  future  profitability,  the Company has reassessed the probability of
realizing these net operating loss  carryforwards  and has determined that their
expected future realization is not likely to be realized in the near future. The
Company  wrote off the deferred tax asset of $2.15  million in fiscal year 1998.
The  Company  has  provided  a  valuation  allowance  for $10.3  million  of net
operating losses as management has determined it was not likely that this amount
will be realized.

The  Company  has  exhausted  its  ability to carry  losses  back for income tax
refunds.  Net  operating  loss  and tax  credit  carryforwards  for  income  tax
reporting   purposes  of   approximately   $10.3   million  and  $0.4   million,
respectively,  will be available to offset taxes  generated  from future taxable
income through 2013. If certain  substantial  changes in the Company's ownership
should  occur,  there  would  be an  annual  limitation  on  the  amount  of the
carryforwards which can be utilized.

Restructuring of Operations

In February 1999, the Company  restructured its voice  processing  operations in
order to bring expenses in line with  forecasted  revenues.  In connection  with
this  restructuring,  the Company  reduced  its voice  processing  workforce  by
approximately  25%  and  wrote  off  equipment  associated  with  its  headcount
reductions.

The Company will incur a restructuring  charge of approximately  $260,000 in the
second  quarter  of  fiscal  1999,  for  severance  and  benefits  costs for the
reduction of  approximately 25 employees in February 1999.  Temporary  employees
and contractors will also be reduced.  Included in the restructuring charge is a
write-off of assets of  approximately  $50,000  which  includes the write-off of
equipment   associated  with  headcount   reductions.  

As a result of these restructuring activities, the Company expects to reduce its
annual voice processing operating expenses,  in the form of reduced salaries and
wages, by  approximately  $1.8 million.  The Company expects to complete most of
the actions  associated with the  restructuring by the end of the second quarter
of fiscal year 1999.

The  Company  expects  to also  decrease  expenses  as a result  of the  reduced
headcount  in  areas  such as  travel,  training  and  communications  expenses.
Additionally,  the Company is initiating a cost  reduction plan in areas such as
advertising,  recruiting, office and computer supplies, and professional fees to
further  reduce  voice  processing

                                       32
<PAGE>
operating expenses. As a result of the restructuring and cost reduction plan the
Company  expects  to  reduce  total  voice  processing   operating  expenses  by
approximately  $4.0  million  annually  and  approximately  $2.3 million for the
remainder  of fiscal year 1999,  starting  in the second  quarter of fiscal year
1999.

In addition to a significant  reduction in its  international  voice  processing
operations  which  occurred  as a result of the  restructuring,  the  Company is
currently  evaluating  options for the transfer or sale of its existing Microlog
Europe interactive voice response  operations,  sales, and support activities to
organizations in similar lines of business. The Company is continuing to explore
uniQue opportunities in Europe through these organizations.

Year 2000 Compliance

In  fiscal  year  1998,  the  Company  began  the  process  of  identifying  and
determining the appropriate  resolution to all of the Company's  issues relating
to the  "Millennium  Bug".  These  issues  arise  because of the date  sensitive
software programs which use two digits to define the applicable year,  resulting
in  interpretation  of a date using "00" as the Year 1900  rather  than the Year
2000.  This could  result in  miscalculations  or a major  system  failure.  The
Company has  concluded  that if no action is taken to avoid these  consequences,
its Year 2000 issues  will have a material  effect on the  Company's  results of
operations and financial condition.

Areas which require  remediation are: 1) in-house systems and software  programs
used to run the business;  2) products sold to the Company's  customers;  and 3)
systems and services provided by vendors.

The Company has reviewed its in-house systems for compliance and determined that
all systems will be affected. During fiscal year 1998, the Company completed the
conversion of its accounting,  inventory,  manufacturing control and information
systems  to  a  new  system  in  order  to  provide  more  efficient  management
information  throughout  the  Company.  In  October  1998,  as  part  of  system
maintenance,  a Year 2000 compliant  software release was installed.  The vendor
has  certified  that  the new  system  is Year  2000  compliant.  As part of the
Company's  computer  upgrade  plan,  approximately  $0.5 million of hardware and
software  upgrades were  purchased for the internal  computer  network in fiscal
year 1998.  These systems were all Year 2000 compliant and were also part of the
Company's Year 2000 compliance program.  All remaining in-house computer systems
which are mission critical have been identified, including operating systems and
applications  software,  and studies are currently  being conducted to determine
which  programs are compliant  and which are not. The Company  believes that the
majority of its mission critical  systems is currently  compliant or can be made
compliant at minimal cost.  Non-compliant  systems must be replaced or abandoned
prior to the beginning of the Year 2000.

The Company has made a thorough  review and testing of its products and believes
that its current  products,  Intela and  uniQue,  are Year 2000  compliant.  The
Company's  assessment of its current  products is partially  dependent  upon the
accuracy  of  representations  concerning  Year  2000  compliance  made  by  its
suppliers,  such as Aspect, Dialogic,  Microsoft and SCO (Santa Cruz Operation),
among  others.  Many of the  Company's  customers  are,  however,  using earlier
versions of the Company's  current  products,  previous products or discontinued
products,  which are not Year 2000 compliant. The Company has initiated programs
to proactively  notify such customers of the risks  associated  with using these
products and to actively  encourage  such  customers to migrate to the Company's
current  products.  The  Company  presently  receives  service  and  maintenance
revenues with respect to certain of these products, and such revenues are likely
to cease upon migration to the Company's  current  products or at the end of the
Year 1999.

In addition, the Company's products are generally integrated within a customer's
enterprise  system,  which may involve  products and systems  developed by other
vendors.  A customer may mistakenly  believe that Year 2000 compliance  problems
with its enterprise system are attributable to products provided by the Company.
The  Company  may,  in the  future,  be  subject  to  claims  based on Year 2000
compliance  issues related to a customer's  enterprise  system or other products
provided by third parties,  custom  modifications to the Company's products made
by third  parties,  or issues  arising  from the  integration  of the  Company's
products  with  other  products.  The  Company  has  not  been  involved  in any
proceeding  involving  its  products or services  in  connection  with Year 2000
compliance.  However,  there is no  assurance  that the Company will not, in the
future,  be  required to defend its  products  or  services in such  proceedings
against claims of Year 2000 compliance  issues.  Any resulting  liability of the
Company  for  damages  could have a  material  adverse  effect on the  Company's
business, operating results and financial condition.

The Company purchases components and services which have been evaluated for Year
2000  compliance.  The Company  has  divided  its vendors  into those who supply
critical services,  manufacturing suppliers and manufacturing  contractors.  The
Company has obtained  certification  from each of its material vendors as to its
Year 2000 compliance.  The costs to evaluate and obtain  certification  from its
key vendors were not material.

Despite the Company's intent to complete the modifications  necessary to be Year
2000  compliant,  there  exists  the risk  that the  Company  will be  unable to
complete  all tasks  required  in a timely  manner,  or that  certain  issues or
systems could be  over-looked.  If the required  modifications  are not made, or
should they not be completed in a timely manner, this issue could materially and
adversely affect the Company's  operating results and financial  condition.  The
Company  estimates that the total costs for Year 2000 compliance will not exceed
$0.6 million.

                                       33
<PAGE>
Factors That May Effect Future Results of Operations

Various  paragraphs  of this Item 2  (Management's  Discussion  and  Analysis of
Financial   Condition  and  Results  of  Operations)   contain   forward-looking
statements  within the meaning of Section 27A of the  Securities Act of 1933, as
amended,  and Section 21E of the  Securities  Exchange Act of 1934,  as amended.
Actual   results   could  differ   materially   from  those   projected  in  the
forward-looking  statements  as a result  of the  factors  set  forth  below and
elsewhere in this document.

The Company  believes that its results of operations will be affected by factors
such as the timing of introduction  by the Company of new and enhanced  products
and  services,   market   acceptance  of  new  voice  processing   products  and
enhancements  of existing  products,  continuation of market trends in the voice
processing   market,   growth  in  the  voice  processing   market  in  general,
competition,  commitments  to  automation by potential  large  purchasers of the
Company's  Retail  Solutions  products,  fluctuations  in the  buying  cycles of
governmental customers,  changes in general economic conditions,  and changes in
the U.S. defense industry and their impact on the prime contractor for which the
Company provides performance analysis and support services.

The Company is subject to the risk that its new strategy will not be successful.
The new strategy is dependent on market  acceptance  of the  Company's new focus
and new products,  ongoing research and development efforts and sales activities
over the near term.  In  addition,  the new  strategy is also  dependent  on the
Company's  ability to successfully  reduce costs.  The Company is subject to the
risk  that it will  not be  able to  obtain  and  maintain  the  necessary  debt
financing  it  requires to  implement  its new  strategy.  Failure to obtain and
maintain required financing would have a material adverse effect on the Company.
The  Company's   fiscal  year  1999  operating   budget   includes   significant
expenditures  relating to the development and marketing of its new product line,
uniQue and requires  the Company to utilize  debt  financing to maintain its new
strategy. The Company's anticipated cash flows from existing operations will not
generate  the  required  cash flows to  successfully  launch the  Company's  new
strategy.  If the Company is unable to obtain and  maintain the  necessary  debt
financing,  the  Company  will  not be able to  successfully  implement  its new
strategy  and it will be forced  to reduce  expenditures  in  addition  to those
associated  with the  restructuring  discussed  above in order to  continue as a
going  concern.  The  Company  is  subject to the risks that it may not make the
necessary  decisions  to  reduce  expenditures  in enough  time to avoid  severe
adverse  consequences.  In March 1999,  the Company has a  commitment  for a new
line-of-credit facility with a new financial institution (Note 9).

Liquidity and Capital Resources

Working  capital as of October  31, 1998 was $2.0  million,  as compared to $6.7
million as of October 31, 1997.  The decrease was  primarily  attributable  to a
decrease in cash and cash  equivalents  ($1.6  million),  a decrease in accounts
receivable  ($0.8  million),  a decrease in inventories  ($1.0  million),  and a
decrease in the current  portion of the deferred tax asset ($1.2  million).  The
decline in cash was primarily attributable to the losses in fiscal year 1998.

Accounts receivable as of October 31, 1998 were $3.1 million as compared to $3.9
million  as of October  31,  1997.  The  decrease  in  accounts  receivable  was
primarily  attributable to decreased sales in voice processing,  and to a lesser
extent, decreased sales in performance analysis and support services.

Fixed  assets as of  October  31,  1998 were $1.4  million as  compared  to $3.7
million as of October  31,  1997.  The net  decrease  in fixed  assets  resulted
primarily  from the sale of the  Company's  office  building and land with a net
book value ($2.0 million),  depreciation  expense ($0.8 million),  offset by the
purchase  of assets  ($0.5  million).  Major  assets  purchased  were  primarily
hardware and software  upgrades to the Company's  internal  computer network and
workstations.

In January 1999, the Company learned that its  line-of-credit  facility will not
be renewed by its financial institution under the same terms and conditions.  As
discussed in Note 3, the Company's  fiscal year 1999 operating  budget  includes
significant  expenditures  relating  to the  development  and  marketing  of the
Company's  new product  line,  uniQue and  requires  the Company to utilize debt
financing to maintain its new  strategy.  If the Company is unable to obtain and
maintain  adequate  financing,  the  Company  will  not be able to  successfully
implement its new strategy and will be forced to reduce expenditures in addition
to  those  associated  with  the  restructuring,  discussed  above,  in order to
continue as a going concern.  The Company is subject to the risk that it may not
make the  necessary  decision  to reduce  expenditures  in enough  time to avoid
severe adverse consequences. On February 28,1999, the line-of-credit expired.

In  February  1999,  the Company and its  financial  institution  put in place a
$750,000 line-of-credit  facility,  which allows the Company to borrow up to 75%
of the eligible  receivables of Old Dominion Systems Inc. of Maryland.  The line
of credit bears interest at the bank's prime rate plus 1.25% (9% at February 11,
1999) and is payable upon demand.  At March 17, 1999,  $500,000 was  outstanding
against  this  line-of-credit.  This credit  facility  will be  terminated  upon
closing  of the $2.0  million  revolving  line-of-credit  facility  with the new
financial institution discussed below.

The  Company  has a  commitment  for a  $2.0  million  revolving  line-of-credit
facility with a new financial institution, which allows the Company to borrow up
to 75% of its eligible  receivables to a maximum of  $2,000,000,  subject to the
right of the financial institution to make loans at its discretion.  The Company
expects  to  close  on  this  loan  facility  by the  end of  March,  1999.  The
line-of-credit  bears  interest at the bank's  prime rate plus 2.25%  (10.00% at
March 17,

                                       34
<PAGE>

1999),  and contains a 0.025% fee on the average  unused  portion of the line as
well as a monthly  collateral fee and a 1% upfront  commitment  fee. The term of
the loan is one year, and subjects the Company to a restrictive  covenant of not
exceeding 115% of its consolidated  planned  quarterly losses for its second and
third  quarters  of  fiscal  year  1999,  and  a  requirement  for  consolidated
profitability beginning in the fourth quarter of fiscal year 1999. The line also
subjects the Company to a number of restrictive covenants including restrictions
on mergers or acquisitions,  payment of dividends,  and certain  restrictions on
additional borrowings. The line will be secured by all of the Company's assets.

In February 1998, the Company renewed its line-of-credit facility with its bank,
which  allows the Company to borrow up to 70% of its eligible  receivables  to a
maximum of  $2,000,000.  The  line-of-credit  bears interest at the bank's prime
rate plus 1.25% (9.00% at October 31, 1998),  and contains a 0.5% commitment fee
on the average unused portion of the line. The line expires on February 28, 1999
and  subjects  the  Company to a number of  restrictive  covenants,  including a
requirement  to maintain a minimum  consolidated  tangible net worth,  a maximum
ratio of total  liabilities to tangible net worth,  and a minimum current ratio.
There are  restrictions on mergers or  acquisitions,  payment of dividends,  and
certain restrictions on additional borrowings. The line is secured by all of the
Company's  tangible  assets.  At  October  31,  1998,  the  Company  was  not in
compliance with the covenants for a minimum consolidated  tangible net worth and
the maximum ratio of total  liabilities  to tangible net worth.  The bank waived
these covenants at October 31, 1998 and through  January 30, 1999.  There was no
outstanding  debt against this  line-of-credit  at October 31, 1998.  At January
31,1999,  the Company was again not in compliance with the covenants for which a
waiver has not been obtained.

In February  1998, the Company also renewed its  $1,000,000  loan facility.  The
loan  facility  bears  interest  at the bank's  prime  rate plus 0.5%  (8.25% at
October 31,  1998),  and contains a 0.5%  commitment  fee on the average  unused
portion.  At October 31, 1998,  there was no outstanding  debt against this loan
facility.  The loan facility was secured by the Company's principal headquarters
building.  In August 1998,  this loan facility was terminated as a result of the
sale of the Company's office building (Note 7).

In June 1996,  the Company  entered into a contract to purchase a new management
information  system  including  a  five-year  maintenance  plan.  The  purchase,
including maintenance,  is being financed by the vendor over a five-year term at
an annual  interest rate of 8%. The financing terms require five annual payments
of $140,000 each, including interest, which began on June 30, 1996. Three annual
payments have been made to date. The final payment is due on June 30, 2000.

The Company is subject to the risk that its new strategy will not be successful.
The new strategy is dependent on market  acceptance  of the  Company's new focus
and new products,  ongoing research and development efforts and sales activities
over the near term.  In  addition,  the new  strategy is also  dependent  on the
Company's  ability to successfully  reduce costs.  The Company is subject to the
risk  that it will  not be  able to  obtain  and  maintain  the  necessary  debt
financing  it  requires to  implement  its new  strategy.  Failure to obtain and
maintain required financing would have a material adverse effect on the Company.
The  Company's   fiscal  year  1999  operating   budget   includes   significant
expenditures  relating to the development and marketing of its new product line,
uniQue and requires  the Company to utilize  debt  financing to maintain its new
strategy. The Company's anticipated cash flows from existing operations will not
generate  the  required  cash flows to  successfully  launch the  Company's  new
strategy.  If the Company is unable to obtain and  maintain the  necessary  debt
financing,  the  Company  will  not be able to  successfully  implement  its new
strategy  and it will be forced  to reduce  expenditures  in  addition  to those
associated  with the  restructuring  discussed  above in order to  continue as a
going  concern.  The  Company  is  subject to the risks that it may not make the
necessary  decisions  to  reduce  expenditures  in enough  time to avoid  severe
adverse  consequences.  In March 1999,  the Company has a  commitment  for a new
line-of-credit facility with a new financial institution (Note 9).

Upon closing of the $2.0 million  revolving  line-of-credit  facility with a new
financial institution as discussed above, the Company has estimated that it will
have adequate resources to sustain operations through at least March 2000, based
upon  management's  planned  expenditures  for fiscal year 1999.  The Company is
subject to the risks as to the ultimate  success of its research and development
efforts and sales activities. In particular,  the Company is subject to the risk
that its new strategy (described above) will not be successful. The new strategy
is dependent on market  acceptance  of the Company's new focus and new products,
ongoing  research and  development  efforts and sales  activities  over the near
term.

The  Company  is  subject  to the risk  that it will not be able to  obtain  and
maintain adequate financing to implement its new strategy.  Financing activities
to date have primarily  consisted of cash  generated from operating  activities,
the sale of the building and land, and the  availability of debt financing.  The
Company has generated  operating losses  resulting in an accumulated  deficit of
$11,919,000  at  October  31,  1998.  Failure to obtain  and  maintain  required
financing would have a material adverse effect on the Company.

This  report  contains  "forward-looking  statements"  within the meaning of the
Federal  Securities laws. The Company's business is subject to significant risks
that could cause the Company's results to differ materially from those expressed
in any forward-looking statements made in this report.

                                       35
<PAGE>
Quarterly Results

Note  16 of the  Notes  to  Consolidated  Financial  Statements  of the  Company
contained in this Annual Report presents unaudited  quarterly  operating results
for the Company's  last eight fiscal  quarters.  The Company  believes that this
unaudited  information  contains  all  adjustments,  consisting  only of  normal
recurring  adjustments,  necessary  for a  fair  presentation  of  the  selected
quarterly  information when read in conjunction with the Consolidated  Financial
Statements  and Notes  thereto.  The  operating  results for any quarter are not
necessarily indicative of results for any subsequent period.

The Company  experienced  losses in all four  quarters of fiscal year 1998.  The
losses in each quarter were primarily  attributable to insufficient sales in the
Company's  voice  processing  operations,  a  change  in  the  sales  mix in the
Company's  voice  processing  operations,  and  increases  in  the  reserve  for
inventory obsolescence. In the third quarter, the Company wrote-off the deferred
tax asset of $2.15 million ($0.50) per basic and diluted  share).  In the fourth
quarter,  the Company established  reserves for the relocation of its operations
facility in The Netherlands,  and wrote-off the remaining goodwill balance which
aggregated $0.8 million (($0.19) per basic and diluted share).

The  Company  was  profitable  in all four  quarters  of fiscal  year 1997.  The
Company's  quarterly  results showed  continued growth in net sales, net income,
and net income per common share. The quarterly  fluctuations for the first three
quarters of fiscal 1997 were not significant. In each of the three quarters, the
Company's  net income was  increased by a $100,000  ($0.02 per basic and diluted
share) income tax benefit,  and in the fourth quarter,  the Company's net income
was  increased  by a  $1,200,000  ($0.28  per  share  basic  and $0.26 per share
diluted) income tax benefit.

Price Range of Common Stock

The Common Stock is presently  traded on the  over-the-counter  market under the
symbol MLOG. As of February 10, 1999,  there were  approximately  242 holders of
record  of the  Common  Stock.  This  number  does not  reflect  the  number  of
individuals  or  institutional  investors  holding stock in nominee name through
banks, brokerage firms, and others.

Note  16 of the  Notes  to  Consolidated  Financial  Statements  of the  Company
contained in this Annual Report sets forth, for the period indicated,  the range
of high and low  transaction  prices for the  Common  Stock as  reported  on the
NASDAQ  Market.  The closing  price of the Common Stock on February 10, 1999 was
$2.125 per share.

In February 1999, the Company was notified by the Nasdaq  National Market System
that it had failed to  maintain  certain  maintenance  standards  for  continued
listing on the Nasdaq  National  Market  System.  The  Company  did not meet the
requirements  for minimum net tangible  assets and was  delinquent in filing its
10K report. The Company has requested a hearing with Nasdaq to discuss its plans
for  compliance  with the minimum  standards.  The  Company's  common  stock was
delisted  from the  Nasdaq  National  Market  System on one prior  occasion.  In
February 1996, the company  returned to the Nasdaq National  Market System.  The
common  stock was traded on the Nasdaq  Small Caps Market until its market value
of public  float had risen and the  Company  was able to  re-list  on the Nasdaq
National Market System. If the common stock is delisted from the Nasdaq National
Market  System,  there can be no assurance  that it will be able to re-list such
securities on that system.

On March 5, 1999, Nasdaq informed the Company that it was halting trading of the
Company's  stock  pending  receipt  and review of  additional  information.  The
Company has provided  this  information  to Nasdaq,  but has not been advised by
Nasdaq regarding the status of Nasdaq's review.

Dividend Policy

The  Company  has not  paid  any  dividends  in over 10  years.  Certain  of the
Company's debt agreements  restrict the payment of dividends.  See Note 9 of the
Notes to  Consolidated  Financial  Statements.  The Company does not  anticipate
paying any cash dividends in the foreseeable future.

Newly Issued Accounting Standards

In June  1997,  the FASB  issued  SFAS No.  130,  "Comprehensive  Income."  This
statement  requires  that  changes in the  amounts of certain  items,  including
foreign  currency  translation  adjustments  and  gains and  losses  on  certain
securities be shown in the financial statements. SFAS No. 130 does not require a
specific  format for the financial  statement in which  comprehensive  income is
reported,  but does  require  that an amount  representing  total  comprehensive
income be reported in that  statement.  SFAS No. 130 will be  effective  for the
Company's fiscal year 1999 and requires  reclassification  of earlier  financial
statements for comparative  purposes.  The Company believes the adoption of SFAS
No.  130  will  not  have  a  material  effect  on  the  consolidated  financial
statements.

Also, in June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of
an  Enterprise  and Related  Information."  This  statement  will change the way
public companies report  information  about segments of their business in annual
financial statements and requires them to report selected segment information in
their  quarterly  reports  issued to  stockholders.  SFAS No. 131 also  requires
entity-wide  disclosures about the products and services an entity provides, the
material countries in which it holds assets and reports revenues,  and its major
customers.  SFAS No. 131 will be effective for the  Company's  fiscal year 1999.
The  Company  believes  the  adoption  of SFAS No.  131 will not have a material
effect on the consolidated financial statements.


                                       36
<PAGE>
In October 1997, the Accounting  Standards  Executive  Committee  (AcSEC) issued
Statement of Position 97-2 (SoP 97-2),  "Software  Revenue  Recognition,"  which
supersedes SoP 91-1. This statement  provides guidance on when revenue should be
recognized  and in what  amounts for  licensing,  selling,  leasing or otherwise
marketing computer software. SoP 97-2 will be effective for the Company's fiscal
year  1999.  The  Company  does not expect  the  adoption  of SoP 97-2 to have a
material effect on the current operations. However, the effect of this statement
is uncertain as it relates to future products.

In February 1998, the FASB issued SFAS No. 132,  "Employers'  Disclosures  About
Pensions and Other  Postretirement  Benefits." This statement  standardizes  the
disclosure  requirements for pensions and other  postretirement  benefits to the
extent practicable and requires additional information on changes in the benefit
obligations  and fair  values  of plan  assets  that will  facilitate  analysis.
Additionally,  SFAS No. 132 eliminates certain disclosures that are no longer as
useful as they were when SFAS No. 87, "Employers' Accounting for Pensions", SFAS
No. 88,  "Employers'  Accounting for  Settlements  and  Curtailments  of Defined
Benefit  Pension  Plans  and  for  Termination  Benefits",  and  SFAS  No.  106,
"Employers  Accounting  for  Postretirement  Benefits  Other than Pensions" were
issued.  SFAS No. 132 will be effective for the Company's  fiscal year 1999. The
Company believes the adoption of SFAS No. 132 will not have a material effect on
the consolidated financial statements.

In June  1998,  the  FASB  issued  SFAS  No.  133,  "Accounting  for  Derivative
Instruments and Hedging Activities." This statement requires companies to record
derivatives  on the  balance  sheet as assets or  liabilities,  measured at fair
value. Gains or losses resulting from changes in the values of those derivatives
would be accounted  for  depending on the use of the  derivative  and whether it
qualifies for hedge accounting. SFAS No. 133 will be effective for the Company's
fiscal year 2000.  The Company  believes  the  adoption of SFAS No. 133 will not
have a material effect on the consolidated financial statements.

The FASB, in its APB No.25 Repairs and Maintenance Project, is in the process of
drafting an  interpretation  that provides  guidance on certain  practice issues
related to APB No. 25. Although not yet in final form, the FASB anticipates that
the interpretation will become effective in September 1999 and should be applied
(on a prospective  basis) to  transactions  occurring  after  December 15, 1998.
Under the new  interpretation,  stock option plans under which options have been
repriced  subsequent  to December  15, 1998,  must be accounted  for as variable
plans.  Additionally,  the FASB has clarified the definition of "employee" to be
the common-law definition and, accordingly, options granted to outside directors
(non-employees)  are to be accounted  for under SFAS No. 123. If approved by the
FASB, options granted to the Company's Board of Directors will have to be valued
at fair market value and,  accordingly,  compensation  expense will be recorded.
The  Company  believes  that  this  will  not  have  a  material  effect  on the
consolidated financial statements.

                                       37
<PAGE>
Selected Consolidated Financial Data

The following selected consolidated financial data should be read in conjunction
with the Company's  Consolidated Financial Statements and Notes thereto and with
Management's  Discussion  and  Analysis of  Financial  Condition  and Results of
Operations included elsewhere herein.

INCOME STATEMENT DATA (IN THOUSANDS, EXCEPT PER SHARE DATA):

<TABLE>
<CAPTION>
                                                             Year Ended October 31,
                                          1994            1995             1996         1997                1998   
-------------------------------------------------------------------------------------------------------------------

<S>                                      <C>              <C>             <C>            <C>               <C>     
Net sales                                $ 18,669         $ 22,386        $ 25,707       $ 31,768          $ 26,457
(Loss) income from
  operations                               (4,917)           1,500           2,111          2,374            (6,430)
Net (loss) income                          (4,984)           1,387           2,713 (1)      3,732 (1)        (8,641) (2)
Net (loss) income per share:
   Basic                                $   (1.29)       $     .36       $     .67      $     .89         $  (2.02)
   Diluted                              $   (1.29)       $     .34       $     .59      $     .82         $  (2.02)

</TABLE>



BALANCE SHEET DATA (IN THOUSANDS):
<TABLE>
<CAPTION>
                                                                  October 31,
                                         1994             1995             1996         1997                1998   
-------------------------------------------------------------------------------------------------------------------

<S>                                       <C>              <C>            <C>            <C>                 <C>   
Working capital                           $  (704)         $   749        $  3,144       $  6,671            $1,953
Total assets                                9,056            9,426          13,713         17,055             8,560
Long-term debt, net
  of current maturities                        45              ---             203            142                74
Stockholders' equity                        2,524            4,160           7,766         11,888             3,370
-------------------------------------------------------------------------------------------------------------------
</TABLE>


1)   Net income  includes a $0.65  million  ($0.16 per share basic and $0.14 per
     share  diluted)  and a $1.5  million  ($0.36 per share  basic and $0.33 per
     share  diluted)  income  tax  benefit  for  fiscal  years  1996  and  1997,
     respectively.   See  Note  12  of  the  Notes  to  Consolidated   Financial
     Statements.

2)   Net loss for fiscal year 1998 includes a $2.15  million  (($0.50) per basic
     and  diluted  share)  write-off  of  the  deferred  tax  asset.  Due to the
     unprofitable  operations  in  fiscal  year  1998 and the  uncertain  future
     profitability,  the Company  reassessed the  probability of realizing these
     net operating loss  carryforwards and determined that their expected future
     realization is not likely to be realized in the near future. See Note 12 of
     the Notes to Consolidated Financial Statements.








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