<PAGE>
 
                    U.S. SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

                                   FORM 10-K

                                        
  X      Annual report pursuant to Section 13 or 15(d) of the Securities
-----                                                                   
         Exchange Act of 1934 For the fiscal year ended MARCH 31, 1998

         Transition report under Section 13 or 15(d) of the Securities Exchange
-----                                                                          
         Act of 1934 For the transition period from ________________ 
         to ________________


COMMISSION FILE NO. 0-13836



                         SILICON VALLEY RESEARCH, INC.
             (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

CALIFORNIA                           94-2743735
(State or other jurisdiction         (I.R.S. Employer Identification Number)
of incorporation or organization)    
 
6360 SAN IGNACIO AVENUE
SAN JOSE, CA                         95119-1231
(Address of principal executive      (Zip Code)
 offices)                                                       
 
Registrant's telephone number, 
including area code:                 (408) 361-0333

Securities registered under 
Section 12(b) of the Act:            NONE

Securities registered under 
Section 12(g) of the Act:            COMMON STOCK, NO PAR VALUE
                                     (Title of Class)


Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Exchange Act  during the past
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 in response to Item
405 of Regulation S-K is not contained in this form, 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-K or any
amendment to this Form 10-K.  [X]

The aggregate market value of the voting stock held by non-affiliates of the
Registrant, based upon the average of bid and asked prices of the Registrant's
common stock on June 9, 1998 in the over-the-counter market, was approximately
$7,400,000.  Shares of voting stock held by each officer and director and by
each person who on that date owned 5% or more of the outstanding voting stock
have been excluded in that such persons may be deemed to be affiliates.  This
determination of affiliate status is not necessarily a conclusive determination
for other purposes.

As of June 9, 1998, Registrant had 26,190,113 shares of common stock
outstanding.


                      DOCUMENTS INCORPORATED BY REFERENCE
                                        
Parts of the definitive Proxy Statement for registrant's 1998 Annual Meeting of
Shareholders to be filed with the Commission pursuant to Regulation 14A not
later than 120 days after the end of the fiscal year covered by this Form are
incorporated by reference into Part III of this Form 10-K.


    The exhibit index appears on sequentially numbered pages 40 through 41.
<PAGE>
 
                                     PART I

                                        
This report includes a number of forward-looking statements which reflect the
Company's current views with respect to future events and financial performance.
These forward-looking statements are subject to certain risks and uncertainties,
including those discussed in Item 7 - Management's Discussion and Analysis of
Financial Condition and Results of Operations - Other Factors Affecting Future
Results, and elsewhere in this Form 10-K, as well as other risks and
uncertainties described in the Company's other reports filed with the Securities
and Exchange Commission that could cause actual results to differ materially
from historical results or those anticipated.  In this report, the words
"anticipates," "believes," "expects," "intends," "future," and similar
expressions identify forward-looking statements.  Readers are cautioned not to
place undue reliance on these forward-looking statements, which speak only as of
the date hereof.


ITEM 1.  DESCRIPTION OF BUSINESS

GENERAL

Silicon Valley Research, Inc. ("the Company" or "SVR") offers a broad line of
integrated placement, routing and floorplanning physical layout software
products which enable electronics manufacturers to achieve improved performance
and smaller die size in their integrated circuit ("IC") designs.  The Company
offers products which incorporate its proprietary line probe technology to
create denser circuit designs.  These products minimize die size, enabling a
high performance IC design, and improve manufacturability of the IC, resulting
in higher production yield.  Further, these products perform at high speed,
allowing designers rapid turnaround time for their physical layout tasks, and
are highly efficient, requiring less workstation memory to complete the design.
The Company has closely linked its IC design floorplanning capabilities to its
physical layout tools through common placement and routing algorithms.  This
enables designers to make placement predictions that closely match the actual
placement during the physical layout.  The Company offers the IC industry a
comprehensive set of design project support capabilities through its IC Design
and Consulting Services.  The Company's end-user customers include N.E.C.,
Hyundai, Motorola, OKI Semiconductor, Samsung Electronics, Sony, Texas
Instruments and Yamaha.

Through its acquisition of Quality I.C. Corporation on March 31, 1998 (see Note
4 of Notes to the Consolidated Financial Statements), the Company has gained
front-end technology which improves the flow of data into SVR's product tools
and improves the resulting performance.  In addition, the Company provides
design project support services encompassing nearly all aspects of the IC
development process, including IC design engineering services, VLSI mask design
and chip assembly capability, and CAD/EDA tool application methodology
consulting services.

INDUSTRY BACKGROUND

Electronics manufacturers face constant pressure to create faster, more complex,
and more reliable IC's.  To compete effectively, electronics manufacturers must
shorten product development cycles, or "time to market" for new products.
Electronics manufacturers are also under increasing economic pressure to
increase manufacturing yield and reduce die size in order to maximize revenue
from semiconductor fabrication facilities.  For example, the Semiconductor
Industry Association predicts that by 2001, minimum feature sizes for
semiconductors will drop 49% from 0.35 micron to 0.18 micron and the number of
transistors per chip will rise 433% to approximately 64 million transistors.
The interconnecting wire within the IC linking those transistors will approach
one and a quarter miles on a chip area of 350 square millimeters.  As a result
of these trends, electronics manufacturers will require electronic design
automation ("EDA") software tools that improve the quality and increase the
speed of the design process to remain competitive.

The design cycle for IC's consists of a number of steps: (i) architectural
specification, or the definition of the overall architecture of the IC, (ii)
design  (involving synthesis, functional and timing verification), which
describes the desired functionality of the IC, (iii) physical layout, the
placement and interconnection (routing) of physical components, and (iv) layout
verification which verifies that the physical layout meets 

                                       2
<PAGE>
 
the functional specification and manufacturing constraints (design rules).
Recent trends in IC design suggest that smaller feature sizes are becoming more
commonplace, thereby enabling higher frequency designs. These designs require
tighter timing constraints, smaller die size, and lower power requirements,
while at the same time maintaining manufacturing yield.

The demands on EDA software tools have been compounded as companies designing
and manufacturing IC's are beginning to address the issues raised by "deep
submicron" design.  Such design work involves feature sizes of 0.5 micron or
smaller.  At deep submicron geometries, interconnect (wire) delay, rather than
gate (transistor) delay, increasingly becomes the factor which determines the
operating frequency of the IC.  Deep submicron geometries require designers to
produce routing with minimal wire lengths and to achieve the smallest possible
die size to meet high frequency specifications.  In addition, minimizing vias
(interconnections between various metal layers inside the IC) and corners in the
routing of IC's improves manufacturability, thereby increasing overall yield and
reliability.  As IC technology advances further into deep submicron geometries,
the physical layout task is becoming increasingly difficult to complete within
design specifications.  As a result, place and route tools such as those offered
by SVR are required to address these complex layout issues.

SVR PRODUCTS

The Company offers a line of products for IC physical design.  All of SVR's
products run on Unix workstations from Sun Microsystems, Inc. and Hewlett
Packard Company and support industry standards such as Motif, X-Windows, GDSII
Stram format and EDIF.  In addition, the Company has ported two of its products
to operate on workstations from HAL Computer Systems.  SVR offers interfaces to
Mentor Graphics' Falcon Framework and Synopsys, Inc.'s synthesis tools.  The
Company's products have a similar technology foundation and are modular in
nature.  Each of the products offered by the Company are sold in a range of
configurations based on the size and complexity of the design to be developed
with the SVR product.  In addition, the Company offers a set of design project
support services encompassing the IC development process including complete IC
design engineering services, VLSI mask design and chip assembly capability, and
CAD/EDA tool application methodology consulting services.  The following
summarizes SVR's product families:

SVR GARDS:   SVR believes that SVR GARDS, using the Company's line probe routing
algorithm, provides the fastest turnaround time for an area-based place and
route software tool in the EDA industry.  In addition, SVR GARDS provides high
quality routing results with a minimum of vias, line segments, and total
interconnecting wire length.  The product handles up to a million gates and has
been extended to handle n layers of interconnect.  The interactive timing-driven
placement subsystem enables designers to improve their placement to handle
issues of congestion, timing or net length.  The timing-driven routing
capabilities of the product allow designers to specify timing constraints on all
nets and on all critical paths without affecting run times.  SVR GARDS has a
built-in simulator for timing analysis and a clock tree synthesis module that
minimizes clock delay.  SVR GARDS includes a procedural language interface which
allows system designers to interface the tool to virtually any design flow.  The
line probe routing algorithms enable the product to perform incremental EC's
rapidly without disturbing the structure of the routed design outside the region
of interest.

SVR SC:   SVR SC is a channel-based router for the automatic place and route of
standard cell-based IC's.  SVR SC provides two to four layer routing for fixed
and variable height and width standard cells.  Routing over cells and blocks is
supported on all layers.  SVR SC provides efficient floorplanning, placement,
and routing of standard cells, macro blocks, and mixed block and cell designs.
Advanced features such as row flipping and power rail sharing allow designers to
create designs with fewer channels and thus reduced die size. Timing-driven
placement and routing capabilities are integrated into the product to assist
designers in the creation of designs which function according to their
specification.

SVR FLOORPLACER:  SVR FloorPlacer is an interactive floorplanning software
product for designers of embedded arrays, gate arrays, and structured custom
blocks.  By integrating the Company's area-based routing technology, SVR
FloorPlacer helps designers obtain an accurate assessment of timing
characteristics and routability of their designs early in the design process.
SVR FloorPlacer reduces time to market by eliminating costly iterations between
synthesis and layout.  The software products provide interfaces and links which
allow direct back annotation of delays from SVR FloorPlacer products into
synthesis and simulation.  The graphical user interface provides improved
usability and gives the user 

                                       3
<PAGE>
 
interactive control over the floorplan while providing comprehensive graphical
analysis and feedback. This interface helps users improve routability and the
timing attributes of their designs.

IC DESIGN AND CONSULTING SERVICES:  The Company provides a set of design project
support services encompassing nearly all aspects of the IC development process
including complete IC design engineering services, VLSI mask design and chip
assembly capability, and CAD/EDA tool application methodology consulting
services.  Design engineers provide services to address front-end design tasks
such as HDL behavioral modeling, logic synthesis, analog circuit design and
physical implementation, digital filter implementation, embedded SRAM/ROM
circuit design and physical implementation, and standard cell library design and
characterization.  Additional back-end, physical design capabilities include
standard cell library layout and verification, hierarchical chip floorplanning,
full custom internal-block layout, standard-cell-block place-and-route
implementation and top level place and route chip assembly.  As an integrated
EDA tool supplier and IC design and layout organization, the Company consults to
provide highly proficient high-level design methodology consulting, EDA tool
application and integration, customized environments and need-specific tool
enhancements.

MARKETING AND SALES

The Company's products are marketed principally through its direct sales force
in the United States and Japan and Taiwan.  The Company has domestic
sales/support offices in metropolitan areas of California and Texas and foreign
sales offices in Tokyo and Taiwan.

International sales were approximately $4,740,000, $1,390,000 and $874,000 for
fiscal 1996, 1997 and 1998, respectively, representing 43%, 25% and 32% of total
revenue for the respective periods, of which 41%, 24% and 31% came from the Far
East, principally Japan and Taiwan.  (See Note 13 of Notes to Consolidated
Financial Statements).

The Company markets its products both domestically and internationally to
integrated circuit designers and manufacturers, large electronic systems
manufacturers, and major aerospace, automotive, and consumer electronics
companies.  Consolidated revenue consists of the following:

<TABLE>
<CAPTION>
                                      Year Ended March 31,

        Customer                      1996     1997    1998
        --------                      ----     ----    ----
       <S>                            <C>      <C>    <C>
        Hal Computers Systems, Inc.    16%      14%      *
        Lucent Technologies, Inc.       *       19%      *
        Motorola, Inc.                 11%      13%     13%
        Yamaha Corporation             11%       *       *
        Aspec Technology                *        *      20%
 
</TABLE>

        *less than 10% of consolidated revenue


The Company licenses its software to customers (except in Japan, where the
Company sells its software to customers) under agreements that provide for a
license fee or sales price to use the product in perpetuity on a specified
computer. License fees for individual products range from approximately $70,000
for the least expensive software to approximately $400,000 for the most complex
software product.

The Company provides software maintenance for a fee, which includes technical
support and services such as telephone consultation regarding the use of the
products, problem resolution, product enhancements, and distribution.

                                       4
<PAGE>
 
PRODUCT DEVELOPMENT

The EDA market is characterized by rapid technological advances in both computer
hardware and software.  The Company believes that the continued development of
new products and enhanced features is critical to its success.  Engineering
efforts in the past year included:


          .     Significant improvements were made to the Company's placement
          technology providing greater completion utilization rates.
          Enhancements to the Company's ECO flow will minimize the number of
          "design turns" needed to complete a design.

          .     Additional engineering effort was invested in the refinement of
          the Company's delay modeling and analysis capabilities.  This includes
          the integration of 3D modeling and extraction software, which the
          Company is offering through an OEM agreement with OEA International,
          Inc.

          .     In fiscal 1996, 1997 and 1998, the Company spent approximately
          $3,330,000, $3,609,000, and $3,568,000 or as a percentage of revenue
          30%, 66% and 130%, respectively, on engineering, research and
          development.  These amounts are net of costs capitalized in accordance
          with Statement of Financial Accounting Standard No. 86, "Accounting
          for the Costs of Computer Software to be Sold, Leased, or Otherwise
          Marketed" (See Note 1 of Notes to Consolidated Financial Statements).


LICENSING TECHNOLOGY

During the year, the Company signed an OEM agreement with OEA International,
Inc., a private software development company, to market OEA's two and three-
dimensional (2D/3D) electric field equation solver bundled with SVR's Integrated
Circuit (IC) physical design tools.  This technology gives SVR the ability to
accurately calculate critical performance parameters for deep sub-micron ICs.
OEA's analysis algorithm allows SVR products to detect timing errors in advanced
high speed ICs without resorting to costly design iterations, thereby shortening
the design cycle and extending SVR's solutions to the fastest and most advanced
chip designs, including microprocessors, telecommunications and multimedia ICs.

Also, the Company completed the integration and testing of a new high speed
automatic placement technology resulting in improved design quality and
turnaround time, as well as a smaller design die size, for SVR's SC/TM/ family 
of products. The new placement technology named TeraCell/TM/ has been developed
by CLK Computer-Aided Design, Inc. SVR has licensed the TeraCell/TM/ placement
technology, which is being offered as an option to existing SVR installations
and began being offered with new product sales starting in June, 1997.

MANUFACTURING

The Company's software production operations consist of configuring the existing
software product with the proper customer specifications, recording it on
magnetic tapes or other recording media, producing user manuals and other
documentation, and shipping the product.  Shipments are generally made within 30
days after an order is received.

COMPETITION

The EDA software market in which the Company competes is intensely competitive
and subject to rapid technological change.  The Company currently faces
competition from EDA vendors, including Cadence, which currently holds the
dominant share of the market for IC physical design software, Avant! and Mentor
Graphics.  These EDA vendors have significantly greater financial, technical and
marketing resources, greater name recognition and a larger installed customer
base than the Company.  These companies also have established relationships with
current and potential customers of the Company and can devote substantial
resources aimed at preventing the Company from enhancing relationships with
existing customers or establishing relationships with potential customers.  The
Company believes that competitive factors in the EDA software market include
product performance, price, support of industry standards, ease of use, delivery
schedule, product enhancement, and customer technical support and service.

                                       5
<PAGE>
 
Competition from EDA companies that choose to enter the IC physical design
market could present particularly formidable competition due to their large
installed customer base and their ability to offer a complete integrated IC
design solution, which SVR does not offer.  The Company expects additional
competition from other established and emerging companies.  In addition, the EDA
industry has become increasingly concentrated in recent years as a result of
consolidations, acquisitions and strategic alliances.  Accordingly, it is
possible that new competitors or alliances among competitors could emerge and
rapidly acquire significant market share.  There can be no assurance that the
Company will be able to compete successfully against current and future
competitors or that competitive pressures faced by the Company will not have a
material adverse effect on its business, operating results and financial
condition.

PROPRIETARY RIGHTS

The Company relies on contract, trade secret and copyright law to protect its
technology.  There can be no assurance that others will not develop technologies
that are similar or superior to the Company's technology or duplicate the
Company's technology.  The Company generally enters into confidentiality or
license agreements with its employees, distributors and customers, and limits
access to and distribution of its software, documentation and other proprietary
information.  Despite these precautions, it may be possible for a third party to
copy or otherwise obtain and use the Company's products or technology without
authorization, or to develop similar technology independently.  In addition,
effective copyright and trade protection may be unavailable or limited in
certain foreign countries.

EMPLOYEES

As of March 31, 1998, the Company employed 59 full-time workers, including 15 in
marketing and sales, 20 in engineering and product development, 15 in IC design
services and the remainder engaged in administrative activities.  Of the 59
full-time employees, 51 were located in the United States, 1 was employed in
Taiwan and 7 were employed in Japan.  The Company's continued success will
depend, in large part, on its ability to attract and retain trained and
qualified personnel who are in great demand throughout the industry.  None of
the Company's employees is represented by a labor union.

The Company's development, management of its growth and other activities depend
on the efforts of key management and technical employees.  Competition for such
personnel is intense.  The Company uses incentives, including competitive
compensation and stock option plans, to attract and retain well-qualified
employees. There can be no assurance, however, that the Company will continue to
attract and retain personnel with the requisite capabilities and experience. The
loss of one or more of the Company's key management or technical personnel also
could materially and adversely affect the Company. The Company generally does
not have employment agreements with its key management personnel or technical
employees.

ITEM 2. PROPERTIES

The Company's principal administrative, marketing, engineering development and
support facilities occupy approximately 19,000 square feet in an office building
in San Jose, California.  The property is occupied under a five year lease
expiring on July 1, 2001.

The Company's IC design services occupy approximately 3,200 square feet in an
office building in Austin, Texas.  The property is occupied under a lease
expiring October 31, 2000.

The Company maintains foreign sales support offices in leased space at one
location in Japan and one location in Taiwan.  The Company maintains domestic
sales support offices in leased space in Austin, Texas.

Management believes that its facilities will be adequate for the Company's
operations.

                                       6
<PAGE>
 
ITEM 3. LEGAL PROCEEDINGS

As with other companies in the Company's industry, the Company is subject to the
risk of adverse claims and litigation on a variety of matters, including
infringement of intellectual property, intentional and/or negligent
misrepresentation of material facts and breach of fiduciary duties.  On January
10, 1997, Gambit Automated Design, Inc. ("Gambit"), a competitor of the Company,
filed a complaint alleging misappropriation of trade secrets, breach of
contract, inducing breach of contract, breach of fiduciary duty, unfair
competition and unjust enrichment against the Company and a former employee of
Gambit who is a current employee of the Company.  Gambit sought injunctive
relief, compensation and punitive damages, restitution and attorneys' fees and
costs.  The parties have agreed to resolve the asserted claims on terms that do
not involve the payment of any money by the Company.  Accordingly, the Company
does not believe that the ultimate settlement of this litigation will have a
material adverse effect on financial position or results of operations.  The
parties are in the process of documenting the settlement.

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

No matters were submitted to a vote of the security holders during the Company's
fourth quarter.


                                    PART II
                                        

ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

The Company's common stock is currently traded on the Nasdaq National Market
under the symbol SVRI. The following table sets forth, for the fiscal period
indicated, the low and high closing sales prices for the common stock as
reported by Nasdaq.  The Company had approximately 400 shareholders of record
and approximately 3,300 beneficial holders as of March 31, 1998.

COMMON STOCK PRICES


Fiscal 1997 Quarter ended     June 30  Sept. 30  Dec. 31  March 31
                              -------  --------  -------  --------
     High                      8  3/4   6  3/4     5 1/8    2  1/4
     Low                       3  5/8   4  1/4         2   1  1/16
 
Fiscal 1998 Quarter ended     June 30  Sept. 30  Dec. 31  March 31
                              -------  --------  -------  --------
     High                      1 5/16   1  1/4    1 1/16     29/32
     Low                        15/16    13/16       1/2     17/32
 

The Company has not declared or paid dividends on its common stock in fiscal
1996, 1997 and 1998.  Certain covenants in the Company's loan agreements
restrict the payment of dividends.  The Company currently anticipates that it
will retain all future earnings for use in the operation and expansion of its
business and does not anticipate paying any cash dividends in the foreseeable
future.

On March 31, 1998, the Company acquired all of the outstanding shares of Quality
I.C. Corporation ("QIC") pursuant to a merger of a newly formed, wholly-owned
subsidiary of the Company with and into QIC in exchange for 3,150,000 shares of
the Company's common stock and $200,000 in cash.  Such shares were not
registered under the Securities Act of 1933, as amended (the "1933 Act") in
reliance upon the exemptions provided by Section 492 of the 1933 Act and/or
Regulation D promulgated thereunder as a transaction by an issuer not involving
a public offering.

                                       7
<PAGE>
 
ITEM 6.  SELECTED FINANCIAL DATA

The following financial data have been derived from the Company's consolidated
financial statements.

<TABLE>
<CAPTION>
 
For the Years Ended March 31,
(in thousands, except per
  share amounts)
 
                                            1994     1995     1996      1997    1998 (a)
                                         -------   ------  -------  --------   --------
<S>                                      <C>       <C>     <C>      <C>        <C> 
STATEMENT OF OPERATIONS DATA:
Revenue                                  $ 7,537   $8,251  $10,947  $  5,504   $  2,755
Operating income (loss)                   (3,636)     420      530   (10,105)   (12,028)
Net Income (loss)                         (3,892)     211      569    (9,885)   (12,038)
Net income (loss) per share (basic)        (0.66)    0.03     0.06     (0.86)     (0.69)
Net income (loss) per share (diluted)      (0.66)    0.03     0.05     (0.86)     (0.69)
Weighted-average common                    5,887    7,588    9,169    11,521     17,549
  shares (basic)
Weighted-average common                    5,887    8,257   10,386    11,521     17,549
  shares and equivalents(diluted)

BALANCE SHEET DATA:
Working capital (deficit)                $  (298)  $    4  $11,848   $   481    $    60
Total assets                               3,246    5,222   17,092     8,477      5,265
Long term obligations,
  less current portion                        36      794       38       254         77
Shareholders' equity                         105      982   13,728     5,058      2,564
</TABLE> 

<TABLE> 
<CAPTION> 

SUMMARY QUARTERLY DATA - UNAUDITED
 
                         Jun.30    Sep.30    Dec.31    Mar.31    Jun.30      Sep.30    Dec.31    Mar.31
Quarter Ended             1996      1996      1996      1997      1997(a)     1997      1997      1998 (a)
                         ------   -------   -------   -------   -------     -------   -------   -------
(in thousands, except
  per share amounts)
<S>                      <C>      <C>       <C>       <C>       <C>        <C>       <C>       <C>       
Revenue                  $2,222   $   943   $ 1,264   $ 1,075   $   713     $   984   $   552   $   506
Gross profit (loss)       2,004       628       598       420      (711)        617       146       (75)
Operating loss             (640)   (2,559)   (4,937)   (1,969)   (4,197)     (1,744)   (1,769)   (4,318)
Net loss                 $ (535)  $(2,479)  $(4,893)  $(1,978)  $(3,994)    $(1,814)  $(1,885)  $(4,345)
Net loss per basic
  and diluted share      $(0.05)  $ (0.22)  $ (0.42)  $ (0.17)  $ (0.25)    $ (0.11)  $ (0.11)  $ (0.21)
</TABLE>

(a) Based upon the Company's plans for the future, the Company wrote off $1,036
and $493 of unamortized software development costs in the first and fourth
quarters, respectively, of fiscal year ended March 31, 1998 resulting in
operating losses for those quarters. In addition, during the first quarter of
fiscal 1998, the Company recorded a $1,217 charge for the impairment of a
prepaid royalty. The fourth quarter of fiscal 1998 includes a write-off of
$2,480 for acquired in-process research and development. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations".

                                       8
<PAGE>
 
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (IN THOUSANDS)

This Management's Discussion and Analysis of Financial Condition and Results of
Operations includes a number of forward-looking statements which reflect the
Company's current views with respect to future events and financial performance,
including releases of new products and enhancements.  These forward-looking
statements are subject to certain risks and uncertainties, including those
discussed in the Other Factors Affecting Future Results section of this Item 7
and elsewhere in this Annual Report on Form 10-K, as well as other risks and
uncertainties described in the Company's other reports filed with the Securities
and Exchange Commission, that could cause actual results to differ materially
from historical results or those anticipated.  In this report, the words
"anticipates," "believes," "expects," "intends," "future," and similar
expressions identify forward-looking statements.  Readers are cautioned not to
place undue reliance on these forward-looking statements, which speak only as of
the date hereof.

The following discussion should be read in conjunction with the Consolidated
Financial Statements and Notes thereto.

REVENUE

Total revenue decreased from $5,504 in fiscal 1997 to $2,755 in fiscal 1998.
Total revenue was $10,947 in fiscal 1996.  The decrease in revenues in fiscal
1998 resulted from lower license and maintenance revenue primarily due to
weakened demand based on a delay in capital investment by semiconductor
manufacturers caused, in part, by the current financial crisis in Asia,
increased competition and the timing of renewals of maintenance contracts.
During the second quarter of fiscal 1998, the Company recorded license revenue
from a multi-license order from a leading design services company.  The two
companies entered into a joint development program to maximize each company's
product capabilities.  In addition, the Company purchased two copies of a set of
libraries from this company at an amount substantially equivalent to the license
order to utilize in conjunction with the Company's benchmark and development
engineering for the Company's products to achieve maximum utilization of the
library data.  International sales were approximately $4,740, $1,390 and $874
for fiscal 1996, 1997 and 1998, respectively, representing 43%, 25% and 32% of
total revenue for the respective periods.  Fiscal 1996 benefited from increased
license fee revenue as a result of the release of product enhancements, as well
as the introduction of new products.  The Company's plans for fiscal 1999
include an aggressive new product plan, including new releases of significant
enhancements for each of the Company's primary products.  With the acquisition
of Quality I.C. Corporation ("QIC"), the Company has front-end technology which
improves the flow of data into SVR product tools and improves the resulting
performance.  In addition, the Company has consulting and design services to
bring to market.  However, there can be no assurance that these new products and
enhancements will be released on a timely basis, if at all, or will gain market
acceptance.  See "Other Factors Affecting Future Results-New Product and Rapid
Technological Change; Risk of Product Defects".

In fiscal 1996, 1997 and 1998 maintenance revenue was $3,197, $2,620 and $1,802,
respectively.  Maintenance fees revenue as a percentage of total revenue was
29%, 48% and 65% for fiscal 1996, 1997 and 1998, respectively.  The decline in
maintenance fees revenue in fiscal 1998 was due to reduced license sales.

In February 1997, the Company restated its unaudited consolidated financial
statements for the quarters ended June 30, 1996 and September 30, 1996 to
reverse certain transactions and related expenses which were recognized other
than in accordance with the Company's accounting policies.  The Company has
filed Forms 10Q/A for the quarters ended June 30, 1996 and September 30, 1996.
The results of operations for the year ended March 31, 1997 include the effect
of the restatements referred to above.

The Company's expense levels are based, in part, on its expectations as to
future revenue levels, which are difficult to predict. If revenue levels are
below expectations, as in fiscal 1998, operating results may be materially and
adversely affected. In addition, the Company's quarterly and annual results may
fluctuate as a result of many factors, including the size and timing of software
license fees, timing of co-development projects with customers, timing of
operating expenditures, increased competition, new product announcements and
releases by the Company and its competitors, gain or loss of significant
customers or 

                                       9
<PAGE>
 
distributors, expense levels, renewal of maintenance contracts, pricing changes
by the Company or its competitors, personnel changes, foreign currency exchange
rates and economic conditions generally and in the electronics industry
specifically.

COST OF REVENUE

For fiscal 1996, 1997 and 1998, cost of license fees and other was $388, $1,308
and $2,205, respectively.  Cost of license fees and other as a percentage of
total revenue was 4%, 24% and 80% for fiscal 1996, 1997 and 1998, respectively.
Cost of license fees and other consists primarily of the amortization of
capitalized software development costs and amortization of prepaid royalty
payments to third parties.  Based upon the Company's plans for the future, the
Company determined that $1,272 of unamortized software development costs were
not recoverable and accordingly recognized a negative gross margin on license
fees for the year ended March 31, 1998.

For fiscal 1996, 1997 and 1998, cost of maintenance fees was $357, $546 and
$573, respectively.   Cost of maintenance fees as a percentage of total revenue
was 3%, 10% and 21% for fiscal 1996, 1997 and 1998, respectively.  Cost of
maintenance fees is primarily the cost of providing technical support and
technical documentation which increased in fiscal 1998.  The percentage increase
in fiscal 1998 was primarily due to reduced revenue levels.

ENGINEERING, RESEARCH AND DEVELOPMENT EXPENSES

Engineering, research and development expenses for fiscal 1996, 1997 and 1998
were $3,330, $3,609 and $3,568, respectively.  The consistency in engineering,
research and development expenses in fiscal 1996, 1997 and 1998 was due to SVR's
continuing emphasis on its technology and product development.

SELLING AND MARKETING EXPENSES

Selling and marketing expenses for fiscal 1996, 1997 and 1998 were $5,145,
$5,914 and $3,677, respectively.  The decrease in fiscal 1998 is due to the
effects of the Company's cost-cutting measures and lower commissions resulting
from reduced revenue during the year ended March 31, 1998.

GENERAL AND ADMINISTRATIVE EXPENSES

General and administrative expenses for fiscal 1996, 1997 and 1998 were $1,197,
$4,232 and $1,063, respectively.  In fiscal 1997, the Company recorded
approximately $3,000 of nonrecurring charges associated with severance
arrangements, litigation accruals, legal fees and accounting fees.  In addition,
general and administrative expenses have decreased due to streamlining the
organization, lower relocation expenses, lower consulting and legal expenses and
cost-cutting measures instituted by management.

IMPAIRMENT LOSS ON PREPAID ROYALTY

In June 1996, the Company entered into an agreement whereby the Company was
granted the exclusive marketing rights to Bell Labs' CLOVER line of deep
submicron verification products worldwide, with the exception of Japan and
Taiwan.  Pursuant to the four year agreement, the Company had made prepaid
royalty payments of $1,750.  Despite active marketing efforts, the product had
limited success due to product issues and to strong competitive factors.
Accordingly, the Company ceased sales of the product line in July 1997.
Provision was made in the accompanying financial statements for the year ended
March 31, 1998 to expense the full amount of unamortized prepaid royalty of
$1,217, the future value of which was considered impaired.


IN-PROCESS RESEARCH AND DEVELOPMENT

On March 31, 1998, the Company acquired Quality I.C. Corporation, a company that
provides engineering and consulting services to companies in the micro-
electronics industry.  The acquisition was accounted for using the purchase
method of accounting.  Accordingly, the purchase price has been allocated to the

                                       10
<PAGE>
 
assets purchased and the liabilities assumed based upon the fair values at the
date of acquisition.  The Company used the discounted cash flow approach to
determine the fair value of Quality I.C. Corporation and its identifiable
assets, including $2,480 allocated to in-process research and development for
the value of products in the development stage which were not considered to have
reached technological feasibility.  In accordance with generally accepted
accounting principles, acquired in-process research and development is required
to be expensed (see Note 4 of Notes to Consolidated Financial Statements).

OTHER INCOME (EXPENSE)

Other income (expense) for fiscal 1996, 1997 and 1998 was $44, $222 and $(10),
respectively.  Other income in fiscal 1996, 1997 and 1998 resulted primarily
from interest income from investing the proceeds received in the secondary
public offering in fiscal 1996 and private placements of equity units in fiscal
1998.  Other expense includes interest expense and foreign exchange losses.

PROVISION FOR INCOME TAXES

The provision for income taxes for fiscal 1996, 1997 and 1998 was $5, $2 and $0,
respectively.

As of March 31, 1998, the Company had federal and state net operating loss
carryforwards of approximately $26,400 and $6,500, respectively.  The Company
also had federal and California research and development tax credit
carryforwards of approximately $700 and $300, respectively.  The net operating
loss and credit carryforwards will expire at various dates from 1998 through
2012, if not utilized (see Note 11 of Notes to Consolidated Financial
Statements).

LIQUIDITY AND CAPITAL RESOURCES

Since inception, the Company has financed its operations primarily through
private and public sales of equity securities and to a lesser extent, cash
generated from operations.  In fiscal 1996, 1997 and 1998, the Company received
cash of $12,297, $1,204 and $6,722, respectively, from public and private
placements of common stock  and the exercise of warrants and options to purchase
common stock.

The Company has incurred operating losses throughout fiscal 1998 and expects
such losses to continue at least in the near term as it expands its product
development and marketing capabilities.  At March 31, 1998, the Company had an
accumulated deficit of $39,346.  The achievement of profitability is primarily
dependent upon the continued development and commercial acceptance of the
Company's products, the successful management of the business and management's
ability to strategically focus the Company.  There can be no assurance as to
whether or when achievement of profitable operations will occur.  In addition,
the Company is experiencing negative cash flow from operations and it is
expected that it will continue to experience negative cash flow through fiscal
1999 and potentially thereafter.

The Company's operating activities used cash of $1,825, $6,731 and $5,478 in
fiscal 1996, 1997 and 1998, respectively.

Investment activities, primarily comprising capitalized software development
costs, acquired fixed assets and purchased software licenses, were $1,124,
$2,589 and $1,772 for fiscal 1996, 1997 and 1998, respectively.

The Company's primary unused sources of funds at March 31, 1998 consisted of
cash and cash equivalents of $1,926.  Subsequent to March 31, 1998, the Company
completed a private placement of equity securities, increasing its capital base
by approximately $2,000.

Subsequent to year end, on June 8, 1998, the Company's $2,000 line of credit
with its bank expired by its terms.  The Company is currently in the process of
negotiating a continuation with its bank.  (See Note 6 of Notes to Consolidated
Financial Statements).

The Company believes its cash and cash generated from operations and available
borrowings may not be sufficient to finance its operations through 1999.
Management is exploring financing alternatives to supplement the Company's cash
position.  Potential sources of additional financing include private equity
financings, mergers, strategic investments, strategic partnerships or various
forms of debt financings.  If 

                                       11
<PAGE>
 
additional funds are raised by the Company through the issuance of equity
securities, the percentage of ownership of the then current stockholders of the
Company will be reduced. The Company may be prevented or restricted from raising
additional funds by issuing equity securities or securities convertible into
common stock unless the Company amends its Articles of Incorporation to increase
the number of authorized shares of common stock. The Company intends to seek
shareholder approval to increase the Company's authorized shares of common stock
at its next annual shareholder meeting. However, no assurance can be given as to
whether such shareholder approval will be obtained in a timely manner, if at
all. The Company may issue a series of Preferred Stock with rights, preferences
or privileges senior to those of the Company's common stock. The Company has no
commitments or arrangements to obtain any additional funding and there can be no
assurance that the required financing of the Company will be available on
acceptable terms, if at all. The unavailability or timing of any financing,
could prevent or delay the continued development and marketing of the products
of the Company and could require substantial curtailment of operations of the
Company.


The Company's common stock is traded on the Nasdaq National Market and must meet
certain maintenance criteria to continue to be listed on the Nasdaq National
Market as explained further in this report in "Other Factors Affecting Future
Results - Compliance with Nasdaq Listing Requirements: Disclosure Relating to
Low-Priced Stock".

OTHER FACTORS AFFECTING FUTURE RESULTS

RECENT AND EXPECTED LOSSES; ACCUMULATED DEFICIT.  The Company incurred a net
loss of $12,038 for the year ended March 31, 1998 and had an accumulated deficit
of $39,346 as of March 31, 1998.  The Company expects to incur losses for most
of its next fiscal year.  There can be no assurance that the Company will not
incur significant additional losses for a longer period, will generate positive
cash flow from its operations, or that the Company will attain or thereafter
sustain profitability in any future period.  To the extent the Company continues
to incur losses or grows in the future, its operating and investing activities
may use cash and, consequently, such losses or growth will require the Company
to obtain additional sources of financing in the future or to reduce operating
expenses.

GOING CONCERN ASSUMPTIONS; FUTURE CAPITAL NEEDS; NO ASSURANCE OF FUTURE
FINANCING.  The Company's independent accountants' report on its financial
statements as of and for the years ended March 31, 1997 and 1998 contains an
explanatory paragraph indicating that the Company's historical operating losses
and limited capital resources raise substantial doubt about its ability to
continue as a going concern.  The Company may require substantial additional
funds in the future, and there can be no assurance that any independent
accountant's report on the Company's future financial statements will not
include a similar explanatory paragraph if the Company is unable to raise
sufficient funds or generate sufficient cash from operations to cover the cost
of its operations.

DEPENDENCE ON SINGLE PRODUCT LINE.  Revenues from sales of the SVR GARDS family
of products have historically represented a substantial majority of the
Company's revenues. The life cycles of the Company's products are difficult to
predict due to the effect of new product introductions or product enhancements
by the Company or its competitors, market acceptance of new and enhanced
versions of the Company's products and competition in the Company's marketplace.
Declines in the demand for the SVR GARDS family of products, whether as a result
of competition, technological change, price reductions or otherwise, could have
a material adverse effect on the Company's business, operating results and
financial condition.

NEW PRODUCTS AND RAPID TECHNOLOGICAL CHANGE; RISK OF PRODUCT DEFECTS.  The EDA
industry is characterized by extremely rapid technological change, frequent new
product introductions and enhancements, evolving industry standards and rapidly
changing customer requirements.  The development of more complex ICs embodying
new technologies will require increasingly sophisticated design tools.  The
Company's future results of operations will depend, in part, upon its ability to
enhance its current products and to develop and introduce new products on a
timely and cost-effective basis that will keep pace with technological
developments and evolving industry standards and methodologies, as well as
address the increasingly sophisticated needs of the Company's customers.  The
Company has in the past, and may in the future, experience delays in new product
development and product enhancements.

                                       12
<PAGE>
 
The Company has recently released significant upgrades to GARDS and SC.
Improvements were made to the Company's placement technology providing greater
completion utilization rates.  Enhancements to the Company's ECO flow will
minimize the number of "design turns" needed to complete a design.  Additional
engineering effort was invested in the refinement of the Company's delay
modeling and analysis capabilities.  This includes the integration of 3D
modeling and extraction software, which the Company is offering through an OEM
agreement with OEA International, Inc.  There can be no assurance that these new
products will gain market acceptance or that the Company will be successful in
developing and  marketing product enhancements or other new products that
respond to technological change, evolving industry standards and changing
customer requirements, that the Company will not experience difficulties that
could delay or prevent the successful development, introduction and marketing of
these products or product enhancements, or that its new products and product
enhancements will adequately meet the requirements of the marketplace and
achieve any significant degree of market acceptance.

In addition, all of the Company's current products operate in, and planned
future products will operate in, the Unix operating system.  In the event that
another operating system, such as Windows NT, were to achieve broad acceptance
in the EDA industry, the Company would be required to port its products to such
an operating system, which would be costly and time consuming and could have a
material adverse effect on the Company's business, operating results or
financial condition.  Failure of the Company, for technological or other
reasons, to develop and introduce new products and product enhancements in a
timely and cost-effective manner would have a material and adverse effect on the
Company's business, operating results and financial condition.  In addition, the
introduction, or even announcement of products by the Company or one or more of
its competitors embodying new technologies or changes in industry standards or
customer requirements could render the Company's existing products obsolete or
unmarketable.  There can be no assurance that the introduction or announcement
of new product offerings by the Company, or one or more of its competitors, will
not cause customers to defer purchases of existing Company products.  Such
deferment of purchases could have a material adverse effect on the Company's
business, operating results or financial condition.

Software products as complex as those offered by the Company may contain defects
or failures when introduced or when new versions are released.  The Company has
in the past discovered software defects in certain of its products and may
experience delays or lost revenue to correct such defects in the future.
Although the Company has not experienced material adverse effects resulting from
any such defects to date, there can be no assurance that, despite testing by the
Company, errors will not be found in new products or releases after commencement
of commercial shipments, resulting in loss of market share or failure to achieve
market acceptance.  Any such occurrence could have a material effect upon
the Company's business, operating results or financial condition.

COMPLIANCE WITH NASDAQ LISTING REQUIREMENTS; DISCLOSURE RELATING TO LOW-PRICED
STOCK   The Company's common stock is quoted on the Nasdaq National Market (the
"National Market").  However, in order to continue to be included in the
National Market, a company must meet certain maintenance criteria.  The
maintenance criteria requires a minimum bid price of $1.00 per share (the
"Minimum Bid Price"), $4,000 in net tangible assets (total assets less total
liabilities and goodwill) (the "Required Net Tangible Assets") and $5,000 market
value of the public float (excluding shares held directly or indirectly by any
officer or director of the Company and by any person holding beneficially more
than 10% of the Company's outstanding shares).

As of June 26, 1998, the closing bid price of a share of the Company's common
stock was $0.59375 and the Company's common stock had failed to maintain the
Minimum Bid Price.  By letter dated June 26, 1998, The Nasdaq Stock Market
("Nasdaq") notified the Company that it will have ninety calendar days in which
to regain compliance with the Minimum Bid Price.  The Company's common stock
needs to maintain the Minimum Bid Price for ten consecutive trading days in
order to be considered in compliance.  If the Company is unable to demonstrate
compliance on or before the end of the period, Nasdaq will delist the Company's
securities from the National Market.

Failure to meet these maintenance criteria may result in the delisting of the
Company's common stock from the National Market and the quotation of the
Company's common stock on the Nasdaq SmallCap Market (the "SmallCap Market"), if
the requirements for inclusion on the SmallCap Market are met.  A company must
have $4,000 in net tangible assets or $50,000 market capitalization or $750 net
income in two of the 

                                       13
<PAGE>
 
last three years, a minimum bid price of $4.00 per share and a public float of
$5,000 for inclusion in the SmallCap Market, subject to certain exceptions.
Failure to meet the SmallCap Market inclusion criteria, or the failure to meet
the SmallCap Market maintenance criteria if the initial SmallCap Market
inclusion criteria are met, may result in the delisting of the Company's common
stock from Nasdaq. Trading, if any, in the Company's common stock would
thereafter be conducted in the non-Nasdaq over-the-counter market.

If the Company's common stock were delisted from trading on the National Market
and the SmallCap Market, an investor may find it more difficult to dispose of,
or to obtain accurate quotation as to the market value of, the Company's common
stock.  If the trading price of the common stock was less that $5.00 per share,
trading in the common stock would also be subject to certain rules promulgated
under the Exchange Act, which require additional disclosure by broker-dealers in
connection with any trades involving a stock defined as a penny stock
(generally, any non-Nasdaq equity security that has a market price of less than
$5.00 per share, subject to certain exceptions).  Such rules require the
delivery, prior to any penny stock transaction, of a disclosure schedule
explaining the penny stock market and the risks associated therewith, and impose
various sales practice requirements on broker-dealers who sell penny stock to
persons other than established customers and accredited investors (generally
institutions).  For these types of transactions, the broker-dealer must make a
special suitability determination for the purchaser and have received the
purchaser's written consent to the transactions prior to sale.  The additional
burden imposed upon broker-dealers by such requirements may discourage broker-
dealers from effecting transactions in the common stock, which could severely
limit the market liquidity of the common stock and limit the ability of the
Company's stockholders to sell the common stock in the secondary market.

POSSIBLE VOLATILITY OF STOCK PRICE.  The market price of the Company's common
stock has been volatile.  Future announcements concerning the Company or its
competitors, quarterly variations in operating results, announcements of
technological innovations, the introduction of new products or changes in
product pricing policies by the Company or its competitors, proprietary rights
or other litigation, changes in earnings estimates by analysts or other factors
could cause the market price of the common stock to fluctuate substantially.  In
addition, the stock market has from time to time experienced significant price
and volume fluctuation that have particularly affected the market prices for the
common stocks of technology companies and that have often been unrelated to the
operating performance of particular companies.  The broad market fluctuations
may also adversely affect the market price of the Company's common stock.  In
the past, following periods of volatility in the market price of a company's
securities, securities class action litigation has occurred against the issuing
company.  There can be no assurance that such litigation will not occur in the
future with respect to the Company.  Such litigation could result in substantial
costs and divert management attention and resources, which could have a material
adverse effect on the Company's business, financial condition and results of
operations.  Any adverse determination in such litigation could also subject the
Company to significant liabilities.

POTENTIAL FLUCTUATIONS IN QUARTERLY OPERATING RESULTS.  Numerous factors may
materially and unpredictably affect operating results of the Company, including
the uncertainties of the size and timing of software license fees, timing of co-
development projects with customers, timing of operating expenditures, increased
competition, new product announcements and releases by the Company and its
competitors, gain or loss of significant customers or distributors, expense
levels, renewal of maintenance contracts, pricing changes by the Company or its
competitors, personnel changes, foreign currency exchange rates, and economic
conditions generally and in the electronics industry specifically.  Any
unfavorable change in these or other factors could have a material adverse
effect on the Company's operating results for a particular quarter.  Many of the
Company's customers order on an as-needed basis and often delay delivery of firm
purchase orders until their project commencement dates are determined, and, as a
result, the Company operates with no significant backlog.  Quarterly revenue and
operating results will therefore depend on the volume and timing of orders
received during the quarter, which are difficult to forecast accurately.
Historically, the Company has often recognized a substantial portion of its
license revenues in the last month of the quarter, with these revenues
frequently concentrated in the last two weeks of the quarter.  Operating results
would be disproportionately affected by a reduction in revenue because only a
small portion of the Company's expenses vary with its revenue.  Operating
results in any period should not be considered indicative of the results to be
expected for any future period, and there can be no assurance that the Company's
revenues will increase or that the Company will achieve profitability.

                                       14
<PAGE>
 
LENGTHY SALES CYCLE.  The licensing and sales of the Company's software products
generally involves a significant commitment of capital by prospective customers,
with the attendant delays frequently associated with large capital expenditures
and lengthy acceptance procedures.  For these and other reasons, the sales cycle
associated with the licensing of the Company's products is typically lengthy and
subject to a number of significant risks over which the Company has little or no
control.  Because the timing of customer orders is hard to predict, the Company
believes that its quarterly operating results are likely to vary significantly
in the future.  Actual results of the Company could vary materially as a result
of a variety of factors, including, without limitation, the high average selling
price and long sales cycle for the Company's products, the relatively small
number of orders per quarter, dependence on sales to a limited number of large
customers, timing of receipt of orders, successful product introduction and
acceptance of the Company's products and increased competition.

DEPENDENCE UPON SEMICONDUCTOR AND ELECTRONICS INDUSTRIES; GENERAL ECONOMIC AND
MARKET CONDITIONS.  The Company is dependent upon the semiconductor and more
generally, the electronics industries.  Each of these industries is
characterized by rapid technological change, short product life cycles,
fluctuations in manufacturing capacity and pricing and gross margin pressures.
Each of these industries is highly cyclical and has periodically experienced
significant downturns, often in connection with, or in anticipation of, declines
in general economic conditions during which the number of new IC design projects
often decreases.  Purchases of new licenses from the Company are largely
dependent upon the commencement of new design projects, and factors negatively
affecting any of these industries could have a material adverse effect on the
Company's business,  operating results or financial condition.  The Company's
business, operating results and financial condition may in the future reflect
substantial fluctuations from period to period as a consequence of patterns and
general economic conditions in either the semiconductor or electronics industry.

INTERNATIONAL SALES.  International sales, primarily in Japan and Taiwan,
accounted for approximately 43%, 25% and 32% of the Company's total revenue in
fiscal 1996, 1997, and 1998, respectively.  Declining revenues from
international sales were a result of the reduction in capital expenditures by
semiconductor manufacturers, particularly in Asia as a result of the current
financial crisis in that region, and increased competition in the EDA software
market.  The Company expects that international sales will continue to account
for a significant portion of its revenue and plans to continue to expand its
international sales and distribution channels.  This revenue involves a number
of inherent risks, including economic downturn in the electronics industry in
Asia, traditionally slower adoption of the Company's products internationally,
general strikes or other disruptions in working conditions, generally longer
receivables collection periods, unexpected changes in or impositions of
legislative or regulatory requirements, reduced protection for intellectual
property rights in some countries, potentially adverse taxes, delays resulting
from difficulty in obtaining export licenses for certain technology and other
trade barriers.  There can be no assurance that such factors will not have a
material adverse effect on the Company's future international sales and,
consequently, on the Company's results of operations.  Sales orders received by
foreign sales subsidiaries are primarily denominated in currencies other than
the U.S. dollar.  In order to reduce the risk of loss between the time the
Company's products are purchased by subsidiaries and the time payment is made,
the subsidiaries enter into foreign exchange contracts when economically
feasible.

DEPENDENCE ON CERTAIN CUSTOMERS AND RESELLERS.  A small number of customers
account for a significant percentage of the Company's total revenue.  In fiscal
1996, HAL Computer Systems, Inc., a subsidiary of Fujitsu Ltd ("HAL"),
accounted for 16% and Motorola, Inc. and Yamaha Corporation each accounted for
11% of the Company's total revenue. In fiscal 1997, HAL accounted for 14%,
Lucent Technologies accounted for 19% and Motorola, Inc. accounted for 13% of
the Company's total revenue. In fiscal 1998, Motorola, Inc. accounted for 13%
and Aspec Technology accounted for 20% of the Company's total revenue. There can
be no assurance that sales to these entities, individually or as a group, will
reach or exceed historical levels in any future period. Any substantial decrease
in sales to one or more of these customers could have a material adverse effect
on the Company's business, operating results or financial condition. The Company
currently sells and markets its products overseas, other than in Japan and
Taiwan, through a limited number of distributors. The Company has a limited
history of performance by its distributors. In addition, there can be no
assurance that the new distributors will be able to successfully distribute and
support the Company's products on a timely basis or that such distributors will
not reduce their efforts devoted to selling the Company's products or terminate
their

                                       15
<PAGE>
 
relationship with the Company as a result of competition with other suppliers'
products. The loss of, or changes in, the relationship with, or performance by,
one or more of the Company's international distributors could have an adverse
effect on the Company's business.

MANAGEMENT TRANSITION.  The Company is experiencing a period of management
transition that has placed, and may continue to place, a significant strain on
its resources, including its personnel.  Robert R. Anderson re-assumed the role
of Chief Executive Officer in December 1996 and has assembled a new senior
management team.  James O. Benouis joined the Company in March 1998 as its
President and Chief Operating Officer.  The Company's ability to manage growth
successfully will require its new management personnel to work together
effectively and will require the Company to improve its operations, management
and financial systems and controls.  If the Company management is unable to
manage this transition effectively,  the Company's business, competitive
position, results of operations and financial condition will be materially and
adversely affected.  See - "Dependence on Key Personnel"

DEPENDENCE ON KEY PERSONNEL.   The Company's success depends to a significant
extent upon a number of key technical and management employees, in particular,
upon Robert R. Anderson, the Company's Chairman and Chief Executive Officer, and
James O. Benouis, the Company's President and Chief Operating Officer.  The
Company does not currently have "key man" life insurance on Mr. Anderson, Mr.
Benouis or any other members of its senior management.  The loss of services of
Mr. Anderson, Mr. Benouis or any other members of its senior management could
have a material adverse effect on the Company. See - "Management Transition."
The Company's success will depend, in large part, on its ability to attract and
retain highly-skilled technical, managerial, sales and marketing personnel.
Competition for such personnel is intense. There can be no assurance that the
Company will be successful in retaining its key technical and management
personnel and in attracting and retaining the personnel it requires to continue
to grow.

CONCENTRATION OF STOCK OWNERSHIP.  The present directors, executive officers and
5% shareholders of the Company and their affiliates beneficially own
approximately 69.5% of the outstanding common stock.  As a result, these
shareholders may be able to exercise significant influence over all matters
requiring shareholder approval, including the election of directors and approval
of significant corporate transactions.  Such concentration of ownership may have
the effect of delaying or preventing a change in control of the Company.

EFFECT OF CERTAIN CHARTER PROJECTIONS; BLANK CHECK PREFERRED STOCK.  The
Company's Board of Directors has the authority to issue up to 1,000 shares
of Preferred Stock and to determine the price, rights, preferences, privileges
and restrictions, including voting rights, without any further vote or action by
the Company's shareholders.  The rights of the holders of the common stock will
be subject to, and may be adversely affected by, the rights of the holders of
any Preferred Stock that may be issued in the future.  The issuance of Preferred
Stock, while providing desirable flexibility in connection with possible
acquisitions and other corporate purposes, could have the effect of making it
more difficult for a third party to acquire a majority of the outstanding voting
stock of the Company.

INFLATION.  To date, inflation has not had a significant impact on the results
of the Company's operations.

RECENT ACCOUNTING PRONOUNCEMENTS.  In October 1997 and March 1998, the American
Institute of Certified Public Accountants issued Statements of Position 97-2,
"Software Revenue Recognition" ("SOP 97-2") and 98-4 "Deferral of the Effective
Date of a Provision of SOP 97-2, Software Revenue Recognition" ("SOP 98-4"),
which the Company is required to adopt for transactions entered into in the
fiscal year beginning April 1, 1998.  SOP 97-2 and SOP 98-4 provide guidance on
recognizing revenue on software transactions and supersede SOP 91-1. The Company
believes that the adoption of SOP 97-2 and SOP 98-4 will not have a significant
impact on its current licensing or revenue recognition practices.  However,
should the Company adopt new or change its existing licensing practices, the
Company's revenue recognition practices may be subject to change to comply with
the accounting guidance provided in SOP 97-2 and SOP 98-4.

In June 1997, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards No. 130 ("FAS 130").  FAS 130 establishes
standards for reporting comprehensive income and its components in a financial
statement.  Comprehensive income as defined 

                                       16
<PAGE>
 
includes all changes in equity (net assets) during a period from non-owner
sources. Examples of items to be included in comprehensive income, which are
excluded from net income, include foreign currency translation adjustments and
unrealized gains/losses on available-for-sale securities. The disclosure
prescribed by FAS 130 must be made beginning with the first quarter of fiscal
1999.

Additionally in June 1997, the FASB issued Statement of Financial Accounting
Standards No. 131 ("FAS 131"), "Disclosures About Segments of an Enterprise and
Related Information." This statement establishes standards for the way
companies report information about operating segments in annual financial
statements.  It also establishes standards for related disclosures about
products and services, geographic areas and major customers.  The Company has
not yet determined the impact, if any, of adopting this new standard.  The
disclosures prescribed by FAS 131 will be effective for the Company's
consolidated financial statements for the year ending March 31, 1999.

In April 1998, the American Institute of Certified Public Accountants issued
Statement of Position 98-1, "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use" ("SOP 98-1"). SOP 98-1 provides guidance
for determining whether computer software is internal-use software and on
accounting for the proceeds of computer software originally developed or
obtained for internal use and then subsequently sold to the public. It also
provides guidance on capitalization of the costs incurred for computer software
developed or obtained for internal use. The Company has not yet determined the
impact, if any, of adopting this statement. The disclosures prescribed by 
SOP 98-1 will be effective for the year ending March 31, 2000 consolidated
financial statements.

YEAR 2000 ISSUE.  The "Year 2000 Issue" arises because most computer systems and
programs were designed to handle only a two-digit year, as opposed to a four
digit year.  When the year 2000 begins, these computers may interpret "00" as
the year 1900 and could either stop processing date-related computations or
could process them incorrectly.  As customers and potential customers of the
Company begin to devote incremental resources to this issue, resources
previously allocated to other information systems requirements may be redirected
to address the Year 2000 issue.  To the extent that the Company's products are
not selected as part of customers' overall Year 2000 solution, redirection of
these customer resources could have a material adverse effect on the Company's
results of operations and financial condition.  In addition,  the Year 2000
Issue creates risk for the Company from unforeseen problems in its internal
computer systems and from third parties with which the Company interacts.  Such
failures of the Company's and/or third parties' computer systems could have a
material impact on the Company's ability to conduct its business and to process
and account for the transfer of funds electronically.

                                       17
<PAGE>
 
<TABLE>
<CAPTION>

ITEM 8.  FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES

Index to Financial Statements and Financial Statement Schedules
 
FINANCIAL STATEMENTS:
<S>                                                                              <C>
     Report of Independent Accountants                                              19
     Report of Management                                                           20
     Consolidated Balance Sheets as of March 31, 1997 and 1998                      21
     Consolidated Statements of Operations for the years ended March 31,
       1996, 1997 and 1998                                                          22
     Consolidated Statements of Changes in Shareholders' Equity for the years
       ended March 31, 1996, 1997 and 1998                                          23
     Consolidated Statements of Cash Flows for the years ended March 31,
       1996, 1997 and 1998                                                          24
     Notes to Consolidated Financial Statements                                     25-37
 
FINANCIAL STATEMENT SCHEDULE:
 
     Schedule II - Valuation and Qualifying Accounts                                38
</TABLE>

All other financial statement schedules have been omitted since they are either
not required, not applicable or the information is otherwise included in the
consolidated financial statements or notes thereto.

                                       18
<PAGE>
 
REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Shareholders of Silicon Valley Research, Inc.

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

The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern.  As discussed in Note 1 to the
financial statements, the Company has incurred significant recurring losses from
operations and has limited capital resources that raise substantial doubt about
its ability to continue as a going concern.  Management's plans in regard to
these matters are also described in Note 1.  The financial statements do not
include any adjustments that might result from the outcome of this uncertainty.



/s/  Price Waterhouse LLP

San Jose, California
June 12, 1998

                                       19
<PAGE>
 
Report of Management

To Our Shareholders:

The consolidated financial statements have been prepared by the Company, and we
are responsible for their content.  They are prepared in conformity with
generally accepted accounting principles, and in this regard we have undertaken
to make informed judgments and estimates, where necessary, of the expected
effects of events and transactions.  The other financial information in this
Annual Report on Form 10-K is consistent with that in the consolidated financial
statements.

The Company maintains and depends upon a system of internal accounting controls
designed to provide reasonable assurance that our assets are safeguarded, that
transactions are executed in accordance with management's intent and the law,
and that the accounting records fairly and accurately reflect the transactions
of the Company.

The Company engaged Price Waterhouse LLP as independent accountants to provide
an objective, independent audit of our consolidated financial statements.

The Board of Directors oversees the Company's consolidated financial statements
through its Audit Committee, which is composed of members of the Board of
Directors.  The independent accountants have access to the Audit Committee,
without management present, to discuss internal accounting controls, auditing,
and financial reporting matters.



Robert R. Anderson                      Laurence G. Colegate, Jr.
Chairman of the Board                   Senior Vice President,
and Chief Executive Officer             Finance and Administration



San Jose, California
June 29, 1998

                                       20
<PAGE>
 
<TABLE>
<CAPTION>

                         SILICON VALLEY RESEARCH, INC.
                          CONSOLIDATED BALANCE SHEETS
                                (in thousands)

 
 
                                                 March 31,
<S>                                           <C>           <C>
 
                                                    1997       1998
                                                  --------   --------
ASSETS
 
CURRENT ASSETS
Cash and cash equivalents                         $  2,064   $  1,926
Accounts receivable, net of allowances of
     $150 in 1997 and 1998                           1,129        484
Prepaid expenses and other current assets              453        257
                                                  --------   --------
                                                     3,646      2,667
 
Fixed assets, net                                      879        667
Other assets, net                                    3,952      1,931
                                                  --------   --------
                                                  $  8,477   $  5,265
                                                  ========   ========
 
LIABILITIES AND SHAREHOLDERS' EQUITY
 
CURRENT LIABILITIES
Short-term borrowings                             $     --   $    285
Current portion of long-term debt                      189        263
Notes payable due related parties (Note 4)              --        200
Accounts payable                                       515        352
Accrued expenses                                     1,443        968
Deferred maintenance revenue                         1,018        539
                                                  --------   --------
                                                     3,165      2,607
                                                  --------   --------
 
Long-term debt, less current portion                   254         77
                                                  --------   --------
 
Deferred tax liability                                  --         17
                                                  --------   --------
 
Commitments  and contingencies (Note 7)
 
SHAREHOLDERS' EQUITY
Preferred stock, no par value;
   authorized:  1,000 shares;
   issued and outstanding: none                         --         --
Common stock,  no par value;
   authorized:  40,000 shares;
   issued and outstanding:  12,227 shares
   in 1997 and 23,759 shares in 1998                32,375     41,834
Accumulated deficit                                (27,308)   (39,346)
Cumulative translation adjustment                       (9)        76
                                                  --------   --------
                                                     5,058      2,564
                                                  --------   --------
 
                                                  $  8,477   $  5,265
                                                  ========   ========
 
</TABLE>

  The accompanying notes are an integral part of these consolidated financial
                                  statements.

                                       21
<PAGE>
 
<TABLE>
<CAPTION>

                         SILICON VALLEY RESEARCH, INC.
                     CONSOLIDATED STATEMENTS OF OPERATIONS
                                        
                     (in thousands, except per share data)



                                                       Years Ended March 31,
                                                     1996      1997       1998
                                                   --------  ---------  ---------
<S>                                                <C>       <C>        <C>
REVENUE
License fees and other                             $ 7,750   $  2,884   $    953
Maintenance fees                                     3,197      2,620      1,802
                                                   -------   --------   --------
     Total revenue                                  10,947      5,504      2,755
                                                   -------   --------   --------
 
COST OF REVENUE
License fees and other                                 388      1,308      2,205
Maintenance fees                                       357        546        573
                                                   -------   --------   --------
     Total cost of revenue                             745      1,854      2,778
                                                   -------   --------   --------
 
GROSS PROFIT (LOSS)                                 10,202      3,650        (23)
                                                   -------   --------   --------
 
OPERATING EXPENSES
Engineering, research and development                3,330      3,609      3,568
Selling and marketing                                5,145      5,914      3,677
General and administrative                           1,197      4,232      1,063
Impairment loss on prepaid royalty                      --         --      1,217
Acquired in-process research and development            --         --      2,480
                                                   -------   --------   --------
     Total operating expenses                        9,672     13,755     12,005
                                                   -------   --------   --------
 
Operating income (loss)                                530    (10,105)   (12,028)
                                                   -------   --------   --------
 
OTHER INCOME (EXPENSE)
Interest income                                        102        276        151
Interest expense                                       (98)       (55)       (44)
Other, net                                              40          1       (117)
                                                   -------   --------   --------
     Total other income (expense)                       44        222        (10)
                                                   -------   --------   --------
 
Income (loss) before provision for income taxes        574     (9,883)   (12,038)
 
Provision for income taxes                               5          2         --
                                                   -------   --------   --------
 
NET INCOME (LOSS)                                  $   569   $ (9,885)  $(12,038)
                                                   =======   ========   ========
 
Net income (loss) per share (basic)                $  0.06   $  (0.86)  $  (0.69)
                                                   =======   ========   ========
Net income (loss) per share (diluted)              $  0.05   $  (0.86)  $  (0.69)
                                                   =======   ========   ========
Weighted -average common shares (basic)              9,169     11,521     17,549
                                                   =======   ========   ========
Weighted -average common shares
and equivalents (diluted)                           10,386     11,521     17,549
                                                   =======   ========   ========
</TABLE> 
  The accompanying notes are an integral part of these consolidated financial
                                  statements.

                                       22
<PAGE>
 
<TABLE> 
<CAPTION> 

                         SILICON VALLEY RESEARCH, INC.
                 CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
                                        


                                                                   Cumulative
                                      Common  Stock  Accumulated  Translation
(In thousands)                        Shares  Amount   Deficit    Adjustments    Total
                                      ------  ------   -------    -----------    -----
<S>                                   <C>     <C>      <C>        <C>        <C>
BALANCES, MARCH 31, 1995               7,715  $18,874  $(17,992)  $ 100       $    982  
                                                                                        
Common stock issued under                                                               
 stock option and stock                                                                 
 purchase plans                          259      528                              528  
Proceeds from issuance                                                                  
 of common stock, net of                                                                
 issuance costs                        3,172   11,583                           11,583  
Common stock issued on exercise                                                         
 of warrants                             162      186                              186  
Foreign currency translation                                                            
 adjustment                                                        (120)          (120) 
Net income                                                  569                    569  
                                      ------  -------  --------   -----       --------  
BALANCES, MARCH 31, 1996              11,308   31,171   (17,423)    (20)        13,728  
                                                                                        
Common stock issued under                                                               
 stock option and stock                                                                 
 purchase plans                          144      339                              339  
Common stock issued on                                                                  
 settlement of litigation                628      800                              800  
Common stock issued on                                                                  
 exercise of warrants                    147       65                               65  
Foreign currency translation                                                            
 adjustment                                                          11             11  
Net loss                                                 (9,885)                (9,885) 
                                      ------  -------  --------   -----       --------  
BALANCES, MARCH 31, 1997              12,227   32,375   (27,308)     (9)         5,058  
                                      ------  -------  --------   -----       --------  
Common stock issued under                                                               
 stock option and stock                                                                 
 purchase plans                           53       38                               38  
Proceeds from issuance                                                                  
 of common stock                       8,329    6,684                            6,684  
Common stock issued in conjunction                                                      
 with the acquisition of                                                                
 Quality I. C. Corporation             3,150    2,737                            2,737  
Foreign currency translation                                                            
 adjustment                                                          85             85  
Net loss                                                (12,038)               (12,038) 
                                      ------  -------  --------   -----       --------  
BALANCES, MARCH 31, 1998              23,759  $41,834  $(39,346)  $  76       $  2,564  
                                      ======  =======  ========   =====       ========   
</TABLE>
  The accompanying notes are an integral part of these consolidated  financial
                                  statements.

                                       23
<PAGE>
 
<TABLE>
<CAPTION>
                         SILICON VALLEY RESEARCH, INC.
                      CONSOLIDATED STATEMENT OF CASH FLOWS
                                (in thousands)



                                                              Years Ended March 31,
                                                            1996      1997      1998
                                                          --------  --------  ---------
<S>                                                       <C>       <C>       <C>
 
CASH FLOWS FROM OPERATING ACTIVITIES:
 
Net income (loss)                                         $   569   $(9,885)  $(12,038)
Adjustments to reconcile net income (loss) to net cash
  used in operating activities:
     Provision for impairment of prepaid royalty               --        --      1,217
     Acquired in-process research and development              --        --      2,480
     Depreciation and amortization:
       Fixed assets                                           394       517        350
       Software development costs                             315       593      1,622
       Software licenses                                      152       427        886
     Changes in assets and liabilities, net of
      effects of QIC acquisition:
       Accounts receivable                                 (3,145)    3,364        670
       Prepaid expenses and other current assets             (326)     (173)       225
       Accounts payable                                       202       201       (154)
       Accrued expenses                                      (130)      141       (618)
       Deferred maintenance revenue                           182      (442)      (479)
       Other, net                                             (38)   (1,474)       361
                                                          -------   -------   --------
Net cash used in operating activities                      (1,825)   (6,731)    (5,478)
                                                          -------   -------   --------
 
CASH FLOWS FROM INVESTING ACTIVITIES:
 
Acquisition of fixed assets                                  (452)     (653)       (55)
Capitalization of software development costs and
  purchase of software licenses                              (672)   (1,936)    (1,717)
                                                          -------   -------   --------
Net cash used in investing activities                      (1,124)   (2,589)    (1,772)
                                                          -------   -------   --------
 
CASH FLOWS FROM FINANCING ACTIVITIES:
 
Principal payments of long-term debt                       (1,393)     (164)      (158)
Proceeds from sale/leaseback                                  843        --         --
Advances on lines of credit                                    --        --        340
Proceeds from issuance of common stock                     12,111     1,139      6,722
Cash received upon issuances of notes and
   common stock relating to QIC acquisition                    --        --        123
Proceeds from issuance of warrants                            186        65         --
Net proceeds from notes payable                               175        --         --
                                                          -------   -------   --------
Net cash provided by financing activities                  11,922     1,040      7,027
                                                          -------   -------   --------
 
Effect of exchange rate changes on cash                        17       106         85
                                                          -------   -------   --------
 
Net increase (decrease) in cash and cash equivalents        8,990    (8,174)      (138)
Cash and cash equivalents at beginning of year              1,248    10,238      2,064
                                                          -------   -------   --------
 
Cash and cash equivalents at end of year                  $10,238   $ 2,064   $  1,926
                                                          =======   =======   ========
</TABLE>
  The accompanying notes are an integral part of these consolidated financial
                                  statements.

                                       24
<PAGE>
 
                         SILICON VALLEY RESEARCH, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                     (in thousands except share price data)


NOTE 1 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

BUSINESS

The Company designs, develops, and markets a series of advanced computer-aided
design software products for use by electronic engineers in the design and
engineering of integrated circuits and operates in one industry segment.  The
Company also provides the IC design industry a comprehensive set of design
project support services encompassing nearly all aspects of the IC development
process including complete IC design engineering services, VLSI mask design and
chip assembly capability, and CAD/EDA tool application methodology consulting
services.

The Company has incurred significant losses for the last two fiscal years from
operations.  Its line of credit expired on June 8, 1998 and the parties are
currently in the process of negotiating a continuation of the line.  The Company
is currently not in compliance with certain covenants under its equipment line
of credit.  There can be no assurance that the Company will be able to 
successfully renegotiate the line of credit or that a waiver will be obtained
for its noncompliance with certain covenants under its equipment line of credit.
The amounts outstanding under its line of credit and equipment line of credit
are classified as current in the March 31, 1998 balance sheet. Accordingly,
additional financing may be required for the Company to meet its business plan
for fiscal 1999 and beyond. The Company has recently introduced updated version
of its existing products and has plans to continue developing enhanced software
products. There can be no assurance that the Company will not incur additional
losses until its recently introduced and existing products generate significant
revenue. The accompanying financial statements have been prepared assuming the
Company will continue as a going concern. In addition to the private placement
of common stock subsequent to year end (see Note 14), management plans to pursue
additional financing. If the Company is unable to obtain such financing, it will
be required to reduce discretionary spending in order to maintain its operations
at a reduced level. Management believes that it will be able to reduce
discretionary spending if required. The accompanying financial statements do not
include any adjustments that might result from the outcome of these
uncertainties.

BASIS OF PRESENTATION

The consolidated financial statements include the accounts of the Company and
its subsidiaries:  Silicon Valley Research, Inc. - KK, Silicon Valley Research,
Inc. - Asia Pacific and Quality I.C. Corporation.  All significant intercompany
accounts and transactions have been eliminated.  Minority interest in net assets
and income (loss) for the years then ended are not significant.

REVENUE RECOGNITION

Revenues comprise license fees for the Company's software products (except in
Japan where revenues comprise sales of the Company's software products) and fees
for services complementing its products, including annual maintenance and
support, training and consulting.

Revenue from licenses is generally recognized when a customer purchase order has
been received, a license agreement has been executed, the software has been
shipped, remaining obligations are insignificant, and collection of the
resulting account receivable is probable.  Provisions for insignificant vendor
obligations are recorded at the time products are shipped.

Software maintenance revenue, including maintenance revenue bundled with the
initial product license revenue, is deferred and recognized ratably over the
maintenance period.  The maintenance revenue bundled with the initial product
license revenue is unbundled based on prices for which maintenance is sold
separately to customers.  Training and consulting revenues are recognized as
these services are performed.

In October 1997 and March 1998, the American Institute of Certified Public
Accountants issued Statements of Position 97-2, "Software Revenue Recognition"
("SOP 97-2") and 98-4 "Deferral of the Effective Date of a Provision of SOP 97-
2, Software Revenue Recognition" ("SOP 98-4"), which the Company is required to
adopt for transactions entered into in the fiscal year beginning April 1, 1998.
SOP 97-2 and SOP 98-4 provide guidance on recognizing revenue on software
transactions and supersede 

                                       25
<PAGE>
 
SOP 91-1. The Company believes that the adoption of SOP 97-2 and SOP 98-4 will
not have a significant impact on its current licensing or revenue recognition
practices. However, should the Company adopt new or change its existing
licensing practices, the Company's revenue recognition practices may be subject
to change to comply with the accounting guidance provided in SOP 97-2 and 
SOP 98-4.

USE OF ESTIMATES

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

CASH AND CASH EQUIVALENTS

Cash and cash equivalents in the statement of cash flows and balance sheet
include cash on hand and investments with original or remaining maturities at
the date of purchase of 90 days or less.

CONCENTRATION OF CREDIT RISK

Financial instruments that potentially subject the Company to significant
concentration of credit risk consists principally of accounts receivable.  The
composition of the Company's accounts receivable with respect to the
semiconductor industry is characterized by generally short collection terms.
The Company's accounts receivable are derived from revenues earned from
customers located primarily in the United States and Asia.  Generally, the
Company performs ongoing evaluation of its customer's financial condition and
does not require collateral, allowances for potential credit losses are
maintained and such losses have been within management's expectations.  At March
31, 1997, five customers accounted for 63% of the Company's total receivables
and at March 31, 1998, four customers accounted for 88% of the Company's total
receivables.  At March 31, 1997 and 1998, two Japanese customers accounted for
30% and one accounted for 28%, respectively, of the Company's total receivables.

ENGINEERING, RESEARCH AND DEVELOPMENT COSTS

Engineering, research and development costs consist principally of research and
development expenditures in connection with new products, improvements to
existing products, maintenance, and documentation, all of which are charged to
expense as incurred.

The Company capitalizes software development costs incurred after establishing
technological feasibility of the product (using the working model concept
method) until the product is available for general release.

Capitalized software development costs are amortized and included in cost of
license fees and other revenues using the greater of the amount computed using
the ratio that current gross revenues for a product bear to the total of current
and anticipated future gross revenues for that product or on a straight-line
basis over the expected economic life of the product, generally estimated to be
30 months.

FIXED ASSETS

Fixed assets are recorded at cost.  Equipment acquired under capital lease
obligations is recorded at the lower of fair market value or the present value
of the future minimum lease payments at the inception of the lease. Depreciation
of fixed assets is computed on the straight-line basis over estimated useful
lives of three to five years. Leasehold improvements are amortized over the
shorter of their estimated useful lives or the remaining lease term. Capitalized
leases are generally amortized over the shorter of the life of the lease or the
life of the asset. Software licenses are generally amortized on the straight-
line basis over 30 months.

                                       26
<PAGE>
 
EARNINGS PER SHARE

The Company has adopted Statement of Financial Accounting Standards No. 128
"Earnings per Share" (FAS 128).  As required by the statement, all prior period
earnings per share (EPS) amounts presented have been restated to conform with
the provisions of FAS 128.  Under FAS 128, the Company presents two EPS
amounts.  Basic EPS is calculated based on income or loss to common shareholders
and the weighted-average number of shares outstanding during the reported
period.  Diluted EPS includes additional dilution from common stock equivalents,
such as stock issuable pursuant to the exercise of stock options and warrants.
Common stock equivalents were not included in the computation of diluted
earnings per share when the Company reported a loss because to do so would have
been antidilutive for the periods presented.

The following is a reconciliation of the computation for basic and diluted EPS:


                                                 Year ended March 31,
                                                 ------------------- 

(in thousands)                                 1996     1997     1998
                                               ----     ----     ----

Net income (loss)                             $  569  $(9,885) $(12,038)
                                              ======  =======  ========
 
Weighted average common shares
  outstanding (basic)                          9,169   11,521    17,549
 
Weighted average common stock equivalents:
  Stock options                                  572       --        --
  Warrants                                       645       --        --
                                              ------  -------  -------- 
Weighted average common shares
  outstanding (diluted)                       10,386   11,521    17,549
                                              ======  =======  ========

Options to purchase 2,006 shares of common stock at prices ranging from $0.56 to
$6.50 per share were outstanding at March 31, 1998, but were not included in the
computation of diluted EPS because inclusion of such options would have been
anti-dilutive.

FOREIGN CURRENCY TRANSLATION

The functional currency of the Company's foreign subsidiaries is the local
currency.  The assets and liabilities, capital accounts, and revenue and expense
accounts of the Company's foreign subsidiaries have been translated using the
exchange rates at the balance sheet date, historical exchange rates, and the
weighted average exchange rates for the period, respectively.

The net effect of the translation of the accounts of the Company's subsidiaries
has been included in shareholders' equity as cumulative translation adjustments.
Gains and losses that arise from exchange rate changes on transactions
denominated in a currency other than the local currency are included in results
of operations as incurred.

FOREIGN EXCHANGE CONTRACTS

Sales orders received by foreign sales subsidiaries are primarily denominated in
currencies other than the U.S. dollar.  Intercompany payments for Company
products are made in U.S. dollars.  In order to reduce the risk of loss due to
changes in exchange rates between the time the Company's products are purchased
by subsidiaries and the time payment is made, the subsidiaries enter into
foreign exchange contracts when economically feasible.  Gains and losses
resulting from these contracts, which to date have been  insignificant, are
recorded in general and administrative expense as the Company does not have any
firm commitments to third parties related to the Company's intercompany foreign
currency transactions.  The foreign exchange contracts, which generally have
maturities that do not exceed six  months, are contracts for delayed delivery of
securities at a purchase date and at a specified price.  Risks arise equal to
the notional amount of the contracts from the possible inability of counter
parties to meet the terms of these contracts and from movements in currency
values. The other parties to these contracts consist of a limited number of
major financial institutions.  The Company does not expect any significant

                                       27
<PAGE>
 
losses as a result of default by other parties.  The cash requirements under
these foreign exchange contracts are not significant.

INCOME TAXES

Income taxes are computed using the asset and liability method.  Under the asset
and liability method, deferred income tax assets and liabilities are determined
based on the differences between the financial reporting and tax basis of assets
and liabilities and are measured using the currently enacted tax rates and laws.

STOCK-BASED COMPENSATION PLANS

The Company accounts for stock-based employee compensation arrangements in
accordance with the provisions of Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees," ("APB 25") and complies with the
disclosure provisions of Statement of Financial Accounting Standards No. 123,
"Accounting for Stock Based Compensation" ("FAS 123").  Under APB 25,
compensation cost is recognized over the vesting period based on the difference,
if any, on the date of grant between the fair market value of the Company's
stock and the amount an employee must pay to acquire the stock.  The Company's
policy is to grant options with an exercise price equal to the quoted market
price of the Company's stock on the grant date.  Accordingly, no compensation
has been recognized for its stock option plans.

RECENT ACCOUNTING PRONOUNCEMENTS

In June 1997, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards No. 130 ("FAS 130").  FAS 130 establishes
standards for reporting comprehensive income and its components in a financial
statement.  Comprehensive income as defined includes all changes in equity (net
assets) during a period from non-owner sources.  Examples of items to be
included in comprehensive income, which are excluded from net income, include
foreign currency translation adjustments and unrealized gains/losses on
available-for-sale securities.  The disclosure prescribed by FAS 130 must be
made beginning with the first quarter of fiscal 1999.

In June 1997, the FASB issued Statement of Financial Accounting Standards No.
131 ("FAS 131"), "Disclosures About Segments of an Enterprise and Related
Information."  This statement establishes standards for the way companies report
information about operating segments in annual financial statements.  It also
establishes standards for related disclosures about products and services,
geographic areas and major customers.  The Company has not yet determined the
impact, if any, of adopting this new standard.  The disclosures prescribed by
FAS 131 will be effective for the Company's consolidated financial statements
for the year ending March 31, 1999.

In April 1998, the American Institute of Certified Public Accountants issued
Statement of Position 98-1, "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use" ("SOP 98-1").  SOP 98-1 provides
guidance for determining whether computer software is internal-use software and
on accounting for the proceeds of computer software originally developed or
obtained for internal use and then subsequently sold to the public.  It also
provides guidance on capitalization of the costs incurred for computer software
developed or obtained for internal use.  The Company has not yet determined the
impact, if any, of adopting this statement.  The disclosures prescribed by SOP
98-1 will be effective for the year ending March 31, 2000 consolidated financial
statements.

                                       28
<PAGE>
 
NOTE 2 FIXED ASSETS

<TABLE>
<CAPTION>
                                                                                       March 31,
                                                                                     1997      1998
                                                                                  -------   -------
<S>                                                                               <C>       <C>
Fixed assets comprise:  
Computer equipment                                                                $ 2,281   $ 2,422
Office equipment                                                                      607       638
                                                                                  -------   -------
                                                                                    2,888     3,060
Less accumulated depreciation and amortization                                     (2,009)   (2,393)
                                                                                  -------   -------
                                                                                  $   879   $   667
                                                                                  =======   =======
 
Fixed assets acquired under capital leases included above are as follows:
 
Computer equipment                                                                $   489   $   484
Less accumulated amortization                                                        (283)     (373)
                                                                                  -------   -------
                                                                                  $   206   $   111
                                                                                  =======   =======
</TABLE> 
 
NOTE 3 OTHER ASSETS

<TABLE>
<CAPTION>
                                                                                       March 31,
Other assets comprise:                                                               1997      1998
                                                                                  -------   -------
<S>                                                                               <C>       <C>
Software development costs                                                        $ 2,163   $ 2,098
Software licenses                                                                   2,388     3,134
                                                                                  -------   -------
                                                                                    4,551     5,232
Less accumulated  amortization                                                     (2,425)   (3,898)
                                                                                  -------   -------
                                                                                    2,126     1,334
Prepaid royalties                                                                   1,592        67
Goodwill                                                                               --       245
Other                                                                                 234       285
                                                                                  -------   -------
                                                                                  $ 3,952   $ 1,931
                                                                                  =======   =======
</TABLE>

Software development costs capitalized during 1996, 1997 and 1998 were $646,
$1,045, and $971, respectively, and the related amortization during each of the
periods was $315, $593 and $1,622, respectively.  Other consists primarily of
deposits on facilities and equipment leases.

NOTE 4 ACQUISITION

On March 31, 1998, the Company completed its acquisition of Quality I.C.
Corporation ("QIC").  With the acquisition, the Company has obtained front-end
technology which improves the flow of data into the Company's product tools and
improves the resulting product performance.  QIC also provides engineering and
consulting services to companies in the micro-electronics industry.  The
transaction was accounted for under the purchase method of accounting, and
accordingly, the Company's consolidated financial statements do not include the
results of operations, financial position or cash flows of QIC prior to March
31, 1998.  The purchase price for the acquisition was $2,937 consisting of notes
payable to the former shareholders of QIC in the amount of $200 and the issuance
of 3,150 shares of the Company's common stock valued at $2,737.  The allocation
of the total purchase price among identifiable tangible and intangible assets
was based on an analysis of the fair values of those assets prepared by the
Company.  The Company used the discounted cash flow approach to determine the
fair value of Quality I.C. Corporation and its identifiable assets, including
$2,480 allocated to in-process research and development for the value of
products in the development stage which were not considered to have reached
technological feasibility.  In accordance with generally accepted accounting
principles, acquired in-process research and development is required to be
expensed. The allocation of the purchase price is as follows:


        Net current assets              $ 43
        Property and equipment            83
        Other non-current assets         103
        Goodwill                         245
        Non-current deferred tax 
         liability                       (17)
        In-process research and 
         development                   2,480
                                      ------
        Total purchase price          $2,937
                                      ======

                                       29
<PAGE>
 
Goodwill represents cost in excess of net assets acquired.  Such goodwill is
being amortized over a period of five years.

Acquired in-process research and development includes the value of products in
the development stage and not considered to have reached technological
feasibility.  In accordance with generally accepted accounting principles,
acquired in-process research and development is required to be expensed.

The Company's consolidated balance sheet at March 31, 1998 includes QIC at the
date of acquisition.  The following financial information presents the unaudited
pro forma results of operations for the year ended March 31, 1998 as if the
transaction had been completed at the beginning of the period presented, with
pro forma adjustments giving effect to the elimination of the charge for in-
process research and development acquired from QIC.  The unaudited pro forma
financial information is not necessarily indicative of the results of operations
as they would have been had the transactions been effected on the assumed dates.
The unaudited pro forma total revenues for the year ended March 31, 1998 would
have been $3,951  (unaudited) with a net loss of $(9,584).  The pro forma net
loss per share would have been $(0.46) (unaudited) based on weighted-average
basic and diluted common shares and equivalents of 20,691 (unaudited).

 
NOTE 5 ACCRUED EXPENSES

<TABLE>
<CAPTION>
                                           March 31,
                                         1997   1998
                                        ------  -----
<S>                                     <C>     <C>
Accrued expenses comprise: 
Accrued payroll and
          related costs                 $  434  $ 477
Taxes payable                              108    147
Accrued professional fees                  522    229
Other                                      379    115
                                        ------  -----
                                        $1,443  $ 968
                                        ======  =====
</TABLE>

Other consists of accruals related to expenses incurred in the normal course of
business, such as utilities and travel and sales expenses.

NOTE 6 BANK BORROWINGS AND LONG-TERM DEBT

<TABLE>
<CAPTION>
                                       March 31,
                                      1997    1998
                                     -----   -----
<S>                                  <C>     <C>
Long-term debt comprise:   
Capitalized lease obligations        $ 200   $ 116
Note payable                           243     224
                                     -----   -----
                                       443     340
Less current portion                  (189)   (263)
                                     -----   -----
                                     $ 254   $  77
                                     =====   =====
</TABLE>

The Company has a $300 equipment line of credit with its bank.  The line bears
interest at prime plus two percent, 10.5% at March 31, 1998. The line of credit
is collateralized by substantially all of the assets of the Company.  The terms
of the credit agreement require minimum amounts of net worth, maximum ratios of
indebtedness to net worth and minimum quarterly after tax profits.  The company
is currently not in compliance with certain of these covenants.

The aggregate principal payments of long-term debt and minimum lease payments
under capitalized lease obligations for the next five fiscal years ending march
31 are as follows:

        1999                                  $ 219
        2000                                    132
        2001                                     30
        2002                                     12
        2003                                     --
                                              -----
                                                393
        Less amounts representing interest      (53)
                                              -----
                                              $ 340
                                              =====

                                       30
<PAGE>
 
In June 1997, the Company entered into an additional line of credit with its
bank.  The revolving line of credit had provided for borrowings limited to
certain percentages of eligible accounts receivable. As of March 31, 1998, $285
has been borrowed under the line of credit.  The revolving line of credit
expired by its terms in early June 1998.  The parties are currently in the 
process of negotiating a continuation of the line.  There can be no assurance 
that the Company will be able to successfully renegotiate the line of credit or 
that a waiver will be obtained for its noncompliance with certain covenants 
under its equipment line of credit. The amounts outstanding under its line of 
credit and equipment line of credit are classified as current in the March 31, 
1998 balance sheet.

NOTE 7 COMMITMENTS AND CONTINGENCIES

The Company leases its corporate headquarters in the United States through June
30, 2001, and sales and IC design offices in the United States, Taiwan and Japan
under operating leases expiring at various dates, including renewal options,
through 2001.  In addition, the Company leases certain computer and office
equipment under operating leases expiring at various dates through 1999.  In
November, 1995, the Company signed a sale and leaseback agreement relating to
computer equipment.  The Company received cash of $843 under this transaction
and in return the Company is obligated to make lease payments for 42 months.
Non-cancelable rental payments over the term of leases exceeding one year are as
follows:

<TABLE>
       <S>                      <C>
              1999              $  770
              2000                 460
              2001                 302
              2002                  69
              2003                  --
                                ------
                                $1,601
                                ======
 
</TABLE>

The Company is generally responsible for its pro rata share of taxes,
maintenance and insurance on the facilities.  Rental expense aggregated $1,041,
$935 and $767 in 1996, 1997 and 1998, respectively.

The Company is subject to various types of litigation during its normal course
of business.  In January 1997, Gambit Automated Design, Inc. ("Gambit"), a
competitor of the Company, filed a complaint alleging misappropriation of trade
secrets, breach of contract, inducing breach of contract, breach of fiduciary
duty, unfair competition and unjust enrichment against the Company and a former
employee of Gambit who is a current employee of the Company.  Gambit sought
injunctive relief, compensatory and punitive damages, restitution and attorneys'
fees and costs.  The parties have agreed to resolve the asserted claims on terms
that do not involve the payment of any money by the Company.  Accordingly, the
Company does not believe that the ultimate settlement of this litigation will
have a material adverse effect on its financial position or results of
operations.  The parties are in the process of documenting the settlement.


NOTE 8 SAVINGS AND INVESTMENT PLAN

The Company has the Silicon Valley Research, Inc. Savings and Investment Plan
and Trust ("the Plan"), qualified under Sections 401(k) and 401(a) of the
Internal Revenue Code.  The Plan provides for tax-deferred automatic salary
deductions and alternative investment options.  Employees are eligible to
participate after completion of two months of employment.  Participants may
apply for loans from their accounts.

The Plan permits Company contributions determined annually by the Board of
Directors.  Contributions authorized, if any, will not exceed amounts allowed by
Internal Revenue Code Section 404.  Allocation of employer contributions to
participant's accounts is determined by the Board of Directors at the time of
contribution.  The Company contributed $22, $25 and $19 to the Plan during
fiscal 1996, 1997 and 1998, respectively.  Administrative costs paid by the
Company were insignificant during fiscal 1996, 1997 and 1998.

                                       31
<PAGE>
 
NOTE 9 CAPITAL STOCK

PREFERRED STOCK

The Company's Board of Directors has the authority to issue up to 1,000 shares
of preferred stock and to determine the price, rights, preferences, privileges
and restrictions, including voting rights, without any further vote or action by
the Company's shareholders.

PRIVATE PLACEMENT

On April 16, 1997, the Company completed a private placement of units comprising
4,517 shares of common stock and warrants to purchase an additional 4,517 shares
of common stock at $1.31 per share, with proceeds to the Company of
approximately $3,864.  Subsequently, a registration statement was filed by the
Company to register the shares and the shares subject to warrants.  One
director, one officer/director and two officers participated in the private
placement.

On December 30, 1997, the Company completed a private placement of units
comprising 3,812 shares of common stock and warrants to purchase an additional
3,812 shares of common stock at $0.53 per share, with proceeds to the Company of
approximately $2,820. Subsequently, a registration statement was filed by the
Company to register the shares and the shares subject to warrants.  One director
and one officer/director participated in the private placement.


PUBLIC OFFERING

On February 13, 1996, the Company closed on a public offering selling 2,000
shares of common stock for $9,400 (cost of issuance amounted to approximately
$652).  Two shareholders also sold 2,408 shares of common stock in this
offering.

                                       32
<PAGE>
 
Stock Options

At March 31, 1998, the Company has reserved 3,552 shares of common stock for
issuance under its Employee Stock Option Plan and Directors' Stock Option Plan.
Options are granted under the Employee Stock Option Plan by the Board of
Directors at an exercise price equal to the fair market value as determined by
the closing trading price on the grant date.  Generally, 20% of the shares
pursuant to the options vests one year from the date of grant with the remaining
shares vesting in equal monthly installments over the next four years.

Under the Directors' Stock Option Plan, options are granted automatically on the
effective date of the Plan to existing Board of Director members or upon initial
election or appointment of a member of the Board of Directors for up to 20
shares of the Company's common stock, and thereafter annually for up to 3 shares
of the Company's common stock at an exercise price equal to the fair market
value as determined by the closing trading price on the grant date.  Generally,
25% of the shares pursuant to the options vests one year from the date of grant
with the remaining shares vesting in equal monthly installments over the next
three years.

On February 11, 1997, the Company's Board of Directors approved a non-qualified
option grant to its Audit Committee.  The options totaled 25 shares of the
Company's common stock with an exercise price of $1.44.  The options were fully
vested and exercisable on the date of grant.

On July 17, 1997, the Compensation Committee of the Board of Directors repriced
all options with exercise prices in excess of $0.875 to have an exercise price
of the fair market value of the Company's common stock on that date, which was
$0.875, with continuation of the existing vesting schedule.  Options for the
purchase of a total of 1,563 shares were repriced.

At March 31, 1998, options to purchase 441 shares of common stock were vested,
and 1,571 shares of common stock were available for future grant.


The following table summarizes stock option activity under the Company's Plans:

<TABLE> 
<CAPTION> 

                                             For the year ended               For the year ended
                                               March 31, 1997                   March 31, 1998
                                               --------------                   --------------
                                                       Weighted-Average                    Weighted-Average
                                        Shares          Exercise Price      Shares          Exercise Price 
                                        ------          --------------      ------          -------------- 
<S>                                     <C>             <C>                 <C>             <C>
Outstanding at beginning of year        1,251                $3.81           1,686              $1.99
Granted                                 1,504                 2.86           1,268               0.71
Exercised                                 (76)                2.09              --                 --
Forfeited                                (993)                3.91            (948)              1.36
                                        -----                                -----
Outstanding at end of year              1,686                $1.99           2,006              $0.83
                                        =====                                =====
Options exercisable at year-end           302                                  441
</TABLE> 

The following table summarizes information about stock options outstanding and
exercisable at March 31, 1998:
<TABLE>
<CAPTION>
                          Options Outstanding                       Options Exercisable
                          -------------------                       -------------------
                                    Weighted-
                     Shares         Average         Weighted-         Shares     Weighted-
Range of           Outstanding     Remaining         Average       Exercisable    Average
Exercise Prices    at 3/31/98   Contractual Life  Exercise Price   at 3/31/98  Exercise Price
<S>                <C>          <C>               <C>              <C>         <C>        
$ 0.56 - $ 0.56         449           9.31             $0.56            --          $  --
$ 0.59 - $ 0.59         385           9.07              0.59            --             --     
$ 0.88 - $ 0.88       1,079           7.70              0.88           380           0.88     
$ 1.12 - $ 5.25          90           7.37              2.39            59           2.45     
$ 6.50 - $ 6.50           3           6.47              6.50             2           6.50     
                      -----           ----             -----           ---          -----     
                      2,006           8.31             $0.83           441          $1.11     
                      =====           ====             =====           ===          =====      
</TABLE>

                                       33
<PAGE>
 
The Company applies the provisions of APB 25 and related interpretations in
accounting for compensation expense under the Employee Stock Option Plan, the
Directors' Stock Option Plan and the Employee Stock Purchase Plan.  Had
compensation expense under these plans been determined pursuant to FAS 123, the
Company's net income (loss) per share for the years ended March 31, 1996, 1997
and 1998 would have been as follows:

<TABLE> 
<CAPTION> 

                                                        1996       1997         1998
                                                        ----       ----         ----
<S>                                                   <C>       <C>           <C> 
Net income(loss)                        As reported   $  569    $ (9,885)     $(12,038)
                                        Pro forma     $  (72)   $(11,195)     $(12,876)

Net income(loss) per share (basic)      As reported   $ 0.06    $  (0.86)     $  (0.69)
                                        Pro forma     $(0.01)   $  (0.97)     $  (0.73)

Net income(loss) per share (diluted)    As reported   $ 0.05    $  (0.86)     $  (0.69)
                                        Pro forma     $(0.01)   $  (0.97)     $  (0.73)
</TABLE> 

The fair value of each option grant is estimated on the date of the grant using
the Black-Scholes multiple option-pricing model with the following assumptions
used for grants in 1996, 1997 and 1998, respectively; expected volatility of
86%, 86% and 93%; weighted-average risk-free interest rates of 5.79%, 6.38% and
5.92%, and weighted-average expected lives of 3.11, 2.98 and 3.05.  The
weighted-average fair value of options granted in 1996, 1997 and 1998 was $2.63,
$1.51 and $0.47, respectively.


WARRANTS

The following warrants to purchase shares of the Company's common stock are
outstanding and fully vested at March 31, 1998:
<TABLE>
<CAPTION>
 
Expiring During
the Fiscal                             Number of Common
Year Ending            Exercise Price  Shares Under Warrants
------------------     -------------   ---------------------
<S>                    <C>             <C>
     3/31/99           $0.88 - $1.97            135         
     3/31/00           $1.25 - $1.50            368         
     3/31/01                   $1.31          4,517         
     3/31/03                   $0.52          3,812         
                                              -----         
                                              8,832         
                                              =====         
</TABLE>

During the fiscal year ended March 31, 1998, no warrants were exercised.

EMPLOYEE STOCK PURCHASE PLAN

The 1993 Employee Stock Purchase Plan, under which 650 shares of common stock
have been reserved for issuance, allows substantially all employees to subscribe
to shares of common stock during participation periods set by the Board of
Directors at a purchase price which is the lower of 85% of the fair market value
at the beginning or the end of each period. There were 63, 68 and 53 shares of
common stock issued under the plan in 1996, 1997 and 1998, respectively, leaving
a balance of 372 shares available for issuance at March 31, 1998.

The fair value of the employees' purchase rights was estimated using the Black-
Scholes model with the following assumptions for 1996, 1997 and 1998,
respectively:  expected volatility of 86%, 86% and 93%; weighted-average risk-
free interest rates of 5.79%, 6.38% and 5.92%; and weighted-average expected
lives of 2 years.  The weighted-average fair value of those purchase rights
granted in 1996, 1997 and 1998 was $1.15, $1.80 and $0.80, respectively.

                                       34
<PAGE>
 
NOTE 10  IMPAIRMENT LOSS ON PREPAID ROYALTY

In June 1996, the Company entered into an agreement whereby the Company was
granted the exclusive marketing rights to Bell Labs' CLOVER line of deep
submicron verification products worldwide, with the exception of Japan and
Taiwan.  Pursuant to the four year agreement, the Company had made prepaid
royalty payments of $1,750.  Despite active marketing efforts, the product had
limited success due to product issues and to strong competitive factors.
Accordingly, the Company ceased sales of the product line in July 1997.
Provision was made in the financial statements for the year ended March 31, 1998
to expense the full amount of unamortized prepaid royalty of $1,217, the future
value of which was considered impaired.


NOTE 11  INCOME TAXES

The provision for income taxes consists of the following:

Years ended March 31,    1996      1997      1998
                         -----     -----     ----
CURRENT:
Federal                  $   3   $    --   $   --
State                        2        --       --
Foreign                     --         2       --
                         -----     -----     ----
     Total provision     $   5     $   2   $   --
                         =====     =====     ====


Deferred income taxes result from temporary differences in the recognition of
certain expenses for financial and income tax reporting.  The net deferred tax
assets at March 31 consists of the following:

 
                                                         1997        1998
                                                       --------     -------
Allowances and accruals not currently deductible       $  (211)     $   462
Net operating losses and other credits                   7,271       10,413
                                                       -------      -------
     Total deferred tax assets                           7,060       10,875
Less: valuation allowance                               (7,060)     (10,875)
                                                       -------      -------
     Net deferred tax asset                            $    --      $    --
                                                       =======      =======
 
The Company has provided for a valuation allowance when it is more likely than
not that some portion or all of the net deferred asset will not be realized.
Based upon a number of factors, including the lack of a history of profits,
management believes that there is sufficient uncertainty regarding the
realization of deferred assets such that a full valuation allowance has been
provided.

At March 31, 1998, the Company had available federal and state tax net operating
loss carryforwards of approximately $26,400 and $6,500, respectively.  The
federal and state tax net operating loss carryforwards expire from 2002 to 2012
and 1999 to 2002, respectively. For federal purposes, the Company has federal
and state research and development credit carryforwards of approximately $700
and $300, respectively, expiring from 1998 through 2012.  These credits may be
available to offset future taxes.

A reconciliation between the provision for income taxes computed at the
statutory rate and the effective rate reflected in the Consolidated Statement of
Operations is as follows:
 
Years ended March 31,                              1996     1997       1998
                                                  ------  --------   --------
Provision (benefit) at U.S. statutory rate        $ 195   $(3,361)   $(3,274)
Tax losses not currently benefited                   --     3,361      3,274
Tax effect resulting from foreign activity           --         2         --
State taxes, net of federal tax benefit               2        --         --
Utilization of net operating loss carryforward     (192)       --         --
                                                  -----   -------    -------
     Tax provision                                $   5   $     2    $    --
                                                  =====   =======    =======

                                       35
<PAGE>
 
NOTE 12  SUPPLEMENTAL CASH FLOW INFORMATION
 
Years ended March 31,                                 1996      1997      1998
                                                      -----     -----     -----
Cash paid during the period for:
Interest                                              $  98     $  27     $  44
Income taxes                                          $  10     $  10     $  --
 
Details of Acquisition:
Fair value of assets                                  $  --     $  --     $ 646
Liabilities, including notes to sellers of $200          --        --       389
                                                      -----     -----     -----
Cash paid                                                --        --       257
Less cash acquired                                       --        --       123
                                                      -----     -----     -----
Net cash paid for acquisition                         $  --     $  --     $ 134
                                                      =====     =====     =====
 
Noncash investing and financing activities:
Computer equipment and software licenses
   purchased by capital lease obligations
    and notes payable                                 $ 259     $ 429   $    --
Exchange of software to acquire computer equipment    $ 294     $  --   $    --
 

In September 1997, the Company recorded $430 in license revenue from a 
multi-license order from a leading design services company. The two companies 
entered into a joint development program to maximize each company's product 
capabilities. The Company purchased two copies of a set of libraries from this 
company. The recorded cost of the libraries of $400 represents approximately the
fair market value of the asset.

In June, 1995, the Company exchanged software held for sale with a customer in
return for source code and recorded purchased software of $294 and license and
maintenance fee revenues of $262 and $32, respectively.  The recorded cost of
the software of $294 represents approximately the fair market value of the
asset.

NOTE 13  BUSINESS SEGMENTS

The Company's products are principally distributed and serviced through its own
marketing and service organization.  Operations are conducted in the United
States, Europe, Japan and Taiwan.  The following table summarizes the United
States, European, Japanese and Taiwanese operations of the Company:

<TABLE> 
<CAPTION> 
                                                                                  Adjustments
                                        United                                        and
                                        States    Europe    Japan      Taiwan     Eliminations     Consolidated
                                        ------    ------    -------  -----------  ------------     ------------
<S>                                   <C>         <C>        <C>        <C>       <C>               <C> 
YEAR ENDED MARCH 31, 1996

Sales to unaffiliated customers        $ 7,116     $253      $ 3,578     $  --     $    --            $10,947
Transfer between geographic regions      1,686       --           --        --      (1,686)                --
                                       -------     ----      -------     -----     -------           -------- 
Total sales                            $ 8,802     $253      $ 3,578     $  --     $(1,686)           $10,947
                                       =======     ====      =======     =====     =======           ========
Operating income                       $    74     $248      $   208     $  --     $    --            $   530
                                       =======     ====      =======     =====     =======           ========
Identifiable assets                    $15,354     $ --      $ 1,738     $  --     $    --            $17,092
                                       =======     ====      =======     =====     =======           ========

YEAR ENDED MARCH 31, 1997

Sales to unaffiliated customers        $ 4,406     $ 77      $ 1,021     $  --     $    --            $ 5,504
Transfer between geographic
 regions                                   410       --           --        --        (410)                --
                                       -------     ----      -------     -----     -------           -------- 
Total sales                            $ 4,816     $ 77      $ 1,021     $  --     $  (410)          $  5,504
                                       =======     ====      =======     =====     =======           ========
Operating income (loss)                $(8,195)    $ 77      $(1,135)    $(852)    $    --           $(10,105)
                                       =======     ====      =======     =====     =======           ========
Identifiable assets                    $ 7,087     $ --      $ 1,262     $ 128     $    --           $  8,477
                                       =======     ====      =======     =====     =======           ========
</TABLE> 

                                       36
<PAGE>
 
<TABLE>
<CAPTION>

YEAR ENDED MARCH 31, 1998

<S>                                    <C>         <C>       <C>         <C>       <C>               <C> 
Sales to unaffiliated customers        $  2,040    $ 26      $  689      $  --     $    --           $  2,755
Transfer between geographic
  regions                                   355      --           --     $  --        (355)                --
                                       --------    ----      -------     -----     -------           -------- 
Total sales                            $  2,395    $ 26      $   689     $  --     $  (355)          $  2,755
                                       ========    ====      =======     =====     =======           ========
Operating income (loss)                $(11,165)   $ 26      $  (435)    $(454)    $    --           $(12,028)
                                       ========    ====      =======     =====     =======           ========
Identifiable assets                    $  4,679    $ --      $   518     $  68     $    --           $  5,265
                                       ========    ====      =======     =====     =======           ========
</TABLE> 


Included in total United States revenue are export sales of $909, $292 and $155
for 1996, 1997 and 1998, respectively, principally to the Far East. Total
consolidated revenue outside of the United States was $4,740, $1,390 and $874 in
1996, 1997 and 1998, respectively.

Revenue from three products accounted for 60%, 21% and 17% of the Company's
consolidated revenue in fiscal 1998. Revenue from three products accounted for
52%, 20% and 23% of the Company's consolidated revenue in fiscal 1997. Revenue
from one product accounted for 69% of the Company's consolidated revenue in
fiscal 1996. A small number of customers account for a significant percentage of
the Company's total revenue as follows:

                             Year ended March 31,
                             -------------------- 
          Customer       1996        1997        1998
          --------       ----        ----        ----
            A             16%         14%          *
            B              *          19%          *
            C             11%         13%         13%
            D             11%          *           *
            E              *           *          20%
 

            * less than 10% of consolidated revenue


NOTE 14  SUBSEQUENT EVENT

Subsequent to year end, on June 8, 1998, the Company completed a private
placement of units comprising 2,378 shares of common stock and warrants to
purchase an additional 2,378 shares of common stock at $0.37 per share, with
proceeds to the Company of approximately $2,000.  The shares of common stock are
unregistered.  The Company will file a registration statement with the
Securities and Exchange Commission on or before December 8, 1998 to register
these shares pursuant to the terms of the unit purchase agreement.  One director
and one officer/director participated in the private placement.

                                       37
<PAGE>
 
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
(in thousands)
                                                    Provision   Write-off of
                                        Balance at   doubtful   uncollectible  Balance
                                        beginning    Accounts     Accounts     at end
                                         of Year    Receivable   Receivable    of Year
                                        ----------  ----------  -------------  -------
<S>                                     <C>         <C>         <C>            <C>
 
Accounts receivable - allowances for
     doubtful accounts
 
Year ended March 31, 1996                     $ 50      $  200         $  225     $ 25
 
Year ended March 31, 1997                     $ 25      $1,235         $1,110     $150
 
Year ended March 31, 1998                     $150      $   --         $   --     $150
 
</TABLE>



ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE

Not Applicable

PART III

ITEM 10.  DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE SECTION 16(a) OF THE EXCHANGE ACT

The following sets forth certain information regarding the executive officers of
the Registrant:

Executive officers serve at the discretion of the Board of Directors of the
Registrant.

Robert R. Anderson (age 60) became Chairman of SVR in January 1994 and re-
assumed the position of Chief Executive Officer in December 1996.  Prior to
that, Mr. Anderson was Chief Executive Officer from April 1994 until July 1995
and was Chief Financial Officer from September 1994 to November 1995.  Mr.
Anderson co-founded KLA Instruments Corporation ("KLA"), a supplier of equipment
for semiconductor companies, in 1975.  He served as Vice-Chairman of the Board
of KLA from November 1991 to March 1994 and served as Chairman of the Board of
KLA from May 1985 to November 1991.  Prior to that, Mr. Anderson served as Chief
Operating Officer and Chief Financial Officer of KLA for nine years.  Mr.
Anderson currently serves as director of Applied Science & Technology Inc., a
supplier of systems components for the semiconductor industry.

James O. Benouis (age 30) became President and Chief Operating Officer of SVR in
March 1998.  Mr. Benouis came to SVR from Quality I.C. Corporation ("QIC"), an
integrated circuit design services company based in Austin, Texas, where he was
co-founder and president.  While at QIC, his roles included project leadership
for all IC design projects, software enhancement and daily business operation
management.  He holds a degree in Electrical Engineering from the University of
Texas.

Laurence G. Colegate, Jr. (age 55) joined SVR as Senior Vice President, Finance
and Administration and Chief Financial Officer in February 1997.  Mr. Colegate
has over 30 years experience in corporate financing, financial control, tax,
treasury, information systems and risk management.  Prior to joining SVR, he was
Vice President and Chief Financial Officer of CBR Cement Corporation, a producer
and distributor of cement and construction materials, from 1989 to 1995.

                                       38
<PAGE>
 
Minoru Takagi (age 51) is Vice President of SVR and President and General
Manager of SVR-KK in Japan.  He has been an employee of the Company since the
mid 1980s.  He began his career in the electronics industry in 1968 and has
worked for Burroughs Computer, Fairchild, and Megatest Corp., a manufacturer of
automatic test systems for the integrated circuit industry, in Japan.

Dr. Donald Hanson (age 47) joined SVR in May 1997 as Chief Technical Officer.
He has over twenty years experience in micro computer design and has had
responsibility for integrating computer-aided design systems for HAL Computer
Systems, a subsidiary of Fujitsu Corporation, where he was employed for six
years prior to joining SVR.  He received a B.S. in Engineering from Harvey Mudd
College and a M.S. and a Ph.D. in Electrical Engineering from Stanford
University.

The Registrant incorporates by reference the Registrant's definitive proxy
statement to be filed pursuant to Regulation 14A on, or before, July 29, 1998
for the information required by Item 10 with respect to the Company's directors
and the information required by Item 405 of Regulation S-K.

ITEM 11.  EXECUTIVE COMPENSATION

The Registrant incorporates by reference the Registrant's definitive proxy
statement to be filed pursuant to Regulation 14A on, or before, July 29, 1998
for the information required by Item 11.


ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

The Registrant incorporates by reference the Registrant's definitive proxy
statement to be filed pursuant to Regulation 14A on, before, July 29, 1998 for
the information required by Item 12.

ITEM 13.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The Registrant incorporates by reference the Registrant's definitive proxy
statement to be filed pursuant to Regulation 14A on, or before, July 29, 1998
for the information required by Item 13.

                                       39
<PAGE>
 
PART IV

ITEM 14.  EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K

(a)(1)  The financial statements filed as part of this Report at Item 8 are
        listed in the Index to Financial Statements and Financial Statement
        Schedules on page 16 of this Report.

(a)(2)  The financial statement schedule filed as part of this Report at Item 8
        is listed in the Index to Financial Statements and Financial Statement
        Schedules on page 16 of this Report.

(a)(3)  The following exhibits are filed with this Annual Report on Form 10-K:

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

2.01    Agreement and plan of Reorganization dated March 26, 1998 among Silicon
        Valley Research, Inc., QIC Acquisition Corporation, Quality I.C.
        Corporation and the Shareholders of Quality I.C. Corporation
        (incorporated by reference to Exhibit 2.1 of the Company's Current
        Report on Form 8-K dated March 31, 1998 filed April 10, 1998)
 
3.01    Registrant's Articles of Incorporation as amended to date (incorporated
        by reference to Exhibit 3.01 of Registrant's Registration Statement on
        Form S-1 ( File No. 2-89943) filed March 14, 1984, as amended (the "1984
        Registration Statement")).

3.02    Registrant's amendment to Amended and Restated Articles of Incorporation
        filed September 19, 1997 (incorporated by reference to Exhibit 3.02 of
        Registrant's Quarterly Report on Form 10-Q for the quarter ended
        September 30, 1997).

3.03    Registrant's bylaws, as amended to date (incorporated by reference to
        Exhibit 4.01 of the 1984 Registration Statement).

3.05    Amendment to Bylaws dated November 12, 1996 (incorporated by reference
        to Exhibit 3.04 of Registrant's Quarterly Report on Form 10-Q for the
        quarter ended December 31, 1996).

10.01*  Registrant's 1990 Directors Stock Option Plan, as amended to date,
        (incorporated by reference to Exhibit 10.01 of the Registrant's
        Quarterly Report on Form 10-Q for the quarter ended September 30, 1997).

10.02   Stock Purchase Agreement dated May 16, 1991 between the Registrant and
        Intergraph Corporation (incorporated by reference to Exhibit 4.01 of
        Registrant's Report on Form 8-K dated June 7, 1991).

10.03*  Registrant's 1988 Stock Option Plan, as amended to date, including the
        stock option grant form and the stock option exercise notice and
        agreement (incorporated by reference Exhibit 10.03 of the Registrant's
        Quarterly Report on Form 10-Q for the quarter ended September 30, 1997).

10.04*  Registrant's 1993 Employee Stock Purchase Plan, as amended to date
        (incorporated by reference to Exhibit 10.20 of Registrant's Annual
        Report on Form 10-KSB for the fiscal year ended March 31, 1993).

10.05   Warrant Agreement dated March 22, 1994 between the Registrant and
        Prutech Research and Development Partnership II (incorporated by
        reference to Exhibit 10.22 of Registrant's Annual Report on Form 10-KSB
        for the fiscal year ended March 31, 1994).

10.06   Subordination debt agreement dated September 15, 1994 between the
        registrant and several investors (incorporated by reference to Exhibit
        4.01 of Registrant's current report on Form 8-K filed on November 4,
        1994).

10.07*  Employment Agreement dated October 31, 1995 between the Registrant and
        Glenn E. Abood (incorporated by reference to Exhibit 10.10 of
        Registrant's Registration Statement on Form S-2 filed December 6, 1995).

        *Management Contract or Compensatory Plan or Arrangement

                                       40
<PAGE>
 
Exhibit
Number    Description of Exhibit
------    ----------------------

10.08   Stock Purchase Agreement dated June 6, 1995 between the Registrant and
        several investors (incorporated by reference to Exhibit 10.10 of the
        Registrant's Annual Report on Form 10-KSB for the fiscal year ended
        March 31, 1995).

10.09   Master Equipment Lease Agreement dated November 9, 1995 by and between
        Financing for Science International, Inc. and the Registrant
        (incorporated by reference to Exhibit 10.13 of the Registrant's
        Registration Statement on Form SB-2 filed December 6, 1995).

10.10*  Change of Control and Severance Benefits Agreement as of February 19,
        1997 between the Registrant and Laurence G. Colegate, Jr. (incorporated
        by reference to Exhibit 10.14 of the Registrant's Annual Report of Form
        10-K for the fiscal year ended March 31, 1997.)

 
10.11   Stock Transfer Terms and Conditions dated February 24, 1997 between the
        Registrant and Mentor Graphics, Inc. (incorporated by reference to
        Exhibit 4.1 of the Registrant's Registration Statement on Form S-3 (File
        No. 333-26599) filed May 7, 1997)
 
10.12   Form of Unit Purchase Agreement among the Company and several investors
        dated as of April 16, 1997 (incorporated by reference to Exhibit 4.2 of
        the Registrant's Registration Statement on Form S-3 (File No. 333-26599)
        filed May 7, 1997.)

10.13   Form of Warrant to Purchase Common Stock among the Company and several
        investors dated as of April 16, 1997 (incorporated by reference to
        Exhibit 4.3 of the Registrant's Registration Statement on Form S-3 (File
        No. 333-26599) filed May 7, 1997.)

10.14   Form of Unit Purchase Agreement among the Company and several investors
        dated as of December 19, 1997, as amended (incorporated by reference to
        Exhibit 4.01 of the Registrant's Quarterly Report on Form 10-Q for the
        quarter ended December 31, 1997).

10.15   Form of Warrant to Purchase Common Stock dated as of December 30, 1997
        (incorporated by reference to Exhibit 4.02 of the Registrants Quarterly
        Report on Form 10-Q for the quarter ended December 31, 1997).

21.01   Subsidiaries of the Registrant

23.01   Consent of Price Waterhouse  LLP

27.00   Financial Data Schedule

        *Management Contract or Compensatory Plan or Arrangement

                                       41
<PAGE>
 
                                   SIGNATURES

In accordance with Section 13 or 15(d) of the Exchange Act, the Registrant has
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.

                                            SILICON VALLEY RESEARCH, INC.
                                            (Registrant)
                                            Officer
Date:      June 29, 1998                    By:  /s/  Robert R. Anderson
       -----------------                         -------------------------- 
                                                 Robert R. Anderson, Chairman
                                                 of the Board and Chief 
                                                 Executive Officer


                               POWER OF ATTORNEY

Each of the officers and directors of Silicon Valley Research, Inc. whose
signature appears below hereby constitutes and appoints Robert R. Anderson and
Laurence G. Colegate, Jr., and each of them, their true and lawful attorneys and
agents, with full power of substitution, each with power to act alone, to sign
and execute on behalf of the undersigned any amendment or amendments to the
annual report on Form 10-K and to perform any acts necessary in order to file
such amendments, and each of the undersigned does hereby ratify and confirm all
that said attorneys and agents or their or his substitutes, shall do or cause to
be done by virtue hereof.

In accordance with the Exchange Act, this report has been signed by the
following persons on behalf of the Registrant and in the capacities and on the
dates indicated.

NAME/TITLE                              DATE
 
/s/ Robert R. Anderson                  June 29, 1998
-------------------------------------   -------------
Robert R. Anderson, Chairman of the 
Board and Chief Executive Officer 
(Principal Executive Officer)
 
/s/ Laurence G. Colegate, Jr.           June 29, 1998
-------------------------------------   -------------
Laurence G. Colegate, Jr., Chief 
Financial Officer and Senior Vice 
President of Finance and
Administration (Principal 
Financial and Accounting Officer)
 
/s/ James O. Benouis                    June 29, 1998
-------------------------------------   -------------
James O. Benouis, President, Chief 
Operating Officer and Director
 
/s/ Roy L. Rogers                       June 29, 1998
-------------------------------------   -------------
Roy L. Rogers, Director
 
/s/ Thomas A  Sherby                    June 29, 1998
-------------------------------------   -------------
Dr. Thomas A. Sherby,  Director

                                       42