<PAGE>
                                  FORM 10-KSB

                      SECURITIES AND EXCHANGE COMMISSION
                            Washington, D.C. 20549

           [ X ]  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF
                  THE SECURITIES EXCHANGE ACT OF 1934 
For the fiscal year ended May 31, 1997

                                      OR

           [   ]  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
                  THE SECURITIES EXCHANGE ACT OF 1934 
For the transition period from                       to
                                          ---------      ---------

Commission file number 01-10076

                         APPLIED RESEARCH CORPORATION
                         ----------------------------
            (Exact Name of Registrant as Specified in its Charter)

      Colorado                                             86-0585693
---------------------------------                    ---------------------
(State or other jurisdiction                             I.R.S. Employer
of incorporation or organization)                    Identification number

8201 Corporate Drive, Suite 1120, Landover, Maryland               20785
----------------------------------------------------            ----------
(Address of Principal Offices)                                  (Zip Code)

Registrant's telephone number, including area code:     (301) 459-8442

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:

  Title of Each Class            Name of each exchange on which registered
  -------------------            -----------------------------------------
Common Stock, par value $0.0005                     None

Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes [ X ] No [ ]

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB. [ ]

Issuer's revenues for the fiscal year ended May 31, 1997 were $8,270,222.  

On September 5, 1997, the aggregate market value of the voting stock held by
non-affiliates of the registrant was $94,432.  

On September 12, 1997, there were 6,311,083 shares of $0.0005 par value Common
Stock outstanding.  
<PAGE>
<PAGE>
                         APPLIED RESEARCH CORPORATION
                            INDEX TO ANNUAL REPORT
                                ON FORM 10-KSB

PART I                                                               Page

     Item 1:   Description of Business . . . . . . . . . . . . . . . .  4
     Item 2:   Description of Property . . . . . . . . . . . . . . . . 10
     Item 3:   Legal Proceedings . . . . . . . . . . . . . . . . . . . 10
     Item 4:   Submission of Matters to a Vote of Security
               Holders . . . . . . . . . . . . . . . . . . . . . . . . 10

PART II

     Item 5:   Market for Common Equity and Related Stockholder
               Matter  . . . . . . . . . . . . . . . . . . . . . . . . 11
     Item 6:   Management's Discussion and Analysis of 
               Financial Condition and Results from Operation. . . . . 12
     Item 7:   Financial Statements and Supplementary Data . . . . . . 18
     Item 8:   Changes in and Disagreements with Accountants 
               on Accounting and Financial Disclosure. . . . . . . . . 19

PART III

     Item 9:   Directors and Executive Officers of the
               Registrant. . . . . . . . . . . . . . . . . . . . . . . 20
     Item 10:  Executive Compensation. . . . . . . . . . . . . . . . . 20
     Item 11:  Security Ownership of Certain Beneficial Owners 
               and Management. . . . . . . . . . . . . . . . . . . . . 20
     Item 12:  Certain Relationships and Related Transactions. . . . . 20

PART IV

     Item 13:  Exhibits, Financial Statement Schedules and 
               Reports on Form 8-K . . . . . . . . . . . . . . . . . . 20
     Signatures. . . . . . . . . . . . . . . . . . . . . . . . . . . . 48


                      DOCUMENTS INCORPORATED BY REFERENCE

The Registrant hereby incorporates by reference the following Documents:

PART III

     Item  9:  Directors and Executive Officers of the Registrant
     Item 10:  Executive Compensation
     Item 11:  Security Ownership of Certain Beneficial Owners and Management
     Item 12:  Certain Relationships and Related Transactions

     The foregoing are incorporated by reference from the Registrant's
definitive Proxy Statement relating to its annual meeting of Stockholders,
which will be filed in an amendment within 120 days of May 31, 1997.

PART IV - EXHIBITS

     1.   Incorporated herein by reference from the Registrant's May 31,
          1996, Annual Report on Form 10-K, filed with Securities and
          Exchange Commission on September 12, 1996.  

     2.   Incorporated herein by reference from the Registrant's May 31,
          1995, Annual Report on Form 10-K, filed with Securities and
          Exchange Commission on August 29, 1995.  

     3.   Incorporated herein by reference from the Registrant's May 31,
          1994, Annual Report on Form 10-K, filed with Securities and
          Exchange Commission on September 6, 1994.  

     4.   Incorporated by reference from Amendment No. 1 to the Registrant's
          Registration Statement on Form S-3 filed with the Securities and
          Exchange Commission on June 28, 1994, S.E.C. File No. 01-10076.

     5.   Incorporated herein by reference from the Registrant's Current
          Report on Form 8-K, dated August 25, 1997, filed with Securities
          and Exchange Commission on August 27, 1997, as amended by the
          Registrant's Amended Current Report on Form 8-K/A-1 filed with the
          Securities and Exchange Commission on September 5, 1997.

     6.   Incorporated by reference from the Registrant's Registration
          Statement on Form S-18, as amended, filed with Securities and
          Exchange Commission on June 21, 1989, S.E.C. File No. 33-11943-LA.
<PAGE>
<PAGE>
                                    PART I
                                    ------

ITEM 1.  DESCRIPTION OF BUSINESS
--------------------------------

(A)  BUSINESS DEVELOPMENT

Applied Research Corporation was organized under the laws of the State of
Colorado on March 26, 1986, as Dollar Ventures, Inc., for the primary purpose
of engaging in a merger with or acquisition of, one or a small number of
private firms.  On December 29, 1987, Dollar Ventures, Inc. acquired 100% of
the outstanding shares of common stock of Applied Research Corporation, a
Maryland corporation, in exchange for 5,000,000 shares of Dollar Ventures,
Inc. common stock.  The acquisition was legally classified as a
reorganization.  For accounting and financial reporting purposes, the
transaction was treated as a reverse acquisition at book value.

Following the acquisition, Applied Research Corporation (the original Maryland
corporation) changed its name to Applied Research of Maryland, Inc. ("ARM"),
and Dollar Ventures, Inc. changed its name to Applied Research Corporation
("ARC").  Applied Research of Maryland, Inc. is a high technology company
specializing in research and development, design and fabrication of sensors
and instrumentation, technical support services and software development.  On
April 2, 1996, ARM filed a voluntary petition for relief under Chapter 11 of
the United States Bankruptcy Code.  See Item 6. Management's Discussion and
Analysis of Financial Condition and Results of Operations.  

ARSoftware Corporation ("ARS"), a Maryland corporation and wholly owned
subsidiary of the Company was formed in April, 1992, to diversify ARC's
business by developing niche markets in the computer software industry.  The
objective of ARS is to develop and distribute scientific and technical
software to academic, commercial and federal, state and local government
entities.  ARS is currently reselling existing products under licensing
agreements. 

ARInternet Corporation ("ARInternet"), a Maryland corporation and majority
owed subsidiary of the Company was formed in November 1994, to diversify the
business base of ARC by developing niche markets in the computer online
services industry.  

As hereinafter used, the term "Company" shall refer to Applied Research
Corporation and its wholly- owned subsidiaries Applied Research of Maryland,
Inc. and ARSoftware Corporation and the majority- owned (95%) subsidiary
ARInternet Corporation, except when otherwise indicated by context.

(B)  BUSINESS OF ISSUER:

The Company's wholly-owned subsidiaries, Applied Research of Maryland, Inc.
and ARSoftware Corporation, and majority-owned (95%) subsidiary ARInternet
Corporation, are operating entities.  


APPLIED RESEARCH OF MARYLAND, INC.
----------------------------------
ARM is the principal business of ARC.  ARM's activities are divided into three
divisions: Technical Services Division, Instruments Division and ARInstruments
Division, each of which is described in the paragraphs that follow.  

     Technical Services Division
     ----------------------------
     The Technical Services Division provides scientific software design and
development, mathematical analysis, laboratory experiment design and
implementation, and scientific data analysis to support research programs in
the earth and space sciences, optics, electronics, and chemistry.  Most of
these support services are performed on-site at U.S. Government ("Government")
laboratories at NASA/Goddard Space Flight Center. In addition, during 1993,
the Company began work on a subcontract with Hughes Information Systems
Company ("Hughes") where the work is performed on-site at a Hughes location.  

     Instruments Division
     --------------------
     The Instruments Division designs and fabricates specialized hardware used
to carry out space borne scientific observations.  Primary emphasis is in the
development of ultraviolet to near infrared imaging and spectrographic
instruments for use in astrophysical and atmospheric research.  The
Instruments Division has expanded into the manufacture of rocket and
spacecraft attitude-control sensors.  The Company's classified contracts were
carried out in the Instruments Division.

     ARInstruments Division
     ----------------------
     During its many years of performing under government contracts, the
Company has developed expertise in custom design and fabrication work.  In
addition, members of the Company's technical staff have investigated and
researched other government and commercial applications for existing
technologies.  The Company formed its ARInstruments Division ("ARInstruments")
in fiscal 1993 to penetrate the government and commercial instrumentation
markets, and specifically segregate these activities from other government
contract operations in the design, fabrication, and distribution of
instrumentation products.  During fiscal 1994, ARInstruments had begun
research and development efforts related to product development and initiated
two patent applications.  These patents were granted during fiscal 1995 and,
accordingly, the Company began amortizing the costs associated with the
patents during the year ended May 31, 1995.

     On April 2, 1996, ARM filed a voluntary petition for relief under Chapter
11 of the United States Bankruptcy Code.  Under Chapter 11, certain claims
against ARM (the "Debtor") in existence prior to the filing of the petition
for relief under the federal bankruptcy laws are stayed while the Debtor
continues business operations as Debtor-In-Possession.  Prior to the filing of
the Chapter 11 petition, management of the Debtor had been attempting to sell
the assets of ARM.  Subsequent to the filing, and following one unsuccessful
attempt to sell a majority of ARM's assets, the Debtor entered into an
agreement to sell a majority of ARM's assets for $1.475 Million.  At a
Bankruptcy Court hearing on April 11, 1997, this agreement was subjected to
counter offers, and the sale price ultimately became $1.75 Million (the "Asset
Purchase Agreement".).  The court order approving the Asset Purchase Agreement 
was signed by the Bankruptcy Court on May 30, 1997.  Completion of the sale
was subject to approval by the Debtor's principal customer of the transfer of
certain contract rights and obligations.  Approval was granted on June 19,
1997, at which time the sale was completed with payment of the cash portion of
the purchase price being placed in escrow.  See Item 6. Management's
Discussion and Analysis of Financial Condition and Results of Operations for
additional information on the Bankruptcy proceedings and the sale.


ARSOFTWARE CORPORATION
----------------------
ARSoftware Corporation ("ARS") was established to diversify the Company's
business base by developing niche markets in the computer software industry. 
Currently, ARS is reselling selected products to academic institutions,
industry and government agencies, focusing on end users working on scientific
and engineering applications.  


ARINTERNET CORPORATION
----------------------
From its inception, ARInternet Corporation ("ARInternet") has been committed
to providing to its customers three essential ingredients for a successful
Internet experience: reliable connectivity, quality service and support and
innovative application of state-of-the-art technology.  ARInternet had
approximately 1,000 subscribers as of May 31, 1997.  ARInternet offers
monthly, quarterly, semi-annual and annual subscription agreements, each
requiring payment in advance.  ARInternet offers the ability to pay the
subscription amounts by credit card to facilitate payment.  

     Connectivity
     ------------
     ARInternet provides a reliable, high-speed full-service link to the
Internet, utilizing state-of-the-art networking hardware and software with
built-in capacity for expansion and improvement.  ARInternet currently
operates with a T1 connection (1.544Mpbs) off the Sprint backbone.  Sprint was
chosen as the Internet provider due to its reputation, the size and scope of
its network, the upgradability of its service and its strong customer support.

     ARInternet arranges for almost any type of Internet connection the
customer needs, at a reasonable price, in keeping with its clear emphasis on
customer service.

          FULL-SERVICE DIALUP (SHELL) ACCOUNT:  Subscribers have access to
          all the "standard" connection options, such as e-mail, telnet. ftp,
          WWW, gopher, and finger, etc.

          SLIP (SERIAL-LINE INTERNET PROTOCOL) AND PPP (POINT-TO-POINT
          PROTOCOL) CONNECTIONS:  This type of account establishes the
          customer's own computer as a peer-to-peer host with all other
          Internet host computers.  It allows the user to navigate the World
          Wide Web using popular multimedia-capable programs, such as
          Netscape, and to directly download a vast array of programs from
          software archives around the world.

          DEDICATED AND LEASED-LINE ACCESS:  These connections range from
          dedicated phone line access (private line), to high bandwidth frame
          relay and Centrex-based ISDN, for those who need full-time or high-
          speed access.

     Internet Support Services
     -------------------------
          WWW SERVICES:   The remarkable growth of interest in the Internet
          that has occurred over the last several years is largely due to the
          introduction of the WWW protocol suite and the increasing
          sophistication of its graphical browsers.  These factors, in
          combination with the surging tide of commercialization, have lead
          to the rapid emergence of several new phenomena:  online
          advertising via company brochures (hyperlinked HTML pages), virtual
          shopping malls, which are really collections of these documents
          (stores) organized in creative ways, and companies providing
          services in support of these activities.

          ARInternet offers several very competitively-priced Web services:

               -   Hosting of Web pages on ARI servers.
               -   Collection of customer equipment on ARI's Ethernet.
               -   Database integration and other customized applications.
               -   Design and installation of turnkey WWW servers.

          INTERNET TRAINING:  ARInternet offers customized instruction to
          meet the needs of its clients, ranging from  introducing staff of a
          small business to e-mail and ftp, or guiding managers and systems
          specialists through advanced features of various TCP/IP services.

          SYSTEMS INTEGRATION AND CONSULTING:  Today, many businesses are
          installing "Intranet" and "extranets" (virtual private networks
          which use the TCP/IP protocol suite) to leverage the tremendous
          potential of the technology to deliver information to (and collect
          information from) its employees and field agents.  ARInternet's
          network specialists provide consulting for the design and
          installation of such systems.

     Commitment to growth and innovation
     -----------------------------------
     The pace of development of  Internet-related products and services is
enormous.  In order to keep abreast of all of the important new developments
(i.e. Java, ActiveX, VRML) ARInternet has initiated strategic alliances or
sub-contracting relationships with experts in these areas, and as the need
arises, hires new staff with these skills.


RESEARCH AND DEVELOPMENT
------------------------
ARM conducts research and development activities in several areas.  Through
its ARInstruments division, ARM has been conducting research and development
related to the development of a proprietary technique and instrument, the BIO-
UVB Meter, for directly measuring biological effects of solar UVB.  During the
years ended May 31, 1997 and 1996, approximately $95,000 and $87,000 was
spent, respectively on research and development.  

ARS does not conduct any significant research and development effort.  ARS
does, however, capitalize the cost of producing "product masters", in
accordance with Statement of Financial Accounting Standards No. 86.  However,
during the years ended May 31, 1997 and 1996, nothing was spent or
capitalized.  ARS does not anticipate any such expenditures for the year ended
May 31, 1998.  ARInternet had no research and development expenditures during
the years ended May 31, 1997 and 1996.


INTELLECTUAL PROPERTY
---------------------
Patents, copyrights, trademarks and trade secrets are the principal protection
source for the Company's intellectual property.  The Company also holds
various copyrights covering its published materials and proprietary software,
most of which are derived from original works created by employees of the
Company and/or its subsidiaries or by independent contractors hired under
specific project agreements.  The remaining copyrights are held by the Company
through licensing agreements with the authors.  

ARM applied for and has been granted two (2) patents relating to instrument
technology it has developed. These two patents are among the property being
sold under the Asset Purchase Agreement.  See Item 6. Management's Discussion
and Analysis of Financial Condition and Results of Operations for additional
information concerning the sale.

All of the patents, copyrights, trademarks and licenses are considered by the
Company to be valuable property rights.  The protection afforded by these
intellectual property rights and the law of trade secrets is believed by the
Company to be adequate.  However, notwithstanding the Company's intellectual
property rights, it is possible for a competitor to develop near imitations of
the Company's products by implementing modifications, without violating those
rights.


SEASONALITY
-----------
Revenues for ARM typically are not seasonal, but will sometimes depend on the
availability of Government funding.  The Government budgets and operates on a
fiscal year ending September 30th.

In the past, ARS revenues have been seasonal, with ARS typically showing
greater revenues in the second, third and fourth fiscal quarters.  ARS also
has experienced inventory and accounts receivable variations due to the
seasonal nature of its business.  

Revenues for ARInternet have not been seasonal.


CUSTOMERS - MARKETS AND MARKETING
---------------------------------
Predominantly all of ARM's revenues (99%) are derived from agencies of the
Government and prime contractors to those agencies.  During fiscal 1997, ARM
had one customer that accounted for approximately 35 percent (35%) of its
revenue during the year.  This customer, NASA, had 8 contracts with ARM, of
which one contract provided 20 percent (20%) and a second provided 14 percent
(14%) of ARM's revenue.  Another customer, Hughes Corporation, had two
contracts which accounted for 60 percent (60%) of ARM's revenue, of which the
largest accounted for 42 percent (42%).  The contracts held by ARM are among
the property being sold under the Asset Purchase Agreement.  

ARS has no significant major customers.

ARInternet has no significant major customers.  At May 31, 1997 and 1996,
ARInternet had approximately 1,000 subscribers.  

On a local level, ARInternet reaches its target market primarily through
advertisements placed in the Washington Post.  ARInternet intends to increase
its marketing efforts, particularly on a national level, by placing
advertisements in certain widely distributed scientific journals, and,
possibly, through direct mailings to members of its target market.  

ARInternet benefits from word-of-mouth advertising as the number of
subscribers multiplies and ARInternet's exposure on the Internet increases. 
Additionally, ARInternet participates in a number of e-mail discussion groups
and cultivates subscribers through ARInternet-sponsored Internet training
sessions. 


BACKLOG
-------
ARM's total backlog of contracts as of May 31, 1997, was approximately $20.8
million ($2.8 million funded and $18 million unfunded).  This compares with
the backlog of approximately $27.5 million ($2.8 million funded and $24.7
million unfunded) at May 31, 1996.  If ARM were to continue its current
business, it would expect that approximately 40 percent (40%) of the total
backlog as of May 31, 1997, would be realized within one year.  The contracts
held by ARM are among the property being sold under the Asset Purchase
Agreement.

ARS had no backlog at May 31, 1997.  ARS's backlog as of May 31, 1996, was
approximately $5,000, consisting of purchase orders that were received, but
not shipped.  These purchase orders were shipped during fiscal year 1997.

ARInternet's backlog as of May 31, 1997, was approximately $30,000 which
related to prepaid subscriptions received in advance.  This amount will be
earned during the current fiscal year.  ARInternet's backlog as of May 31,
1996, was approximately $27,600 which related to prepaid subscriptions
received in advance.  This amount was earned during fiscal year 1997.


GOVERNMENT CONTRACTS
--------------------
ARM's Government contracts contain standard clauses permitting the termination
of contracts and subcontracts at the election of the Government.  The
Company's contracts with prime contractors also typically contain similar
clauses permitting termination of the contract at the election of the
Government.  In the event of termination of such contracts, the Company is
entitled to receive reimbursement on the basis of costs incurred plus a
reasonable profit.  The Company has not had any significant contracts
terminated at the election of the Government during the past two fiscal years. 
The contracts held by ARM are among the property being sold under the Asset
Purchase Agreement.  


COMPETITION
-----------
Both ARM and ARS face competition from other firms which provide similar
products and services.  Some of these firms are larger and better capitalized
than both ARM and ARS.  The Company does not consider any one firm to hold a
dominant position in the industry.  ARM has established an excellent
reputation within the Government scientific community and therefore has
created a niche market for itself.  This is largely due to its talented
employees, more than 50% of which have PhD's.  The contracts held by ARM are
among the property being sold under the Asset Purchase Agreement.  

ARInternet faces competition from many businesses offering Internet access
ranging in size from sole proprietorships to large corporations.  The services
provided by these competitors vary from simply furnishing Internet
connectivity to providing a full complement of services including e-mail, in-
home shopping and banking, and complete on-line research and document delivery
services.  Many of these competitors are larger and have greater financial
resources than ARInternet.

ARInternet intends to meet or exceed competitive demands by recognizing that
many disciplines and subdisciplines of science and technology exist, each with
its own needs and level of exposure to Internet resources.  By recognizing
these differences, ARInternet provides its subscribers with easy access to a
suite of customized tools and Internet services unique to the scientific
community as a whole, and, more importantly, designed to provide discipline-
specific information, including access to public and commercial databases,
software archives, suppliers of products and materials, print and electronic
publication, and announcements of on-line and traditional meetings in many
different areas of science and technology, many of which were previously
unavailable from more established sources. 


EMPLOYEES
---------
At May 31, 1997, 94 full-time and 8 part-time employees were employed by the
Company and its wholly- owned and majority-owned subsidiaries.  ARM employed
89 full-time and 6 part-time employees while ARS employed one part-time
employee at May 31, 1997.  

ARInternet employed 5 full-time employees and 1 part-time employee at May 31,
1997.  Outside consultants with specialized knowledge and experience in
designing and operating TCP/IP networks, client/server and database
application development, CD-ROM publishing and familiarity with biological and
medical resources and markets have been utilized to extend the Company's
capabilities and to enhance the range of services covered.  As resources
permit and circumstances warrant, additional personnel with specialized
talents and experience will be added to the present staff.  Anticipated needs
include application software developers, customer service representatives,
database specialists, and technical assistants.


ITEM 2.  DESCRIPTION OF PROPERTY
--------------------------------

The Company's corporate headquarters are located at 8201 Corporate Drive,
Landover, Maryland 20785.  Through March 1, 1997, 12,633 sq. ft. were leased
by ARC, with an expiration date of September 30, 1998.  Effective March 1,
1997, the space was reduced to 11,295 sq. ft. at a monthly rental of $15,177. 
Effective August 1, 1997, the space was reduced to 4,833 sq. ft. through
September 30, 1997, at a monthly rental of $7,834.  Effective October 1, 1997,
the space will be reduced to 2,561 sq. ft. at a monthly rental of $4,805.  The
Company has agreed to pay a total of $19,068 to the landlord in return for
reducing the space from 12,633 to 2,561 sq. ft., plus the forfeiture of the
security deposit held by the landlord totaling $5,650.  The $19,068 is payable
monthly at the rate of $1,362 starting in August 1997.

All of the reductions in the office space outlined above are related to ARM,
which started the year with 7,283 and 2,789 sq. ft. of office and laboratory
space, respectively.  ARS occupies 1,551 sq. ft. of office space and
ARInternet occupies 1,010 sq. ft. of office space.  The Company's corporate
headquarters are expected to be adequate to meet the Company's needs for the
foreseeable future.  

The Company's capital equipment consists primarily of furniture and office
equipment, laboratory equipment and computer hardware located at its corporate
headquarters. See Notes to Consolidated Financial Statements, Note 5.   ARM's
and ARS' capital equipment is believed to be adequate to meet their projected
needs for the foreseeable future.  ARInternet will require additional
computer-related equipment as its customer base increases.  The amount of such
purchases required for fiscal 1998 will depend on growth and therefore can not
be reasonably determined at this time.


ITEM 3.  LEGAL PROCEEDINGS
--------------------------

Neither the Company, nor ARS or ARInternet is currently a party to any pending
litigation or other material legal proceeding.  

On April 2, 1996, ARM filed a voluntary petition for relief under Chapter 11
of the United States Bankruptcy Code.  Under Chapter 11, certain claims
against ARM (the "Debtor") in existence prior to the filing of the petition
for relief under the federal bankruptcy laws are stayed while the Debtor
continues business operations as Debtor-In-Possession.  See Item 6. 
Management's Discussion and Analysis of Financial Condition and Results of
Operations for additional in formation concerning the bankruptcy filing.


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

No matters were submitted to a vote of security holders during the fourth
quarter of the fiscal year ended May 31, 1997. 
<PAGE>
<PAGE>
                                    PART II
                                    -------

ITEM 5.  MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
-----------------------------------------------------------------

(A) MARKET INFORMATION

The Company's common stock commenced trading over the counter on November 23,
1987.  The Company's common stock was listed on the Philadelphia Stock
Exchange on November 9, 1988, and began trading on November 17, 1988, under
the symbol "ARL.X".  The Company's common stock continued to be listed on the
Philadelphia Stock Exchange until February 7, 1995, when it was delisted for
failure to meet the Philadelphia Stock Exchange's maintenance requirements.  

As a result of its delisting from the Philadelphia Stock Exchange, the
Company's common stock is now traded on the Over-the-Counter Electronic
Bulletin Board ("OTCBB") under the symbol "APLS".  The high and low bid prices
as quoted on the OTCBB system, are shown below for the period June 1, 1995
through August 31, 1997.  The high and low bid information as quoted on the
OTCBB represents prices between brokers and dealers does not include retail
mark-ups and mark-downs or any commissions to the broker-dealer.  The prices
may not reflect prices in actual transactions.


<TABLE>
<CAPTION>
                                   High            Low           Last
                                   ----            ---           ----
<S>                               <C>            <C>            <C>   
FISCAL 1996
     First Quarter                0.34375        0.12500        0.34375
     Second Quarter               0.87500        0.25000        0.26000
     Third Quarter                0.68750        0.15625        0.33375
     Fourth Quarter               0.31250        0.06250        0.10000

FISCAL 1997
     First Quarter                0.15000        0.06000        0.06000
     Second Quarter               0.12000        0.02000        0.02000
     Third Quarter                0.05000        0.02000        0.02500
     Fourth Quarter               0.05000        0.02000        0.02000

FISCAL 1998
     First Quarter                0.12500        0.02000        0.05000

</TABLE>


NUMBER OF SHAREHOLDERS
----------------------
The approximate number of shareholders of record for the Company's common
stock as of August 31 , 1997, was 461.  This amount represents the number of
certificate holders and individual non-objecting beneficial owners of the
Company's common stock held in "street name".


DIVIDENDS
---------
No cash dividends have been declared on the common stock of the Company for
either of the last two fiscal years ending May 31, 1997 and 1996.  In
addition, while there are no limitations on the ability of the Company to pay
dividends, management does not anticipate the declaration of a cash dividend
on any class of common stock of the Company in the foreseeable future.

<PAGE>
<PAGE>

ITEM 6.   MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
          RESULTS OF OPERATIONS
-------------------------------------------------------------------------

OVERVIEW
--------
Applied Research Corporation ("the Company") is comprised of two wholly-owned
subsidiaries, Applied Research of Maryland, Inc. ("ARM") and ARSoftware
Corporation ("ARS"), and a majority-owned subsidiary, ARInternet Corporation
("ARInternet").  ARM consists of three unincorporated divisions:  Technical
Services Division, Instruments Division and ARInstruments Division
("ARInstruments").  Management's discussion and analysis of financial
condition and results of operations takes into consideration the activities of
the Company as a whole and each individual operating entity where necessary. 
Management's discussion and analysis should be read in conjunction with, and
the Company's Consolidated Financial Statements, including the related notes
thereto, appearing elsewhere in this report.

ON APRIL 2, 1996, ARM FILED A VOLUNTARY PETITION FOR RELIEF UNDER 
CHAPTER 11 OF THE UNITED STATES BANKRUPTCY CODE.  Under Chapter 11, certain
claims against ARM (the "Debtor") in existence prior to the filing of the
petition for relief under the federal bankruptcy laws are stayed while the
Debtor continues business operations as Debtor-In-Possession.  Prior to the
filing of the Chapter 11 petition, management for the Debtor had been
attempting to sell the assets of ARM.  Subsequent to the filing, and following
one (1) unsuccessful attempt to sell a majority of ARM's assets, the Debtor
entered into an agreement to sell a majority of ARM's assets to Space
Applications Corporation ("SAC").  At a Bankruptcy Court hearing on April 11,
1997, this agreement was subjected to counter offers from three qualified
bidders and after extensive bidding, an offer was accepted for $1.75 Million
from SAC.  Completion of this sale was subject to approval by the Debtor's
principal customer of the transfer of certain contract rights and obligations,
which was received on June 19, 1997, at which time the sale was completed,
with the cash portion of the purchase price being placed in escrow.  The cash
placed in escrow was subsequently disbursed to creditors.  See Notes to
Consolidated Financial Statements, Note 15. 


RESULTS FROM OPERATIONS - 1997 COMPARED TO 1996
-----------------------------------------------

From Continuing Operations
--------------------------
The Company's revenues for the year ended May 31, 1997, were $542,575, or (4)%
below revenues of $563,596 for the same period during 1996.  The decrease in
revenues during the year ended May 31, 1997, of $21,021 is primarily
attributable to the decrease in ARS's revenues of $181,800 or 69% when
compared with revenues of $261,921 generated during the same period in 1996. 
ARInternet's revenues were $462,454, an increase of $160,779 or 53%, over the
previous year, and partially offset the declines experienced by ARS. 

The Company's direct cost of services decreased $79,622 or 31%, from $259,772
during the year ended May 31, 1996, to $180,150 during the same period in
1997.  Of this amount, ARS decreased $107,913 while ARInternet's cost of
services increased $28,291.  The decrease in direct costs of ARS was primarily
related to the lower sales for the period and a decrease in the amount of
amortization of previously capitalized software development costs, compared to
the same period in 1996.  The increase in ARInternet's direct costs of sales
was the direct result of increased sales during the current year. 

Indirect operating costs decreased $31,743 or 100%, from $31,743 during the
year ended May 31, 1997, to $0 during the current year.  The entire decrease
was directly related to a decrease by ARS in technical staff which occurred
during the second half of the previous fiscal year. 

General and administrative ("G&A") expenses decreased $186,708 or 32%, from
$592,497 in 1996, to $405,749 during 1997.  Most notably, the G&A expenses
associated with ARS decreased $128,380 or 68%, while ARInternet's G&A expenses
decreased $58,328 or 14%, during the year ended May 31, 1997.  The decrease in
ARS's G&A expenses was predominantly attributable to a reduction in personnel
and marketing related expenses during the period.  The decrease in
ARInternet's G&A expenses related to a reduction in staffing during 1997 when
compared to the same period in 1996.

As a result of the foregoing, the Company realized an operating loss from
continuing operations for the year ended May 31, 1997, of $(43,324) compared
to an operating loss of $(320,376) for the same period during 1996.  ARS
posted an operating loss of $(31,790) for the year ended May 31, 1997, which
loss represented an improvement of $86,236 or 73% from the operating loss of
$(118,026) during the same period in 1996.  This net improvement for ARS is
directly attributable to a decrease in salary and related fringe benefit
expenses and reductions in marketing and other expenses.  ARInternet posted an
operating loss of $(11,534) for the year ended May 31, 1997, which represented
an improvement of $190,816 or 94% from the operating loss of $(202,350) during
the same period in 1996.  This net improvement for ARInternet was directly
attributable to an increase in the overall revenue levels from the previous
year. 

Interest and other expenses decreased $87,649 or 92%, from $95,028 for the
year ended May 31, 1996, to $7,379 during the current fiscal year.  The
decrease was primarily related to the fact that the Company eliminated
consulting expenses incurred during the same period in 1996.  

The Company sustained a loss from continuing operations of $(50,703) for the
year ended May 31, 1997, compared to a loss from continuing operations of
$(415,404) during the same period in 1996.  This reduction in losses from
continuing operations was the result of improved operating margins from both
ARS and ARInternet, as well as the reduction in consulting expenses.

Loss per common share from continuing operations decreased from $(0.07) in
1996 to $(0.01) in 1997, as a result of the reduced loss for the current
fiscal year when compared to the same period in 1996.


<PAGE>
<PAGE>

From Discontinued Operations
----------------------------
ARM's revenues for the year ended May 31, 1997, were $7,727,647, or (8)% below
revenues of $8,393,868 for the same period during 1996.  The decrease in
revenues during the current fiscal year of $666,221 is primarily attributable
to a decrease in the number of contracts, and therefore, the number of direct
employees generating revenue during the current fiscal period compared to the
previous fiscal year. 

ARM's direct cost of services decreased $318,444 or 6%, from $5,207,341 during
the year ended May 31, 1996, to $4,888,897 during the same period in 1997. 
ARM's decrease in direct costs consisted of a decrease in direct labor and a
decrease in subcontract, material and equipment charges.  The decrease in
direct labor related to a decrease in the number of contracts being performed
at the Company's headquarters, as well as a decrease in the number of
employees doing work at customer sites.

ARM's indirect operating costs decreased $237,359 or 12%, from $1,902,456
during the year ended May 31, 1996, to $1,665,097 during the year ended May
31, 1997.  This decrease is directly related to a decrease in the amount of
indirect labor being charged to overhead, as well as a decrease in fringe
benefit costs incurred as a result of fewer staff.  

ARM's general and administrative ("G&A") expenses decreased $26,378 or 3%,
from $934,453 in 1996, to $908,075 during 1997.  The decrease in ARM's G&A
expenses was directly attributable to the reduction in ARM's G&A staff during
the current year which was partially offset by an increase in professional
fees.  

As a result of the foregoing, ARM realized operating income for the year ended
May 31, 1997, of $265,578 compared to operating income of $349,618 for the
same period during 1996.  The $84,040 decrease in ARM's 1997 operating margin
was primarily related to a decrease in fees realized on ARM's contracts due to
the higher indirect rates realized by ARM during 1997, in particular its
general and administrative rate, as well as, a decrease in award fees being
realized on the Company's largest contract.

ARM's interest and other expenses decreased $288,968 or 51%, from $562,507 for
the year ended May 31, 1996, to $273,539 during the year ended May 31, 1997. 
Net interest expense decreased $218,401 or 58% from 1996.  The decrease in
interest costs was the result of ARM not accruing any interest on either the
delinquent employee 401(k) contributions nor the unpaid federal withholding
taxes (relating to its pre-petition liabilities) during the current fiscal
year when compared to the same period in 1996.  Other expenses also decreased
$70,567 during the year ended May 31, 1997.  This was primarily due the fact
that ARM did not record any penalties during the current period because the
accrual of penalties and interest is stayed as a result of the Company filing
for protection under Chapter 11 of the United States Bankruptcy Code.  The
decrease in penalties of $152,963 was offset by the increase in other expenses
of $22,396 and $60,000 of expenses associated with the sale of a majority of
ARM's assets.

ARM sustained a net loss before income taxes of $(164,785) for the year ended
May 31, 1997, compared to a net loss of $(241,652) during the same period last
year.  The primary reasons for this improvement were the lower interest and
penalty costs realized during 1997, offset by the increase in bankruptcy
related professional fees.


LIQUIDITY AND CAPITAL RESOURCES - 1997 COMPARED TO 1996
-------------------------------------------------------
Total assets decreased $283,518 or 16%, from $1,797,620 at May 31, 1996, to
$1,514,102 at May 31, 1997.  Total liabilities on the other hand decreased
from $3,899,769 to $3,832,358 over the same period, or a decrease of $67,411,
or 2%.

The most significant reason for the decrease in total assets was the decrease
in accounts receivable.  At May 31, 1997, the Company had $955,207 and
$210,542 in billed and unbilled receivables, respectively.  Billed receivables
decreased $135,654 or 12% from May 31, 1996, while unbilled receivables
decreased $223,282 or 51% from May 31, 1996.  The decrease in billed accounts
receivable was primarily the result of the decreases in the average amount
billed due to decreases in revenues.  The decrease in unbilled accounts
receivable consisted of: approximately $90,000 related to the write down of 
unbilled receivables resulting from  audit adjustments for the years ended May
31, 1994, 1995 and 1996 which were completed during 1997.  Additionally,
during May 1997, the Company billed the majority of all of the work performed
during May 1997.  

The most significant reasons for the $249,690 increase in post-petition
liabilities collectively, were increases in: accounts payable of $256,709,
accrued salaries and benefits of $51,983, accrued payroll taxes of $72,428 and
other accrued expenses of $76,122, while notes payable decreased by $140,542
and the provision for contract losses decreased by $60,000.  The increase in
accounts payable related primarily to unpaid professional fees related to the
bankruptcy proceeding, which must be court approved by the Bankruptcy Court
before they can be paid.  The primary reason for the increase in accrued
salaries and benefits was the increase in accrued wages earned by employees (5
days at May 31, 1997 as compared to 4 days at May 31, 1996).  The primary
reason for the increase in the accrued payroll taxes and withholdings related
to the last payroll paid during May 1997.  Taxes for that payroll were not due
until June 1997.  The increase in other accrued liabilities related to accrued
professional fees as well as expenses related to the sale of ARM's assets. 
The provision for contract losses was eliminated at May 31, 1997, since all of
the incurred cost audits through May 31, 1996 were finalized, and therefore,
the unbilled receivables were adjusted to reflect the audit results.

The decrease in pre-petition liabilities of $(317,101) included decreases of: 
$(78,620) in accounts payable, $(40,589) in accrued salaries and related
benefits, and $(205,388) of accrued payroll taxes and withholdings.  The
decrease in pre-petition accounts payable resulted from two customers
offsetting their pre-petition receivable claims against their pre-petition
payable claims.  These two customers were both customers and vendors of ARM,
and according to bankruptcy rules, have the right to offset amounts owed to
them by the amounts owed by them.  The decrease in pre-petition accrued
salaries and benefits related to the decrease in pre-petition accrued
vacation, the payment for which was authorized by a Bankruptcy Court order. 
The decrease in pre-petition accrued taxes and withholdings included $180,000
of monthly payments being made by ARM to the IRS under court order, plus the
collection of a $29,442 in pre-petition accounts receivable which was to be
paid to the IRS as part of the same court order.

The Company's working capital deficit increased by 7% during the year ended
May 31, 1997, from a deficit of $(2,273,810) at May 31, 1996 to a deficit of
$(2,433,340) at May 31, 1997.  


Filing of Chapter 11 Petition by ARM
------------------------------------
The following is a chronology of the events leading up to ARM filing for
protection under Chapter 11 of the United States Bankruptcy laws on April 2,
1996, as well as a discussion of what has happened since the filing and
subsequent signing of an agreement to sell the majority of ARM's assets to a
third party purchaser. 

Because ARM was in default under its December 1, 1995, installment agreement
with the IRS, the Company's assets were subject to immediate seizure and
possible sale by the IRS.  To that end, on April 1, 1996, the IRS issued Levy
Notices to ARM's bank, financing company and the majority of its customers. 
On April 2, 1996, the IRS attempted to close ARM.  As a result, on April 2,
1996, ARM was forced to file for protection under Chapter 11 of the United
States Bankruptcy Code. 

On April 5, 1996, ARM received an emergency hearing with the Bankruptcy Court
to determine its request to pay its employees their pre-petition wages as well
as continue to operate the business.  Prior to the emergency hearing, ARM
reached an agreement with the IRS and CFC (its primary lender) to allow the
company to continue to operate and borrow money from CFC against its billed
receivables.  Under this agreement, ARM agreed to pay $15,000 a month starting
April, 1996, towards its arrearage with the IRS.  The April payment consisted
of $13,600 in cash seized by the IRS on April 1, 1996.  Subsequent monthly
payments have been and will continue to be made directly to the IRS by CFC
from borrowings made by ARM.  ARM was also required to remit to the IRS
collections on certain billed receivables that were outstanding as of April 2,
1996 (which totaled approximately $139,700 and consisted of final vouchers on
14 old contracts).  In addition, as part of the agreement with the IRS, and as
required by the Bankruptcy Court, ARM was required to remit its post-petition
taxes when due and provide proof of such payments to the IRS and the
Bankruptcy Court on a timely basis.  The Bankruptcy Court approved the
agreements with the IRS and CFC, and approved ARM's operating budget for 15
days through April 21, 1996. These agreements have continued to be renewed by
the Bankruptcy Court.  


Sale of ARM's Government Contracts
----------------------------------
ARM informed the Bankruptcy Court and the IRS that it would continue to pursue
the sale of substantially all of ARM's assets.  To that end, ARM placed ads in
several newspapers, including THE WALL STREET JOURNAL.  ARM received
approximately 34 inquires to these ads.  During May and June 1996, the Company
sent information about ARM to 18 Companies and held serious discussions with 7
Companies concerning the sale of ARM's assets. 

On June 24, 1996, the Company accepted a contract for the sale of certain of
ARM's assets for approximately $1.5 Million.  The sale was subject to
Bankruptcy Court approval, a hearing on which was originally scheduled for
July 26, 1996.  This hearing was subsequently moved to July 30, 1996.  At the
hearing, a total of four qualified bidders attended, and after extensive
bidding, an offer was accepted for $2.1 Million.  

During August 1996, management and ARM's bankruptcy attorney negotiated a
contract, which was signed on August 30, 1996.  A Bankruptcy Court order
documenting the bidding procedure as well as the related asset purchase
agreement was submitted to the Bankruptcy Court on September 26, 1996, and was
approved on October 4, 1996.  The sale also required the approval of a
majority of the Company's shareholders.  On October 30, 1996, at the Company's
Annual Meeting of Shareholders, a majority of the Company's shareholders
approved the sale.  The sale was also subject to the successful novation of
ARM's government contracts, which request was submitted to the Government in
October 1996, with the information supporting the request for novation
submitted in early November 1996.  Approval of the novation was expected to
take approximately 60 to 90 days from submission.  On January 31, 1997,
because novation by the government had not occurred, the purchaser chose to
terminate the purchase agreement.

During February 1997, management met with several other interested purchasers,
including the other three bidders that had attended the July 1996, hearing. 
On March 3, 1997, the Company accepted a new contract for the sale of certain
of ARM's assets for $1.475 Million from Space Applications Corporation
("SAC").  The sale was subject to Bankruptcy Court approval, which was
scheduled for April 11, 1997.  At the hearing, a total of three qualified
bidders attended, and after extensive bidding, an offer was accepted for $1.75
Million from SAC.  The purchase price was payable as follows:  $1,172,400 of
cash at closing, $322,400 payable over three years and the assumption of
liabilities totaling $255,200.

Because of the change in the purchase price as well as in the distribution of
funds, the original SAC contract required modifications.  An amendment to the
contract reflecting these changes was signed on April 16, 1997.  A Bankruptcy
Court order documenting the bidding procedure was approved by the Bankruptcy
Court on May 30, 1997.  The sale was subject to the successful novation of
ARM's government contracts, which request was approved on June 19, 1997, at
which time the sale was completed.  

The following is a list of the purchased and excluded assets:

      PURCHASED ASSETS                       EXCLUDED ASSETS

-  All contracts rights (including      -  ARM's charter and status as a
   project contracts),                     corporation, its minute book,
-  All inventory,                          stock transfer records, and
-  All books and records,                  similar records relating to
-  All furniture, fixtures and             ARM's organization, existence
   equipment,                              or capitalization, and the
-  All proprietary rights (patents,        capital stock of ARM,
   etc.),                               -  Billed accounts receivable as
-  All unbilled accounts receivable        of closing,
   relating to expired contracts as     -  Intercompany receivables,
   of January 31, 1997,                 -  All of ARM's cash accounts,
-  All other unbilled accounts          -  ARM's rights to occupy real
   receivable as of the closing date.      property pursuant to leases of real
                                           property and any leasehold
                                           improvements made thereto,
                                        -  Any other property identified by
                                           the Purchaser prior to the closing.


Plan of Reorganization/Payment and Pre-Petition Liabilities
-----------------------------------------------------------
After the sale has been completed, ARM will file a Plan of Reorganization,
which will, among other things, specify how much of the outstanding pre-
petition liabilities will be paid and over what period of time.  It is
expected that a Plan of Reorganization will be filed with the Bankruptcy Court
within 90 days of the completion of the sale.  This Plan is expected to take
several months to receive Bankruptcy Court approval.  It is also expected that
between the monies generated from the sale of ARM's contract rights plus the
collection of outstanding accounts receivable (which are not part of the
sale), there will not be sufficient monies to liquidate all of ARM's pre-
petition liabilities.  Furthermore, it appears that the unsecured creditors
(accounts payable) will receive little or nothing towards their pre-petition
claims.  Specifically, it appears that the following will be paid in full as a
result of the expected Plan of Reorganization:  1) the secured claim of CFC,
ARM's pre-petition and post-petition lender; 2) the principal portions of the
tax amounts owed to the IRS; 3) approximately $255,200 of the $345,138 owed to
the employees for accrued vacation, $530,917 of the $676,000 owed to the
401(k) Plan as of April 2, 1996, as well as certain employees' pre-petition
claims for unreimbursed travel expenses of approximately $50,000; and 4) the
majority of the principal portions of the tax amounts owed to the various
state authorities.  Although these are the current expectations, there can be
no assurance that these amounts will be paid until the Plan of Reorganization
is submitted and confirmed by the Bankruptcy Court.


Collection of the Inter-Company Amounts owed to ARM
---------------------------------------------------
As of April 2, 1996, ARS owed ARM approximately $1.2 Million and ARInternet
owed ARM $0.4 Million.  These amounts resulted from ARM paying certain
operating expenses of ARS's and ARInternet during their start-up phases and
providing continued money thereafter to fund operations.  Since these amounts
are owed to ARM, the ultimate collection of these advances will be supervised
and controlled by the Bankruptcy Court.  As of May 31, 1997, ARS has only one
part-time employee and its assets and sales are minimal.  ARS has still not
achieved breakeven operations.  Therefore payment of any of the amount it owes
ARM is extremely doubtful.  On the other hand, ARInternet has essentially
achieved breakeven operations (on a cash basis) as of May 31, 1997. 
Therefore, it can reasonably be expected that ARInternet will be required to
repay some amount to liquidate its debt to ARM.  The ultimate amount will be
determined by the Bankruptcy Court.  


Impact on ARC after the Sale of ARM is Completed
------------------------------------------------
During the fiscal year ended May 31, 1997, ARM's operations constituted 93% of
ARC's total revenue.  The sale will transfer essentially all of ARM's assets
and operations to the Purchaser and eliminate all of ARM's revenues. 
Therefore, ARS and ARInternet will be the only remaining operating entities. 
Up until the bankruptcy filing, ARM had been forced to continue to fund ARS's
and ARInternet's operations.  During the fiscal year ended May 31, 1996,
(through April 2, 1996), ARM funded approximately $204,600 of ARS and
ARInternet expenses.  After April 2, 1996, because of the ARM bankruptcy
proceedings, ARM ceased all such advances and ARS and ARInternet were forced
to fund their own operations.  ARS is still not operating at cash flow
breakeven, so it is doubtful that it can survive without a substantial
infusion of cash or a significant increase in revenues.  Management is
considering several options for ARS, including ceasing its operations. 
ARInternet on the other hand, has steadily increased its revenues and as of
May 31, 1997, had approximately 1,000 subscribers and had essentially reached
breakeven operations.  Management believes that ARInternet's revenues and
business will continue to grow and that ARInternet will ultimately be a
successful business on its own, however there can be no assurance of this.

The space previously occupied by ARM was not covered by the Bankruptcy
proceeding, since the lease is held by ARC.  On December 1, 1996, ARM vacated
6,349 sq. ft. or 64% of the 10,072 sq. ft. previously occupied by ARM. 
Effective March 1, 1997, the Company signed a lease amendment that reduced its
rental obligation by 1,338 sq. ft. to 8,734 sq. ft., which includes 5,011 of
the 6,349 sq. ft. vacated on December 1, 1996.  Effective August 1, 1997, the
Company signed a second lease amendment that reduced its rental obligation by
an additional 6,462 sq. ft. to 2,272 sq. ft.  The remaining 2,272 sq. ft. will
be vacated by September 30, 1997.  In return for reducing the space the
landlord required ARC to pay a total of $19,068, payable monthly at $1,362
over the balance of the lease, plus forfeiture of the $5,650 deposit held by
the landlord.  This settlement with the landlord will save the Company more
than $103,500 over the remainder of the lease.  In addition to the continuing
lease costs, ARC will continue to incur expenses to maintain its status as a
public company.  

The sale of ARM, will dramatically change the Company's balance sheet and
statement of operations.  Through the bankruptcy proceeding, all of ARM's
debts, which total $3.5 million at May 31, 1997, will be either liquidated or
discharged.  This will decrease interest and penalty costs that the Company
has been incurring.  If ARS and ARInternet's revenues can be increased to
produce net profits and a positive cash flow, the Company may in fact benefit
from the sale of ARM.  However, unless and until this occurs, the Company may
not have sufficient capital to achieve its current business plan, which raises
substantial doubt as to the Company's ability to continue as a going concern
after the sale of ARM is completed.  


INFLATION
---------
The Company anticipates increases in costs associated with the operation of
the business and reflects this in the cost of living escalation factors
proposed on all new work.  In addition, the Company is continually researching
areas to minimize cost increases and strives for improved efficiencies in all
aspects of its business environment.


ITEM 7.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
----------------------------------------------------
                                                                         Page 
                                                                        ------
Index to Consolidated Financial Statements and Supplementary Data:
-----------------------------------------------------------------
Report of Independent Auditors                                           22-23

Financial Statements:

     Consolidated Balance Sheets - May 31, 1997 and 1996                 24-25

     Consolidated Statements of Operations - Years Ended 
     May 31, 1997 and 1996                                                  26

     Consolidated Statements of Changes in Stockholders' 
     Deficit - Years Ended May 31, 1997 and 1996                            27

     Consolidated Statements of Cash Flows - Years Ended
     May 31, 1997 and 1996                                               28-29

     Notes to Consolidated Financial Statements                          30-45

     The Financial Statement Schedules and Exhibits
     are Listed in Part III Item 14                                         20



ITEM 8.   CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
          FINANCIAL DISCLOSURE
-------------------------------------------------------------------------

On August 25, 1997, the Company's Board of Directors approved a change in the
Company's certifying accountant.  The change was effective August 25, 1997.

The independent accountants who were previously engaged as the principal
accountant to audit the Company's financial statements were Friedman & Fuller,
P.C., Certified Public Accountants.  The reports of Friedman & Fuller, P.C.,
covering the Company's 1996, 1995 and 1994 consolidated financial statements
contain a going concern qualification.  Other than the foregoing, none of
Friedman & Fuller, P.C.'s reports over the past two (2) years on the financial
statements of the Company contained any adverse opinion or disclaimer of
opinion, or was qualified or was modified as to uncertainty, audit scope of
accounting principles.  Nor have there been any disagreement with the Company
and Friedman & Fuller, P.C., on any matter of accounting principles or
practices, financial statement disclosure, or auditing scope or procedure
during the past two (2) years and through the date of this report on Form 8-K.

The Company has retained the accounting firm of Aronson, Fetridge and Weigle,
A Professional Corporation, Certified Public Accountants, to serve as the
Company's principal accountant to audit the Company's financial statements. 
This engagement is effective August 25, 1997.  

Prior to its engagement as the Company's principal independent accountant,
Aronson, Fetridge and Weigle has not been consulted by the Company either with
respect to the application of accounting principles to a specific transaction
or the type of audit opinion that might be rendered on the Company's financial
statements or on any matter which was the subject of any prior disagreement
between the Company and its previous certifying accountant.
<PAGE>
<PAGE>
                                   PART III
                                   --------


ITEM  9.  DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
------------------------------------------------------------


ITEM 10.  EXECUTIVE COMPENSATION
--------------------------------


ITEM 11.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
------------------------------------------------------------------------


ITEM 12.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
--------------------------------------------------------
Part III, Items 9, 10, 11 and 12, are incorporated by reference from the
Registrant's definitive Proxy Statement relating to its Annual Meeting of
Shareholders which will be filed in an amendment within 120 days of May 31,
1997.


ITEM 13.  EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
-------------------------------------------------------------------------

     (a)  Certain documents filed as part of the Form 10-KSB
                                                                          Page
                                                                          ----
          (1)  The financial statements included are listed in
               Part II Item 7                                               18

     (b)  Reports on Form 8-K.

          The Company did not file any Current Report on 
          Form 8-K during the quarter ended May 31, 1997.

     (c)  Index to Exhibits                                                 46



           All schedules not included herewith are presented in the
   footnotes to the consolidated financial statements or are not applicable.
<PAGE>
<PAGE>

                         APPLIED RESEARCH CORPORATION

                       CONSOLIDATED FINANCIAL STATEMENTS
<PAGE>
<PAGE>
                         INDEPENDENT AUDITORS' REPORT


The Board of Directors and Stockholders
Applied Research Corporation: 

We have audited the accompanying consolidated balance sheet of Applied
Research Corporation and subsidiaries as of May 31, 1997, and the related
consolidated statements of operations, changes in stockholders' deficit and
cash flows for the year then ended.  These consolidated financial statements
are the responsibility of the Company's management.  Our responsibility is to
express an opinion on these consolidated financial statements based on our
audit.  

We conducted our audit in accordance with generally accepted auditing
standards.  Those standards 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.  An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation.  We believe that our audit provides a reasonable basis
for our opinion. 

In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Applied
Research Corporation and subsidiaries as of May 31, 1997, and the consolidated
results of their operations and their cash flows for the year then ended in
conformity with generally accepted accounting principles.  

The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern: however, the Company had
net working capital and stockholders' capital deficits as of May 31, 1997, as
well as a history of losses.  As discussed in Note 3, the Company's principal
subsidiary has filed for reorganization under Chapter 11 of the United States
Bankruptcy Code and, subsequent to year end, substantially all of its contract
rights and certain other assets were sold to a third party.  This subsidiary
has served as the main source of cash flow for the Company and has provided
continued funding (through the date of the bankruptcy filing) to the Company's
two other subsidiaries, both of which have a history of losses and both of
which have substantial working capital and stockholders' capital deficits. 
The foregoing factors raise substantial doubt about the Company's ability to
continue as a going concern.  Management's plans in regard to these matters
are also described in Note 3.  The consolidated financial statements do not
include any adjustments that might result from the outcome of this
uncertainty. 


                                                                              
          ARONSON, FETRIDGE & WEIGLE


Rockville, Maryland
August 25, 1997
<PAGE>
<PAGE>
                         INDEPENDENT AUDITORS' REPORT


The Board of Directors and Stockholders
Applied Research Corporation: 

We have audited the accompanying consolidated balance sheet of Applied
Research Corporation and subsidiaries as of May 31, 1996, and the related
consolidated statements of operations, changes in stockholders' deficit and
cash flows for the year then ended.  These consolidated financial statements
are the responsibility of the Company's management.  Our responsibility is to
express an opinion on these consolidated financial statements based on our
audit.  

We conducted our audit in accordance with generally accepted auditing
standards.  Those standards 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.  An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation.  We believe that our audit provides a reasonable basis
for our opinion. 

In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Applied
Research Corporation and subsidiaries as of May 31, 1996, and the consolidated
results of their operations and their cash flows for the year then ended in
conformity with generally accepted accounting principles.  

The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern: however, the Company had
net working capital and stockholders' capital deficits as of May 31, 1996, as
well as a history of losses.  As discussed in Note 3, the Company's principal
subsidiary has filed for reorganization under Chapter 11 of the United States
Bankruptcy Code and is subject to a pending agreement under which
substantially all of its contract rights and certain other assets are to be
sold to a third party.  This subsidiary has served as the main source of cash
flow for the Company and has provided continued funding (through the date of
the bankruptcy filing) to the Company's two other subsidiaries, both of which
have a history of losses and both of which have substantial working capital
and stockholders' capital deficits.  The foregoing factors raise substantial
doubt about the Company's ability to continue as a going concern. 
Management's plans in regard to these matters are also described in Note 3. 
The consolidated financial statements do not include any adjustments that
might result from the outcome of this uncertainty. 


                                                                              
          FRIEDMAN & FULLER, P.C.

Rockville, Maryland
August 18, 1996, except for Note 3, 
 as to which the date is August 31, 1996

<PAGE>
<PAGE>
<TABLE>
                 APPLIED RESEARCH CORPORATION AND SUBSIDIARIES
                          CONSOLIDATED BALANCE SHEETS
                             MAY 31, 1997 AND 1996
<CAPTION>
                                                     1997
                                                   Pro-Forma
                                                 Giving Effect
                                                to Sale of ARM        
                                      1997     (Notes 3 and 15)     1996
                                   ----------- ---------------- -------------
<S>                                <C>            <C>            <C>
ASSETS
------
CURRENT ASSETS
    Cash (Note 2)                  $   228,414    $   440,210    $    78,689 
    Accounts receivable, net 
      (Notes 3, 4, 5 and 15)         1,165,749        955,207      1,524,685 
    Due from Space Applications 
      Corporation, short-term 
      (Note 15)                              -         34,900              - 
    Inventory, at cost (Note 2)          2,546          2,546          1,492 
    Other current assets                 2,309          2,309         21,093 
                                   -----------    -----------    -----------
TOTAL CURRENT ASSETS                 1,399,018      1,435,172      1,625,959 
                                   -----------    -----------    -----------
PROPERTY AND EQUIPMENT, AT COST 
  (Notes 2, 3, 5 and 15)
  Furniture and equipment              167,741         20,728        167,405 
  Computer equipment                   488,295        133,195        462,206 
  Laboratory equipment                 121,426              -        121,426 
  Leasehold improvements                22,322            200         22,322 
                                   -----------    -----------    -----------
                                       799,784        154,123        773,359 
  Less accumulated depreciation 
    and amortization                   717,713         99,193        640,589 
                                   -----------    -----------    -----------
NET PROPERTY AND EQUIPMENT              82,071         54,930        132,770 
                                   -----------    -----------    -----------
INTANGIBLE ASSETS, NET OF 
  AMORTIZATION (Notes 2, 3 and 15)      25,654          3,997         32,276 
                                   -----------    -----------    -----------
OTHER ASSETS
  Deposits                               7,359          7,359          6,615 
  Due from Space Applications 
    Corporation, long-term 
    (Note 15)                                -        287,500              - 
                                   -----------    -----------    -----------
TOTAL OTHER ASSETS                       7,359        294,859          6,615 
                                   -----------    -----------    -----------
TOTAL ASSETS                       $ 1,514,102    $ 1,788,958    $ 1,797,620 
                                   ===========    ===========    ===========
</TABLE>

       See accompanying notes to the consolidated financial statements.

<PAGE>
<PAGE>
<TABLE>
                 APPLIED RESEARCH CORPORATION AND SUBSIDIARIES
                    CONSOLIDATED BALANCE SHEETS - Continued
                             MAY 31, 1997 AND 1996
<CAPTION>
                                                     1997
                                                   Pro-Forma
                                                 Giving Effect
                                                to Sale of ARM        
                                      1997     (Notes 3 and 15)     1996
                                   ----------- ---------------- -------------
<S>                                <C>            <C>            <C>
LIABILITIES
-----------
CURRENT LIABILITIES
  Liabilities not subject 
  to compromise:
    Notes payable (Note 5)         $   512,121    $   512,121    $   689,563 
    Loans payable to officers 
      and directors (Note 13)           41,900         41,900          4,000 
    Accounts payable                   419,023        419,023        162,314 
    Accrued salaries and benefits 
      (Notes 6 and 7)                  228,557        137,046        176,574 
    Accrued payroll taxes and 
      withholdings (Notes 2 and 8)     129,571        129,571         57,143 
    Other accrued liabilities          153,787        153,787         77,665 
    Billings in excess of costs 
      and anticipated profits                -              -          9,999 
    Deferred revenue (Note 2)           30,035         30,035         27,635 
    Income taxes payable (Note 9)        1,000          1,000          1,411 
    Provision for contract losses            -              -         60,000 
                                   ------------   ------------   ------------
  Total liabilities not subject 
    to compromise                    1,515,994      1,424,483      1,266,304 
                                   ------------   ------------   ------------
  Liabilities subject to 
    compromise: (Note 3)
      Accounts payable                 325,192        275,192        403,812 
    Accrued salaries and benefits 
      (Notes 6 and 7)                  820,562        385,856        861,151 
    Accrued payroll taxes and 
      withholdings (Note 8)            725,406        166,039        930,794 
    Accrued interest and 
      penalties (Notes 7 and 8)        445,204        395,571        437,708 
                                   ------------   ------------   ------------
  Total liabilities subject to
    compromise                       2,316,364      1,222,658      2,633,465 
                                   ------------   ------------   ------------
TOTAL CURRENT LIABILITIES            3,832,358      2,647,141      3,899,769 
                                   ------------   ------------   ------------
TOTAL LIABILITIES                    3,832,358      2,647,141      3,899,769 
                                   ------------   ------------   ------------
STOCKHOLDERS' DEFICIT
---------------------
Preferred stock, $.10 par value, 
  40,000,000 shares authorized, 
  none issued                                -              -              - 
Common stock, $.0005 par value, 
  60,000,000 shares authorized, 
  6,311,083 shares issued and 
  outstanding in 1997 and 1996 
  (Notes 11 and 12)                      3,155          3,155          3,155 
Capital in excess of par value       1,140,529      1,140,529      1,140,529 
Accumulated deficit                 (3,461,940)    (2,001,867)    (3,245,833)
                                   ------------   ------------   ------------
TOTAL STOCKHOLDERS' DEFICIT         (2,318,256)      (858,183)    (2,102,149)

COMMITMENTS AND CONTINGENCIES 
  (Notes 2, 3, 5, 7, 8, 10, 
   11, 12 and 15)                  ------------   ------------   ------------

TOTAL LIABILITIES AND 
  STOCKHOLDERS' DEFICIT            $ 1,514,102    $ 1,788,958    $ 1,797,620 
                                   ===========    ===========    ===========
</TABLE>

        See accompanying notes to the consolidated financial statements

<PAGE>
<PAGE>
<TABLE>
                 APPLIED RESEARCH CORPORATION AND SUBSIDIARIES
                     CONSOLIDATED STATEMENTS OF OPERATIONS
                       YEARS ENDED MAY 31, 1997 AND 1996

<CAPTION>
                                                   1997             1996
                                               ------------     ------------
<S>                                            <C>              <C>
Revenue (Notes 2 and 15)                       $    542,575     $   563,596 
                                               -------------    ------------
Operating costs and expenses:                                  
  Direct cost of services                           180,150         259,772 
  Indirect operating costs                                -          31,743 
  General & administrative expenses                 405,749         592,457 
                                                ------------    -------------
Total operating costs and expenses                  585,899         883,972 
                                               -------------    ------------
Operating loss from continuing operations           (43,324)       (320,376)
                                               -------------    ------------
Other expense:
  Interest expense, net                               1,531              88 
  Consulting expense associated with 
    stock awards (Note 11)                                -          89,063 
  Penalties                                           4,927           3,711 
  Other, net                                            921           2,166 
                                               -------------    ------------
Total other expense                                   7,379          95,028 
                                               -------------    ------------
Loss before discontinued operations, 
  reorganization items and income taxes             (50,703)       (415,404)
                                               -------------    ------------
Loss from discontinued operations before
  reorganization items (Note 15)                     (7,961)       (212,889)
Reorganization items: 
  Professional fees                                (156,824)        (28,763)
                                               -------------    ------------
Loss from discontinued operations                  (164,785)       (241,652)
                                               -------------    ------------
Loss before income taxes                           (215,488)       (657,056)

Income taxes (Note 9)                                   619               - 
                                               -------------    ------------
Net loss                                       $   (216,107)    $  (657,056)
                                               =============    ============
Net loss per common share:
  Loss before discontinued operations          $      (0.01)    $     (0.07)
  Loss from discontinued operations                   (0.03)          (0.04)
                                               -------------    ------------
  Net loss per common share                    $      (0.03)    $     (0.11)
                                               =============    ============
Weighted average number of shares 
  outstanding                                     6,311,083       6,214,817 
                                               =============    ============
</TABLE>

        See accompanying notes to the consolidated financial statements

<PAGE>
<PAGE>
<TABLE>
                                 APPLIED RESEARCH CORPORATION AND SUBSIDIARIES
                          CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' DEFICIT
                                       YEARS ENDED MAY 31, 1997 AND 1996

<CAPTION>
                                       Common
                                        Stock       Capital in              
                                         Par         Excess of         Accumulated      Stockholders'
                                        Value        Par Value           Deficit           Deficit
                                       -------      -----------       ------------      ------------
<S>                                    <C>          <C>              <C>                <C>         
Balance May 31, 1995                   $ 2,972      $ 1,026,649      $(2,588,777)       $(1,559,156)

Conversion of convertible note
  to common stock (Note 11)                 33           24,967                -             25,000 

Stock awards (Note 11)                     150           88,913                -             89,063 

Net loss                                     -                -         (657,056)          (657,056)
                                       -------      -----------      ------------       ------------
Balance May 31, 1996                     3,155        1,140,529       (3,245,833)        (2,102,149)

Net loss                                     -                -         (216,107)          (216,107)
                                       -------      -----------      ------------       ------------
Balance May 31, 1997                   $ 3,155      $ 1,140,529      $(3,461,940)       $(2,318,256)
                                       =======      ===========      ============       ============

</TABLE>


            See accompanying notes to the consolidated financial statements

<PAGE>
<PAGE>
<TABLE>
                 APPLIED RESEARCH CORPORATION AND SUBSIDIARIES
                     CONSOLIDATED STATEMENTS OF CASH FLOWS
                       YEARS ENDED MAY 31, 1997 AND 1996

<CAPTION>
                                                      1997           1996
                                                  -------------  ------------
<S>                                               <C>            <C>
Cash flows from operating activities:
  Cash received from customers                    $ 8,561,558    $ 9,189,228 
  Cash paid to suppliers and employees             (7,922,503)    (8,530,333)
  Interest paid                                      (165,539)      (268,729)
  Income taxes paid                                    (1,000)       (18,449)
                                                  ------------   ------------
  Net cash provided from operating activities
    before reorganization items                       472,516        371,717 
                                                  ------------   ------------
  Operating cash flows from reorganization items:
    Professional fees paid for services rendered 
      in connection with the Chapter 11 proceeding   (156,824)       (28,763)
                                                  ------------   ------------
  Net cash used by reorganization items              (156,824)       (28,763)
                                                  ------------   ------------
Net cash provided from operating activities           315,692        342,954 
                                                  ------------   ------------
Cash flows from investing activities:
  Capital expenditures                                (26,425)       (61,175)
                                                  ------------   ------------
Net cash used in investing activities                 (26,425)       (61,175)
                                                  ------------   ------------
Cash flows from financing activities:                     
  Proceeds from loans from officers and directors      37,900          4,000 
  Proceeds from equipment loans - post-petition         9,774              - 
  Proceeds of loans from receivables assignment - 
    pre-petition                                            -      6,299,537 
  Proceeds of loans from receivables assignment - 
    post-petition                                   6,466,890      1,430,489 
  Repayment of loans from receivables assignment - 
    pre-petition                                       24,800     (6,568,076)
  Repayment of loans from receivables assignment - 
    post-petition                                  (6,627,610)    (1,342,530)
  Repayment of equipment loan - pre-petition                -        (41,538)
  Repayment of equipment loan - post-petition          (1,696)             - 
                                                  ------------   ------------
Net cash used in financing activities                (139,542)      (218,118)
                                                  ------------   ------------
Net increase in cash                                  149,725         63,661 

Cash at the beginning of year                          78,689         15,028 
                                                  ------------   ------------
Cash at the end of year                           $   228,414    $    78,689 
                                                  ============   ============
</TABLE>

        See accompanying notes to the consolidated financial statements

<PAGE>
<PAGE>
<TABLE>
                 APPLIED RESEARCH CORPORATION AND SUBSIDIARIES
               CONSOLIDATED STATEMENTS OF CASH FLOWS - Continued
                       YEARS ENDED MAY 31, 1997 AND 1996

<CAPTION>
                                                      1997           1996
                                                  -------------  ------------
<S>                                               <C>            <C>
Reconciliation of net loss to net cash 
  provided from operating activities:

Net loss                                          $  (216,107)   $  (657,056)

Adjustments to reconcile net loss to net cash 
  provided from operating activities:                            
  Depreciation                                         77,124         77,722 
  Amortization                                          6,622         25,776 
  Provision for contract losses                       (60,000)        20,000 
  Consulting expense associated with stock awards           -         89,063 
  Changes in assets and liabilities:
    Decrease in accounts receivable                   358,936        268,168 
    Decrease (increase) in inventory                   (1,054)         2,217 
    Decrease in other current assets                   18,784         39,726 
    Increase in intangible assets                           -           (695)
    Decrease (increase) in other assets                  (744)        34,460 
    Decrease in accounts payable - pre-petition       (78,620)      (145,483)
    Increase in accounts payable - post-petition      256,709        162,314 
    Decrease in accrued salaries and 
       benefits - pre-petition                        (40,589)      (354,133)
    Increase in accrued salaries and 
       benefits - post-petition                        51,983        176,574 
    Increase (decrease) in accrued payroll taxes 
       and withholdings - pre-petition               (205,388)       449,218 
    Increase in accrued payroll taxes and 
       withholdings - post-petition                    72,428         57,143 
    Increase in accrued interest and penalties - 
       pre-petition                                     7,496         75,128 
    Increase in other accrued liabilities - 
       post-petition                                   76,122         77,665 
    Decrease in billings in excess of costs 
       and anticipated profits                         (9,999)       (49,595)
    Increase in deferred revenue                        2,400         13,191 
    Decrease in income taxes payable                     (411)       (18,449)
                                                  ------------   ------------
Net cash provided from operating activities       $   315,692    $   342,954 
                                                  ============   ============
</TABLE>

Supplemental disclosure of cash flow information:

During the year ended May 31, 1996, the holder of a $25,000 note converted the
note into 66,667 shares of common stock of the Company (See Note 11 for
additional information).

During the year ended May 31, 1996, two companies were issued 300,000 shares
of common stock as compensation for their services under consulting agreements
(See Note 11 for additional information).

        See accompanying notes to the consolidated financial statements

<PAGE>
<PAGE>
                 APPLIED RESEARCH CORPORATION AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                             MAY 31, 1997 AND 1996


1.   ORGANIZATION
     ------------
Applied Research Corporation is organized under the laws of the state of
Colorado and is comprised of two wholly-owned subsidiaries, Applied Research of
Maryland, Inc. ("ARM") and ARSoftware Corporation ("ARS"), and one majority-
owned subsidiary, ARInternet Corporation ("ARInternet").  In addition, the
Company formed ARInstruments Division ("ARInstruments"), an unincorporated
commercial instrumentation division of ARM.

ARM is a high technology company specializing in research and development,
design and fabrication of sensors and instrumentation, technical support
services and scientific related software creation.  ARM's major areas of
service include Astronomy and Astrophysics, Atmospheric Sciences, Meteorology,
the Space Sciences and Computer Related Analytical Services.  ON APRIL 2, 1996,
ARM FILED A VOLUNTARY PETITION FOR RELIEF UNDER CHAPTER 11 OF THE UNITED STATES
BANKRUPTCY CODE.  SEE NOTE 3 TO THE CONSOLIDATED FINANCIAL STATEMENTS FOR
ADDITIONAL INFORMATION.

ARInstruments was formed in fiscal 1993 to penetrate the government and
commercial instrumentation markets.  During its many years of performing under
government contracts, the Company has developed expertise in custom design and
fabrication work.  In addition, members of the Company's technical staff have
investigated and researched other government and commercial applications for
existing technologies.  The Company formed ARInstruments to segregate these
operations from the government contract operations in the design, fabrication,
and distribution of instrumentation products.  During the fiscal year ended May
31, 1994, ARInstruments began research and development efforts related to
product development and initiated two patent applications.  These patents were
granted during the fiscal year ended May 31, 1995.  The costs associated with
obtaining these patent applications have been capitalized.

ARS was established in April 1992, to diversify the business base of the
Company by developing niche markets in the computer software industry.  ARS is
currently reselling existing products under licensing agreements.  

ARInternet was established in November 1994, to diversify the business base of
the Company by developing niche markets in the on-line computer services
industry.  ARInternet is an Internet provider and plans on providing scientific
and other information to the scientific and engineering communities.

Applied Research Corporation maintains only minimal resources and derives all
of its income from its subsidiaries.  As hereinafter used, Applied Research
Corporation or the term "Company" shall refer to Applied Research Corporation
and its subsidiaries, except when otherwise indicated.


2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
     ------------------------------------------

PRINCIPLES OF CONSOLIDATION
---------------------------
The accompanying consolidated financial statements include the accounts of
Applied Research Corporation and its wholly and majority-owned subsidiaries. 
All significant intercompany balances and transactions have been eliminated in
consolidation.

<PAGE>
<PAGE>

CONTRACT REVENUE
----------------
Revenue on cost-plus fixed fee contracts is recorded on the basis of
recoverable direct costs incurred plus indirect expenses and the allocable
portion of the fixed fee.  Fixed price contracts are accounted for under the
percentage of completion method measured by cost of services performed to total
estimated cost of services.  Revenue under time and material contracts is
recorded at negotiated rates as labor hours and other direct costs are
incurred.  Cost-to-complete estimates are reviewed periodically and revised as
required and a provision for estimated losses on contracts is recorded when
identified.  

All contract costs, including direct and indirect costs are subject to audit by
the Defense Contract Audit Agency ("DCAA") and ultimate reimbursement of costs
is contingent upon the outcome of such audits.  As of May 31, 1997, the DCAA
has completed audits for the years 1982 to 1996 and all adjustments resulting
from these audits are reflected in the consolidated financial statements
presented.

In the opinion of management, adequate provision has been made in the
accompanying consolidated financial statements for adjustments, if any, which
may result from the audit for fiscal year 1997.


SOFTWARE REVENUE
----------------
ARS resells software products developed by other companies as well as state of
the art proprietary software products developed by the Company for use in the
scientific and engineering communities.  Revenue is recorded when the software
program is shipped to the customer.  


SUBSCRIPTION REVENUE
--------------------
ARInternet provides online computer access to the internet (information super
highway).  ARInternet offers monthly, quarterly, semi-annual and annual
subscriptions to its customers.  These subscriptions are billable in advance. 
ARInternet recognizes revenue on an as-earned basis.  Deferred revenue is
recorded for amounts received from customers in advance.  Subscriptions may be
canceled by the customer at any time, upon written notice.


CASH EQUIVALENTS
----------------
Cash equivalents are defined as highly liquid short-term investments whose
maturity dates do not extend past three months from the original date of
purchase.  At May 31, 1997, the Company held no such investments.  At May 31,
1997, ARM held $145,840 of cash that is restricted, as follows.

<TABLE>
<CAPTION>
                        Description                 Amount
             --------------------------------     ----------
<S>          <C>                                  <C>      
             Held for ARM withholding taxes       $ 101,226
             Held for 401(k) Plan (see Note 7 
               to the Consolidated Financial 
               Statements)                           44,614
                                                  ---------
             Total                                $ 145,840
</TABLE>
<PAGE>
<PAGE>

INVENTORY
---------
Inventory consists principally of computer software and is stated at the lower
of purchased cost or market.  Cost is determined by using the first-in, first-
out (FIFO) method.


DEPRECIATION AND AMORTIZATION
-----------------------------
Depreciation of furniture, office equipment, lab equipment and computer
equipment is computed on the straight-line method over the estimated useful
economic lives of the assets, generally 3 to 5 years.  Leasehold improvements
are amortized over the estimated economic life of the improvement or the
remaining term of the lease, whichever is shorter.  


INTANGIBLE ASSETS
-----------------
Intangible assets consist of capitalized computer software costs and patent
development costs.

Capitalized computer software costs consist of expenses associated with
producing "product masters" for two products developed by ARS.  These costs
have been capitalized in accordance with Statement of Financial Accounting
Standard #86 (SFAS No. 86).  In accordance with SFAS No. 86, the annual
amortization of these capitalized costs shall be the greater of the amount
computed using (a) the ratio that current gross revenues for a particular
product bear to the total of current and anticipated future gross revenues for
the product or (b) the straight line method over the remaining estimated
economic life of the product.  At May 31, 1997 and 1996, net capitalized
software costs were $3,997 and $9,325, net of accumulated amortization of
$288,124 and $282,796, respectively.  ARS began amortizing these costs on a
product-by-product basis as the associated products became available for
general release to customers.  During the years ended May 31, 1997 and 1996,
$5,328 and $24,483, respectively, in amortization expense had been recorded for
products associated with the capitalized software development costs. 

During the year ended May 31, 1995, the Company was granted two patents.  The
costs associated with obtaining these patents were capitalized and are being
amortized over the life of the patents, which is 20 years from application, or
approximately 18.5 years after notification of receipt.  


DEFERRED OFFERING EXPENSES  
--------------------------
During the year ended May 31, 1995, the Company paid approximately $30,500 of
costs that were associated with arranging for the raising of additional capital
in fiscal 1996, which effort was abandoned.  As a result, these costs were
charged to expense during the year ended May 31, 1996.


MINORITY INTEREST IN CONSOLIDATED SUBSIDIARY  
--------------------------------------------
The Company owns 95% of ARInternet which was formed during November 1994. 
However, because the minority interest in net losses of ARInternet exceeded the
carrying value of the minority interest amount at May 31, 1996 and 1997, no
minority interest has been reflected in the consolidated financial statements. 
In the future, if ARInternet earns profits, to the extent that such profits
attributable to the minority interest exceed the minority interest losses
absorbed by the Company, such minority interest will be recognized in the
financial statements.


USE OF ESTIMATES IN PREPARATION OF FINANCIAL STATEMENTS
-------------------------------------------------------
The preparation if financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the amounts reported in the financial statements and accompanying
notes.  Actual results could differ from those estimates.


INCOME TAXES
------------
Deferred income taxes result from temporary differences in the recognition of
revenue and expenses for financial accounting and tax purposes.  The principal
source of temporary differences relates to differences in the amount of
financial statement and tax treatment of net operating loss carryforwards,
compensated absences, capitalized software development costs, certain accrued
expenses and certain accrued contract amounts.


LOSS PER COMMON SHARE
---------------------
Loss per share of common stock has been computed by dividing the net loss by
the weighted average number of shares of common stock outstanding during each
of the periods presented.  Common stock equivalent shares relating to stock
options and warrants are included in the weighted average only when the effect
is dilutive.


RECLASSIFICATIONS
-----------------
Certain amounts in the 1996 consolidated financial statements have been
reclassified to conform with the 1997 presentation.  The 1996 Consolidated
Statement of Operations has been changed to show the effect of the discontinued
operations.


3.   VOLUNTARY PETITION FOR RELIEF UNDER CHAPTER 11/SALE OF ARM AND
     MANAGEMENT'S PLANS TO CONTINUE AS A GOING CONCERN
     --------------------------------------------------------------
On April 2, 1996, ARM (the "Debtor") filed a petition for relief under Chapter
11 of the federal bankruptcy laws in the United States Bankruptcy Court for the
Southern District of Maryland.  Neither ARC, ARS nor ARInternet filed for
relief.  Under Chapter 11, certain claims against the Debtor in existence prior
to the filing of the petitions for relief under the federal bankruptcy laws are
stayed while the Debtor continues business operations as Debtor-In-Possession. 
These claims are reflected in the information provided in Note 14 under
"liabilities subject to compromise".  Additional claims (liabilities subject to
compromise) may arise subsequent to the filing date resulting from the
rejection of executory contracts, including leases, and from the determination
by the court (or agreement of the parties in interest) of allowed claims for
contingencies and other disputed amounts.  Claims secured against the Debtor's
assets ("secured claims") also are stayed, although the holders of such claims
have the right to move the court for relief from the stay.  Secured claims are
secured primarily by liens on the Debtor's property, including the Debtor's
accounts receivable.

On April 5, 1996, ARM received an emergency hearing with the Bankruptcy Court
to determine its request to pay its employees their pre-petition wages as well
as continue to operate the business.  Prior to the emergency hearing, ARM
reached an agreement with the IRS and CFC (its lender - see Note 5) to allow
the company to continue to operate and borrow money from CFC against its billed
receivables.  Under this agreement, ARM agreed to pay $15,000 a month starting
April 1996, towards its arrearage with the IRS.  The April payment consisted of
the $13,600 of cash seized by the IRS on April 1, 1996.  Subsequent monthly
payments have been and will continue to be made directly to the IRS by CFC from
borrowings made by ARM.  ARM was also required to remit to the IRS collections
on certain billed receivables that were outstanding as of April 2, 1996 (the
final vouchers on 14 old contracts, which totaled approximately $136,700).  In
addition, as part of the agreement with the IRS and as required by the
Bankruptcy Court, ARM was required to remit its post-petition taxes when due
and provide proof of such payments to the IRS and the Court on a timely basis. 
The Bankruptcy Court approved the agreements with the IRS and CFC, and approved
ARM's operating budget for 15 days through April 21, 1996.  These agreements
have continued to be renewed by the Bankruptcy Court.  

The Debtor has determined that there is insufficient collateral to cover the
interest portion of scheduled payments on its pre-petition debt obligations,
most notably the installment obligation due to the IRS prior to the filing of
the petition.  The Debtor has curtailed accruing interest on all pre-petition
obligations except the amounts owed CFC (See Note 5) because of the Bankruptcy
filing.  In addition, the Debtor has curtailed accruing interest on the unpaid
amounts due to the 401(k) Plan, because of the Bankruptcy filing. 


SALE OF ARM'S GOVERNMENT CONTRACTS
----------------------------------
On June 24, 1996, the Company accepted a contract for the sale of certain of
ARM's assets for approximately $1.5 Million.  The sale was subject to
Bankruptcy Court approval, a hearing on which was originally scheduled for July
26, 1996.  This hearing was subsequently moved to July 30, 1996.  At the
hearing, a total of four qualified bidders attended, and after extensive
bidding, an offer was accepted for $2.1 Million.  

During August 1996 a Bankruptcy Court   order documenting the bidding procedure
as well as the related asset purchase agreement was submitted to the Bankruptcy
Court on September 26, 1996, and was approved on October 4, 1996.  The sale
also required the approval of a majority of the Company's shareholders.  On
October 30, 1996, at the Company's Annual Meeting of Shareholders, a majority
of the Company's shareholders approved the sale.  The sale was also subject to
the successful novation of ARM's government contracts, which request was
submitted to the Government in October 1996, with the information supporting
the request for novation submitted in early November 1996.  Approval of the
novation was expected to take approximately 60 to 90 days from submission.  On
January 31, 1997, because novation by the government had not occurred, the
purchaser chose to terminate the purchase agreement.  

During February 1997, management met with several other interested purchasers,
including the other three bidders that had attended the July 1996, hearing.  On
March 3, 1997, the Company accepted a new contract for the sale of certain of
ARM's assets for $1.475 Million from Space Applications Corporation ("SAC"). 
The sale was subject to Bankruptcy Court approval, which was scheduled for
April 11, 1997.  At the hearing, a total of three qualified bidders attended,
and after extensive bidding, an offer was accepted for $1.75 Million from SAC.
The purchase price was payable as follows:  $1,172,400 of cash at closing,
$322,400 payable over three years and the assumption of liabilities totaling
$255,200.

Because of the change in the purchase price as well as in the distribution of
funds, the original SAC contract required modifications.  An amendment to the
contract reflecting these changes was signed on April 16, 1997.  A Bankruptcy
Court  order documenting the bidding procedure was approved by the Bankruptcy
Court on May 30, 1997.  The sale was subject to the successful novation of
ARM's government contracts, which request was approved on June 19, 1997, at
which time the sale was completed with payment of the cash portion of the
purchase price being placed in escrow.  The cash placed in escrow was
subsequently disbursed to creditors.  See Note 15 below.

The following is a list of the purchased and excluded assets:

       PURCHASED ASSETS                        EXCLUDED ASSETS

-  All contracts rights (including      -  ARM's charter and status as a
   project contracts),                     corporation, its minute book,
-  All inventory,                          stock transfer records, and
-  All books and records,                  similar records relating to
-  All furniture, fixtures and             ARM's organization, existence
   equipment,                              or capitalization, and the
-  All proprietary rights (patents,        capital stock of ARM,
   etc.),                               -  Billed accounts receivable as
-  All unbilled accounts receivable        of closing,
   relating to expired contracts as     -  Intercompany receivables,
   of January 31, 1997,                 -  All of ARM's cash accounts,
-  All other unbilled accounts          -  ARM's rights to occupy real
   receivable as of the closing date.      property pursuant to leases of real
                                           property and any leasehold
                                           improvements made thereto,
                                        -  Any other property identified by the
                                           Purchaser prior to the closing.


PLAN OF REORGANIZATION/PAYMENT AND PRE-PETITION LIABILITIES
-----------------------------------------------------------
After the sale has been completed, ARM will file a Plan of Reorganization,
which will, among other things, specify how much of the outstanding pre-
petition liabilities will be paid and over what period of time.  It is expected
that a Plan of Reorganization will be filed with the Bankruptcy Court within 90
days of the completion of the sale.  This Plan is expected to take several
months to receive Bankruptcy Court approval.  It is also expected that between
the monies generated from the sale of ARM's contracts rights plus the
collection of outstanding accounts receivable (which are not part of the sale),
there will not be sufficient monies to liquidate all of ARM's pre-petition
liabilities.  Furthermore, it appears that the unsecured creditors (accounts
payable) will receive little or nothing towards their pre-petition claims. 
Specifically, it appears that the following will be paid in full as a result of
the expected Plan of Reorganization:  1) the secured claim of CFC, ARM's pre-
petition and post-petition lender; 2) the principal portions of the tax amounts
owed to the IRS;  3) approximately $255,200 of the $345,138 owed to the
employees for accrued vacation, $530,917 of the $676,000 owed to the 401(k)
Plan as of April 2, 1996, as well as certain employees' pre-petition claims for
unreimbursed travel expenses of approximately $50,000; and 4) the majority of
the principal portions of the tax amounts owed to the various state
authorities.  Although these are the current expectations, there can be no
assurance that these amounts will be paid until the Plan of Reorganization is
submitted and confirmed by the Bankruptcy Court.


COLLECTION OF THE INTER-COMPANY AMOUNTS OWED TO ARM
---------------------------------------------------
As of April 2, 1996, ARS owed ARM approximately $1.2 Million and ARInternet
owed ARM $0.4 Million.  These amounts resulted from ARM paying certain
operating expenses of ARS's and ARInternet during their start-up phases and
providing continued money thereafter to fund operations.  Since these amounts
are owed to ARM, the ultimate collection of these advances will be supervised
and controlled by the Bankruptcy Court.  As of May 31, 1997, ARS has only one
part-time employee and its assets and sales are minimal.  ARS has still not
achieved breakeven operations.  Therefore payment of any of the amount it owes
ARM is extremely doubtful.  On the other hand, ARInternet has essentially
achieved breakeven operations (on a cash basis) as of May 31, 1997.  Therefore,
it can reasonably be expected that ARInternet will be required to repay some
amount to liquidate its debt to ARM.  The ultimate amount will be determined by
the Bankruptcy Court. 


IMPACT ON ARC AFTER THE SALE OF ARM IS COMPLETED
------------------------------------------------
During the fiscal year ended May 31, 1997, ARM's operations constituted 93% of
ARC's total revenue.  The sale will transfer  essentially all of ARM's assets
and operations to the Purchaser and eliminate all of ARM's revenues. 
Therefore, ARS and ARInternet will be the only remaining operating entities. 
Up until the bankruptcy filing, ARM had been forced to continue to fund ARS's
and ARInternet's operations.  During the fiscal year ended May 31, 1996,
(through April 2, 1996), ARM funded approximately $204,600 of ARS and
ARInternet expenses.  After April 2, 1996, because of the ARM bankruptcy
proceedings, ARM ceased all such advances and ARS and ARInternet were forced to
fund their own operations.  ARS is still not operating at cash flow breakeven,
so it is doubtful that it can survive without a substantial infusion of cash or
a significant increase in revenues.  Management is considering several options
for ARS, including ceasing its operations.  ARInternet on the other hand, has
steadily increased its revenues and as of May 31, 1997, had approximately 1,000
subscribers and had essentially reached breakeven operations.  Management
believes that ARInternet's revenues and business will continue to grow and that
ARInternet will ultimately be a successful business on its own, however there
can be no assurance of this.

The space previously occupied by ARM was not covered by the Bankruptcy
proceeding, since the lease is held by ARC.  On December 1, 1996, ARM vacated
6,349 sq. ft. or 64% of the 10,072 sq. ft. previously occupied by ARM. 
Effective March 1, 1997, the Company signed a lease amendment that reduced its
rental obligation by 1,338 sq. ft. to 8,734 sq. ft., which includes 5,011 of
the 6,349 sq. ft. vacated on December 1, 1996.  Effective August 1, 1997, the
Company signed a second lease amendment that reduced its rental obligation by
an additional 6,462 sq. ft. to 2,272 sq. ft..  The remaining 2,272 sq. ft. will
be vacated by September 30, 1997.  In return for reducing the space the
landlord required ARC to pay a total of $19,068, payable monthly at $1,362 over
the balance of the lease, plus forfeiture of the $5,650 deposit held by the
landlord.  This settlement with the landlord will save the Company more than
$103,500 over the remainder of the lease.  In addition to the continuing lease
costs, ARC will continue to incur expenses to maintain its status as a public
company.  

The sale of ARM, will dramatically change the Company's balance sheet and
statement of operations.  Through the bankruptcy proceeding, all of ARM's
debts, which total $3.5 million at May 31, 1997, will be either liquidated or
discharged.  This will decrease interest and penalty costs that the Company has
been incurring.  If ARS and ARInternet's revenues can be increased to produce
net profits and a positive cash flow, the Company may in fact benefit from the
sale of ARM.  However, unless and until this occurs, the Company may not have
sufficient capital to achieve its current business plan, which raises
substantial doubt as to the Company's ability to continue as a going concern
after the sale of ARM is completed.  



4.   ACCOUNTS RECEIVABLE
     -------------------
Accounts receivable are comprised of the following at May 31:

<TABLE>
<CAPTION>
                                                1997          1996
                                            ------------  ------------
<S>                                         <C>           <C>         
Billed accounts receivable, (1997 
  includes $214,638 of May 1997 
  expenses billed in June 1997)             $   963,686   $ 1,100,861 
Unbilled costs, fees and retentions
  under cost-type contracts                     210,542       433,824 
                                            ------------  ------------
                                              1,174,228     1,534,685 
Less:  allowance for doubtful accounts            8,479        10,000 
                                            ------------  ------------
Accounts receivable - net of allowance      $ 1,165,749   $ 1,524,685 
                                            ============  ============
</TABLE>

Principally all of the Company's revenues are generated from contracts with
departments or agencies of the U.S. Government ("Government") and are subject
to audit by Government auditors (see Note 2 - Contract Revenue).  In 1997 and
1996, net sales to the Government or to prime contractors under Government
contracts amounted to approximately $7,632,300 and $8,393,900, respectively. 

The Company extends unsecured credit to essentially all of its customers.  As
of May 31, 1997 and 1996, billed accounts receivables included approximately
$868,825 and $1,066,953, respectively, due from either the Government or from
prime contractors under Government contracts. 

In accordance with industry practice, accounts receivable relating to long-term
contracts are classified as current assets.  In 1997 and 1996, accounts
receivable of approximately $112,000 and $166,000 respectively are not expected
to be realized within one (1) year.  These amounts are comprised primarily of
retainages on long-term contracts.


5.   NOTES PAYABLE
     -------------
Notes payable are comprised of the following at May 31:

<TABLE>
<CAPTION>
                                                1997          1996
                                            ------------  ------------
<S>                                           <C>           <C>      
    Notes payable to asset-based 
       lending organization                   $ 504,043     $ 689,563

    Equipment loan                                8,078             -
                                              ---------     ---------
    Total notes payable                       $ 512,121     $ 689,563

</TABLE>

On November 17, 1995, ARM entered into an agreement with a lender ("CFC") to
provide financing at an interest rate of prime plus 4%, calculated on the mid-
month and end-of-month balances.  There is also a 0.65% service charge for each
15 day period on outstanding invoices. 

Subsequent to the filing of the Chapter 11 petition in the Bankruptcy Court,
CFC was granted a "First Lien" position in all post-petition financing.  CFC
has continued lending to ARM against its post-petition receivables.  During
July 1997, CFC was paid in full from the collection of the post-petition
receivables secured by the agreement.

During September 1996, ARInternet entered into an equipment financing
arrangement to provide capital to purchase equipment and related software.  The
loan carries an interest rate of 10% and is payable over two years and is
secured by the equipment.


6.   ACCRUED SALARIES AND BENEFITS
     -----------------------------
Accrued salaries and benefits are comprised of the following at May 31:

<TABLE>
<CAPTION>
                                                1997          1996
                                            ------------  ------------
<S>                                            <C>           <C>                       
Liabilities not subject to compromise:
  Accrued salaries                             $ 101,647     $ 122,681
     Accrued vacation                            104,072        35,403
     Retirement plan contributions 
        (employer) (see Note 7)                    7,161         3,698
     Retirement plan contributions 
        (employee) (see Note 7)                   13,912        14,792
     Retirement plan loan payments 
        (employee)                                 1,765             -
                                               ---------     ---------
  Total accrued salaries and benefits - 
     not subject to compromise                 $ 228,557     $ 176,574
                                               =========     =========
  Liabilities subject to compromise:
     Accrued vacation                          $ 253,627     $ 294,216
     Retirement plan contributions 
        (employer) (see Note 7)                  203,449       203,449
     Retirement plan contributions 
        (employee) (see Note 7)                  326,383       326,383
     Retirement plan loan payments 
        (employee)                                37,103        37,103
                                               ---------     ---------
  Total accrued salaries and benefits - 
     subject to compromise                     $ 820,562     $ 861,151
                                               =========     =========
</TABLE>

As part of the agreement to sell the majority of assets of ARM, the purchaser
has agreed to assume $255,200 of the combined pre and post-petition vacation
liability.  In addition, the purchase agreement provides for total combined
payments to the 401(k) plan of $530,917.

<PAGE>
<PAGE>

7.   RETIREMENT PLAN
     ---------------
The Company has a retirement plan (401(k) Plan) which is available to all
qualified employees.  Employee contributions up to 10 percent of annual
compensation, up to $9,500 for calendar year 1996, may be made to the plan. 
The Company provides matching funds up to 25 percent of the employee's
contributions to the plan.  The plan provides that forfeitures may be used to
reduce the Company's contribution.  The Company's matching funds, net of
forfeitures, totaled $39,647 and $49,401 in 1997 and 1996, respectively.

As of April 2, 1996, ARM had not remitted employee contributions of $326,383,
employer contributions of $203,449, and loan payments of $37,103, as well as
$109,000 of accrued interest to the Plan.  Prior to the filing of the
bankruptcy ARM had accrued interest at the rate of 15% per annum on the unpaid
employee withholdings and approximately 5% on the unpaid employer
contributions.  

During July, 1995, ARM agreed to and signed contract modifications on its two
largest contracts with NASA.  The contract modifications require ARM to remit
an increasing portion of its fee earned on these two contracts directly to the
401(k) plan in order to reduce the past due amounts owed.  The portion of the
fees applied to the plan was 25% for the fees earned beginning January 1, 1995
and increased to 75% during calendar year 1995.  Effective January 1, 1996, the
percentage increased to 100%.  The contract modifications will remain in effect
until all past due amounts owed the 401(k) plan have been repaid.  Through
April 2, 1996, fees totaling $80,274 earned under these contracts had been
remitted to the 401(k) plan in accordance with the contract modifications. 
Although ARM continued to segregate these monies collected after the filing of
the bankruptcy these funds were not remitted to the Plan since they were pre-
petition claims.  These modifications were eliminated upon novation of these
contracts to SAC.

The Company's failure to remit 401(k) contributions in a timely fashion and/or
bring its past due obligations current may subject the Company to legal
proceedings seeking to collect unpaid contributions, together with interest
thereon, liquidated damages and attorney's fees.  

During December 1995, the Department of Labor ("DOL") conducted an
investigation into the Company's 401(k) Plan and the status of the past due
contributions.  There has been no indication that the DOL will impose any fines
and/or penalties as a result of the past due contributions therefore no
estimates can be made regarding any potential additional liabilities.  At May
31, 1997, other than the interest that has already been accrued as discussed
above, no additional amounts have been recorded.  


8.   WITHHOLDING TAXES
     -----------------
As of April 2, 1996, ARM had not remitted pre-petition federal payroll tax
withholdings and unemployment taxes totaling $764,755.  ARM has accrued
penalties and interest on those delinquent amounts totaling approximately
$315,000 through April 2, 1996.  As of May 31, 1997, $559,367 of the pre-
petition federal payroll tax withholdings and unemployment taxes remained
outstanding, which were paid upon the closing of the ARM sale.

As of April 2, 1996, ARM was also delinquent in remitting $153,062 of 1995 and
1996 state withholding taxes, as well as $12,977 in state unemployment taxes. 
These claims are all pre-petition claims covered by the Bankruptcy proceeding. 
Collection of these taxes are stayed by the Bankruptcy proceeding.


9.   INCOME TAXES
     ------------
Statement of Financial Standards No. 109, "Accounting for Income Taxes" ("SFAS
109"), requires an asset and liability approach to financial accounting and
reporting for income taxes.  Deferred income tax assets and liabilities are
computed annually for differences between the financial statement and tax bases
of assets and liabilities that will result in taxable or deductible amounts in
the future based on enacted tax laws and rates applicable to the periods in
which the differences are expected to affect taxable income.

SFAS 109 provides that deferred tax assets be reduced by a valuation allowance
if it is more likely than not that some portion of the deferred asset will not
be realized.

The tax effects of temporary differences computed at statutory rates in effect
as of May 31, 1997 and 1996 are as follows:

<TABLE>
<CAPTION>
                                                                   Net
Deferred tax assets:                1997          1996           Change
                                 -----------   -----------    ------------
<S>                              <C>           <C>            <C>         
  Accrued vacations              $   39,000    $   78,000     $   (39,000)
  Bad debt allowances                 3,000         4,000          (1,000)
  Reserves for contract losses            -        24,000         (24,000)
  Unfunded pension (employer)        80,000        81,000          (1,000)
  Unfunded pension (employee)        23,000       131,000        (108,000)
  Depreciation                       15,000         2,000          13,000 
  Accrued interest                   70,000        72,000          (2,000)
  Deferred revenue                   12,000        11,000           1,000 
  N.O.L. carryforward               733,000       544,000         189,000 
                                 -----------   -----------    ------------
                                    975,000       947,000          28,000 

  Valuation allowance              (926,000)     (877,000)        (49,000)
                                 -----------   -----------    ------------
                                 $   49,000    $    70,000    $   (21,000)
                                 ===========   ===========    ============
Deferred tax liabilities:
  Retainages                     $  (43,000)   $  (66,000)    $    23,000 
  Capitalized software               (6,000)       (4,000)         (2,000)
                                 -----------   -----------    ------------
                                 $  (49,000)   $  (70,000)    $    21,000 
                                 ===========   ===========    ============
</TABLE>

The net increase in the deferred tax asset valuation allowance during the 1997
was $49,000.  In recognizing its deferred tax assets, the Company has used
assumptions about levels of future pretax income that are consistent with
historical results.

The Company had a net loss for federal income tax purposes for fiscal years
1997 and 1996.  A provision for current state income taxes for fiscal year 1997
of $619 has been included in the determination of net income.  This provision
arises from the reporting of taxable income by the Company's ARM subsidiary on
its separately filed state returns.  

The Company has unused net operating loss (NOL) carryforwards of approximately
$1,900,000 for consolidated federal and state income tax purposes.  These
carryforwards expire between fiscal years 2004 and 2012, if not previously
used.


10.  LEASE COMMITMENTS
     -----------------
The Company has a noncancelable operating lease for its office facilities which
expires September 1998.  This lease is subject to standard real estate
escalation factors and building operating expense pass-throughs.  Effective
August 1, 1997, the Company signed a lease amendment that reduced its rental
obligation on the ARM space by 6,462 sq. ft. to 2,272 sq. ft..  The remaining
2,272 sq. ft. will be vacated by September 30, 1997, leaving only 2,561 sq. ft.
under lease.  (See Note 3 for details of the settlement agreement.)

Rental expense for operating leases was approximately $201,600 and $212,200 for
the years ended May 31, 1997, and 1996, respectively.  

Future minimum operating lease payments on the noncancelable leases are as
follows:  

<TABLE>
<CAPTION>
               Fiscal Year
               -----------
<S>               <C>                             <C>
                  1998                            $  84,500
                  1999                               19,200
                                                  ---------
                                                  $ 103,700
                                                  ========= 
</TABLE>


11.  COMMON STOCK ISSUED/WARRANTS EXERCISABLE
     ----------------------------------------
In a 1995 Registration Statement, the Company registered with the Securities
and Exchange Commission 920,000 shares of restricted common stock and 184,000
shares of common stock purchase warrants convertible at $0.75 per share issued
to the president of the Company upon conversion of $230,000 of debt, and 66,667
shares convertible at $0.375 per share issuable upon the conversion of an
outstanding $25,000 convertible note.  The holder of the convertible note
converted the note into 66,667 shares of common stock of the Company. The
184,000 common stock warrants discussed above expired in November 1996.

During August, 1995, the Company entered into two (2) agreements with New York-
based companies to provide public relations services for the Company and to
find and attract market makers for the Company's common stock.  As
compensation, the Companies were to receive up to a total of 400,000 shares of
the Company's common stock.  The Company registered with the Securities and
Exchange Commission the stock issued pursuant to these agreements.  Both
agreements were cancelable by the Company at any time.  All of the stock
represented by these two agreements (800,000 shares) was issued in escrow
pending release as specified in the agreements.  Upon the release of the stock,
the Company recorded compensation expense equal to the average of the bid and
asked prices (approximately $0.30 a share) on the date the agreements were
signed.  During fiscal 1996, a total of 150,000 shares was released to each of
these Companies, resulting in the recognition of $89,063 in consulting expense. 
During December 1995, the Company and the consulting companies agreed to
terminate these agreements.  Therefore, the remaining 500,000 shares will not
be released and are considered to be unissued.

During January 1995, the Company entered into consulting agreements with two
individuals.  These consultants agreed to provide various services to the
Company including identifying potential analysts, broker-dealers, underwriters,
market-makers, money managers, financial planners, investors, and/or other new
sources of capital, as well as, providing investor and stockholder relations
and identifying any potential acquisitions and/or joint ventures.  As
compensation for these services, the Company agreed to pay these individuals up
to 3.5% of any capital raised and has granted each of these individuals Class A
common stock warrants exercisable to purchase 100,000 shares of the common
stock of the Company at an exercise price of $0.375 per share.  The Company
agreed to register with the Securities and Exchange Commission the stock
underlying these warrants.  The warrants were exercisable for a period of two
years and expired in March 1997. 


12.  STOCK OPTION PLAN
     -----------------
Under the terms of its 1986 stock option plan, options to purchase shares of
the Company's common stock were granted at $.50 per share, which was the market
price at the time of the reorganization of the Company.  All shares were
exercisable over a 5 year period at 20 percent per year and if unexercised,
expire 10 years from the date of grant.  As of May 31, 1997, there were options
outstanding to purchase 51,000 shares of the Company's common stock, which
expire during fiscal year 1998.  

During fiscal 1995, the Company adopted a new incentive stock option plan. 
This plan was approved by the shareholders on November 15, 1995.  Under this
plan, the Company may issue options to purchase up to 300,000 shares of the
Company's common stock, at a price not less than the then current market price
of the Company's common stock.  All shares are exercisable over a 5 year period
at 20 percent per year and if unexercised, expire no later than 10 years from
the date of grant.  

The following is a summary of transactions for common shares under options:

<TABLE>
<CAPTION>
     Stock Under Options:                            1997           1996
                                                   --------       --------
<S>  <C>                                           <C>            <C>     
     Outstanding, beginning of year                251,000        220,000 
     Granted during the year                             -         40,000 
     Canceled or expired during year               (40,000)        (9,000)
                                                   --------       --------
     Outstanding, end of year                      211,000        251,000 
                                                   --------       --------
     Shares eligible for exercise at 
       end of year                                 131,000         91,000 
                                                   ========       ========
</TABLE>

As of May 31, 1997, no options issued under the plans have been exercised.


13.  RELATED PARTY TRANSACTION
     -------------------------
During fiscal 1996 and 1997, the President advanced $4,000 and $37,900,
respectively, to ARS to cover operating expenses.  These advances do not bear
interest and are due on demand.  Therefore these advances have been shown as
short term loans payables in the accompanying financial statements.


14.  SIGNIFICANT CUSTOMERS
     ---------------------
For fiscal 1997, one customer of ARM accounted for approximately 33 percent
(33%) of the Company's total revenue.  This customer, NASA, had 8 contracts
with the Company of which one contract provided 18 percent (18%) and a second
provided 14 percent (14%) of total revenue.  Another customer of ARM accounted
for 56 percent (56%) of the Company's revenue during the year.  This customer,
Hughes Corporation ("Hughes"), had two contracts with the Company of which one
provided 42 percent (42%) of total revenue.  

For fiscal 1996, one customer of ARM accounted for approximately 35 percent
(35%) of the Company's total revenue.  This customer, NASA, had 10 contracts
with the Company of which one contract provided 18 percent (18%) and a second
provided 12 percent (12%) of total revenue.  Another customer of ARM accounted
for 47 percent (47%) of the Company's revenue during the year.  This customer,
Hughes Corporation ("Hughes"), had two contracts with the Company of which one
provided 35 percent (35%) of total revenue.  The Company maintained one
contract with General Sciences Corporation ("GSC"), which contributed
approximately 4 percent (4%) of total revenue.  The Company had two contracts
with the Naval Research Laboratory ("NRL") which accounted for 3 percent (3%)
of the Company's revenue.


15.  DISCONTINUED OPERATIONS
     -----------------------
Because the Bankruptcy Court has approved the sale of substantially all of the
assets of ARM, results from operations for ARM have been shown as discontinued
operations for the years ended May 31, 1997 and 1996.  Included with the
consolidated balance sheet is a pro-forma balance sheet which reflects the
effect of the ARM sale assuming it had been consummated on May 31, 1997.  
ARM's balance sheet as of May 31, 1997, and a pro-forma balance sheet adjusted
for the sale is shown below:

<PAGE>
<PAGE>
<TABLE>
<CAPTION>
                                                                   Pro-Forma
                                                      As of        Adjusted
                                                  May 31, 1997     For Sale
                                                  ------------   ------------
<S>                                               <C>            <C>         
ASSETS
------
CURRENT ASSETS
  Cash                                            $   230,122    $   441,918 
  Accounts receivable from customers, net           1,112,416        901,874 
  Intercompany advances receivable                  1,576,205      1,576,205 
  Due from Space Application Corporation, 
    short-term                                              -         34,900 
  Other current assets                                  2,309          2,309 
                                                  ------------   ------------
TOTAL CURRENT ASSETS                                2,921,052      2,957,206 

PROPERTY AND EQUIPMENT, AT COST 
  Furniture and equipment                             147,013              - 
  Computer equipment                                  355,100              - 
  Laboratory equipment                                121,426              - 
  Leasehold improvements                               22,122              - 
                                                  ------------   ------------
                                                      645,661              - 
  Less accumulated depreciation and amortization      618,520              - 
                                                  ------------   ------------
NET PROPERTY AND EQUIPMENT                             27,141              - 

INTANGIBLE ASSETS, NET OF 
  AMORTIZATION                                         21,657              - 

OTHER ASSETS:
  Deposits                                              7,359          7,359 
  Due from Space Applications Corporation, 
    long-term                                               -        287,500 
                                                  ------------   ------------
TOTAL OTHER ASSETS                                       7,359       294,859 
                                                  ------------   ------------
TOTAL ASSETS                                      $ 2,977,209    $ 3,252,065 
                                                  ============   ============
</TABLE>

<PAGE>
<PAGE>
<TABLE>
<CAPTION>
                                                                   Pro-Forma
                                                      As of        Adjusted
                                                  May 31, 1997     For Sale
                                                  -------------  -------------
<S>                                               <C>            <C>
LIABILITIES
-----------
CURRENT LIABILITIES:
  Liabilities not subject to compromise:
    Notes payable                                 $   504,043    $   504,043 
    Accounts payable                                  278,260        278,260 
    Accrued salaries and benefits                     193,178        101,667 
    Accrued payroll taxes and withholdings             99,236         99,236 
    Other accrued liabilities                         152,255        152,255 
    Income taxes payable                                1,000          1,000 
                                                  ------------   ------------
  Total liabilities not subject to compromise       1,227,972      1,136,461 
                                                  ------------   ------------
  Liabilities subject to compromise: 
    Accounts payable                                  325,192        275,192 
    Accrued salaries and benefits                     820,562        385,856 
    Accrued payroll taxes and withholdings            725,406        166,039 
    Accrued interest and penalties                    445,204        395,571 
                                                  ------------   ------------
  Total liabilities subject to compromise           2,316,364      1,222,658 
                                                  ------------   ------------
TOTAL CURRENT LIABILITIES                           3,544,336      2,359,119 


STOCKHOLDERS' EQUITY (DEFICIT)
------------------------------
Investment by ARC                                   1,029,621      1,029,621 
Accumulated deficit                                (1,596,748)      (136,675)
                                                  ------------   ------------
TOTAL STOCKHOLDERS' EQUITY (DEFICIT)                 (567,127)       892,946 
                                                  ------------   ------------
TOTAL LIABILITIES AND STOCKHOLDERS' 
  EQUITY (DEFICIT)                                $ 2,977,209    $ 3,252,065 
                                                  ============   ============
</TABLE>

<PAGE>
<PAGE>

A summary of ARM's results from operations for the years ended May 31, 1997 and
1996, are shown below: 

<TABLE>
<CAPTION>
                                                      1997           1996
                                                  ------------   ------------
<S>                                               <C>            <C>
Revenue                                           $ 7,727,647    $ 8,393,868 
                                                  ------------   ------------
Operating costs and expenses:                                  
  Direct cost of services                           4,888,897      5,207,341 
  Indirect operating costs                          1,665,097      1,902,456 
  General & administrative expenses                   908,075        934,453 
                                                  ------------   ------------
Total operating costs and expenses                  7,462,069      8,044,250 
                                                  ------------   ------------
Operating profit from discontinued operations         265,578        349,618 
                                                  ------------   ------------
Other expense:
  Interest expense, net                               160,684        379,085 
  Expenses associated with the sale                    60,000              - 
  Penalties                                             6,104        159,067 
  Other, net                                           46,751         24,355 
                                                  ------------   ------------
Total other expense                                   273,539        562,507 
                                                  ------------   ------------
Loss from discontinued operations 
  before reorganization items                          (7,961)      (212,889)
Reorganization items - professional fees             (156,824)       (28,763)
                                                  ------------   ------------
Loss from discontinued operations                 $  (164,785)   $  (241,652)
                                                  ============   ============
</TABLE>


<PAGE>
<PAGE>

16. INDUSTRY SEGMENT INFORMATION
    ----------------------------
The Company's operations have been classified into three business segments:

<TABLE>
<CAPTION>
                                      ARS          ARInternet    Consolidated
                                  -----------      ----------    ------------
<S> <C>                           <C>              <C>             <C>       
Sales to unaffiliated customers:

    YEARS ENDED:
    -----------
    May 31, 1997                  $  80,121        $ 462,454       $ 542,575 
    May 31, 1996                  $ 261,921        $ 301,675       $ 563,596 

Operating income (loss) from 
continuing operations before income
taxes and extraordinary item:

    YEARS ENDED:
    -----------
    May 31, 1997                  $ (31,790)       $ (11,534)      $ (43,324)
    May 31, 1996                  $(118,026)       $(202,350)      $(320,376)

Capital expenditures:

    YEARS ENDED:
    -----------
    May 31, 1997                  $       -        $  26,425       $  26,425 
    May 31, 1996                  $       -        $  38,542       $  38,542 

Depreciation and amortization:

    YEARS ENDED:
    -----------
    May 31, 1997                  $   7,754        $  36,603       $  44,357 
    May 31, 1996                  $  29,372        $  25,977       $  55,349 

Research and development costs:  

    YEARS ENDED:
    -----------
    May 31, 1997                  $       -        $       -       $       - 
    May 31, 1996                  $       -        $       -       $       - 

Identifiable assets at:

    YEARS ENDED:
    -----------
    May 31, 1997                  $  23,271        $  89,827       $ 113,098 
    May 31, 1996                  $  33,687        $  84,975       $ 118,662 

</TABLE>

Operating loss equals total net revenues less operating expenses.  In computing
operating loss, items comprising other income (expense) have not been added or
deducted.

Identifiable assets by segment are those assets that are used in the Company's
operations in each industry segment, net of intercompany eliminations.

<PAGE>
                         APPLIED RESEARCH CORPORATION
                  FORM 10-KSB FOR THE YEAR ENDED MAY 31, 1997
                               INDEX TO EXHIBITS

NUMBER     DESCRIPTION
------     -----------
 2.0       Reorganization Agreement between Dollar Ventures, Inc. and Applied
           Research Corporation (Note 1)
 3.1       Articles of Incorporation of Dollar Ventures, Inc. (Note 1)
 3.2       Amended Articles of Incorporation of Dollar Ventures, Inc. (Note 1)
 3.3       Articles of Incorporation of Applied Research Corporation (Note 1)
 3.4       Amended Articles of Incorporation of Applied Research Corporation
           (Note 1)
 3.5       By-Laws of Dollar Ventures, Inc. (Note 1)
 3.6       By-Laws of Applied Research Corporation (Note 1)
 4.1       Warrant Agreement (Note 1)
 4.2       Specimen Certificate of Common Stock (Note 2)
 4.3       Specimen Class A Common Stock Purchase Warrant (Note 2)
 4.4       Specimen Subscription Agreement (Note 2) 
 4.5       Convertible Note (Note 2)
 4.6       Convertible Note Purchase Agreement (Note 2)
10.1       Employment Agreements (Note 1)
10.2       Sovran Bank Loan (Note 1)
10.3       401(k) Plan of Applied Research Corporation (Note 1)
10.4(a)    Lease Agreement on Maryland Property, dated October 22, 1993 
           (Note 3)
10.4(b)    First Amendment to Lease Agreement on Maryland Property, dated
           October 22, 1993 (Note 3)
10.4(c)    Second Amendment to Lease Agreement on Maryland Property, dated 
           May 12, 1994 (Note 3)
10.4(d)    Third Amendment to Lease Agreement on Maryland Property, dated
           January 13, 1997 (Note 7)
10.4(e)    Fourth Amendment to Lease Agreement on Maryland Property, dated
           August 1997 (Note 7)
10.5       Patent (Note 4)
10.6       Patent (Note 4)
10.7       Contract with Hughes Applied Information Systems, dated 6-03-93
           (Note 3) 
10.8       Contract with NASA, dated 9-27-93 (Note 3) 
10.9       Contract with NASA, dated 1-10-94 (Note 3) 
10.10 (a)  Financing Agreement with PrinCap Finance Company, L.L.C., dated
           March 21, 1994 (Note 3)
10.10 (b)  Amended Financing Agreement with Princeton Capital Finance Company,
           L.L.C., dated May 10, 1995 (Note 4)
10.10 (c)  Default letter from Princeton Capital Finance Company, L.L.C.,
           dated November 14, 1995 (Note 5)
10.11      1994 Incentive Stock Option Plan (Note 4)  
10.12      Consulting Agreement with William Hayde (Note 4)  
10.13      Consulting Agreement with Market Visibility, Inc. (Note 4)  
10.14      Financing Agreement with Commerce Funding Corporation, dated
           November 17, 1995 (Note 5)
10.15 (a)  Consolidated Asset Purchase Agreement with Fidelity Technologies
           Corporation (Note 5)
10.15 (b)  Asset Purchase Agreement with Space Applications Corporation 
           (Note 7)      
10.15 (c)  First Amendment to the Asset Purchase Agreement with Space
           Applications Corporation (Note 7)
10.15 (d)  Second Amendment to the Asset Purchase Agreement with Space
           Applications Corporation (Note 7)  
16.1       Letter of Friedman & Fuller, dated August 25, 1997 (Note 6)
21         Subsidiaries of the Registrant (Note 7)
27         Financial Data Schedule (Note 7)


NOTES TO EXHIBITS:
-----------------
(1)        Previously Filed. The documents are incorporated herein by
           reference from the Registrant's Registration Statement on 
           Form S-18, as amended, filed with Securities and Exchange
           Commission on June 2, 1989, S.E.C. File No. 33-11943-LA.

(2)        Previously Filed. The documents are incorporated herein by
           reference from the Registrant's Registration Statement on 
           Form S-3, filed with Securities and Exchange Commission on June 28,
           1994, S.E.C. File No. 01-10076.

(3)        Previously Filed. The documents are incorporated herein by
           reference from the Registrant's Annual Report on Form 10-K for the
           fiscal year ended May 31, 1994, filed with Securities and Exchange
           Commission on September 6, 1994, S.E.C. File No. 01-10076.

(4)        Previously Filed. The documents are incorporated herein by
           reference from the Registrant's Annual Report on Form 10-K for the
           fiscal year ended May 31, 1995, filed with Securities and Exchange
           Commission on August 29, 1995, S.E.C. File No. 01-10076.

(5)        Previously Filed.  The documents are incorporated herein by
           reference from the Registrant's Annual Report on Form 10-K for the
           fiscal year ended May 31, 1996, filed with Securities and Exchange
           Commission on September 12, 1996, S.E.C. File No. 01-10076.

(6)        Previously Filed.  The documents are incorporated herein by
           reference from the Registrant's Current Report on Form 8-K, dated
           August 25, 1997, filed with Securities and Exchange Commission on
           August 27, 1997, S.E.C. File No. 01-10076.

(7)        Filed herewith.

<PAGE>
                                  SIGNATURES

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


APPLIED RESEARCH CORPORATION



/s/ S.P.S. Anand                                  September 12, 1997
----------------------------------------          ------------------
Dr. S.P.S. Anand, Director,                               Date
President and Chief Executive Officer



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



/s/ S.P.S. Anand                                  September 12, 1997 
----------------------------------------          ------------------
Dr. S.P.S. Anand, Director                                Date



/s/ Manjit K. Anand                               September 12, 1997 
----------------------------------------          ------------------
Manjit K. Anand, Director & Treasurer                     Date



/s/ Dennis H. O'Brien                             September 12, 1997 
----------------------------------------          ------------------
Dennis H. O'Brien, Director, Secretary,                   Date
Vice President & Chief Financial Officer 



/s/ Andrew S. Endal                               September 12, 1997 
----------------------------------------          ------------------
Dr. Andrew S. Endal, Senior Vice President                Date