<PAGE>   1
                                    FORM 10-Q


                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

 (Mark One)

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

  For the quarterly period ended September 26, 1997
                                 ------------------

                                       or
                                       --

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


  For the transition period from         to
                                 -------    --------

  Commission File Number   000-22119
                           ---------

================================================================================
                               ACCELGRAPHICS, INC.

             (Exact name of registrant as specified in its charter)

        DELAWARE                                           77-0450627
        --------                                           ----------
        (State or other jurisdiction of     (I.R.S. Employer Identification No.)
        incorporation or organization)

        1873 BARBER LANE, MILPITAS, CALIFORNIA 95035 (Address of principal
        executive offices) (Zip Code)

        Registrant's telephone number, including area code: (408) 546-2100
                                                            --------------


================================================================================

        Indicate by check mark whether the registrant (1) has filed all reports
        required to be filed by Section 13 or 15(d) of the Securities Exchange
        Act of 1934 during the preceding 12 months (or for such shorter period
        that the registrant was required to file such reports), and (2) has been
        subject to such filing requirements for the past 90 days. 
        Yes [X*]   No [ ]
            
           The number of shares outstanding of the registrant's common
                    stock at November 5, 1997 was 8,373,607.


        * The Registrant has been subject to such filing requirements since
        April 10, 1997, the effective date of the Registration Statement of Form
        8-A.



                                     Page 1
<PAGE>   2



                               ACCELGRAPHICS, INC.

                               INDEX TO FORM 10-Q

<TABLE>
<CAPTION>
                                                                            Page
                                                                            ----
<S>                                                                           <C>
PART I. FINANCIAL INFORMATION:

ITEM 1. Condensed Consolidated Financial Statements (Unaudited)

        Condensed Consolidated Balance Sheet as of September 30, 1997
        and December 31, 1996                                                 3

        Condensed Consolidated Statement of Operations for the three
        and nine months ended September 30, 1997 and 1996                     4

        Condensed Consolidated Statement of Cash Flows for the nine
          months ended September 30, 1997 and 1996                            5

        Notes to Condensed Consolidated Financial Statements                  6

ITEM 2. Management's Discussion and Analysis of
         Financial Condition And Results of Operations                        8


PART II - OTHER INFORMATION

ITEM 2.  Changes in securities and use of proceeds                           24
ITEM 6.  Exhibits                                                            24

Signature(s)                                                                 24
</TABLE>





                                     Page 2
<PAGE>   3



PART I. FINANCIAL INFORMATION

ITEM 1. Condensed Consolidated Financial Statements (Unaudited)

                               ACCELGRAPHICS, INC.
                      CONDENSED CONSOLIDATED BALANCE SHEET
                    (in thousands, except per share amounts)
                                   (Unaudited)

<TABLE>
<CAPTION>
                                                             September 30,  December 31,
                                                                  1997         1996
                                                             -------------  ------------
<S>                                                             <C>           <C>
ASSETS
Current assets:
  Cash and cash equivalents                                     $ 11,737      $ 2,979
  Short-term investments                                           6,499           --
  Accounts receivable, net                                         1,788        4,392
  Inventories                                                      4,812          507
  Prepaid expenses                                                   299           49
                                                                --------      -------
    Total current assets                                          25,135        7,927
Property and equipment, net                                          810          512
Long-term investment                                               1,995           --
                                                                --------      -------
    Total assets                                                $ 27,940      $ 8,439
                                                                ========      =======
LIABILITIES, MANDATORILY REDEEMABLE CONVERTIBLE
PREFERRED STOCK AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
  Current portion of capital lease obligation                   $     57      $    16
  Accounts payable                                                 1,429        1,466
  Accrued liabilities                                              1,404        1,123
  Customer advances                                                   --          292
                                                                --------      -------
         Total current liabilities                                 2,890        2,897
                                                                --------      -------
Capital lease obligation, net of current portion                     120           34
Long-term debt                                                       408           --
Subordinated convertible note payable to related party                --        1,748
                                                                --------      -------
                                                                     528        1,782
                                                                --------      -------
Mandatorily redeemable convertible preferred stock                    --        8,930
                                                                --------      -------
Stockholders' equity (deficit):
  Preferred Stock, $0.001 par value, 2,000 and 10,000
    shares authorized                                                 --           --
  Common Stock, $0.001 par value, 50,000 shares authorized;
     8,370 and 1,253 shares issued and outstanding                     8            1
  Additional paid-in capital                                      30,081          785
  Notes receivable from stockholders                                 (49)         (89)
  Deferred stock compensation                                       (239)        (396)
  Cumulative translation adjustment                                   (9)          (5)
  Accumulated deficit                                             (5,270)      (5,466)
                                                                --------      -------
          Total stockholders' equity (deficit)                    24,522       (5,170)
                                                                --------      -------
                                                                $ 27,940      $ 8,439
                                                                ========      =======
</TABLE>


     See accompanying Notes to Condensed Consolidated Financial Statements.



                                     Page 3
<PAGE>   4




                               ACCELGRAPHICS, INC.
                 CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
                    (in thousands, except per share amounts)
                                   (Unaudited)

<TABLE>
<CAPTION>
                                              Three Months Ended        Nine Months Ended
                                                 September 30,            September 30,
                                              1997         1996          1997         1996
                                             -------      -------      --------      -------
<S>                                          <C>          <C>          <C>           <C>
Revenues                                     $ 4,165      $ 4,260      $ 25,971      $ 9,698
Cost of revenues                               3,296        2,859        17,563        6,344
                                             -------      -------      --------      -------
  Gross profit                                   869        1,401         8,408        3,354
                                             -------      -------      --------      -------
Operating expenses:
  Research and development                     1,227          794         3,427        1,848
  Sales and marketing                          1,019          955         3,760        2,461
  General and administrative                     519          230         1,456          744
                                             -------      -------      --------      -------
     Total operating expenses                  2,765        1,979         8,643        5,053
                                             -------      -------      --------      -------
Income (loss) from operations                 (1,896)        (578)         (235)      (1,699)
Interest and other income (expense), net         285          (20)          509          (54)
                                             -------      -------      --------      -------
Income (loss) before income tax
 benefit (provision)                          (1,611)        (598)          274       (1,753)
  Income tax benefit (provision)                 448           --           (78)          --
                                             -------      -------      --------      -------
Net income (loss)                            $(1,163)     $  (598)     $    196      $(1,753)
                                             =======      =======      ========      =======
Net income (loss) per share                  $ (0.14)     $ (0.10)     $   0.02      $ (0.28)
                                             =======      =======      ========      =======
Shares used to compute net income (loss)
  per share                                    8,367        6,288         8,212        6,258
                                             =======      =======      ========      =======
</TABLE>


     See accompanying Notes to Condensed Consolidated Financial Statements.






                                     Page 4
<PAGE>   5



                               ACCELGRAPHICS, INC.
                 CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
                                 (in thousands)
                                   (Unaudited)

<TABLE>
<CAPTION>
                                                               Nine Months Ended
                                                                  September 30,
                                                                1997         1996
                                                              --------      -------
<S>                                                           <C>           <C>
Cash flows from operating activities:
Net income (loss)                                             $    196      $(1,753)
Adjustments to reconcile net income (loss) to
  net cash provided by operating activities:
    Depreciation and amortization                                  286          164
    Loss on disposal of asset                                       28           --
    Stock compensation expense and other                           157          168
Changes in assets and liabilities:
  Accounts receivable                                            2,604       (1,774)
  Inventories                                                   (4,305)          34
  Prepaid expenses                                                (250)         (16)
  Accounts payable                                                 (37)         478
  Accrued liabilities                                              281          153
  Customer advances                                               (292)         (56)
                                                              --------      -------
Net cash used in operating activities                           (1,332)      (2,602)
                                                              --------      -------
Cash flows from investing activities:
  Acquisition of property and equipment                           (458)        (139)
  Purchase of investments                                       (8,494)          --
                                                              --------      -------
Net cash used in investing activities                           (8,952)        (139)
                                                              --------      -------
Cash flows from financing activities:
  Repayment of subordinated convertible note payable            (1,748)          --
  Repayment of capital lease obligation                            (27)          --
  Proceeds from repayment of stockholders notes                     40           --
  Proceeds from issuance of common stock                        20,373            5
  Proceeds from issuance of preferred stock                         --        3,185
  Borrowing under term loan                                        408           --
                                                              --------      -------
Net cash provided by financing activities                       19,046        3,190
                                                              --------      -------
Effect of exchange rates on cash                                    (4)          (4)
                                                              --------      -------
Net increase in cash and cash equivalents                        8,758          445
Cash and cash equivalents at beginning of period                 2,979        1,373
                                                              --------      -------
Cash and cash equivalents at end of period                      11,737        1,818
                                                              ========      =======
Supplemental disclosure of cash flow information:
    Income taxes paid during the period                       $    181      $    --
                                                              ========      =======
    Interest paid during the period                           $    189      $    65
                                                              ========      =======
Supplemental disclosure of non-cash financing activities:
    Issuance of capital lease obligations for
        acquisition of property and equipment                 $    154      $    54
                                                              ========      =======
</TABLE>


     See accompanying Notes to Condensed Consolidated Financial Statements.



                                     Page 5
<PAGE>   6



                               ACCELGRAPHICS, INC.
              NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                   (Unaudited)

NOTE 1.  BASIS OF PRESENTATION

The accompanying unaudited condensed consolidated financial statements have been
prepared by the Company in accordance with generally accepted accounting
principles for interim financial information and pursuant to rules and
regulations of the Securities and Exchange Commission. In the opinion of
management, all adjustments (consisting only of normal recurring adjustments)
considered necessary for a fair presentation have been included. These financial
statements should be read in conjunction with the Company's consolidated
financial statements and notes thereto for the year ended December 31, 1996,
which are contained in the Company's Registration Statement on Form SB-2.

The Company operates under a 52-53 week fiscal year with thirteen week quarters
that end on the Friday closest to calendar quarter end. For convenience of
presentation, financial information has been shown as ending on the last date of
the calendar quarter.

Operating results for the quarter ended September 30, 1997 may not necessarily
be indicative of the results to be expected for any other interim period or for
the full year.

NOTE 2.  INVENTORIES

Inventories are stated at the lower of cost (determined on a first-in, first-out
basis) or market. Inventories consisted of (in thousands):

<TABLE>
<CAPTION>
                                     September 30, 1997      December 31, 1996
                                     ------------------      -----------------
        <S>                               <C>                     <C>
        Raw materials                     $ 1,693                 $   144
        Work in process                     2,288                      41
        Finished goods                        831                     322
                                          -------                 -------
                                          $ 4,812                 $   507
                                          =======                 =======
</TABLE>

NOTE 3. NET INCOME (LOSS) PER SHARE

Net income (loss) per share is computed using the weighted-average number of
common and common equivalent shares outstanding during the periods. Common
equivalent shares consist of mandatorily redeemable convertible preferred stock
(using the if-converted method) and stock options and warrants (using the
treasury stock method). Common equivalent shares are excluded from the
computation if their effect is antidilutive, except that, pursuant to the rules
of the Securities and Exchange Commission, all series of mandatorily redeemable
convertible preferred stock and common equivalent shares (using the treasury
stock method and the public offering price) issued during the 12 month period
prior to the Company's initial public offering have been included in the
computation as if they were outstanding for all periods through April 1997.

In February 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 128, "Earnings per Share." This statement is
effective for the Company's fiscal year ending December 31, 1997. The statement
redefines earnings per share under generally accepted accounting principles.
Under the new standard, primary earnings per share is replaced by basic earnings
per share and fully diluted earnings per share is replaced by diluted earnings
per share. If the Company had adopted this statement for the three and nine
month periods ended September 30, 1997 and 1996, the Company's net income (loss)
per share would have been as follows:




                                     Page 6
<PAGE>   7



                               ACCELGRAPHICS, INC.
        NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
                                   (Unaudited)

<TABLE>
<CAPTION>
                                            Three Months Ended     Nine Months Ended
                                               September 30,          September 30,
                                             1997        1996        1997      1996
                                            -------    -------     -------    -------
<S>                                         <C>        <C>         <C>        <C>
Basic net income (loss) per share           $ (0.14)   $ (0.10)    $  0.03    $ (0.28)
Diluted net income (loss) per share         $ (0.14)   $ (0.10)    $  0.02    $ (0.28)
</TABLE>

NOTE 4.  COMMON STOCK

The Company completed its initial public offering of Common Stock on April 16,
1997 in an underwriting led by Cowen & Company, Robertson Stephens & Company LLC
and SoundView Financial Group, Inc. The offering consisted of 2,145,000 shares
issued by the Company and 455,000 shares sold by existing shareholders, as well
as the underwriters' over-allotment option of 390,000 shares issued by the
Company and resulted in net proceeds to the Company of approximately $20.3
million. In conjunction with the offering, all shares of mandatorily redeemable
convertible preferred stock were automatically converted into 4,509,000 shares
of common stock. In April 1997, the Company repaid the $1,748,000 subordinated
convertible note payable to a related party.

In March 1997, the Board of Directors adopted the 1997 Employee Stock Purchase
Plan (the "Purchase Plan") and the 1997 Directors' Stock Option Plan (the
"Directors' Plan") and authorized the reservation of 400,000 shares of Common
Stock for issuance under the Purchase Plan and 200,000 shares of Common Stock
for issuance under the Directors' Plan. Shares may be purchased under the
Purchase Plan at 85% of the lesser of the fair market value of the Common Stock
on the grant or purchase date. In addition, the Board of Directors also approved
an increase of 1,300,000 in the number of shares authorized for issuance under
the 1995 Stock Plan.

In March 1997, the Company reincorporated in the State of Delaware. The par
value of the Company's Common Stock is $0.001.





                                     Page 7
<PAGE>   8



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

The following information should be read in conjunction with the Consolidated
Financial Statements and the notes thereto and with Management's Discussion and
Analysis of Financial Condition and Results of Operations which are included in
the Company's registration statement on Form SB-2 as amended. This quarterly
report on Form 10-Q, and in particular Management's Discussion and Analysis of
Financial Condition and Results of Operations, contains forward-looking
statements regarding future events or the future performance of the Company that
involve certain risks and uncertainties including those discussed in "Risk
Factors" below. In this report, the words "anticipates", "believes", "expects",
"future" and similar expressions identify forward-looking statements. Actual
events or the actual future results of the Company may differ materially from
any forward-looking statements due to such risks and uncertainties. The Company
assumes no obligation to update these forward-looking statements to reflect
actual results or changes in factors or assumptions affecting such
forward-looking assumptions. Readers are cautioned not to place undue reliance
on these forward-looking statements, which reflect management's analysis only as
of the date hereof. The Company undertakes no obligation to publicly release the
results of any revision to these forward-looking statements, which may be made
to reflect events or circumstances after the date hereof or to reflect the
occurrence of unanticipated events.

OVERVIEW

        AccelGraphics, Inc. designs, develops and markets high-performance,
cost-effective, 3-dimensional ("3D") graphics subsystems, software accelerators
and application utility software products for the professional Windows NT and
Windows 95 markets. The Company commenced operations in late 1994.

        The Company's graphic subsystems include the AccelECLIPSE, AccelPRO,
and AccelSTAR product lines, while the Company's application utility software 
include the AccelVIEW product.

        The Company has increased its research and development, sales and
marketing and administrative capabilities since its inception and may continue
to expand such capabilities in the future. Any increase in the Company's
operating expenses caused by this potential expansion could have a material
adverse effect on the Company's operating results if revenues do not increase at
an equal or greater rate. Also, the Company's expenses for these and other
activities are based in significant part on its expectations regarding future
revenues and are fixed to a large extent in the short term. Accordingly, the
Company may be unable to adjust spending in a timely manner to compensate for
any unexpected revenue shortfall, which would have a material adverse effect on
the Company's business, financial condition and results of operations.

        The Company has a limited operating history upon which an evaluation of
the Company and its prospects can be based. The Company's prospects must be
considered in light of the risks, expenses and difficulties frequently
encountered by companies in the early stages of development, particularly
companies in new and rapidly evolving markets. To address these risks, the
Company must, among other things, respond to competitive developments, attract,
retain and motivate qualified persons, continue to upgrade its technologies and
commercialize its products. There can be no assurance that the Company will be
successful in addressing these and other risks.

        Although the Company has experienced significant annual revenue growth
since its inception, the Company does not believe that such growth rates are
sustainable. In the third quarter of 1997, revenues declined by 58% from the
second quarter of 1997; consequently, past revenue growth rates may not be
indicative of future revenue growth, if any, or future operating results. The
Company incurred a net loss in the third quarter of 1997. There can be no
assurance that the Company will regain profitability on a quarterly basis or
will achieve profitability on an annual basis. The Company's limited operating
history makes the prediction of future operating results difficult, if not
impossible.





                                     Page 8
<PAGE>   9

Results of Operations

        The following table sets forth certain consolidated statement of
operations data as a percentage of revenues for the periods indicated:

<TABLE>
<CAPTION>
                                                  Three Months Ended      Nine Months Ended
                                                     September 30,           September 30,
                                                   1997       1996         1997       1996
                                                   -----      -----        -----      -----
<S>                                                <C>        <C>          <C>        <C>
Revenues                                           100.0%     100.0%       100.0%     100.0%
Cost of revenues                                    79.1       67.1         67.6       65.4
                                                   -----      -----        -----      ----- 
  Gross profit                                      20.9       32.9         32.4       34.6
                                                   -----      -----        -----      ----- 
Operating expenses:
  Research and development                          29.5       18.7         13.2       19.1
  Sales and marketing                               24.5       22.4         14.5       25.3
  General and administrative                        12.4        5.4          5.6        7.7
                                                   -----      -----        -----      ----- 
     Total operating expenses                       66.4       46.5         33.3       52.1
                                                   -----      -----        -----      ----- 
Income (loss) from operations                      (45.5)     (13.6)        (0.9)     (17.5)
Interest and other income (expense), net             6.8       (0.4)         2.0       (0.6)
                                                   -----      -----        -----      ----- 
Income (loss) before provision for income taxes    (38.7)     (14.0)         1.1      (18.1)
  Provision for income taxes                        10.8         --         (0.3)        --
                                                   -----      -----        -----      ----- 
Net income (loss)                                  (27.9)%    (14.0)%        0.8%     (18.1)%
                                                   =====      =====        =====      =====
</TABLE>

Revenues

        Revenues decreased by 2% to $4.2 million during the third quarter of
1997 from $4.3 million during the third quarter of 1996 and increased by 168% to
$26.0 million for the first nine months of 1997 from $9.7 million for the first
nine months of 1996. The decrease in revenues during the third quarter of 1997
was primarily due to a delay in the shipment of an OEM order, as well as lower
revenues in Europe and lower revenues from its AccelPRO products. The increase
in revenues during the first nine months of 1997 was primarily due to unit sales
of the AccelPRO and the AccelECLIPSE product lines. Revenue for the first nine
months of 1996 was primarily comprised of sales of the Company's AG300/500 and
AccelPRO product lines. Revenues from software products have to-date been
immaterial.

        The Company's customers include original equipment manufacturers
("OEMs"), distributors, value added resellers ("VARs") and end users. Revenues
from product sales are generally recognized upon product shipment, less an
allowance for estimated future returns and exchanges. Provisions for the costs
of technical support services for the Company's hardware products and estimated
future warranty claims are recorded as a cost of revenues upon recognition of
related revenues.

        International revenues decreased by 22% to $1.5 million during the third
quarter of 1997 from $2.0 million during the third quarter of 1996, representing
36.0% and 45.7%, respectively, of revenues, and increased by 218% to $11.1
million for the first nine months of 1997 from $3.5 million for the first nine
months of 1996, representing 36.1% and 42.8%, respectively, of revenues. The
decrease in international revenue during the third quarter of 1997 was primarily
due to lower revenues in Europe, offset in part by increased revenues in Asia
Pacific. The increase in international revenues during the first nine months of
1997 is primarily a result of increased sales of the Company's products to its
OEM customers in Europe and Asia Pacific. Revenues from the Company's
international



                                     Page 9
<PAGE>   10

customers are generally denominated in United States dollars. Although the
effects of currency fluctuations have been insignificant to date, there can be
no assurance that such fluctuations will not be significant in the future.

        Revenues from Hewlett-Packard Company ("HP"), Wyle Electronics, Inc.
("Wyle") and Digital Equipment Corporation ("Digital") accounted for 34.7%,
16.0% and 4.2%, respectively, of revenues during the third quarter of 1997.
Revenues from HP, Wyle and Digital accounted for 16.5%, 7.2% and 28.6%,
respectively, of revenues during the third quarter of 1996. The loss of any
major customer, or the delay in or reduction of orders from such customers could
have a material adverse effect on the Company's business, financial condition
and results of operations.

Gross Profit

        Gross profit decreased by 38% to $870,000 during the third quarter of
1997 from $1.4 million during the third quarter of 1996, representing 20.9% and
32.9%, respectively, of revenues and increased by 151% to $8.4 million during
the first nine months of 1997 from $3.4 million during the first nine months of
1996, representing 32.4% and 34.6%, respectively, of revenues. The decrease in
both absolute dollars and gross margin during the third quarter of 1997 resulted
primarily from competitive pricing pressures on the Company's products,
significantly lower gross margins on the Company's maturing AccelPRO TX product
as well as the lower revenue which resulted in manufacturing costs being
allocated over fewer units. The decrease in gross margin during the first nine
months of 1997 resulted from increased sales to OEMs which generally yield lower
gross margins and competitive pricing pressures, particularly on the Company's
maturing products, while the increase in absolute dollars resulted primarily
from increased revenues. The Company expects that future quarterly gross margins
may increase over their current levels; however, year-to-date gross margins are
expected to decrease over time as a result of competitive pricing pressures and
changes in sales channel and product mix.

        The Company's gross margin is affected by many factors, including the
sales channel mix, sales to OEMs which generally yield lower gross margins, the
mix of products sold, competitive pricing pressures, introductions of new
products and the availability, reliability and cost of components and products
from the Company's subcontractors and suppliers. In addition, the Company orders
products in advance of planned shipments and, due to rapid technological changes
or other factors such as customers curtailing or changing timing or mix of
orders, there is a risk that the Company will forecast incorrectly and produce
excess or insufficient inventories of particular products. The Company's
customers' ability to reschedule or cancel orders without significant penalty
could adversely affect the Company's operating results, as the Company may be
unable to adjust its purchases from its subcontractors and suppliers to match
such customers' changes and cancellations.

Operating Expenses

        Research and Development. Research and development expenses increased by
55% to $1.2 million during the third quarter of 1997 from $790,000 during the
third quarter of 1996, representing 29.5% and 18.7%, respectively, of revenues,
and increased by 85% to $3.4 million during the first nine months of 1997 from
$1.8 million during the first nine months of 1996, representing 13.2% and 19.1%,
respectively, of revenues. Research and development expenses consist primarily
of personnel costs and other personnel-related expenses, including the services
of outside consultants. The increase in research and development costs is
primarily due to increased personnel and related costs to support new product
development activities. The Company anticipates that research and development
expenses may increase in absolute dollars as the Company continues to add
research and development personnel and support for new product development
activities.

        Sales and Marketing. Sales and marketing expenses increased by 7% to
$1.0 million during the third quarter of 1997 from $960,000 during the third
quarter of 1996, representing 24.5% and 22.4%, respectively, of revenues, and
increased by 53% to $3.8



                                    Page 10
<PAGE>   11

million during the first nine months of 1997 from $2.5 million during the first
nine months of 1996, representing 14.5% and 25.3%, respectively, of revenues.
Sales and marketing expenses consist primarily of salaries, commissions,
marketing expenses and technical support for the sales organization. The
absolute dollar increase in sales and marketing expenses is primarily due to the
expansion of the Company's sales efforts in the United States, Europe and Asia
Pacific, as well as increased marketing and public relations activities related
to the introductions of new product lines. The Company anticipates that sales
and marketing expenses will increase in absolute dollars as the Company expands
its domestic and international sales force and its marketing activities.

        General and Administrative. General and administrative expenses
increased by 126% to $520,000 during the third quarter of 1997 from $230,000
during the third quarter of 1996, representing 12.4% and 5.4%, respectively, of
revenues, and increased by 96% to $1.5 million during the first nine months of
1997 from $740,000 during the first nine months of 1996, representing 5.6% and
7.7%, respectively, of revenues. Increased general and administrative expenses
were due primarily to increased staffing, consulting services and other costs
incurred to support the Company's growth and operation as a public company. The
Company anticipates that general and administrative expenses may increase in
absolute dollars to support the Company's expansion and as a result of costs
associated with operating as a public company.

Interest and other income (expense), net

        Interest and other income (expense), net consists primarily of interest
income earned on the Company's cash, cash equivalents and investments, and other
items including interest on capital lease obligations and long-term debt.
Interest and other income (expense), net was $290,000 in the third quarter of
1997 and resulted primarily from interest income on the proceeds of the initial
public offering, which was completed in April 1997, less interest expense of
$7,000 on the Company's borrowings. Interest expense, net in the third quarter
of 1996 was $20,000 and included $36,000 of interest expense on the subordinated
convertible note payable to a related party. The note payable was repaid in
April 1997.

Provision for Income Taxes

        The provision for income taxes for the first nine months of 1997
reflects an estimated annualized effective tax rate of 28% applied to income
before provision for income taxes, and includes consideration of the Company's
anticipated taxable income, tax rates and changes in its valuation allowance.
The Company recorded no provision for income taxes during the first nine months
of 1996 as it incurred losses.

LIQUIDITY AND CAPITAL RESOURCES

        Cash, cash equivalents and investments increased by $17.3 million during
the first nine months of 1997. Cash flows from operating activities utilized
$1.3 million in cash, primarily due to increases in inventory of $4.3 million,
offset in part by net income of $200,000 as well as decreases in accounts
receivable of $2.6 million.

        Net cash used in investing activities was approximately $9.0 million due
to the purchase of $460,000 of property and equipment and purchase of $8.5
million of investments.

        Net cash provided by financing activities was $19.0 million, primarily
due to net proceeds from the Company's initial public offering of $20.3 million,
offset by $1.7 million used to repay a note payable and bank borrowings of
$410,000.

        At September 30, 1997, the Company had $20.2 million of cash, cash
equivalents and investments. The Company has available borrowing facilities of
$3.6 million with a bank, net of $408,000 which is outstanding. The borrowings
bear interest at rates between 8.75% and 9.0%, are secured by all of the
Company's assets and require that the Company maintain



                                    Page 11
<PAGE>   12

certain financial ratios and levels of tangible net worth and profitability and
also restrict the Company's ability to pay cash dividends. As a result of the
loss incurred in the third quarter of 1997, the Company was in violation of its
debt covenants; however, the bank has waived such covenants. The $3 million line
of credit portion of the borrowing facilities, which expired in October 1997,
has been extended until December 9, 1997, and the Company is in the process of
renewing the line.

        The Company believes that existing cash, cash equivalents and
investments and its available borrowings will be sufficient to finance its
working capital and capital expenditure requirements for at least the next 12
months. Thereafter, the Company may require additional funds to support its
working capital requirements or for other purposes and may seek to raise such
additional funds through bank borrowings and public or private sales of its
securities, including equity and debt securities. The Company's future capital
requirements will depend on numerous factors, including, without limitation,
management of working capital, the success of marketing, sales and distribution
efforts, market acceptance of the Company's products, the progress of its
research and development programs, the costs involved in defending and enforcing
intellectual property rights, competition, competing technological and market
developments, and the effectiveness of product commercialization activities and
arrangements. There can be no assurance that additional funds, if required, will
be available to the Company on favorable terms or at all.







                                    Page 12
<PAGE>   13



RISK FACTORS

        In addition to other information in this Form 10-Q, the following are
important factors that should be considered carefully in evaluating the Company
and its business.

LIMITED HISTORY OF PROFITABILITY AND UNCERTAINTY OF FUTURE FINANCIAL RESULTS

        The Company has incurred a net operating loss in each year since
commencing operations in late 1994 and incurred a net loss in the third quarter
of 1997. As a result, the Company had an accumulated deficit as of September 30,
1997 of approximately $5.3 million. There can be no assurance that the Company
will ever achieve profitability on an annual basis in the future or that it will
regain profitability on a quarterly basis. In addition, the Company does not
believe that its current annual revenue growth rates are sustainable. To date,
the Company has earned substantially all of its revenues from sales of its
graphics subsystem product lines. The Company is in its third year of operations
and is subject to the risks inherent in the operation of a new business, such as
the difficulties and delays often encountered in the development and production
of new, complex technologies. There can be no assurance that the Company will be
able to address these risks.

        The Company may expand its research and development, sales and marketing
and administrative capabilities. The anticipated increase in the Company's
operating expenses which may be caused by this expansion could have a material
adverse effect on the Company's operating results if revenues do not increase at
an equal or greater rate. Also, the Company's expenses for these and other
activities are based in significant part on its expectations regarding future
revenues and are fixed to a large extent in the short term. Accordingly, the
Company may be unable to adjust spending in a timely manner to compensate for
any unexpected revenue shortfall, which would have a material adverse effect on
the Company's business, financial condition and results of operations.

SIGNIFICANT VARIABILITY IN QUARTERLY RESULTS

        Although the Company generated profits in the first and second quarter
of 1997, the Company incurred a loss in the third quarter of 1997. The Company's
quarterly operating results are likely to continue to vary significantly in the
future. The Company's quarterly results are affected by a wide variety of
factors including the gain or loss of significant customers, size and timing of
individual orders, timely introduction and market acceptance of new products
offered by the Company and its competitors, availability, reliability and cost
of components, the Company's success in negotiating original equipment
manufacturer ("OEM") and other customer agreements, customer order deferrals in
anticipation of new products, technological changes in operating systems or
applications, variations in manufacturing quality or capacities, changes in the
pricing policies of the Company or its competitors, changes in demand for
3-dimensional ("3D") graphics functionality, changes in the mix of revenues from
products having differing gross margins, changes in sales channel mix, changes
in average sales prices, warranty expenses, fluctuations in the Company's
expense levels, the Company's success at expanding its direct sales force and
indirect distribution channels, risks related to international operations,
extraordinary events such as litigation or acquisitions and general industry and
economic conditions, as well as other factors. Any of the above risks could have
a material adverse effect on the Company's business, financial condition and
results of operations.

        Quarterly revenues and operating results depend primarily on the volume,
timing and shipment of orders during the quarter, which are difficult to
forecast because customers generally place their orders on an as-needed basis
and, accordingly, the Company has historically operated with a relatively small
backlog. The Company's third party distribution channels provide the Company
with limited information regarding the quantity of the Company's products in the
sales channel. This reduces the Company's ability to predict fluctuations in
revenues resulting from a surplus or a shortage in its distribution channel and
could contribute to volatility in the Company's results of



                                    Page 13
<PAGE>   14

operations and cash flows. A surplus of inventory in the distribution channel
could unexpectedly cause a reduction in product shipments and revenues.
Moreover, a disproportionate percentage of the Company's revenues in any quarter
may be generated in the last month of a quarter. As a result, a shortfall in
revenues in any quarter as compared to expectations may not be identifiable
until near the end of the quarter. The Company may experience relatively weak
demand in third quarters due to historically weak summer sales in Europe.

        The Company's gross margins are impacted by the sales channel mix, mix
of products sold, increased competition and related decreases in unit average
selling prices, introduction of new products, availability, reliability and cost
of components from the Company's subcontractors and suppliers, and general
economic conditions. Currently, the Company is focusing on increasing its sales
to OEMs, which have historically yielded lower margins than other channels.
Individual product lines generally provide higher margins at the beginning of
the life cycle and lower margins as the product line matures. In addition, the
Company's markets are characterized by rapidly changing technology and declining
average selling prices. Accordingly, the Company's gross margins may decline
from the levels experienced to date, which would have an adverse effect on the
Company's business, financial condition and results of operations.

        A significant portion of the Company's operating expenses are relatively
fixed in the short term and planned expenditures are based on revenue forecasts.
As a result, if revenues are below levels needed to offset these operating
expenses, the Company's business, financial condition and results of operations
may be disproportionately affected because only a portion of the Company's
expenses vary with revenue. The Company generally must plan production, order
components and undertake its development, sales and marketing activities several
months in advance of shipping product and recognizing revenues. Accordingly, any
shortfall in revenues in a given quarter may impact the Company's operating
results and cash balances in a magnified way due to the Company's inability to
adjust expenses or inventory during the quarter to match the level of revenues
for the quarter. In addition, in the event the Company's customers desire to
purchase products in excess of forecasted amounts, the Company may not have
sufficient inventory or access to sufficient manufacturing capacity to meet such
demands. Although the Company has experienced growth in revenues in recent
quarters, there can be no assurance that the Company will sustain such revenue
growth or be profitable on an operating basis in any future period. For the
foregoing reasons, the Company believes that period-to-period comparisons of its
results are not necessarily meaningful and should not be relied upon as
indications of future performance. Further, when the Company announced that its
revenues and net income were below the expectations of market analysts for the
second quarter of 1997 and again in the third quarter of 1997, the Company's
stock price suffered significant declines. Accordingly, it is likely that in
some future quarter the Company's revenues or operating results will be below
the expectations of public market analysts and investors. In such event, the
price of the Common Stock could be materially adversely affected.

RAPID TECHNOLOGICAL CHANGE

        The computer industry in general, and the markets for the Company's
products in particular, are characterized by ongoing technological developments,
evolving industry standards and rapid changes in customer requirements. Customer
preferences can change rapidly and new technology can quickly render existing
products obsolete. In order to keep pace with this rapidly changing market
environment, the Company must continually develop and incorporate into its
products technological advances and new features desired by customers at
competitive prices. There can be no assurance that the Company will be
successful in developing and marketing, on a timely basis or at all, competitive
products, product enhancements and new products that respond to technological
changes or changes in customer requirements and industry standards, or that the
Company's enhanced or new products will adequately address the changing needs of
the marketplace.



                                    Page 14
<PAGE>   15

        Additionally, application programming interfaces ("APIs") have evolved
and changed over time. Although OpenGL has developed into a leading industry
standard API for professional 3D graphics development, it is likely that
industry standards will continue to evolve to meet rapidly changing customer
requirements. There can be no assurance that the Company will be successful in
developing and marketing product enhancements or new products that respond to
these evolving standards. In addition, Intel has introduced the Accelerated
Graphics Port (AGP) bus structure, an alternative to the existing PCI bus
structure, which is expected to be adopted through the first quarter of 1998.
Failure by the Company to respond effectively to changes in the 3D graphics
market, to develop or acquire new technology or to successfully conform to
industry standards would have a material adverse effect on the business,
financial condition and results of operations of the Company.

        Operating systems and independent software vendor ("ISV") applications
are updated from time to time. The Company must constantly monitor these changes
and upgrade its products to remain compatible with any upgrades in operating
systems and ISV applications. There can be no assurance that the Company will be
successful in developing new versions or enhancements to its products or that
the Company will not experience delays in the upgrade of its products. In the
event that there are delays in the completion of any upgrade to its products,
the Company's business, financial condition and results of operations would be
materially adversely affected. In addition, the Company strives to achieve
compatibility between the Company's products and 3D graphics applications the
Company believes are or will become popular and widely adopted. The Company
invests substantial resources in development efforts aimed at achieving such
compatibility. Any failure by the Company to anticipate or respond adequately to
changes in applications could result in a loss of competitiveness and could
adversely affect the Company's business, financial condition and results of
operations.

COMPETITION

        The market for 3D graphics accelerators is extremely competitive and
subject to rapid change. The Company expects competition to increase in the
future from existing competitors and from new market entrants with products that
may be less costly than the Company's products or provide better performance or
additional features not currently provided by the Company's products. The
Company competes with the following three major groups: professional 3D graphics
board companies (including Intergraph Corporation and Dynamic Pictures, Inc.),
RISC/UNIX workstation companies (including Sun Microsystems, Inc. ("Sun") and
Silicon Graphics, Inc. ("SGI")) and traditional volume personal computer ("PC")
board suppliers (including ELSA GmbH, Diamond Multimedia Systems, Inc., Matrox
Electronic Systems Ltd. and STB Systems, Inc.). A variety of potential actions
by any of the Company's competitors could have a material adverse effect on the
Company's business, financial condition and results of operations. Such actions
may include reduction of product prices, increased promotion, announcement or
accelerated introduction of new or enhanced products, product giveaways, product
bundling or other competitive actions.

        Many of the companies that currently compete with the Company or that
may compete with the Company have longer operating histories and significantly
greater financial, technical, sales, marketing and other resources, as well as
greater name recognition and larger customer bases, than the Company. As a
result, these competitors may be able to respond more quickly and effectively to
new or emerging technologies and changes in customer requirements or to devote
greater resources to the development, promotion, sale and support of their
products than the Company. Some of these companies also purchase their
components from the Company's suppliers. Consequently, the Company expects to
continue to experience increased competition, which could result in significant
price reductions, loss of market share and lack of acceptance of new products,
any of which could have a material adverse effect on the Company's business,
financial condition and results of operations. There can be no assurance that
the Company will be able to compete against current or future competitors
successfully or that competitive pressures faced by the Company will not have a
material adverse effect upon its business, financial condition and results of
operations.



                                    Page 15
<PAGE>   16

LIMITED HISTORY OF PRODUCT DEVELOPMENT

        The Company's products are complex, are based on relatively new
technology and have a limited history of reliability. The Company generally
provides a three-year warranty for its products. In general, the Company's
return policy permits return within five days after receipt of products that do
not meet product specifications. Companies engaged in the development and
production of new, complex technologies and products often encounter
difficulties in performance and reliability and delays in product introduction
and volume shipments. Additionally, products as complex as those offered by the
Company may contain undetected errors or "bugs" when introduced that, despite
testing by the Company, are discovered only after a product has been installed
and used by customers. There can be no assurance that the Company will be
successful in resolving any problems with the Company's existing or future
products. Failure by the Company to resolve manufacturing or operational
problems with any existing product or any new product in a timely manner would
have a material adverse effect on the Company's business, financial condition
and results of operations.

        The success of the Company will likely depend on its ability to develop
and market new products that provide superior performance at competitive prices.
Any quality, reliability or performance problems with such products, regardless
of materiality, or any other actual or perceived problems with the Company's
products, could have a material adverse effect on market acceptance of such
products and the Company's reputation. There can be no assurance that such
problems or perceived problems will not arise or that, even in the absence of
such problems, the Company's products will receive market acceptance. A failure
of the Company's products to receive market acceptance for any reason would have
a material adverse effect on the Company's business, financial condition and
results of operations. In addition, the announcement by the Company of new
products and technologies could cause customers to defer purchases of the
Company's existing products, which would have a material adverse effect on the
Company's business, financial condition and results of operations.

SHORT PRODUCT LIFE CYCLES

        The market for the Company's products is characterized by frequent new
product introductions and rapid product obsolescence. The life cycles of the
Company's products are difficult to estimate. Generally, life cycles of personal
computer 3D graphics subsystems are relatively short, approximately six to
fifteen months. The Company must constantly monitor industry trends and select
new technologies and features for its products, as well as monitor the timing of
introduction of new products. Moreover, short product life cycles, coupled with
single-source supply of components used in the Company's products, may prevent
the Company from being able, in a timely manner, to reduce its procurement
commitments, production or inventory levels in response to obsolescence,
unexpected shortfalls in orders, revenues or declines in prices or, conversely,
to increase production in response to unexpected increases in demand. Failure to
respond to the market adequately could have a material adverse effect on the
Company's business, financial condition and results of operations. The timing of
the end of a product's life cycle is difficult to predict and is typically
characterized by steep declines in unit sales, pricing and margins. As new
products are planned and introduced, the Company may not be able to control the
inventory levels of older products and phase out production, potentially
resulting in excess inventory and the expenses associated therewith. The Company
could experience unexpected reductions in revenues from older generation
products as customers anticipate new products. To the extent the Company is
unsuccessful in managing product transitions, its business, financial condition
and results of operations would be adversely affected.

RELIANCE ON THIRD PARTY DISTRIBUTION AND MAJOR OEMS

        The Company relies on OEMs, value added resellers ("VARs") and a network
of distributors for both domestic and international revenues. In particular,
revenues from



                                    Page 16
<PAGE>   17

Hewlett-Packard Company ("HP"), Wyle Electronics, Inc. ("Wyle") and Digital
Equipment Corporation ("Digital") accounted for 34.7%, 16.0% and 4.2%,
respectively, of revenues during the third quarter of 1997. Revenues from HP,
Wyle and Digital accounted for 16.5%, 7.2% and 28.6%, respectively, of revenues
during the third quarter of 1996. The Company believes that its future success
may depend upon its ability to broaden its customer base. There can be no
assurance that a major customer will not reduce, delay or eliminate its
purchases from the Company, which could have a material adverse effect on the
Company's business, financial condition and results of operations. For example,
in the third quarter of 1997, revenues from Digital declined to 4.2% of total
revenues from 20.8% of revenues in the second quarter of 1997 and from 44.7% in
the first quarter of 1997. In connection with the OEM Agreement with HP, HP has
a non-exclusive manufacturing license pursuant to which it is granted the right
to manufacture or have manufactured the Company's products in the event of the
Company's bankruptcy, receivership or failure to supply HP with specified
quantities of products due to a cause not associated with the negligence of
either party for the term of the agreement or until the Company is out of
bankruptcy or receivership. In connection with the OEM Agreement with Digital,
Digital has a non-exclusive manufacturing license pursuant to which it is
granted the right to manufacture the Company's products in the event that the
Company is unable to supply Digital with specified quantities of products, until
the Company demonstrates its ability and readiness to assume its obligations. In
the event the Company were required to grant such nonexclusive manufacturing
rights to Digital, HP or any other OEM that subsequently may obtain such rights,
such grant could have the effect of decreasing the value of the Company's
ownership rights with respect to such products and/or decrease the Company's
revenues, either of which could have an adverse effect on the Company's
business, financial condition or results of operations. The Company's customer
agreements are short term and automatically renew each year and generally may be
canceled for convenience upon written notice by either party. Generally, there
are no minimum purchase requirements for the Company's OEMs, VARs and
distributors. Some of the Company's OEMs, VARs and distributors offer
competitive products manufactured internally or by third parties. There can be
no assurance that the Company's OEMs, VARs and distributors will give a priority
to the marketing of the Company's products as compared to competing products or
alternative solutions or that such OEMs, VARs and distributors will continue to
offer the Company's products. Moreover, there can be no assurance that the
Company will continue to sell substantial quantities of its products to these
OEMs, VARs and distributors, or that upon any termination of the Company's
relationships with any of these OEMs, VARs or distributors, the Company would be
able to obtain suitable alternate distribution channels. The loss of one or more
of the Company's OEMs, VARs or distributors could have a material adverse effect
on the Company's business, financial condition and results of operations.
Additionally, the Company's southern and northern European distributor maintains
a credit limit with the Company for the purchase of a certain amount of the
Company's products. In the event that the demand for the Company's products
exceeds this credit limit, the Company may be unable to increase the credit
limit and supply this distributor with additional quantities of products.
Accordingly, the Company may experience significant backlog and delays in the
supply of additional products to this distributor, which could have a material
adverse effect on the Company's business, financial condition and results of
operations.

        Although the Company seeks information from end users who purchase the
Company's products from OEMs, VARs and distributors, the Company generally does
not sell directly to end users and cannot directly observe their experience with
the Company's products. The Company also does not have direct control over the
marketing and support efforts of its OEMs, VARs and distributors. This may
result in the inability of the Company to identify potential opportunities with
these customers and may cause a potential delay by the Company in the
recognition and correction of any problems with such OEM, VAR or distributor
sales or support organizations. Failure of the Company to respond to customer
preferences or experience with its products or the failure of OEMs, VARs or
distributors to market and support the Company's products successfully, could
have a material adverse effect on the Company's business, financial condition
and results of operations.



                                    Page 17
<PAGE>   18

INTERNATIONAL REVENUES

        The Company's international revenues accounted for approximately 36% of
the Company's revenues in the first nine months of 1997, consisting primarily of
sales to international OEMs and distributors in Europe and Asia Pacific.
International revenues accounted for approximately 31% and 22% of the Company's
1996 and 1995 revenues, respectively, and primarily consisted of sales to third
party distributors based in the United Kingdom and Germany. However, the Company
believes that products sold to its European distributors are resold throughout
Europe. The Company expects that international revenues will continue to account
for a significant portion of its total revenues in future periods. International
revenues are subject to certain inherent risks, including unexpected changes in
regulatory requirements and tariffs, government controls, political instability,
longer payment cycles, difficulties in collecting accounts receivable,
difficulties in staffing and managing foreign operations and potentially adverse
tax consequences. The Company's inability to obtain foreign regulatory approvals
on a timely basis could have a material adverse effect on the Company's
business, financial condition and results of operations. Fluctuations in
currency exchange rates could cause the Company's products to become relatively
more expensive to end users in a particular country, leading to a reduction in
sales in that country. The impact of future exchange rate fluctuations cannot be
predicted adequately. To date, the Company has not found it appropriate to hedge
the risks associated with fluctuations in exchange rates, as substantially all
of the Company's foreign sales have been denominated in U.S. dollars. However,
if future transactions are denominated in foreign currencies, the Company may
undertake to hedge transactions. There can be no assurance that any hedging
techniques implemented by the Company would be successful or that the Company's
results of operations would not be materially adversely affected by exchange
rate fluctuations. In general, certain seasonal factors and patterns impact the
level of business activities at different times in different regions of the
world. For example, sales in Europe are adversely affected in the third quarter
of each year as many customers and end users reduce their business activities
during the summer months. These seasonal factors and currency fluctuation risks
could have a material adverse effect on the Company's business, financial
condition and results of operations. Further, because the Company operates in
different countries, the Company's management must address differences in
regulatory environments and cultures. Failure to address these differences
successfully could be disruptive to the Company's operations and could have a
material adverse effect on the Company's business, financial condition and
results of operations.

DIFFICULTIES IN MANAGING GROWTH

        The Company has experienced significant growth in its business over the
past two years which has placed demands on the Company's operational and
financial personnel and systems, outside manufacturing capacity, research and
development, technical support and other resources. The Company is expanding its
sales and marketing organizations, developing its distribution channels to
penetrate different and broader markets, funding additional research and
development and increasing its support organization to accommodate its growing
customer base. With continued growth, the Company may find it necessary to
enhance existing and implement new financial and management information systems
and controls and train its personnel to effectively operate such systems. Any
delay in the implementation of or any disruptions in the transition to such new
and enhanced systems and controls and personnel training could adversely affect
the Company's ability to accurately forecast sales demand and adjust third party
manufacturing to such demand, adjust purchasing levels, accurately record and
control inventory levels and record and report financial and management
information on a timely and accurate basis. Inaccuracy in demand forecasts in
the environment in which the Company operates can quickly result in either
insufficient or excess inventory and disproportional overhead expenses. Certain
of the Company's officers have recently joined the Company and the Company
anticipates further increases in the number of employees. The Company plans to
expand the geographic scope of its customer base and operations. Failure to
manage these changes and to expand effectively any of these areas would have a
material adverse effect on the Company's business, financial condition and
results of operations.



                                    Page 18
<PAGE>   19

DEPENDENCE ON SUBCONTRACTORS AND SOLE-SOURCE SUPPLIERS

        The Company relies on subcontractors to manufacture, subassemble, test
and ship the Company's products. The Company relies on sole-source suppliers for
certain critical components, such as 3Dlabs, Inc. ("3Dlabs") for its graphics
acceleration chips, Mitsubishi Electric Corporation ("Mitsubishi") for its
graphics acceleration chips and 3DRAM chips and Elec & Eltek Co., Ltd. for its
printed circuit boards. In addition, there is a limited availability of certain
application specific integrated circuit chipsets that provide VRAM and DRAM
memory. The Company procures its components and products through purchase orders
and does not have specific requirement agreements with any of its subcontractors
or suppliers. Each of the Company's subcontractors and suppliers can cease
supplying the services, products or components at any time with no penalty. In
the event it becomes necessary for the Company to replace a key subcontractor or
supplier, the Company could incur significant manufacturing set-up costs and
delays while new sources are located and alternate components are integrated
into the design of the Company's products. There can be no assurance that the
Company will be able to maintain its current subcontractor and supplier
relationships or that the Company will be able to find suitable replacement
subcontractors and suppliers, if necessary. Although the Company maintains
ongoing efforts to obtain required quantities of products, component shortages
may exist from time to time, and there can be no assurance that the Company's
current subcontractors and suppliers will continue to provide sufficient
quantities of suitable quality product components at acceptable prices. The
Company's emphasis on maintaining low inventory may accentuate the effects of
any shortages that may result from sole source products or subcontractors. The
inability of the Company to obtain product components at their historical cost
levels would directly affect the cost of the Company's products. Also, product
components may contain undetected errors or "bugs" when first supplied to the
Company that, despite testing by the Company, are discovered only after the
Company's product has been installed and used by customers. There can be no
assurance that errors will not be found in the Company's products due to errors
in the product components, or that any such errors will not impair the market
acceptance of these products or require significant product recalls. Problems
encountered by customers and product recalls could have a material adverse
effect on the Company's business, financial condition and results of operations.
In addition, the Company's ability to respond to greater than anticipated market
demand may be constrained by availability of services, products or components.
The loss of subcontractors or suppliers or the failure of subcontractors or
suppliers to meet the Company's price, quality, quantity and delivery
requirements would have a material adverse effect on the Company's business,
financial condition and results of operations.

DEPENDENCE ON KEY PERSONNEL; NEED TO ATTRACT AND RETAIN HIGHLY SKILLED PERSONNEL

        The success of the Company depends to a large extent upon its ability to
continue to attract and retain highly skilled personnel. Competition for
employees in the high technology sector in general, and in the graphics industry
in particular, is intense, and there can be no assurance that the Company will
be able to attract and retain sufficient numbers of qualified employees. The
Company has recently experienced a significant expansion in the overall level of
its business and the scope of its operations, including research and
development, marketing, sales, technical support and administration. It may
become increasingly difficult to hire, train and assimilate the new employees
needed given the market conditions. If the Company is unable to continue to
attract and retain sufficient numbers of qualified employees, it may be required
to rely on more expensive consultants. To date the Company has not entered into
employment agreements with any of its key personnel, although the Company may do
so in the future. Additionally, the Company has not required its key personnel
to enter into noncompetition agreements with the Company. The Company's
inability to retain, attract and assimilate certain members of the executive
management team or key employees would have a material adverse effect on the
Company's business, financial condition and results of operations.



                                    Page 19
<PAGE>   20

DEPENDENCE ON ISV RELATIONSHIPS

        The Company's business strategy includes developing strategic
relationships with major ISVs that serve the 3D graphics market, including
Autodesk, Inc. ("Autodesk") and Autodesk's Kinetix division ("Kinetix"),
Computer Associates International, Inc., Electronic Data Systems Corporation's
("EDS") Unigraphics division, Matra Datavision S.A., Microsoft Corporation's
("Microsoft") Softimage division, Parametric Technology Corporation ("PTC"),
Ricoh Corporation, Structural Dynamics Research Corporation ("SDRC") and Visible
Decisions, Inc. The Company has devoted substantial engineering and management
resources to developing relationships with its ISV partners. If any of the
Company's current or future ISV partners were to cease supporting the Company's
products, such action could have a material adverse effect on the Company's
business, financial condition and results of operations. Further, there can be
no assurance that the Company will be able to successfully sustain its
relationships or enter into new relationships with major ISVs on terms
acceptable to the Company or at all.

UNCERTAINTY REGARDING DEVELOPMENT OF 3D GRAPHICS MARKET

        The 3D graphics market on NT workstations has recently begun to develop
and is rapidly evolving. The Company's future financial performance will depend
in large part on the continued growth of this market and the demand for 3D
graphics for professional 3D applications. The failure of the 3D graphics market
to achieve anticipated growth levels or a substantial change in 3D graphics
customer preferences would have a material adverse effect on the Company's
business, financial condition and results of operations. Additionally, demand
for the Company's products is also dependent upon the widespread development of
3D graphics applications by ISVs, the success of the Company's customers in
effectively developing a market for the Company's products and the willingness
of end users to pay for enhanced 3D capabilities on NT workstations. The
Company's products currently are designed for use on NT and/or Windows 95
workstations. In the event that end users, and particularly businesses, delay
their adoption of or fail to adopt NT or Windows 95, the market for the
Company's products would be diminished and the Company's business, financial
condition and results of operations could be materially adversely affected.

RISK OF MIGRATION TO THE MOTHERBOARD

        The Company's 3D graphics subsystems function with Personal Workstations
to provide additional 3D and 2-dimensional ("2D") graphics performance and
functionality. As technology becomes more widely utilized, it may become
economically feasible to incorporate certain 3D graphics capabilities onto PC
motherboards or into microprocessors. The Company recognizes that migration
could occur with respect to the functionality provided by the Company's current
products. The Company's success is largely dependent on its ability to continue
to develop products which incorporate higher performance technologies and
additional functionality which system manufacturers have not yet fully
incorporated into PC motherboards or microprocessors. While the Company believes
that a market will continue to exist for add-in subsystems that provide
additional performance and advanced functionality and that offer flexibility in
systems configuration, there can be no assurance that the incorporation of
certain 3D and 2D capabilities onto PC motherboards or microprocessors will not
adversely affect the market for the Company's products and consequently, the
Company's business, financial condition and results of operations could be
materially adversely affected.

NEW OPERATING SYSTEMS

        The PC industry has recently been characterized by significant operating
system changes, such as the introduction of Windows 95 in 1995 and Windows NT
4.0 in 1996, and the introduction of significant new operating systems
components, such as Microsoft's Direct X and ActiveX for Windows 95. Microsoft
has also announced new versions of operating systems, Windows 98 and Windows NT
5.0, which are scheduled for release in 1998. New operating systems and
operating systems components may require that the Company expend a significant
amount of engineering resources to develop software which is compatible with



                                    Page 20
<PAGE>   21

the new operating systems. In addition, the Company may be required to update
its existing software for products sold prior to the release of the new
operating system to be compatible with the new operating systems in order to
maintain customer satisfaction. This effort involves substantial investment in
software engineering, compatibility testing and customer technical support
investment with limited or no incremental revenue return since these software
driver updates are usually provided via electronic distribution free to the
Company's installed customer base. In addition, the installation of this
software may result in increased customer support calls, thereby generating
expenses that do not have offsetting revenue. Moreover, during the introductory
period of a major new operating system release, the effort required to support
the Company's installed base will reduce the research and development and
customer technical support resources available for new products. Furthermore,
new operating systems for which the Company prospectively develops driver
support may not be successful, or the drivers themselves may not be successful
or accepted by customers, and a reasonable financial return on the corollary
research and development investment may never be achieved.

MARKET ANTICIPATION OF NEW PRODUCTS, NEW TECHNOLOGIES OR LOWER PRICES

        The environment in which the Company operates is characterized by rapid
new product and technology introductions and generally falling prices for
existing products. The Company's customers may from time to time postpone
purchases in anticipation of such new product introductions or lower prices. If
such anticipated changes are viewed as significant by the market, such as the
introduction of a new operating system or microprocessor architecture, this may
have the effect of delaying customers' purchases of the Company's products
thereby negatively impacting the Company's operating results. The substantial
publicity by Microsoft of its Windows NT 5.0 upgrade to Windows NT 4.0, which is
expected to be publicly available in the third quarter of 1998, Microsoft's
Windows 98 upgrade to Windows 95, which is expected to be publicly available in
the first quarter of 1998, and Intel's release of its new Pentium II CPU and
associated chipset supporting the AGP architecture may cause a delay in
customers' purchasing decisions and thereby result in lower revenues and lower
results.

        The potential negative impact on the Company's operating results as a
result of customer decisions to postpone purchases in favor of new and
"publicized" technology can be further magnified if products or components based
on such new technology are not available in a timely manner or in sufficient
supply to meet the demand caused by the market's shift to the new technology
from an older technology. For example, the Company's operating results could be
adversely affected if the Company makes poor selections of chip architectures or
chip suppliers to pursue its 3D graphics subsystems and, as a result, may be
unable to achieve market acceptance of new products or unable to secure a
sufficient supply of such components.

        Also, if the Company, one of its competitors or its chip vendor
announces a product that the market views as having more desirable features or
pricing than the Company's existing products, demand for the Company's existing
products may decline even though the new product is not yet available.
Similarly, if the Company's customers anticipate that the Company may reduce its
prices in the near term, they may postpone their purchases until such price
reductions are effected, reducing the Company's near-term shipments and revenue.
In general, market anticipation of new products, new technologies or lower
prices, even though potentially positive in the longer term, can negatively
impact the Company's operating results in the short term.

SOFTWARE DEFECTS

        The Company's software products, and its hardware products incorporating
any software, are extremely complex as a result of such factors as advanced
functionality, the diverse operating environments in which they may be deployed,
the need for interoperability and the multiple versions of such products that
must be supported for diverse operating platforms, languages and standards.
These products may contain undetected errors or failures when first introduced
or as new versions are released. The



                                    Page 21
<PAGE>   22

Company generally provides a three-year warranty for its products. In general,
the Company's return policy permits return within five days after receipt of
products that do not meet product specifications. There can be no assurance
that, despite testing by the Company and by current and potential customers,
errors will not be found in new products after commencement of commercial
shipments, resulting in loss of or delay in market acceptance. Such loss or
delay would likely have a material adverse effect on the Company's business,
financial condition and results of operations. Additionally, new versions or
upgrades to operating systems and ISV applications may require upgrades to the
Company's software products to maintain compatibility with these new versions or
upgrades. There can be no assurance that the Company will be successful in
developing new versions or enhancements to its software or that the Company will
not experience delays in the upgrade of its software products. In the event the
Company experiences delays or is unable to maintain compatibility with operating
systems and ISV applications, the Company's business, financial condition and
results of operations would be materially adversely affected.

RISKS ASSOCIATED WITH INTELLECTUAL PROPERTY

        Although the Company has three patent applications filed in the United
States, these claims are not related to the Company's current product lines.
Instead, the Company relies exclusively on trade secret and copyright protection
for its proprietary technology. Despite the Company's precautions, it may be
possible for a third party to copy or otherwise obtain and use the Company's
technologies without authorization or to develop competing technologies
independently. Furthermore, the laws of certain countries in which the Company
does business, including countries in which the Company does a significant
amount of business, such as the United Kingdom and Germany, may not protect the
Company's software and intellectual property rights to the same extent as the
laws of the United States. There can be no assurance that the Company's means of
protecting its proprietary rights will be adequate or that the Company's
competitors will not independently develop similar technology. If unauthorized
copying or misuse of the Company's products were to occur to any substantial
degree, or if a competitor of the Company were to effectively duplicate the
Company's proprietary technology, the Company's business, financial condition
and results of operations would be materially adversely affected. Furthermore,
while the Company requires employees and consultants to enter into
confidentiality agreements, there can be no assurance that proprietary
information will not be disclosed, that others will not independently develop
substantially equivalent proprietary information and techniques or otherwise
gain access to the Company's trade secrets or disclose such technology, or that
the Company can meaningfully protect its trade secrets. Certain technology used
by the Company's products is licensed from third parties, generally on a
non-exclusive basis. The termination of any such license, or the failure of any
third party licensor to adequately maintain or update its product, could result
in delay in the Company's ability to ship its products while it seeks to
implement technology offered by alternative sources, if any. Any required
replacement licenses could prove to be either unavailable or costly.

        Although the Company has not received notices from third parties
alleging infringement claims that the Company believes would have a material
adverse effect on the Company's business, there can be no assurance that third
parties will not claim that the Company's current or future products or
manufacturing processes infringe the proprietary rights of others. Any such
claim, with or without merit, could result in costly litigation or might require
the Company to enter into royalty or licensing agreements. Such royalty or
licensing agreements, if required, may not be available on terms acceptable to
the Company, or at all, which could have a material adverse effect upon the
Company's business, financial condition and results of operations.

FUTURE CAPITAL REQUIREMENTS

        The Company's future capital requirements will depend upon many factors,
including the development of new products, the success of the Company's research
and development efforts, the expansion of the Company's sales and marketing
efforts and the status of



                                    Page 22
<PAGE>   23

competitive products. The Company believes that existing cash, cash equivalents
and investments, its available borrowings and lines of credit will be sufficient
to finance its working capital and capital expenditure requirements for at least
the next 12 months. There can be no assurance, however, that the Company will
not require additional financing during such time. Further, there can be no
assurance that any additional financing will be available to the Company on
acceptable terms, if at all. If additional funds are raised by issuing equity
securities, further dilution to the existing stockholders could result. The
inability to obtain acceptable financing would have a material adverse effect on
the Company's business, financial condition and results of operations.

CONCENTRATION OF STOCK OWNERSHIP

        As of September 30, 1997, the Company's directors and officers and their
affiliates beneficially owned approximately 50% of the outstanding Common Stock.
As a result, these stockholders will be able to exercise significant influence
over all matters requiring stockholder 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.

POSSIBLE VOLATILITY OF STOCK PRICE

        The price of the Company's common stock has to-date experienced extreme
price fluctuations. Factors such as quarterly variations in actual or
anticipated operating results, changes in earnings estimates by analysts, market
conditions in the industry, announcements by competitors, regulatory actions and
general economic conditions may have a significant effect on the market price of
the Common Stock. Following fluctuations in the market price of a corporation's
securities, securities class action litigation has often resulted. 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 a diversion
of management's attention and resources, which could have a material adverse
effect on the Company's business, financial condition and results of operations.

SHARES ELIGIBLE FOR FUTURE SALE

        As of September 30, 1997, the Company had 8,367,774 shares of Common
Stock outstanding. As of September 30, 1997, the Company had 2,990,000 shares of
Common Stock eligible for sale in the public market. On October 8, 1997, an
additional 5,953,991 shares of Common Stock (including approximately 616,062
shares issuable upon exercise of vested options) became eligible for sale.
Certain stockholders holding 4,174,458 shares of Common Stock (assuming exercise
of outstanding warrants for 30,000 shares of Common Stock) are entitled to
registration rights with respect to their shares of Common Stock. If such
stockholders, by exercising their demand registration rights, cause a
significant number of securities to be registered and sold in the public market,
such sales could have an adverse effect on the market price of the Company's
Common Stock. Sales of significant amounts of such shares in the public market
after October 8, 1997, or the prospect of such sales, could adversely affect the
market price of the Common Stock. Such sales also might make it more difficult
for the Company to sell equity securities or equity-related securities in the
future at a time and price that the Company deems appropriate.

BLANK CHECK PREFERRED STOCK; ANTI-TAKEOVER PROVISIONS

        The Company's Board of Directors has the authority to issue up to
2,000,000 shares of Preferred Stock and to determine the price, rights,
preferences and privileges of those shares without any further vote or action by
the stockholders. The rights of the holders of 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 may have
the effect of delaying, deterring or preventing a change of control of the
Company without further action by the stockholders and may adversely affect the
voting and other rights of the holders of Common Stock. The Company has no
current plans to issue shares of Preferred Stock. The Company's Certificate of
Incorporation and Bylaws provide



                                    Page 23
<PAGE>   24

for, among other things, the prospective elimination of cumulative voting with
respect to the election of directors, the elimination of actions to be taken by
written consent of the Company's stockholders and certain procedures such as
advance notice procedures with regard to the nomination, other than by or at the
direction of the Board of Directors, of candidates for election as directors. In
addition, the Company's charter documents provide that the Company's Board of
Directors be divided into three classes, each of which serves for a three-year
term. The foregoing provisions could have the effect of making it more difficult
for a third party to effect a change in the control of the Board of Directors.
In addition, these provisions could have the effect of making it more difficult
for a third party to acquire, or of discouraging a third party from attempting
to acquire, or of making the Company less attractive to a potential acquiror of
a majority of the outstanding voting stock of the Company, and may complicate or
discourage a takeover of the Company. The foregoing provisions may also result
in the Company's stockholders receiving less consideration for their shares than
might otherwise be available in the event of a takeover attempt of the Company.








                                    Page 24
<PAGE>   25



PART II.  OTHER INFORMATION

ITEM 2. CHANGES ON SECURITIES AND USE OF PROCEEDS

(f)     Use of Proceeds

        (1)    The Company filed a Registration Statement on Form SB-2 (the
               "Registration Statement"), File No. 333-21343, which was declared
               effective by the Securities and Exchange Commission on April 10,
               1997.

        (2)    The offering pursuant to the Registration Statement commenced on
               April 10, 1997.

        (3)    (i)    The offering has terminated but did not do so before
                      the sale of all securities registered pursuant to the
                      Registration Statement.

               (ii)   The managing underwriters of the offering were Cowen &
                      Company, Robertson Stephens & Company LLC and SoundView
                      Financial Group, Inc.

               (iii)  Pursuant to the Registration Statement, the Company
                      registered it common stock.

               (iv)   From April 10, 1997 to September 26, 1997, the Company
                      incurred $2,523,000 of total expenses in connection with
                      the offering as follows:

                      (1)    $1,638,000 in underwriting discounts and
                             commissions; and

                      (2)    $885,000 in other expenses (not including finders'
                             fees or expenses paid to or for the underwriters).
                      All of such expenses were direct or indirect payments to
                      others.

               (v)    The net offering proceeds to the Company after deducting
                      total expenses in clause (iv) above were $20,292,000.

               (vi)   The Company used the net offering proceeds, in direct or
                      indirect payments to others, as follows:

                      (1)    approximately $1,748,000 for repayment of
                             indebtedness; and

                      (2)    approximately $18,544,000 for working capital.
                      
                      (Each of these amounts is a reasonable estimate of the
                      amount of the net offering proceeds so applied.)

               (vii)  The use of proceeds in clause (vi) does not represent a
                      material change in the use of proceeds described in the
                      prospectus of the Registration Statement.


ITEM 6.  EXHIBITS

11.1  Statement Regarding Computation of Net Income (Loss) Per Share

27.1  Financial Data Schedule


SIGNATURES

        Pursuant to the requirements of the Securities and Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.


                                      ACCELGRAPHICS, INC.



Date:   November 6, 1997              /s/ Nancy E. Bush
                                      ------------------------------------------
                                      Nancy E. Bush
                                      Vice President and Chief Financial Officer






                                    Page 25
<PAGE>   26



                                INDEX TO EXHIBITS



Exhibit    Description

11.1       Statement Regarding Computation of Net Income (Loss) Per Share
27.1       Financial Data Schedule