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                                UNITED STATES
                      SECURITIES AND EXCHANGE COMMISSION
                            Washington, D.C. 20549
                                  FORM 10-K
(Mark One)

[X]   Annual Report Pursuant to Section 13 or 15(d) of the Securities
      Exchange Act of 1934 For the fiscal year ended December 31, 1998

                                      Or

[ ]   Transition Report Pursuant to Section 13 OR 15 (d) Of the Securities
      Exchange Act of 1934

                        Commission File Number 0-20634

                    INFORMATION RESOURCE ENGINEERING, INC.

            (Exact name of registrant as specified in its charter)
<TABLE>
<S>                                                    <C>
             DELAWARE                                        52-1287752
             --------                                        ----------
 (State or other jurisdiction of                            (IRS Employer
  incorporation or organization)                         Identification No.)

      8029 CORPORATE DRIVE
       BALTIMORE, MARYLAND                                     21236    
       -------------------                                     -----    
 (Address of principal executive                            (Zip Code)  
             offices)                                        
</TABLE>

      Registrant's telephone number, including area code (410) 931-7500
                                                         --------------
     Securities registered under Section 12 (b) of the Exchange Act: NONE
       Securities registered under Section 12 (g) of the Exchange Act:

<TABLE>
<S>                                               <C>
                                                      Name of each exchange on
       Title of each class                                which registered
       -------------------                                ----------------
  Common Stock, $.01 par value                         Nasdaq National Market
</TABLE>

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

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

The aggregate market value of the Common Stock issued and outstanding and
held by non-affiliates of the Registrant, based upon the closing price for
the Common Stock on the Nasdaq National Market on March 19, 1999, was
approximately $63,400,000. All executive officers and directors of the
registrant have been deemed, solely for the purpose of this calculation, to
be "affiliates" of the registrant.

The number of shares of the registrant's Common Stock outstanding as of March
19, 1999 was 5,337,026.

                     DOCUMENTS INCORPORATED BY REFERENCE

Part III incorporates information by reference from the registrant's proxy
statement for the Annual Meeting of Shareholders, which proxy statement in
definitive form will be filed no later than 120 days after the close of the
registrant's fiscal year ended December 31, 1998.

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                                     PART I

ITEM 1 - BUSINESS

   Except for historical information contained herein, the statements in this
Item are forward-looking statements that are made pursuant to the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995.
Forward-looking statements involve known and unknown risks and uncertainties,
which may cause the Company's actual results in future periods to differ
materially from forecasted results. Those risks include, among others, risks
associated with the receipt and timing of future customer orders, price
pressures, achieving technical and product development milestones, the ability
to negotiate favorable strategic original equipment manufacturer ("OEM")
agreements, sufficient cash flow to support the Company's liquidity
requirements, other competitive factors leading to a decrease in anticipated
revenues and gross profit margins, product development expenses and Year 2000
issues.

   The Company's historical operating results have been dependent on a variety
of factors including, but not limited to, the length of the sales cycle, the
timing of orders from and shipments to clients, product development expenses and
the timing of development and introduction of new products. The Company's
expense levels are based, in part, on expectations of future revenues. The size
and timing of the Company's historical revenues have varied substantially from
quarter to quarter and year to year. Accordingly, the results of a particular
period, or period to period comparisons of recorded sales and profits may not be
indicative of future operating results.

   These factors, among others, could cause results to differ materially from
those in the forward-looking statements.

GENERAL

   Information Resource Engineering, Inc. (the "Company") and its European
subsidiary, GRETACODER Data Systems AG ("GDS"), designs, manufactures and
markets enterprise network security technology and systems that enable the
deployment of secure Virtual Private Network (VPN) solutions over the Internet
and other shared public networks. The Company's technology and products are used
in VPN and electronic commerce applications. A VPN is a communications system
that creates a private "tunnel" through the Internet, assuring authentication of
users and privacy of information. This allows businesses to use the lowest cost
network without exposing their business communications. The Company's family of
VPN products provides a broad range of solutions for Intranet, Extranet and
remote access applications. For example, enterprises can utilize the Company's
technology and solutions to enable (1) employees to access company-confidential
information over an intranet, or (2) allow trading partners to access the
Company's extranet for secure business-to-business electronic commerce
applications. VPN technology has been a core competency of the Company for over
a decade and remains a principal focus of the Company.

    Network Security technologies, including strong encryption, are utilized by
the Company to provide selective access to computer networks, prevent electronic
eavesdropping or alteration during electronic data transmission; to provide
message authentication confirming that messages are received in unaltered form;
and to enable user authentication and digital signatures verifying the identity
of the message sender and limiting computer access to authorized users. The
Company offers a choice of encryption algorithms and product offerings to
provide the level of network security appropriate for each client application.

   The Company's technology and products are used by financial institutions,
government agencies, large corporations, telecommunication companies and
Internet service providers to secure data transmissions on private and public
computer networks, such as the Internet. The Company believes that the growth
and usage of the Internet and related electronic commerce applications provide
market opportunities for the Company's VPN solutions.

   In 1995, the Company introduced its "SafeNet" branded VPN technology products
and solutions. In 1997 software and smartcard based product members were added
to the SafeNet product family. Recently the Company introduced Public Key ("PK")
capability to its SafeNet offering. These new products are based on the Internet
New



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Security Standard ("IPSec") which assures Internet users of strong security and
interoperability. These product introductions substantially increased unit sales
and expanded the market for SafeNet products.

   The Company was originally incorporated in Maryland on April 7, 1983 under
the name "Industrial Resource Engineering, Inc." The Company reincorporated
under its present name in Delaware by merging with its subsidiary in March 1989.
The Company's executive offices are located at 8029 Corporate Drive, Baltimore,
Maryland 21236, and its telephone number is (410) 931-7500.

THE MARKET FOR VPN SOLUTIONS

   VPN's allow organizations to use public networks for their communications
backbone. This is achieved by protecting the data traffic with data
communications security technology such as: encryption, message authentication,
user authentication, and firewall technology. Since public networks are much
cheaper than private leased lines and dedicated Frame Relay networks,
corporations can generally achieve substantial cost savings by using VPNs while
taking advantage of the global availability and access to the Internet.

   With the increasing use of public and private communications networks and the
ability of different types of computers to communicate with each other, data
integrity and security have gained increased importance. Management believes
that the market for security systems and products providing VPN solutions has
grown over the last several years due to an increase in the use of the Internet
for business communications and electronic commerce applications such as
work-at-home arrangements or telecommuting, electronic mail, satellite offices
connected to a central computer, electronic funds transfer, electronic data
interchange with clients, suppliers and business partners and numerous other
arrangements. The popularity and associated usage of the Internet has increased
the requirements for VPN technology and products to ensure secure "intra" and
"inter" company communications.

BUSINESS STRATEGY

   The Company's objective is to be a leading provider of enterprise-wide,
secure VPN solutions that enable organizations to take advantage of public
networks, including the Internet, the public telephone system and enterprise
networks, in order to maximize performance and minimize cost of business
communications. The key elements of the Company's strategy are as follows:

   Continue to provide Clients with a broad range of high performance,
deployable VPN Solutions

   The Company has historically grown by applying its technological competence
to the development of network security technology and products for use in the
complex computer networks of financial, corporate and government clients. The
Company's focus on technology has led to a family of products which have reduced
the complexity and cost associated with applying security technology to computer
networks. The SafeNet product line provides a complete, IPSec
standards-compliant VPN solution with centralized security and policy
management. The Company believes that this focus on leading edge technology is
vital for its future growth and will continue to invest its resources
accordingly.

   Leverage our OEM technology and relationships

   The Company believes that, due to the fact that security is a major concern
among network users, manufacturers of computer and communications products are
adding security capabilities for networking and telecom applications. The
Company also believes that organizations will acquire VPN products from OEM's.
Consequently, the Company has developed an initial family of products, which can
be incorporated into computers and communications products manufactured by
others. Such products include SafeNet/DSP, the industry's fastest VPN "system on
a chip".

   The Company has established significant OEM relationships in the past year,
embedding its SafeNet VPN technology in leading communication vendors products.
Management believes these relationships may assist us in a



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more widespread deployment of our SafeNet VPN technology. Current OEM
relationships include Cisco Systems, Lucent Technologies, and Nortel Networks,
all of which have selected SafeNet VPN technology either in the form of software
or chips.

   Support customer implementations with world class services

   The Company believes providing its customers the services necessary to
support a VPN solution is an integral part of our VPN offering. In 1996, the
Company established the SafeNet/Trusted Services facility at Company
headquarters to provide 24 hour a day, 365 day a year customer support services,
including security and policy management, subscriber enrollment, product
configuration, digital certificates, and Certificate Authority services to
Internet access providers and directly to end users.

PRODUCT DESIGN STANDARDS

   Network Security technologies are utilized by the Company to provide
selective access to computer networks, prevent electronic eavesdropping or
alteration during electronic data transmission; to provide message
authentication confirming that messages are received in unaltered form; and to
enable user authentication and digital signatures verifying the identity of the
message sender and limiting computer access to authorized users. The Company
offers a choice of encryption algorithms to provide the level of network
security appropriate for each client application.

   All of the Company's network security systems and products comply with the
following general product design standards:

   Standards Compliance

   The Company's policy is to offer products based upon encryption algorithms
that have been approved as industry and government standards. This provides the
Company's clients assurance that they are using interoperable products which
meet commercial reasonability tests as applied by both government regulation and
courts of law.

   Network Compatibility

   The Company's systems and products contain sufficient intelligence to
accommodate the specific communication protocols employed by complex computer
networks. Appropriate models of each product type are provided to support Frame
Relay, Dial Asynchronous, leased line, X.25, Bisync and Internet protocol-based
networks. This network compatibility results in security systems that are
completely independent of the computer hardware systems and software application
programs used by clients. No modifications to hardware or application software
are required to implement the Company's systems and products.

   Interoperability

   Management believes the market opportunity for VPN technology and products
increases dramatically when vendors' product offerings become interoperable. The
Company's commitment to the IPSec standard and multi-vendor interoperability is
utilized in existing and planned product offerings. For example,
SafeNet/Soft-PK(TM) is an International Computer Security Association certified,
IPSec interoperable client software offering.

   Ease of Use

   The Company believes that users of its products, while concerned that their
data is secure, do not wish to be required to take specific actions to achieve
secure status. Therefore, the Company's products are designed to function
without user involvement, thus offering an extremely high level of ease of use.



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   Ease of Management and Administration

   The Company has extended its ease of use concept to the central management of
a secure network with a product known as the SafeNet/Security Center(TM)
("SSC"). The SSC provides central management and tracking capability for the
entire encrypted network thus reducing the cost of implementing security for
client organizations. For organizations aiming to defer capital and personnel
investment, the Company's SafeNet/Trusted Services facility provides
comprehensive security management as an optional service performed at the
Company's headquarters.

   Price Performance Criteria

   The Company believes that in order for clients to invest in encryption
technology, its products must be implemented cost effectively. As such, the
Company's development staff follows a design approach similar to that used with
consumer electronics products that are designed for low manufacturing cost.

ENCRYPTION ALGORITHMS

      At present, the Company's products employ a variety of encryption
algorithms including the U.S. Government Data Encryption Standard, ("DES"), RSA
Data Security Inc. Encryption Standard, ("RSA") and Gretacoder Data Systems
Encryption Standard, ("GDSES"). DES, as described in American National Standards
Institute ("ANSI") Standard X3.92, has been certified by the National Institute
of Standards and Technology ("NIST") and is the accepted encryption algorithm
for commercial and non-classified government applications in the U.S. as well as
financial applications worldwide. The Company also supports a stronger version
of DES know as Triple DES (3DES) which features longer and more secure key
lengths to insure that transmissions are secure. The Company has received export
approval from the U.S. Commerce Department to export its products with the DES
and 3DES algorithms.

   The Company holds a license to use RSA; a leading public key based encryption
algorithm. RSA is used in Company products to generate and verify digital
signatures as well as for key management purposes.

   GDSES is a strong algorithm employing encryption keys, which are much longer
than keys in algorithms that are exportable from the United States. GDSES is
used by security conscious European organizations including banks and
governments.

   New encryption algorithms are periodically proposed as industry standards.
The Company's policy is to adopt and offer its clients new algorithms for
various applications as they become certified by standards organizations such as
ANSI, NIST and the Internet Engineering Task Force.

CURRENT NETWORK SECURITY PRODUCTS AND SYSTEMS

Public Network/Internet Products

   SafeNet Products. In 1995, the Company introduced its SafeNet product line
including a comprehensive centrally managed security system that enables secure
use of public networks, such as the Internet, for private business transactions.
By providing a high level of security, SafeNet allows organizations to reduce
their networking costs by using the Internet instead of costly private networks.
The product line includes:

      -  SafeNet/Smartcard(TM) , a credit card user token that stores user
         identification and encryption keys in an advanced computer chip;

      -  SafeNet/Soft (TM) , a Windows compatible software package that provides
         continuous user authentication, one-time password generation and data
         encryption;


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      -  SafeNet/Soft-PK(TM) , a Windows compatible, ICSA-certified, IPSec
         interoperable client software package that provides continuous user
         authentication, one-time password generation and data encryption;

      -  SafeNet/Speed(TM) , an encrypting Gateway which provides security for
         LAN connections to the Internet, as well as packet filtering;

      -  SafeNet/Dial(TM), a secure pocket modem operating at 28.8 bps for
         secure dial access to the Internet by remote users such as traveling
         professionals and telecommuters;

      -  SafeNet/Dial-R(TM) , provides security identical to the
         SafeNet/Dial(TM), without the integral modem;

      -  SafeNet/Security Center(TM), a high performance workstation which
         automatically manages the entire suite of SafeNet products;

      -  SafeNet/Trusted Services(TM), provides central management of VPN
         security as a service 24 hours a day, 365 days a year.

   In 1998, the Company introduced IPSec Plus which has functionality currently
not offered as part of IPSec that SafeNet products normally provide such as: (1)
integrated user authentication, (2) policy set-up, download, and management, and
(3) access control groups and checking that add IPSec compliant public key to
the family of SafeNet products. This new public key mode of operation includes
support for Internet Key Exchange, DES and Triple DES algorithms and message
authentication algorithms.

   Private Network Products

   Secure Modems. In 1994, the Company introduced its AX400 Secure Modem. The
AX400 is a portable device that fits in the palm of a user's hand, weighs just a
few ounces and uses power from the remote computer. It contains an internal
modem that delivers a 14.4K bps data rate while in secure operation using
standards compliant encryption technology. The AX400 also generates a random
password for each communications session when a user enters the appropriate
personal identification number. Due to its small size, user authentication and
data protection capabilities, the AX400 is convenient for mobile or remote
users.

   Secure Dial Access Systems. These products are designed to protect data
communications when remote users access host computers via the voice telephone
network and are most commonly employed when personal computers are communicating
with central computer sites, such as company headquarters. Since computer
communications are taking place over normal, unsecured telephone lines, some
type of security is frequently required in these applications.

   Frame Relay Encryptors. The Frame Relay encryptor combines the advantages of
circuit and packet switched services: small delays over the network and lower
transmission cost. The properties of Frame Relay make it especially suitable for
LAN interconnections where bursty traffic has to be transmitted. Applications
include cash clearing, stock clearing and wire transfers.

   X.25 Security Systems. Complex computer networks such as X.25 networks break
down the data stream sent from computers into smaller, more manageable pieces
called, "packets" which contain address and routing information as well as user
data. The X.25 Security System selectively applies encryption technology only to
the user's data while leaving address and routing information intact, thus
assuring proper delivery of user data in secure form at minimal expense.

   Link Security Systems. While dedicated links are inherently more secure than
dial networks, the nature of the data that is frequently transmitted over
dedicated lines (the connections to bank branch offices, for instance) often
requires a high level of security. The Company's products are designed to
protect synchronous or asynchronous communications at speeds up to 64K bps over
dedicated telephone lines. Products, which meet European Union



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standards, are designed to protect synchronous or asynchronous communications at
speeds up to 2M bps over dedicated telephone lines. The Link Security Systems
are protocol transparent and supports asynchronous, bisynchronous, SDLC and HDLC
communications protocols.

NEW PRODUCT DEVELOPMENT

   The Company conducts product development activities to increase the size of
its available market through broader product offerings and to reduce the cost of
its products resulting in more competitive pricing and/or better operating
margins.

   Newer encryption algorithms such as the digital signature standard, escrowed
encryption and RSA utilize a technology generally known as public key
encryption. In the last year, the Company has integrated these new technologies
into its IPSec compliant public key products.

   In 1998, the Company has developed and introduced a family of chip based OEM
products.

      -  SafeNet/DSP (ADSP 2141L) designed in conjunction with Analog Devices,
         Inc. ("ADI"), a leading manufacturer of high performance integrated
         circuits, provides IPSec on a single chip and is designed to be
         imbedded within networking equipment such as routers, firewalls and
         switches in order to enable them for highly secured virtual private
         networking. The SafeNet/DSP is a unique product offering in that it
         provides the highest cryptographic throughput available and it is the
         only integrated circuit available, which provides all of the
         cryptographic operations required for IPSec on a single chip at
         throughputs of OC-3 rates.

      -  SafeNet/CryptSet is a high throughput chipset that allows ATM, Fast
         Ethernet and T-3 Communications.

      -  SafeNet/Eurocrypt is a high-speed encryption chip designed and
         manufactured by GDS. The chip employs the 3DES algorithm. Since
         this chip was entirely developed and manufactured outside the
         United States, the Company believes that it is not subject to
         U.S. Government export controls.

   The Company considers the SafeNet/DSP to be the first in a line of
cryptographic processors utilizing integrated circuit technology. Future
versions of this chip will incorporate additional features and will comply with
emerging IPSec standard that are still under development. The Company also
intends to design its SafeNet/DSP into its line of SafeNet products, which will
benefit from the throughput speed and security provided.

   The Company is currently devoting significant resources toward new product
development activities. There can be no assurance that the Company will
successfully complete the development of these products in a timely fashion or
that the Company's current or planned products will satisfy the needs of the
computer and network security market.

PRINCIPAL CLIENTS

   The Company focuses its end-user marketing efforts on financial, commercial
and government sales.

   The Company's largest clients vary from year to year and the Company has
experienced shifts in sales patterns with large clients in the past.
Accordingly, the complete loss of any large client or substantial reduction of
sales to such clients could have a material adverse effect on the Company. In
1998, two commercial clients accounted for 24% of revenues; in 1997 one
commercial client accounted for 15% of revenue; and in 1996, one commercial
client accounted for 27% of revenues.



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Financial Clients

   Sales to financial institutions are a central part of the Company's business.
The Company's products are used by 13 of the top 15 United States banks. The
Company's network security systems and products are used by banks to protect
corporate cash management applications. In these systems, financial officers
located at corporations use personal computers to dial into the bank's computing
facility in order to transfer funds electronically.

   Euroclear is the world's largest provider of security clearinghouse services
to over 1,400 large international banks and brokerage firms. A consortium of 120
international financial institutions owns Euroclear. The Company's network
security systems and products are used to protect the money transfer service
available to Euroclear participants. When the participant authorizes a wire
transfer for payment, the Company's network security systems and products
protect the transfer. Participants who wish to use the wire transfer service are
required to purchase the Company's remote security devices which provide message
authentication, user authentication and data encryption for the participant's
funds transfers communications.

   GDS products are utilized commercially in several countries to protect
financial transactions from wiretapping and fraudulent data manipulation.
Several foreign banks and other financial institutions use GDS products to
protect their electronically transmitted transactions, including Union Bank of
Switzerland, Swiss Interbank Clearing, SWIFT, European Payment Systems Services,
Societa Interbancaria per l'Automazione S.p.A., and Swiss Securities Clearing
Operation.

Commercial Clients

   The Company's products are used by Hewlett-Packard, Impath, Lockheed Martin,
GTE, Diebold and BDM. The Company's security systems and products are utilized
by these companies to protect sensitive information traveling across telephone
and computer networks.

Government Clients

   The U.S. Department of Treasury uses the Company's network security systems
and products to protect the electronic payment of the government's bills for
civilian agencies, securing approximately 750 million payment requests each
year, with an annual value of more than $700 billion. In the electronic
certification system provided to the U.S. Department of Treasury, the Company's
products verify the integrity of electronic payment orders using message and
user authentication.

   Other government agencies deploying the Company's systems and products
include the Internal Revenue Service, Federal Bureau of Investigation, National
Crime Information Network, U.S. Drug Enforcement Agency and U.S. Customs
Service. The Company's security systems and products are utilized by these
agencies to protect sensitive information traveling across telephone and
computer networks.

CLIENT SUPPORT AND PRODUCT WARRANTIES

   The Company provides support for clients through a staff of support engineers
knowledgeable in both the Company's network security systems and products and
complex computer networks. In addition to supporting clients, this group of
engineers performs system level quality assurance testing of new products and
product enhancements.

   The Company provides client telephone support, including 24 hour a day "hot
line" support. In addition, the Company offers on-site training, installation
and trouble-shooting services, generally on a fee basis.

   The Company provides limited warranties on its products for one year from
acceptance of a product. After warranty expiration, clients may purchase an
extended warranty support contract. This contract extends warranty service for
an additional one year period, providing repair or replacement of defective
products, telephone support,


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software and firmware support, regular maintenance releases for products and
early access to major product enhancements. The Company also offers support on a
time and materials basis.

SALES AND MARKETING

Sales

   In 1998, the Company continued the transition to indirect distribution
channels in order to expand worldwide sales coverage. In North America, the
Company sells its products primarily through Value Added Resellers and Internet
Service Providers. In Europe, the Company sells its products through a direct
sales force. Outside of such territories, the Company sells its products through
distributors of communication or information security products. A global sales
organization provides support for these distribution channels.

Marketing

   In 1998, the Company's marketing program emphasized continued trade show
participation and increased coverage of the Company's technology and products in
leading trade publications. The Company has increased its emphasis on developing
awareness of the SafeNet brand through its public relations efforts and joint
marketing arrangements with our strategic relationships. The Company has also
increased its use of direct marketing programs through email, direct mail, and
web-based promotions. The Company has instituted the process of customer focus
groups to ascertain the requirements of our existing and prospective end-user
and OEM customers.

INVENTORY, SUPPLIES AND MANUFACTURING

   Components for the Company's products are purchased from a limited number of
electronic parts manufacturers and distributors. Electronic assembly firms are
used to mount components onto printed circuit boards according to designs and
instructions provided by the Company's engineers. Since the components are
readily available from other suppliers and since there are several electronic
assembly firms available, a change in suppliers would not have a material effect
on the Company's operations. However, while the Company has not experienced any
significant supply problems in the past, it is possible that in the future the
Company may encounter shortages in parts, components, or other elements vital to
the manufacture, production and sale of its products.

   GDS operations are quality certified according to ISO 9001 and EN 29001. This
is meant to ensure that quality control procedures satisfying the requirements
of these standards are maintained in all processes performed by GDS. Actual
compliance and control are checked by semi-annual third party audits. In
addition to manufacturing, such certifications also extend to marketing, sales
and administration.

   The Company anticipates that it will continue to utilize qualified suppliers
and electronic assembly firms to produce sub-assemblies. The Company presently
performs system integration, final assembly and testing which consists of
assembling the cases containing the product components; attaching integrated
circuits, which contain the specific computer instructions and algorithms, to
printed circuit boards; labeling; adding serial numbers; testing; packaging and
shipping. The Company has and will continue to utilize contract manufacturers
for products requiring high volume production.

   While the Company and ADI jointly developed the SafeNet/DSP, ADI will be the
manufacturer and point of procurement for the chip.

COMPETITION

   The network security market is highly competitive and subject to rapid
technological changes. The Company believes that competition in this market is
likely to intensify as a result of increasing demand for network security
products. There are several companies in this field that have been established
longer than the Company, and have greater financial, research, service support
and marketing resources than those of the Company. There is also a



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number of other data encryption methods on the market, both hardware and
software, which compete with the Company's products.

   Management believes that the principal competitive factors affecting the
network security market include standards compliance, quality/reliability,
technical features, network compatibility, ease of use, client service and
support, distribution and price. Although the Company believes its products
currently compete favorably with respect to such factors, there can be no
assurance that the Company can maintain its competitive position against current
and potential competitors.

   If the network security market continues to develop, it will likely be
characterized by rapid advances in technology and the continuing introduction of
new products which could render the existing technology upon which the Company's
products are based obsolete or non-competitive. This risk will increase to the
extent that the Company's competitors include manufacturers of computer
equipment and modems to which the Company's products relate, since such
manufacturers may be in a better position than the Company to develop security
products in anticipation of developments in their computer equipment.

INTELLECTUAL PROPERTY

   Between 1996 and 1999, the Company was awarded three United States Patents
covering portable encrypting and authenticating network interface devices such
as modems. The patents provide the Company with ownership rights to a technology
that the Company believes will be applicable to the growth of computer networks,
such as the Internet. The patents cover various forms of pocket-sized devices
including PCMCIA and Smartcard-based secure tokens and are adaptable to modems
and newer network technologies including ISDN, ADSL and cable modems. The
Company's products covered by the patents include the SafeNet/Dial(TM) and the
AX400. Additional foreign patent applications, which cover the same products and
technology, are pending.

   The Company has filed eleven United States patent applications and an
international (PCT) application related to its SafeNet/DSP integrated circuit
development activities.

   The Company has acquired a worldwide license under a United States Patent for
a self-authenticating fingerprint identification card for certain computer
security and financial applications from ID Technologies Corporation.

   The computer software source codes, which are essential elements of the
Company's products, are the proprietary trade secrets of and are copyrighted by
the Company. The protection of proprietary technology and information developed
by the Company will be limited to such protection as the Company may be able to
secure pursuant to trade secret or copyright laws or under any confidentiality
agreements which it may enter. The Company owns federally registered trademarks
for the Company name and for certain of its products; however, there is no
assurance as to the validity, enforceability or lack of infringement of such
trademarks.

   At present, the Company is a party to confidentiality agreements with its
officers, directors and employees. There can be no assurance that the scope of
any such protection the Company is able to secure will be adequate to protect
its proprietary information, or that the Company will have the financial
resources to engage in litigation against parties who may infringe such
proprietary technology or copyrights. In addition, there can be no assurance
that others will not develop similar technology independently of the Company.

   The Company believes that its products do not infringe the proprietary rights
of third parties. There can be no assurance, however, that third parties will
not assert infringement claims in the future.

EMPLOYEES

   As of March 19, 1999, the Company had approximately 125 full time employees,
of whom 16 are engaged in assembly and quality control, 13 in administration and
financial control, 56 in engineering, development and client



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support, and 40 in marketing and sales. The Company employs 93 full time
employees in the United States and 32 employees are in Switzerland.

   ITEM 2 - PROPERTIES

   The Company maintains its corporate and administrative facilities at 8029
Corporate Drive, Baltimore, Maryland. The building, constructed in 1988, has
approximately 25,000 square feet and is also used for the Company's executive
headquarters, United States production and SafeNet Trusted Services facilities.
The lease, which expires in June 2003, requires the Company to pay real estate
taxes, insurance and maintenance. The lease, which provides for annual increases
in rentals during each year of the lease, requires the Company to pay
approximately $184,000 in 1999.

   GDS leases approximately 20,000 square feet for its administrative and
production facilities in Regensdorf, Switzerland. The lease, which expires on
December 31, 2003, calls for an annual rental of approximately $275,000.

   The Company also leases office space in Danvers, Massachusetts and Bethesda,
Maryland at annual aggregate rental of approximately $90,000.

ITEM 3 - LEGAL PROCEEDINGS

   The Company knows of no litigation or proceeding, pending or threatened, to
which the Company is or may become a party.

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

   There were no matters submitted to the vote of Security Holders, through the
solicitation of proxies or otherwise, during the fourth quarter of the fiscal
year covered by this report.

                                     PART II

ITEM 5 - MARKET FOR COMMON EQUITY AND RELATED MATTERS

   The Company's Common Stock is listed on the Nasdaq National Market under the
symbol IREG. The following table sets forth the quarterly range of per share
high and low sales prices for the Company's Common Stock as reported by the
Nasdaq National Market for the periods indicated.

<TABLE>
<CAPTION>
                                              HIGH     LOW
                                              ----     ---
<S>                                        <C>      <C>  
            1999:
              First Quarter (through
            March 19, 1999)                  $20.88   $9.06
            1998:
              Fourth Quarter                  10.94    3.56
              Third Quarter                    8.00    2.75
              Second Quarter                   9.00    6.75
              First Quarter                    9.13    5.75
            1997:
              Fourth Quarter                  11.38    6.00
              Third Quarter                   15.75   10.63
              Second Quarter                  14.50    6.25
              First Quarter                   10.75    6.88
</TABLE>

   On March 19, 1999, the last reported per share sale price of the Company's
Common Stock on the Nasdaq National Market was $15.75. As of that date, there
were approximately 163 holders of record of the Common Stock



                                       11
<PAGE>   12

and 3,500 beneficial holders of the Common Stock. The Company has not paid
dividends on its Common Stock and intends for the foreseeable future to retain
earnings, if any, to finance the expansion and development of its business.

ITEM 6 - SELECTED FINANCIAL DATA

   The selected financial data set forth below as of and for each of the
five-years ended December 31, 1998 are derived from the Consolidated Financial
Statements of the Company, which financial statements have been audited by KPMG
LLP. The Consolidated Financial Statements as of December 31, 1998 and 1997 and
for each of the years in the three-year period ended December 31, 1998 are
included elsewhere herein. The selected financial data is qualified by and
should be read in conjunction with the Consolidated Financial Statements and
Management's Discussion and Analysis of Financial Condition and Results of
Operations included elsewhere herein.

<TABLE>
<CAPTION>
                                                                 Year Ended December 31,
                                                 ------------------------------------------------------ 
(in thousands, except per share data)               1998        1997        1996       1995        1994
                                                 --------    --------    --------    -------    ------- 

<S>                                              <C>         <C>         <C>         <C>        <C>    
Statement of Operations Data:
Revenues                                         $ 23,242    $ 16,007    $ 14,317    $ 8,149    $ 3,424
Cost of revenues                                    9,793       6,971       7,672      3,318      1,233
                                                 --------    --------    --------    -------    ------- 
           Gross profit                            13,449       9,036       6,645      4,831      2,191

Operating expenses:
Research and development expenses                   4,625       3,756       3,840      1,299        906
Sales and marketing expenses                        7,312       6,720       4,693      1,979      1,083
General and administrative expenses                 2,944       2,571       2,976      1,331        705
Amortization of acquired intangible assets            122         122         733        631        410
Reserve for CyberGuard advance                        772           -           -          -          -
Write-off of unamortized acquired intangible
      assets from the Connective Strategies,
      Inc. acquisition                                  -           -       2,216          -          -
                                                 --------    --------    --------    -------    ------- 
           Total operating expenses                15,775      13,169      14,458      5,240      3,104

           Operating loss                          (2,326)     (4,133)     (7,813)      (409)      (913)

Interest income (expense), net                        259         495         728        (96)        24
                                                 --------    --------    --------    -------    ------- 

           Earnings (loss) before income taxes     (2,067)     (3,638)     (7,085)      (505)      (889)

Income tax expense (benefit)                          319           -           -        190       (173)
                                                 --------    --------    --------    -------    ------- 

           Net earnings (loss)                     (2,386)     (3,638)     (7,085)      (695)      (716)

Preferred stock dividends                               -           -           -         82         85
                                                 --------    --------    --------    -------    ------- 
           Net loss attributable to
           common stock                          $ (2,386)   $ (3,638)   $ (7,085)   $  (777)   $  (801)
                                                 ========    ========    ========    =======    ======= 

Loss per common share-basic and diluted          $  (0.44)   $  (0.67)   $  (1.34)   $ (0.20)   $ (0.25)
                                                 ========    ========    ========    =======    ======= 

Weighted average number of common
           shares outstanding                       5,409       5,462       5,305      3,826      3,229
                                                 ========    ========    ========    =======    ======= 
</TABLE>



                                       12
<PAGE>   13

<TABLE>
<CAPTION>
                                        At December 31,
                       ----------------------------------------------
(in thousands)           1998      1997      1996      1995     1994
                       -------   -------   -------   -------   ------
<S>                    <C>       <C>       <C>       <C>       <C>   

Balance Sheet Data:
Working capital        $11,081   $12,499   $16,664   $ 2,186   $  671
Intangible assets        2,159     2,365     2,223     4,927    3,974
Total assets            18,940    21,531    24,653    15,472    7,724
Long-term debt               -         -        17        47      116
Stockholders' equity    15,400    17,980    21,861     8,216    5,405
</TABLE>


ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

   Except for historical information contained herein, the statements in this
Item are forward-looking statements that are made pursuant to the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995.
Forward-looking statements involve known and unknown risks and uncertainties,
which may cause the Company's actual results in future periods to differ
materially from forecasted results. Those risks include, among others, risks
associated with the receipt and timing of future customer orders, price
pressures, achieving technical and product development milestones, the ability
to negotiate favorable strategic OEM agreements, sufficient cash flow to support
the Company's liquidity requirements, other competitive factors leading to a
decrease in anticipated revenues and gross profit margins, product development
expenses and Year 2000 issues.

OVERVIEW

   The Company designs, manufactures and markets enterprise network security
solutions using encryption technology. The Company's products are used in
electronic commerce applications by financial institutions, government agencies
and large corporations to secure data transmissions on private and public
computer networks, such as the Internet. GDS designs, manufactures and markets
cryptographic equipment primarily in Switzerland and Europe.

   The Company's historical operating results have been dependent on a variety
of factors including, but not limited to, the length of the sales cycle, the
timing of orders from and shipments to clients, product development expenses and
the timing of development and introduction of new products. The Company's
expense levels are based, in part, on expectations of future revenues. The size
and timing of the Company's historical revenues have varied substantially from
quarter to quarter and year to year. Accordingly, the results of a particular
period, or period to period comparisons of recorded sales and profits may not be
indicative of future operating results.

   While Management is committed to the long-term profitability of the Company,
the recent growth of the computer security industry has made it important that
market share be obtained. The Company has undertaken various strategies in order
to increase its revenues and improve its future operating results, including new
product offerings such as its SafeNet products for the Internet and the
SafeNet/Security Center(TM), a high performance workstation that automatically
manages SafeNet products and the development of integrated circuits for the
original equipment market. Management believes that growth in the market for
products that provide secure remote access to computer networks requires the
Company to increase its investment in development, sales and marketing
activities to allow the Company to take advantage of this market opportunity and
to achieve long-term profitability thereby maximizing shareholder value.
However, there can be no assurance that these strategies will be successful.



                                       13
<PAGE>   14



RESULTS OF OPERATIONS OF THE COMPANY

   The following table sets forth certain Consolidated Statement of Operations
data of the Company as a percentage of revenues for the years ended December 31:

<TABLE>
<CAPTION>
                                                      1998     1997     1996
                                                     -------  -------  -------
<S>                                                   <C>      <C>      <C> 
Revenues ..........................................    100%     100%     100%
Cost of revenues ..................................     42       44       54
                                                     -------  -------  -------
                 Gross profit .....................     58       56       46
                                                     -------  -------  -------
Operating expenses:
Research and development expenses .................     20       23       27
Sales and marketing expenses ......................     31       42       32
General and administrative expenses ...............     13       16       21
Amortization of acquired intangible assets ........      1        1        5
Reserve for CyberGuard advance ....................      3        -        -
Write-off of unamortized acquired intangible assets
        from the CSI acquisition ..................      -        -       15
                                                     -------  -------  -------
                 Total operating expenses .........     68       82      100
                                                     -------  -------  -------
                 Operating loss ...................    (10)     (26)     (54)
Interest income, net ..............................      1        3        5
                                                     -------  -------  -------
                 Loss before income tax expense ...     (9)     (23)     (49)
Income tax expense ................................      1        -        -
                                                     -------  -------  -------
                 Net loss .........................    (10)%    (23)%    (49)%
                                                     =======  =======  =======
</TABLE>

   The Company has two reportable segments: network security products designed
and manufactured in the United States ("domestic operations") and network
security products designed and manufactured outside the United States ("European
operations"). The segments are strategic business units that offer different
products. The segments are managed separately because each segment requires
different technology and marketing strategies. The domestic operations include
some international sales mainly to South America and Asia.

Year ended December 31, 1998, Compared to Year ended December 31, 1997

   Revenues increased 45%, or $7,235,000, to $23,242,000 for the year ended
December 31, 1998, from $16,007,000 in 1997. Of the increase, $6,144,000 is the
result of a strong performance by the European operations where large quantities
of the Company's products were delivered to several financial institutions in
Europe. The remainder of the increase, $1,091,000 is attributable to network
security systems, services and products of the domestic operations.

   Gross margin increased to 58% for the year ended December 31, 1998, from 56%
in 1997. Higher margins on products in the European operations as a result of
changes in product mix offset a decline in margins in the domestic operations
due to a decline in product development margins.

   Research and development expenses increased 23%, or $869,000, to $4,625,000
for the year ended December 31, 1998, from $3,756,000 for 1997. The increase was
primarily due to increased personnel related costs and increased outside
engineering expenses related to the Company's integrated circuit development
projects in the domestic operations. As a percentage of revenues, the expenses
were 20% and 23% in 1998 and 1997, respectively.

   Sales and marketing expenses increased by 9%, or $592,000, to $7,312,000 for
the year ended December 31, 1998, from $6,720,000 in 1997. The increase is
primarily due to increased public relations and marketing activities by the
domestic operations. As a percentage of revenues, the expenses were 31% and 42%
in 1998 and 1997, respectively.

   General and administrative expenses ("G&A") increased by 15%, or $373,000, to
$2,944,000 for the year ended December 31, 1998, from $2,571,000 in 1997. The
primary reasons for the increase were the professional fees, mailing



                                       14
<PAGE>   15



and printing costs and other expenses related to an extended, contested and
litigated proxy solicitation process for the election of directors. At the
conclusion of the proxy contest, the Company's shareholders voted, by a wide
margin, for incumbent directors. The expenses associated with that process were
$333,000. As a percentage of revenues, G&A expenses were 13% and 16% in 1998 and
1997, respectively.

   In August 1996, the Company signed a two year Joint Development and Marketing
Agreement with CyberGuard Corporation ("CyberGuard"). The companies intended to
develop and market a product that combined the Company's SafeNet products and
CyberGuard's Firewall product. In connection therewith, the Company prepaid a
refundable license fee to CyberGuard.

   In June 1998, a Distribution Agreement and an Original Equipment Agreement
replaced the original agreement. Under these agreements, CyberGuard agreed to
repay on December 31, 1998 the original $1,000,000 advance less used license
fees and a right to manufacture fee. CyberGuard has failed to honor its
obligation to repay the unused license fee. Since the Company cannot ascertain
the ultimate viability of CyberGuard as a result of its August 1998 announcement
that it was experiencing significant pressure on its liquidity and the January
1999 delisting of CyberGuard's securities from the Nasdaq Stock Market, the
Company reserved the remaining balance ($772,000).

   The operating loss decreased by 44% or $1,806,000 to $2,326,000 in 1998 from
$4,133,000 in 1997. The European operations had a $4,006,000 increase in
operating profit due to higher revenues and improved gross margins. The domestic
segment had a $2,200,000 increase in its operating loss mainly due to increased
engineering and marketing expenses, expenses associated with the proxy contest
and the CyberGuard reserve.

   The decline in interest income is due to lower interest rates and a decline
in funds available for investment.

   The income tax expense of $319,000 for the year ended December 31, 1998 was
for taxes on the income of the European operations, which had no income tax
liability in 1997. The Company had no United States income tax benefit in either
year. A valuation allowance for the full amount of the United States net
deferred tax asset has been established since the Company's ability to use the
United States net operating loss is dependent upon future taxable income.

   The Company had a net loss of $2,386,000 for the year ended December 31, 1998
compared to a net loss of $3,638,000 in 1997. The loss per common share (basic
and diluted) was $0.44 for the year ended December 31, 1998, compared to a net
loss of $0.67 per common share in 1997.

Year ended December 31, 1997, Compared to Year ended December 31, 1996

   Revenues increased 12%, or $1,690,000, to $16,007,000 for the year ended
December 31, 1997, from $14,317,000 in 1996. During 1997, the domestic
operations were able to generate revenues from new and existing clients that
more than offset the loss of revenue due to the 1996 termination of the product
agreement with MCI Telecommunications Corporation ("MCI"), and lower revenues
from the European operations. The revenue increase for the domestic operations
in 1997 was primarily a result of the increased level of product development
services provided by the engineering function. The decrease in revenues from
European operations was due to a decline in the 1997 average exchange rate
compared with the average 1996 rate.

         Gross margin increased to 56% for the year ended December 31, 1997,
from 46% for 1996. During 1996, the domestic operations realized a lower gross
margin on the SafeNet dial access products sold to MCI. Also the 1996 cost of
revenues for European operations included $236,000 for amortization of a
purchase accounting adjustment to the carrying value of inventory. In 1997, the
shift towards sales of higher gross margin products and the shift in the product
mix towards software-based products contributed to the increased margin in both
operations.

   Sales and marketing expenses accounted for more than the entire increase in
operating expenses, with a total of $6,720,000 for the year ended December 31,
1997 compared to $4,693,000 in 1996, an increase of $2,028,000, or 43%. The
increase in sales and marketing expense was primarily a result of increased
spending on personnel and increased focus on marketing efforts by the domestic
operations.


                                       15
<PAGE>   16



    General and administrative expense decreased by 14% to $2,570,000 for the
year ended December 31, 1997, compared to $2,976,000 in 1996, which
included start up expenses associated with the SafeNet Trusted Services
facility.

   The Company had a net operating loss of $4,133,000 for the year ended
December 31, 1997, compared to $7,813,000 in 1996. The domestic operations had
an operating loss decrease of $3,339,000 since the 1996 operating loss included
a $2,216,000 charge for the write-off of acquired intangible assets from the
acquisitions of Connective Strategies, Inc. ("CSI") as well as $610,000 for the
yearly amortization of those assets. The remainder of the improvement was the
result of higher gross margin on revenues being offset by increased sales and
marketing expenses. European operations had a net operating loss improvement of
$341,000 mainly because 1996 was negatively impacted by a $236,000 charge for
the amortization of a purchase accounting adjustment to the carrying value of
inventory.

   The decline in interest income is due to lower interest rates and a decline
in funds available for investment.

   The Company had no income tax benefit in either of the years in the two-year
period ended December 31, 1997. A valuation allowance was established in each
year since the Company's ability to fully use the net operating loss is
dependent upon future taxable income.

   The Company had a net loss of $3,638,000 for the year ended December 31,
1997, compared to a net loss of $7,085,000 in 1996. The loss per common share
(basic and diluted) was $0.67 for the year ended December 31, 1997, compared to
a loss of $1.34 per share in 1996.

LIQUIDITY AND FINANCIAL POSITION OF THE COMPANY

   The Company believes that its current cash resources, together with the cash
flows from operations, will be sufficient to meet its needs for the next year.
As of December 31, 1998, the Company had working capital of $11,081,000
including cash and cash equivalents of $5,866,000.

   Significant uses of the Company's financial resources in 1998 include
$2,291,000 in operating activities, and $696,000 for the purchase of treasury
stock. The accounts receivable increase of $1,527,000 and the inventory increase
of $512,000 were primarily in the European operations.

                                    YEAR 2000

   Many currently installed computer systems and software products are coded to
accept only two digit entries in the date code field. These date code fields
will need to accept four digit entries to distinguish 21st century dates from
20th century dates. As a result, software and computer systems may need to be
upgraded or replaced in order to comply with such "Year 2000" requirements. The
Company believes that its products have been made Year 2000 compliant in the
ordinary course of business. In addition, the Company utilizes third-party
equipment and software in its operations that may not be Year 2000 compliant.
Failure of such third-party equipment or software to operate properly with
regard to the year 2000 and thereafter could require the Company to incur
unanticipated expenses to remedy any problems, which could have a material
adverse effect on the Company's business, financial condition, and results of
operations.

   The Company has formed a Year 2000 task force. The task force consists of
employees with expertise in areas the Company believes could be affected if not
Year 2000 compliant. It has undertaken a program to address the Year 2000 issue
with respect to the Company's information systems, non-information systems and
certain systems of its major customers and suppliers. The objective of this task
force is to assess the problem, to develop remedies, to test the remedies and to
prepare contingency plans.

   The Company has reviewed its information systems and believes that they are
substantially in compliance with Year 2000 requirements and that any remedial
efforts and incremental costs to complete this process will not have a material
impact on its operations or financial results. It is expected that the Company
will have any required remediation and testing completed by June 30, 1999.



                                       16
<PAGE>   17


   An assessment of non-information systems, which include telephone and
security systems, has commenced. The Company expects to complete this assessment
by April 30, 1999 and the Company expects to complete remediation, if required,
by June 30, 1999. Until this assessment is completed the Company is unable to
ascertain the costs related to the remediation and testing of these systems.

   As part of the program of the task force, communications will be initiated
with key suppliers and customers to determine the extent to which the Company is
vulnerable to such parties' failure to remediate Year 2000 issues. Furthermore,
the purchasing patterns of customers or potential customers may be affected by
Year 2000 issues as companies expend significant resources to correct their
current systems for Year 2000 compliance. These expenditures may result in
reduced funds available to implement the infrastructure needed to conduct
trusted and secure communications and commerce over information networks or to
purchase products and services such as those offered by the Company, which could
have a material adverse effect on the Company's business, operating results,
financial condition, and results of operations.

                            INFLATION AND SEASONALITY

    The Company does not believe that inflation will significantly impact its
business. The Company does not believe its business is seasonal, however,
because the Company recognizes revenues upon shipment of finished products, such
recognition may be irregular and uneven, thereby disparately impacting quarterly
operating results and balance sheet comparisons.

                         CHANGE IN ACCOUNTING STANDARDS

   In 1998, the Financial Accounting Standards Board issued SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities. SFAS No. 133
establishes accounting and reporting standards for derivative instruments and
for hedging activities. It requires that an entity recognize all derivatives as
either assets or liabilities at fair value. Adoption of SFAS No. 133 is required
for the fiscal year 2000 and is not expected to have a material impact on the
Company's financial position or results of operations.

ITEM 7A - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

   The Company's major market risk is to fluctuations in foreign currency
exchange rates, principally related to the Swiss Franc. As of December 31, 1998,
the Company's investment in GDS was approximately $7,940,000. A 10% change in
the average Swiss Franc exchange rate for the year ended December 31, 1998 would
have changed the Company's reported earnings for fiscal year 1998 by
approximately $380,000. A 10% change in the December 31, 1998 Swiss Franc
exchange rate would have changed the Company's reported currency translation
adjustment for fiscal year 1998 by approximately $714,000.

   At December 31, 1998, the Company did not have any interest bearing
obligations. In addition, the Company does not hold any derivative instruments
and does not have any commodity market risk.



                                       17
<PAGE>   18


<TABLE>
<CAPTION>
ITEM 8 - FINANCIAL STATEMENTS

                          INDEX TO FINANCIAL STATEMENTS

                                                                                   PAGE
                                                                                   ----

<S>                                                                                  <C>
Independent Auditors' Report                                                         19

Consolidated Balance Sheets as of December 31, 1998 and 1997                         20

Consolidated Statements of Operations for the years ended December 31, 1998,
  1997 and 1996                                                                      21

Consolidated Statements of Comprehensive Income (Loss) for the years ended
  December 31, 1998, 1997 and 1996                                                   22

Consolidated Statements of Stockholders' Equity for the years ended December 31,
  1998, 1997 and 1996                                                                23
  
Consolidated Statements of Cash Flows for the years ended December 31, 1998,
  1997 and 1996                                                                      24
  
Notes to Consolidated Financial Statements                                           26

Schedule II Valuation and Qualifying Accounts                                        39
</TABLE>




                                       18
<PAGE>   19


                               INDEPENDENT AUDITORS' REPORT


The Board of Directors
Information Resource Engineering, Inc.:


We have audited the accompanying consolidated balance sheets of Information
Resource Engineering, Inc. and subsidiaries as of December 31, 1998 and 1997,
and the related consolidated statements of operations, comprehensive income
(loss), stockholders' equity and cash flows for each of the years in the
three-year period ended December 31, 1998. In connection with our audits of the
consolidated financial statements, we have also audited the financial statement
schedule as listed in the accompanying index. These consolidated financial
statements and financial statement schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements and financial statement schedule based on our
audits.

We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Information Resource
Engineering, Inc. and subsidiaries as of December 31, 1998 and 1997, and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 1998 in conformity with generally accepted
accounting principles. Also, in our opinion, the related financial statement
schedule, when considered in relation to the basic consolidated financial
statements taken as a whole, presents fairly, in all material respects, the
information set forth therein.


KPMG LLP

Baltimore, Maryland
February 16, 1999


                                       19

<PAGE>   20


                     INFORMATION RESOURCE ENGINEERING, INC.
                                AND SUBSIDIARIES

                           Consolidated Balance Sheets

                           December 31, 1998 and 1997


<TABLE>
<CAPTION>
                                      ASSETS                                   1998                   1997
                                                                       ---------------------  ---------------------
<S>                                                                  <C>                      <C>      
Current assets:
    Cash and cash equivalents                                        $            5,865,682              7,222,069
    Short-term investments                                                               --              2,339,408
    Accounts receivable, net of allowance for doubtful
      accounts of $86,725 and $60,276                                             4,918,988              3,216,542
    Inventories (note 3)                                                          3,533,312              2,915,331
    Prepaid expenses                                                                303,653                356,735
                                                                       ---------------------  ---------------------
           Total current assets                                                  14,621,635             16,050,085

Equipment and leasehold improvements, net (note 4)                                1,556,486              1,575,777
Computer software development costs, net of accumulated
    amortization of $748,078 and $498,430                                         1,527,199              1,407,076
Goodwill, net of accumulated amortization
    of $387,314 and $264,986                                                        631,937                958,244
Prepaid license fees (note 11)                                                      165,000              1,137,500
Other assets                                                                        438,447                402,337
                                                                       ---------------------  ---------------------
                                                                     $           18,940,704             21,531,019
                                                                       =====================  =====================

                       LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
    Current maturities of long-term debt                             $                   --                 16,710
    Accounts payable                                                              1,492,520              1,034,667
    Accrued expenses (note 5)                                                     1,733,191              1,736,963
    Deferred revenue                                                                314,892                762,579
                                                                       ---------------------  ---------------------
           Total liabilities                                                      3,540,603              3,550,919
                                                                       ---------------------  ---------------------

Stockholders' equity (notes 6 and 11):
    Preferred stock, $.01 par value per share.
      Authorized 500,000 shares                                                          --                     --
    Common stock, $.01 par value per share.  Authorized
      15,000,000 shares, issued 5,466,527 shares
      in 1998 and 5,462,727 shares in 1997                                           54,665                 54,627
    Additional paid-in capital                                                   31,041,854             30,929,277
    Accumulated deficit                                                         (14,620,690)           (12,234,705)
    Accumulated other comprehensive income (loss)                                  (379,875)              (769,099)
    Treasury stock, at cost, 174,000 shares in 1998                                (695,853)                    --
                                                                       ---------------------  ---------------------

           Net stockholders' equity                                              15,400,101             17,980,100

Commitments (note 8)
                                                                       ---------------------  ---------------------
                                                                     $           18,940,704             21,531,019
                                                                       =====================  =====================
</TABLE>

See accompanying notes to consolidated financial statements.




                                       20
<PAGE>   21

                     INFORMATION RESOURCE ENGINEERING, INC.
                                AND SUBSIDIARIES

                      Consolidated Statements of Operations

                  Years ended December 31, 1998, 1997 and 1996

<TABLE>
<CAPTION>


                                                                1998                  1997                  1996
                                                         --------------------  -------------------- ---------------------

<S>                                                    <C>                     <C>                   <C>       
Revenues                                               $          23,241,710            16,006,998            14,317,423
Cost of revenues                                                   9,792,558             6,971,144             7,671,957
                                                         --------------------  -------------------- ---------------------

           Gross profit                                           13,449,152             9,035,854             6,645,466
                                                         --------------------  -------------------- ---------------------

Research and development expenses                                  4,625,139             3,755,766             3,840,475
Sales and marketing expenses                                       7,312,497             6,720,075             4,692,556
General and administrative expenses                                2,943,794             2,570,200             2,976,273
Amortization of acquired intangible assets                           122,328               122,324               732,644
Reserve for CyberGuard advance (note 11)                             771,655                    --                    --
Write-off of unamortized acquired intangible
    assets from the Connective Strategies, Inc.
    acquisition (note 2)                                                  --                    --             2,216,200
                                                         --------------------  -------------------- ---------------------

           Total operating expenses                               15,775,413            13,168,365            14,458,148
                                                         --------------------  -------------------- ---------------------

           Operating loss                                         (2,326,261)           (4,132,511)           (7,812,682)

Interest income, net                                                 259,157               494,809               728,132
                                                         --------------------  -------------------- ---------------------

           Loss before income tax expense                         (2,067,104)           (3,637,702)           (7,084,550)

Income tax expense (note 7)                                          318,881                    --                    --
                                                         --------------------  -------------------- ---------------------

           Net loss                                    $          (2,385,985)           (3,637,702)           (7,084,550)
                                                         ====================  ==================== =====================
Loss per common share - basic and diluted              $                (.44)                 (.67)                (1.34)
                                                         ====================  ==================== =====================

Weighted average number of common shares
    outstanding - basic and diluted                                5,408,945             5,461,611             5,304,984
                                                         ====================  ==================== =====================
</TABLE>
See accompanying notes to consolidated financial statements.




                                       21
<PAGE>   22
                     INFORMATION RESOURCE ENGINEERING, INC.
                                AND SUBSIDIARIES

             Consolidated Statements of Comprehensive Income (Loss)

                  Years ended December 31, 1998, 1997 and 1996


<TABLE>
<CAPTION>

                                                           1998                  1997                 1996
                                                    --------------------  -------------------  --------------------
<S>                                                <C>                     <C>                   <C>        

Net loss                                           $         (2,385,985)          (3,637,702)           (7,084,550)

Other comprehensive income (loss) - foreign
    currency translation adjustment                             389,224             (255,172)             (487,617)
                                                    --------------------  -------------------  --------------------

           Comprehensive income (loss)             $         (1,996,761)          (3,892,874)           (7,572,167)
                                                    ====================  ===================  ====================

</TABLE>

See accompanying note to consolidated financial statements.



                                       22
<PAGE>   23


                     INFORMATION RESOURCE ENGINEERING, INC.
                                AND SUBSIDIARIES
                                                                       
                 Consolidated Statements of Stockholders' Equity
                                                                       
                  Years ended December 31, 1998, 1997 and 1996
                                                                       

<TABLE>
<CAPTION>
                                                                                  ACCUMULATED
                                                                                     OTHER
                                      COMMON STOCK      ADDITIONAL                COMPREHENSIVE                    NET 
                                  -------------------    PAID-IN     ACCUMULATED     INCOME      TREASURY     STOCKHOLDERS'  
                                   SHARES     AMOUNT     CAPITAL       DEFICIT       (LOSS)        STOCK         EQUITY
                                  ---------   -------   ----------   -----------    --------    -----------    -----------

<S>                               <C>         <C>       <C>          <C>            <C>            <C>          <C>       
Balance at December 31, 1995      4,244,827   $42,448    9,712,777    (1,512,453)    (26,310)            --      8,216,462

   Sale of common stock,
    net of offering expenses      1,172,500    11,725   21,023,046            --          --             --     21,034,771
   Stock options exercised           40,800       408      181,761            --          --             --        182,169
   Net loss for 1996                     --        --           --    (7,084,550)         --             --     (7,084,550)
   Foreign currency translation
    adjustment                           --        --           --            --    (487,617)            --       (487,617)
                                  ---------   -------   ----------   -----------    --------    -----------    -----------
Balance at December 31, 1996      5,458,127    54,581   30,917,584    (8,597,003)   (513,927)            --     21,861,235

   Stock options exercised            4,600        46       11,693            --          --             --         11,739
   Net loss for 1997                     --        --           --    (3,637,702)         --             --     (3,637,702)
   Foreign currency translation
    adjustment                           --        --           --            --    (255,172)            --       (255,172)
                                  ---------   -------   ----------   -----------    --------    -----------    -----------
Balance at December 31, 1997      5,462,727    54,627   30,929,277   (12,234,705)   (769,099)            --     17,980,100

   Stock options exercised            3,800        38        9,750            --          --             --          9,788
   Stock option compensation             --        --      102,827            --          --             --        102,827
   Net loss for 1998                     --        --           --    (2,385,985)         --             --     (2,385,985)
   Foreign currency translation
    adjustment                           --        --           --            --     389,224             --        389,224
   Treasury stock purchases              --        --           --            --          --       (695,853)      (695,853)
                                  ---------   -------   ----------   -----------    --------    -----------    -----------
Balance at December 31, 1998      5,466,527   $54,665   31,041,854   (14,620,690)   (379,875)      (695,853)    15,400,101
                                  =========   =======   ==========   ===========    ========    ===========    ===========
</TABLE>


See accompanying notes to consolidated financial statements.



                                       23
<PAGE>   24
                     INFORMATION RESOURCE ENGINEERING, INC.
                                AND SUBSIDIARIES

                      Consolidated Statements of Cash Flows

                  Years ended December 31, 1998, 1997 and 1996



<TABLE>
<CAPTION>
                                                                        1998                 1997                 1996
                                                                 -------------------- -------------------- --------------------

<S>                                                                     <C>                    <C>                  <C>        
Cash flows from operating activities:
   Net loss                                                             $ (2,385,985)          (3,637,702)          (7,084,550)
   Adjustments to reconcile net loss to net cash
      used in operating activities:
       Depreciation and amortization                                         911,708              840,499              659,792
       Amortization of acquired intangible assets                            122,328              122,324              732,644
       Stock option compensation                                             102,827                   --                   --
       Reserve for CyberGuard advance                                        771,655                   --                   --
       Write-off of unamortized acquired
          intangible assets from the Connective
          Strategies, Inc. acquisition                                            --                   --            2,216,200
       Changes in operating assets and liabilities:
          (Increase) decrease in accounts
            receivable                                                    (1,526,706)          (1,707,438)           2,608,430
          (Increase) decrease in inventories                                (511,495)             511,506           (1,425,750)
          Increase (decrease) in accounts payable                            536,047             (208,882)             (53,635)
          Increase (decrease) in accrued expenses                            (64,946)             468,364             (112,880)
          Increase (decrease) in deferred revenue                           (453,064)             616,561              (41,290)
          Other                                                              206,624             (549,383)            (105,509)
                                                                 -------------------- -------------------- --------------------

          Net cash used in operating activities                           (2,291,007)          (3,544,151)          (2,606,548)
                                                                 -------------------- -------------------- --------------------

Cash flows from investing activities:
   Maturities of short-term investments                                    2,839,408            7,054,000                   --
   Purchase of short-term investments                                       (500,000)          (7,081,428)          (2,311,980)
   Equipment expenditures                                                   (477,752)            (307,258)          (1,274,770)
   Additions to computer software development costs                         (508,725)            (506,042)            (440,568)
   Prepaid license fees                                                           --             (137,500)          (1,000,000)
                                                                 -------------------- -------------------- --------------------

          Net cash provided by ( used in)
            investing activities                                        $  1,352,931             (978,228)          (5,027,318)
                                                                 -------------------- -------------------- --------------------
</TABLE>


                                       24
<PAGE>   25

                     INFORMATION RESOURCE ENGINEERING, INC.
                                AND SUBSIDIARIES

                Consolidated Statements of Cash Flows, Continued

                  Years ended December 31, 1998, 1997 and 1996


<TABLE>
<CAPTION>
                                                                       1998                  1997                  1996
                                                                --------------------  -------------------- ---------------------

<S>                                                           <C>                           <C>                  <C>       
Cash flows from financing activities:
   Payments of notes payable                                  $                  --                    --            (4,053,416)
   Proceeds from issuance of common stock,
      net of offering expense                                                    --                    --            21,034,771
   Treasury stock purchases                                                (695,853)                   --                    --
   Payments of long-term debt                                               (16,710)              (18,480)              (80,979)
   Proceeds from exercise of stock options                                    9,788                11,739               182,169
                                                                --------------------  -------------------- ---------------------

          Net cash provided by (used in )
            financing activities                                           (702,775)               (6,741)           17,082,545
                                                                --------------------  -------------------- ---------------------
Effect of exchange rate changes on cash                                     284,464              (165,802)             (188,182)
                                                                --------------------  -------------------- ---------------------

          Net increase (decrease) in cash
            and cash equivalents                                         (1,356,387)           (4,694,922)            9,260,497
Cash and cash equivalents at beginning of year                            7,222,069            11,916,991             2,656,494
                                                                --------------------  -------------------- ---------------------
Cash and cash equivalents at end of year                      $           5,865,682             7,222,069            11,916,991
                                                                ====================  ==================== =====================

Cash paid for:
   Interest expense                                           $               1,209                11,520               159,509
                                                                ====================  ==================== =====================

   Income taxes                                               $                  --                    --                    --
                                                                ====================  ==================== =====================
</TABLE>


See accompanying notes to consolidated financial statements.

                                       25
<PAGE>   26

                          INFORMATION RESOURCE ENGINEERING, INC.
                                     AND SUBSIDIARIES

                        Notes to Consolidated Financial Statements

                          Years ended December 31, 1998 and 1997

(1)  BUSINESS

     Information Resource Engineering, Inc. (the Company) is engaged in the
     business of designing, manufacturing and marketing enterprise network
     security technology and systems that enable the deployment of secure
     Virtual Private Network solutions over the Internet and other shared public
     networks.


(2)  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

     (a) PRINCIPLES OF CONSOLIDATION

         The consolidated financial statements include the accounts of the
         Company and its wholly owned subsidiaries. All significant intercompany
         balances have been eliminated in consolidation.

     (b) CASH EQUIVALENTS

         The Company considers investments purchased with maturities, at date of
         purchase, of three months or less to be cash equivalents.

     (c) SHORT-TERM INVESTMENTS

         Short-term investments, which consist of commercial paper and corporate
         bonds which mature within one year, are stated at the lower of cost or
         market.

     (d) REVENUES

         Revenue is recognized from sales when the product is shipped. Unearned
         income on maintenance contracts is amortized by the straight-line
         method over the terms of the contracts. Revenues from engineering
         services are recognized as the services are provided. There was no
         material accounts receivable related to unbilled engineering services
         at December 31, 1998 and 1997.

         The Company grants credit to clients. Sales terms with clients,
         including distributors, generally do not provide for right of return
         privileges for credit, refund or other products. The Company's clients,
         which include both commercial companies and governmental agencies, are
         in various industries, including banking, security, communications and
         distributors of electronic products.

                                                                     (Continued)
                                       26
<PAGE>   27

                          INFORMATION RESOURCE ENGINEERING, INC.
                                     AND SUBSIDIARIES

                        Notes to Consolidated Financial Statements

                          Years ended December 31, 1998 and 1997


     (e) INVENTORIES

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

     (f) EQUIPMENT AND LEASEHOLD IMPROVEMENTS

         Equipment and leasehold improvements are stated at cost less
         accumulated depreciation. Depreciation of equipment is determined using
         the straight-line method over the estimated useful lives of three to 
         five years. Leasehold improvements are amortized over the life of the 
         lease.

     (g) COMPUTER SOFTWARE DEVELOPMENT COSTS

         Computer software development costs are capitalized subsequent to the
         establishment of technological feasibility for each software product
         which is evidenced by a detailed program design. Capitalization of
         costs ceases when the product is available for general release to
         customers. Such costs are amortized using the straight-line method over
         a three to five year period beginning on product release dates. The
         Company assesses the recoverability of this intangible asset by
         comparing the unamortized balance to the net realizable value.

     (h) GOODWILL

         The excess of acquisition costs over the fair value of net assets
         acquired is amortized on a straight-line basis over ten years. The
         Company assesses the recoverability of this intangible asset by
         determining whether the amortization of the goodwill balance over its
         remaining life can be recovered through undiscounted future operating
         cash flows of the acquired operation. The amount of goodwill
         impairment, if any, is measured based on projected discounted future
         operating cash flows.

         During 1994, the Company acquired Connective Strategies, Inc. (CSI),
         which designs, manufactures and markets communications equipment
         enabling data and voice connectivity via the Integrated Services
         Digital Network (ISDN). In 1996, the Company invested in the
         development of a new secure communications chip. Due to this new
         superseding technology, which does not utilize CSI's ISDN product, the
         Company no longer markets its CSI products to new customers.
         Consequently, the Company has taken a one-time charge in 1996 of
         $2,216,200 related to the write-off of the unamortized acquired
         intangible assets from this acquisition.

         During 1998, the Company realized the benefit of an acquired net
         operating loss carryforward. The benefit of $203,979 was credited to
         goodwill.

                                                                     (Continued)
                                       27
<PAGE>   28

                          INFORMATION RESOURCE ENGINEERING, INC.
                                     AND SUBSIDIARIES

                        Notes to Consolidated Financial Statements

                          Years ended December 31, 1998 and 1997



     (i) IMPAIRMENT OF LONG-LIVED ASSETS AND LONG-LIVED ASSETS TO BE DISPOSED OF

         The Company reviews long-lived assets and certain identifiable
         intangibles for impairment whenever events or changes in circumstances
         indicate that the carrying amount of an asset may not be recoverable.
         Recoverability of assets to be held and used is measured by a
         comparison of the carrying amount of an asset to future net cash flows
         expected to be generated by the asset. If such assets are considered to
         be impaired, the impairment to be recognized is measured by the amount
         by which the carrying amount of assets exceed the fair value of the
         assets. Assets to be disposed of are reported at the lower of the
         carrying amount or fair value less costs to sell.

     (j) PRODUCT WARRANTIES

         The Company warrants to the original purchaser that each of its
         products will be free from defects in materials and workmanship
         generally for a period of one year from the date of purchase. Expected
         future product warranty expense is recorded when the product is sold.

     (k) TRANSLATION OF FOREIGN CURRENCIES

         Assets and liabilities of the foreign subsidiary are translated at the
         exchange rates as of the balance sheet dates; equity accounts are
         translated at historical exchange rates. Revenues and expenses are
         translated at the average exchange rates for the periods presented.
         Translation gains and losses are included in stockholders' equity.

     (l) INCOME TAXES

         Deferred tax assets and liabilities are recognized for the future tax
         consequences attributable to differences between the financial
         statement carrying amounts of existing assets and liabilities and their
         respective tax bases and operating loss and tax credit carryforwards.
         Deferred tax assets and liabilities are measured using enacted tax
         rates expected to apply to taxable income in the years in which those
         temporary differences are expected to be recovered or settled. The
         effect on deferred tax assets and liabilities of a change in tax rates
         is recognized in income in the period that includes the enactment date.

     (m) STOCK OPTIONS ISSUED

         The Company applies the intrinsic value method under Accounting
         Principles Board (APB) No. 25, Accounting for Stock Issued to Employees
         to account for stock-based compensation to employees and directors.

         The Company uses the fair value based method to account for stock-based
         compensation expense for stock options granted to non-employees.


                                                                     (Continued)
                                       28
<PAGE>   29


                          INFORMATION RESOURCE ENGINEERING, INC.
                                     AND SUBSIDIARIES

                        Notes to Consolidated Financial Statements

                          Years ended December 31, 1998 and 1997


     (n) LOSS PER COMMON SHARE

         Basic earnings per share (EPS) is calculated by dividing net loss by
         the weighted-average number of common shares outstanding for the
         applicable period. Diluted EPS is calculated after adjusting the
         numerator and the denominator of the basic EPS calculation for the
         effect, if any, of all dilutive potential common shares outstanding
         during the period.

     (o) NEW ACCOUNTING PRONOUNCEMENTS

         In June 1998, the Financial Accounting Standards Board (FASB) issued
         SFAS No. 133, Accounting for Derivative Instruments and Hedging
         Activities. SFAS No. 133 establishes accounting and reporting standards
         for derivative instruments and for hedging activities. It requires that
         an entity recognize all derivatives as either assets or liabilities at
         fair value. Adoption of SFAS No. 133 is required for fiscal year 2000
         and is not expected to have a material impact on the Company's
         financial position or results of operations.

     (p) USE OF ESTIMATES

         Management of the Company has made a number of estimates and
         assumptions that affect the reported amounts of assets and liabilities
         as of the date of the balance sheet and revenues and expenses for the
         period to prepare these financial statements in conformity with
         generally accepted accounting principles. Actual results could differ
         significantly from those estimates.

     (q) FAIR VALUE OF FINANCIAL INSTRUMENTS

         The following method and assumptions were used by the Company in
         estimating fair value disclosures for financial instruments:

         The carrying value of cash and cash equivalents, short-term
         investments, accounts receivable, accounts payable and accrued expenses
         approximates fair value due to the short maturity of these instruments.

     (r) RECLASSIFICATIONS

         Certain amounts for 1996 and 1997 have been reclassified to conform to
         the 1998 presentation.



                                                                     (Continued)
                                       29
<PAGE>   30

                          INFORMATION RESOURCE ENGINEERING, INC.
                                     AND SUBSIDIARIES

                        Notes to Consolidated Financial Statements

                          Years ended December 31, 1998 and 1997



(3)  INVENTORIES

     Inventories consist of the following:

<TABLE>
<CAPTION>
                                   1998       1997
                               -----------  --------- 

<S>                            <C>          <C>       
Raw materials                  $ 1,778,436  1,208,439 
Finished goods                   1,754,876  1,706,892
                               -----------  --------- 
                               $ 3,533,312  2,915,331 
                               ===========  ========= 
</TABLE>

(4)  EQUIPMENT AND LEASEHOLD IMPROVEMENTS, NET

     Equipment and leasehold improvements consist of the following:

<TABLE>
<CAPTION>
                                                          1998       1997
                                                      -----------  ---------

<S>                                                   <C>          <C>      
Equipment                                             $ 2,627,787  2,191,109
Automobiles                                               103,627     87,180
Leasehold improvements                                    646,907    630,953
                                                      -----------  ---------
                                                        3,378,321  2,909,242

Less accumulated depreciation and amortization          1,821,835  1,333,465
                                                      -----------  ---------
                                                      $ 1,556,486  1,575,777
                                                      ===========  =========
</TABLE>



(5)  ACCRUED EXPENSES

     Accrued expenses consist of the following:


<TABLE>
<CAPTION>
                                                         1998        1997
                                                     -----------   ---------

<S>                                                  <C>           <C>      
Accrued salaries and commissions                     $ 1,049,686   1,016,970
Other                                                    683,505     719,993
                                                     -----------   ---------
                                                     $ 1,733,191   1,736,963
                                                     ===========   =========
</TABLE>





                                                                     (Continued)
                                       30
<PAGE>   31

                          INFORMATION RESOURCE ENGINEERING, INC.
                                     AND SUBSIDIARIES

                        Notes to Consolidated Financial Statements

                          Years ended December 31, 1998 and 1997


(6)  STOCKHOLDERS' EQUITY

     In February 1996, the Company completed a public offering of 1,172,500
     shares of common stock at a per share price of $20.00. The net proceeds of
     the Company from the offering were approximately $21,035,000 after
     deducting offering expenses.

     In 1998, the Company purchased 174,000 shares of its common stock at an
     average price of $4.00. It is anticipated that these shares will be used
     for shares required to be issued under the Company's Stock Option Plan.


(7)  INCOME TAXES

     Income tax expense consists of the following:

<TABLE>
<CAPTION>
                                          1998       1997      1996
                                       ----------  --------- ----------
<S>                                    <C>         <C>       <C>
     Current:
      Federal                          $       --         --         --
      State                                    --         --         --
      Foreign                             318,881         --         --
                                       ----------  --------- ----------
                                          318,881         --         --
     Current
      Federal                                  --         --         --
      State                                    --         --         --
      Foreign                                  --         --         --
                                       ----------  --------- ----------
                                               --         --         --
                                       ----------  --------- ----------
                                       $  318,881         --         --
                                       ==========  ========= ==========
</TABLE>


                                                                     (Continued)
                                       31
<PAGE>   32

                          INFORMATION RESOURCE ENGINEERING, INC.
                                     AND SUBSIDIARIES

                        Notes to Consolidated Financial Statements

                          Years ended December 31, 1998 and 1997


The income tax expense (benefit) differed from the amount computed by applying
the Federal income tax rate of 34% to loss before income tax expense as a result
of the following:

<TABLE>
<CAPTION>
                                                            1998        1997        1996      
                                                         -----------  ----------  ----------  
                                                                                              
<S>                                                   <C>            <C>         <C>         
Computed "expected" tax benefit                        $   (702,815) (1,236,819) (2,408,747) 
Increase (reduction) in income taxes resulting from                                
   State and local income taxes, net of Federal                                    
     income tax benefit                                     (95,500)   (173,387)   (190,026)  
   Amortization of acquired intangible assets,                                     
    not deductible for tax purposes                          41,590      41,590     249,099   
   Write-off of unamortized acquired                                                          
    intangible assets from the Connective                                                     
    Strategies, Inc. acquisition not                                                          
    deductible for tax purposes                                  --          --     753,508   
   Change in valuation allowance                          1,035,000   1,635,000   1,774,500   
   Other, net                                                40,606    (266,384)   (178,334)  
                                                       ------------  ----------  ----------   
                                                       $    318,881          --          --   
                                                       ============  ==========  ==========   
</TABLE>

The tax effects of temporary differences that give rise to significant portions
of the deferred tax assets are presented below at December 31:

<TABLE>
<CAPTION>
                                                                    1998         1997     
                                                                ------------  ------------
<S>                                                            <C>            <C>    
Deferred tax assets:                                                                      
    Inventories, due to additional costs inventoried for tax                    
      purposes pursuant to the Tax Reform Act of 1986           $   141,000       241,000
    Net operating loss carryforward                               5,420,000     3,358,000 
    Reserve for CyberGuard advance                                  298,000            -- 
    Stock option compensation                                        40,000            -- 
    Other                                                            46,000        99,000 
                                                                ------------  ------------
                                                                  5,945,000     3,698,000 
                                                                ------------  ------------
Deferred tax liabilities:                                                                 
    Earnings and profits of foreign subsidiary                   (1,192,000)            --
    Equipment, due to differences in depreciation                  (108,000)      (88,000)
    Other                                                           (31,000)      (31,000)
                                                                ------------  ------------
                                                                 (1,331,000)     (119,000)
                                                                ------------  ------------
                                                                                          
      Net deferred tax asset                                      4,614,000     3,579,000 
                                                                                          
Less valuation allowance                                         (4,614,000)   (3,579,000)
                                                                ------------  ------------
                                                                $         --            --
                                                                ------------  ------------
</TABLE>                                                         

                                                                     (Continued)
                                       32
<PAGE>   33


                          INFORMATION RESOURCE ENGINEERING, INC.
                                     AND SUBSIDIARIES

                        Notes to Consolidated Financial Statements

                          Years ended December 31, 1998 and 1997


     The Company has net operating loss carryforwards for United States income
     tax purposes of approximately $14,034,000 which are available to reduce
     future taxable income through 2012.

     In assessing the realizability of deferred tax assets, management considers
     whether it is more likely than not that some portion or all of the deferred
     tax assets will not be realized. The ultimate realization of the deferred
     tax assets is dependent on the generation of future taxable income during
     the periods in which temporary differences are deductible and net operating
     losses are allowable. Based on consideration of the above factors
     management established a valuation allowance for which the balance was
     $4,614,000 and $3,579,000 at December 31, 1998 and 1997, respectively.


(8)  LEASES

     The Company leases office facilities and equipment under operating leases
     expiring at various dates through 2003. The leases require the Company to
     pay real estate taxes, insurance and maintenance. The Company recognizes
     rent expense on a straight-line basis. The annual minimum rentals under the
     leases as of December 31, 1998 are as follows:


<TABLE>
<S>                                                               <C>       
1999                                                              $  586,465
2000                                                                 479,576
2001                                                                 479,540
2002                                                                 492,523
2003                                                                 394,634
                                                                    =========
</TABLE>

     Rent expense for the years ended December 31, 1998, 1997 and 1996 was
     $609,538, $616,465 and $518,177, respectively.


(9)  PENSION PLANS

     The Company has a defined contribution pension plan for employees who have
     completed three months of service with the Company. The Plan permits
     pre-tax contributions to the Plan by participants pursuant to Section
     401(k) of the Internal Revenue Code (the Code) of 3% to 10% of base
     compensation up to the maximum allowable contributions as determined by the
     Code. The Company matches participants' contributions on a discretionary
     basis. The Company may also make additional discretionary contributions.
     The Company made no contributions to the plan during the three years ended
     December 31, 1998.

     All of the Company's Swiss employees are participants in a national,
     compulsory, contributory pension plan, which is administered by an outside
     institution. The employees' contributions are

                                                                     (Continued)
                                       33
<PAGE>   34

                          INFORMATION RESOURCE ENGINEERING, INC.
                                     AND SUBSIDIARIES

                        Notes to Consolidated Financial Statements

                          Years ended December 31, 1998 and 1997


     defined and calculated according to age group. The employer's contributions
     are then of the same amount. The pension costs for the Swiss subsidiary
     during 1998, 1997 and 1996 were $252,026, $248,746 and $283,467,
     respectively.


(10) STOCK OPTIONS AND WARRANTS

     The Company has a stock option plan which provides for the granting of
     stock options to officers, directors, consultants and key employees of the
     Company. Options issued pursuant to the plan are exercisable at the fair
     market value of the common stock on the date of the issuance of the option.
     Either incentive stock options or non-qualified stock options may be
     granted under the plan. The vesting and exercise periods are determined by
     the Board of Directors not to exceed ten years. Options issued to date
     generally vest 33 1/3% per year commencing with dates of grant and expire
     seven years from date of grant.

     Option transactions during 1996, 1997 and 1998 were as follows:


<TABLE>
<CAPTION>
                                                                         WEIGHTED
                                                                          AVERAGE
                                          NUMBER          RANGE OF       EXERICISE
                                        OF SHARES       EXERCISE PRICES    PRICE
                                        -----------     -------------    ----------

<S>                                        <C>        <C>              <C>         
Outstanding at December 31, 1995           253,600    $ 0.10 to $17.00 $       9.54
    Granted                                393,000    $ 9.88 to $28.63        18.45
    Canceled                               (37,200)   $ 1.30 to $17.00        12.85
    Exercised                              (40,800)   $ 0.10 to $13.50         4.46
                                        -----------     --------------  ----------
Outstanding at December 31, 1996           568,600    $ 1.30 to $28.63        15.92
    Granted                                931,250    $ 6.38 to $20.00        10.39
    Canceled                              (500,867)   $ 4.50 to $28.63        16.68
    Exercised                               (4,600)   $ 1.30 to $ 4.50         2.55
                                        -----------     --------------  ----------
Outstanding at December 31, 1997           994,383    $ 1.30 to $20.00        10.45
    Granted                                728,700    $ 3.09 to $ 9.31         6.92
    Canceled                              (561,600)   $ 4.94 to $17.00        10.49
    Exercised                               (3,800)   $ 1.30 to $ 5.25         2.58
                                        -----------     --------------  ----------
Outstanding at December 31, 1998         1,157,683    $ 1.30 to $20.00 $       8.23
                                        ===========     ==============  ==========
Exercisable at December 31, 1998           294,961    $ 1.30 to $20.00 $       8.96
                                        ===========     ==============  ==========
</TABLE>


                                                                     (Continued)
                                       34
<PAGE>   35


                          INFORMATION RESOURCE ENGINEERING, INC.
                                     AND SUBSIDIARIES

                        Notes to Consolidated Financial Statements

                          Years ended December 31, 1998 and 1997


     The following table summarizes information about stock options outstanding
     at December 31, 1998.

<TABLE>
<CAPTION>
                           OPTIONS OUTSTANDING            OPTIONS EXERCISABLE
                   -------------------------------------  --------------------
                                 WEIGHTED      WEIGHTED              WEIGHTED
                                  AVERAGE      AVERAGE               AVERAGE
    RANGE OF         NUMBER      REMAINING     EXERCISE    NUMBER    EXERCISE
EXERCISE PRICES    OF SHARES   CONTRACTUAL LIFE PRICE     OF SHARES   PRICE
-----------------  ----------- --------------  ---------  ---------  ---------
<S>                 <C>            <C>         <C>          <C>     <C>       

$1.30 to $  6.63      413,150      5.34 years  $    5.80     83,900 $     4.88
$7.00 to $  8.63      415,700      5.90 years       7.98     51,666       8.14
$9.00 to $ 20.00      328,833      4.28 years      11.60    159,395      11.38
                   ----------- --------------  ---------  ---------  ---------
                    1,157,683      5.24 years  $    8.23    294,961 $     8.96
                   =========== ==============  =========  =========  =========
</TABLE>


     The Company applies the intrinsic value method in accounting for options
     granted to employees and directors and, accordingly, no compensation cost
     has been recognized for its options in the financial statements. Had the
     Company determined compensation cost based on the fair value at the grant
     date for its stock options, the Company's net loss and per share amounts
     would have been the pro forma amounts indicated below:

<TABLE>
<CAPTION>
                                             1998         1997         1996
                                          -----------  ------------ ------------

<S>                                       <C>            <C>          <C>        
Net loss                 As reported      $(2,385,985)   (3,637,702)  (7,084,550)
                         Pro forma         (2,925,000)   (4,252,000)  (7,578,000)
Loss per common share --
    basic and dilute     As reported      $      (.44)         (.67)       (1.34)
                         Pro forma               (.54)         (.78)       (1.43)
                                          ===========  ============ ============
</TABLE>

     The pro forma net loss reflects only options granted since 1995. Therefore,
     the full impact of calculating compensation cost for stock options is not
     reflected in the pro forma net loss amounts presented above because
     compensation cost recognized over the option's vesting periods and
     compensation cost for options granted prior to January 1, 1995 is not
     considered.

     The weighted average fair values of options granted during 1998, 1997 and
     1996 were $2,912,000, $4,128,000 and $2,453,000, respectively, on the dates
     of grant. The fair values of options granted were calculated using the
     Black-Scholes option-pricing model with the following weighted average
     assumptions used for grants in 1998, 1997 and 1996, respectively: risk-free
     interest rates of 5.25% for 1998, 5.71% to 6.78% for 1997 and 5.25% to
     6.78% for 1996; expected volatility of 110% for 1998, 63% for 1997 and 32%
     for 1996; dividend yield and expected dividend growth rate of 0% in all
     years; and expected lives of 3 to 5 years and expected forfeitures of 0%
     for all years.

                                                                     (Continued)
                                       35
<PAGE>   36

                          INFORMATION RESOURCE ENGINEERING, INC.
                                     AND SUBSIDIARIES

                        Notes to Consolidated Financial Statements

                          Years ended December 31, 1998 and 1997


     In addition, in November 1995, in connection with the private placement of
     300,000 shares of the Company's common stock, the Company issued the
     placement agent warrants to purchase 30,000 shares of common stock at
     $17.00 per share. The warrants are exercisable at any time during a
     four-year period commencing on January 29, 1997. The price and number of
     shares is subject to adjustment in certain circumstances to protect against
     dilution. Holders of the warrants are not entitled to vote, receive
     dividends or exercise any of the rights of holders of shares of common
     stock for any purpose until such warrants are exercised.

     At December 31, 1998, the Company had reserved 1,475,500 shares of common
     stock for the stock option plan and conversion of outstanding warrants.


(11) RESERVE FOR CYBERGUARD ADVANCE

     In August 1996, the Company signed a two year Joint Development and
     Marketing Agreement with CyberGuard Corporation (CyberGuard). The companies
     intended to develop and market a product that combined the Company's
     SafeNet/Enterprise products and CyberGuard's Firewall product. In
     connection therewith, the Company prepaid a refundable $1,000,000 license
     fee to CyberGuard.

     In June 1998, a Distribution Agreement and an Original Equipment Agreement
     (OEM Agreement) replaced the original agreement. Under these agreements,
     CyberGuard agreed to repay on December 31, 1998 the original $1,000,000
     advance less used license fees and a right to manufacture fee. On December
     31, 1998, CyberGuard failed to honor its obligation to repay the unused
     license fee.

     Since the Company cannot ascertain the ultimate viability of CyberGuard as
     a result of its August 1998 announcement, that it was experiencing
     significant pressure on its liquidity, and the January 1999 delisting of
     CyberGuard's securities from the NASDAQ Stock Market, the Company reserved
     for the remaining advance.


(12) SEGMENTS OF THE COMPANY AND RELATED INFORMATION

     The Company has two reportable segments: network security products designed
     and manufactured in the United States and network security products
     designed and manufactured outside the United States. The reportable
     segments are strategic business units that offer different products. The
     segments are managed separately because each segment requires different
     technology and marketing strategies. The accounting policies of the
     segments are the same as those described in the summary of significant
     accounting policies.



                                                                     (Continued)
                                       36
<PAGE>   37

                          INFORMATION RESOURCE ENGINEERING, INC.
                                     AND SUBSIDIARIES

                        Notes to Consolidated Financial Statements

                          Years ended December 31, 1998 and 1997

<TABLE>
<CAPTION>
                                                                 1998
                                               ----------------------------------------
 
                                                WITHIN THE    OUTSIDE THE
                                               UNITED STATES UNITED STATES CONSOLIDATED
                                               ------------  ------------  ------------

<S>                                        <C>               <C>           <C>       
Revenues from external customers            $   11,642,072    11,646,006    23,288,078
Intersegment revenues                               18,354        28,014        46,368
                                               ------------  ------------  ------------
           Consolidated revenues            $   11,623,718    11,617,992    23,241,710
                                               ============  ============  ============

Operating profit (loss)                     $   (6,361,349)    4,035,088    (2,326,261)
Interest income                                    232,957        27,409       260,366
Interest expense                                     1,209            --         1,209
Income tax expense                                      --       318,881       318,881
Depreciation and amortization expense              881,533       152,503     1,034,036
Reserve for CyberGuard advance                     771,655            --       771,655
Segment assets                                   9,602,354     9,338,350    18,940,704
</TABLE>

<TABLE>
<CAPTION>
                                                                 1997
                                               ----------------------------------------

                                                WITHIN THE    OUTSIDE THE
                                               UNITED STATES UNITED STATES CONSOLIDATED
                                               ------------  ------------  ------------

<S>                                         <C>                <C>          <C>       
Revenues from external customers            $   10,534,931     5,585,305    16,120,236
Intersegment revenues                                2,260       110,978       113,238
                                               ------------  ------------  ------------
           Consolidated revenues            $   10,532,671     5,474,327    16,006,998
                                               ============  ============  ============

Operating profit (loss)                     $   (4,161,791)       29,280    (4,132,511)
Interest income                                    489,427        16,902       506,329
Interest expense                                    11,520            --        11,520
Depreciation and amortization expense              716,696       246,127       962,823
Segment assets                                  16,193,864     5,337,155    21,531,019
</TABLE>

<TABLE>
<CAPTION>
                                                              1996
                                               ----------------------------------------

                                                WITHIN THE    OUTSIDE THE
                                               UNITED STATES UNITED STATES CONSOLIDATED
                                               ------------  ------------  ------------

<S>                                        <C>                <C>          <C>       
Revenues from external customers            $    8,110,195     6,238,739    14,348,934
Intersegment revenues                               28,759         2,752        31,511
                                               ------------  ------------  ------------
           Consolidated revenues            $    8,081,436     6,235,987    14,317,423
                                               ============  ============  ============

Operating loss                              $   (7,501,023)     (311,659)   (7,812,682)
Interest income                                    784,404        12,787       797,191
Interest expense                                    69,050            --        69,050
Depreciation and amortization expense            1,081,936       310,500     1,392,436
Write-off of unamortized acquired 
    intangible assets from the Connective 
    Strategies, Inc. acquisition                 2,126,200            --     2,126,200
Segment assets                                  19,380,265     5,272,976    24,653,241
</TABLE>


                                                                     (Continued)
                                       37
<PAGE>   38

                          INFORMATION RESOURCE ENGINEERING, INC.
                                     AND SUBSIDIARIES

                        Notes to Consolidated Financial Statements

                          Years ended December 31, 1998 and 1997

<TABLE>
<CAPTION>
GEOGRAPHIC INFORMATION
                                                  REVENUES                                   LONG-LIVED ASSETS
                           ----------------------------------------------------  -------------------------------------------------

                               1998               1997              1996            1998             1997            1996
                               ----               ----              ----            ----             ----            ----

<S>                      <C>                      <C>               <C>              <C>              <C>               <C>      
United States            $      10,023,840         9,023,425         7,656,687       2,879,649        2,909,014         2,794,890
Switzerland                      7,941,783         3,092,600         3,035,425         835,973        1,032,083         1,270,755
Belgium                          1,135,385         1,481,429         1,976,042             --               --            --
Other foreign countries          4,140,702         2,409,544         1,649,269             --               --            --
                           ---------------- -----------------  ----------------  -------------- ----------------  ----------------

              Total      $      23,241,710        16,006,998        14,317,423       3,715,622        3,941,097         4,065,645
                           ================ =================  ================  ============== ================  ================

</TABLE>

     In 1998, one commercial client of the Within the United States segment and
     one commercial client of the Outside the United States segment accounted
     for 11% and 13%, respectively, of the Company's consolidated revenues. In
     1997, one commercial client of the Within the United States segment
     accounted for 15% of the Company's consolidated revenues. In 1996, one
     commercial client of the Within the United States segment accounted for 27%
     of the Company's consolidated revenues.


                                       38
<PAGE>   39

                     INFORMATION RESOURCE ENGINEERING, INC.
                                AND SUBSIDIARIES
                                        
                       Valuation and Qualifying Accounts
                                  Schedule II
                                        
                  Years ended December 31, 1998, 1997 and 1996


<TABLE>
<CAPTION>

                                        BALANCE AT        CHARGES              CHARGES
                                        BEGINNING         TO COSTS            TO OTHER                             BALANCE
                                            OF              AND              ACCOUNTS -       DEDUCTIONS -        AT END OF
                                          PERIOD          EXPENSES          DESCRIBE (a)      DESCRIBE (b)         PERIOD
                                      ---------------   -------------      ---------------- -----------------   --------------
<S>                                   <C>                     <C>                      <C>        <C>                  <C>   
Allowance for doubtful accounts:

   Year ended December 31, 1998       $       60,276          25,477                   972                --           86,725

   Year ended December 31, 1997       $           --          60,276                    --                --           60,276

   Year ended December 31, 1996       $           --              --                    --                --               --
                                      ===============   =============      ================ =================   ==============

Reserve for CyberGuard advance:

   Year ended December 31, 1998       $           --         771,655                    --                --          771,655
                                      ===============   =============      ================ =================   ==============
</TABLE>

(a)Charges to other accounts represent the translation effect for the change in
   the Swiss Franc exchange rate for balances existing at the beginning of the
   period.

(b)Deductions represent write-offs of specifically identified accounts.



                                       39
<PAGE>   40

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

      None.

                                    PART III

ITEM 10 - DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

   The directors and executive officers of the Company are as follows:

<TABLE>
<CAPTION>
             NAME            AGE        POSITION
             ----            ---        --------
                                  
<S>                          <C>  <C>
       Anthony A. Caputo     57   Chairman, Chief Executive Officer and President
       John F. Hembrough     49   Senior Vice President, World Wide Sales
       Michael M. Kaplan     55   Senior Vice President, Technology
       Jill Leukhardt        43   Senior Vice President
       Dubhe E. Beinhorn     42   Vice President, International Sales
       Sean R. Price         35   Vice President, North American Sales
       Philip S. Saunders    33   Vice President, Marketing
       Steven Turner         40   Vice President, Product Support
       David A. Skalitzky    63   Secretary and Treasurer
       Thomas A. Brooks      61   Director
       Ira A. Hunt, Jr.      74   Director
       Douglas E. Kozlay     59   Director
       Bruce R. Thaw         46   Director
</TABLE>

   All directors hold office until the next annual meeting of shareholders or
until their respective successors are elected and qualify. Executive officers
hold office until their successors are chosen and qualify, subject to earlier
removal by the Board of Directors. Set forth below is a biographical description
of each director and executive officer of the Company based on information
supplied by each of them.

   Anthony A. Caputo, the Chairman, Chief Executive Officer and President of the
Company, invested in the Company in 1986, and became a director in November
1986. In 1982, Mr. Caputo founded another computer security firm, TACT
Technology, as a division of a public company, and after securing outside
funding through a $3.0 million limited partnership in 1984, managed TACT as a
separate company. Mr. Caputo resigned from TACT Technology in November 1986 to
join the Company. Mr. Caputo has over 20 years' experience in the computer
industry, in marketing and management capacities. In June 1993, Mr. Caputo was
named Maryland's High Tech Entrepreneur of the Year, an annual award sponsored
by organizations including Inc. Magazine, Ernst and Young LLP and Merrill Lynch.
He has served as an officer of several publicly traded companies including
International Mobile Machines, Inc., Comshare, Inc. and Value Software, now part
of Computer Associates, Inc.

   John F. Hembrough has been Senior Vice President, World Wide Sales with
responsibility for the entire SafeNet product line. He joined the Company in
September 1997 as Vice President, OEM Sales with responsibility for building
sales channels and managing the Company's OEM division through sales of SafeNet
technology to major technology product manufacturers. Prior to joining the
Company, Mr. Hembrough served as Vice President/General Manager European
Operations for Raptor Systems, Inc., a software security company, from 1995 to
1997 and held sales management positions with Network Systems Corporation and
Motorola Codex Corporation. He holds a Master of Business Administration with
Distinction from the Harvard Business School and a Bachelor of Science degree in
Chemistry from the United States Air Force Academy.

   Michael M. Kaplan joined the Company in January 1996 as Senior Vice
President, Technology. Formerly the Director of Secure Communications at AT&T
Bell Laboratories ("Bell Labs"), Mr. Kaplan led the design, development and
support of AT&T's security products for voice, data, fax and video applications.
Mr. Kaplan was employed at Bell Labs for twenty-seven years and holds a Master
of Science in Mathematics degree from Adelphi University and a 


                                       40
<PAGE>   41

Bachelor of Arts in Mathematics degree from Queens College. Mr. Kaplan holds six
patents for various aspects of telephone security devices and associated
services.

   Jill Leukhardt has been a Senior Vice President of the Company since June
1995. She served as the Vice President of Sales and Marketing of the Company
from 1989 to 1995. She was a director of the Company from 1990 to 1998. Ms.
Leukhardt holds a Master of Electrical Engineering degree. From 1980 to 1986,
Ms. Leukhardt was a Marketing Manager at Intel Corporation where she managed
several projects including the planning, specification and initial marketing of
the 80386 microprocessor. Prior to joining the Company, from 1986 to 1989, she
served as Vice President-Marketing for Micro Wholesalers, Inc., a microcomputer
distributor. She has also served as a Trustee of Johns Hopkins University since
July 1992.

   Dubhe E. Beinhorn joined the Company as Vice President, International Sales
in October 1996. Ms. Beinhorn's principal responsibilities include the
identification and development of distribution channels, partnerships, strategic
alliances and direct customer relationships outside North America. Prior to
joining the Company, Ms. Beinhorn served as Vice President, International Sales
for Netrix Corporation from April 1991 to October 1996, and National Account
Manager, Federal Operations at Network Equipment Technologies from 1988 to 1991.

   Sean R. Price joined the Company in April 1997 as Vice President, North
American Sales. His primary responsibility is managing and expanding the
Company's domestic distribution channels, more specifically value added
resellers ("VAR's"), systems integrators, and network service providers. Prior
to joining the Company, Mr. Price was Vice President of Sales for Nuera
Communications Inc., a leader in voice over Internet and Frame Relay technology,
from October 1995 to April 1997. where he managed direct sales to carriers and
end users as well as indirect sales through VAR's. From 1993 to 1995, he was
Director, Worldwide Sales for Pacific Communication Sciences, Inc.

   Philip S. Saunders has been Vice President of Marketing since July 1998. He
joined the Company in July 1997 as Director of Channel Development. Prior to
joining the Company, Mr. Saunders was Director of Sales for the Carrier Systems
Group of Nuera Communications from September 1996 to July 1998. From 1994 to
1996, he was Manager of Strategic Accounts for Pacific Communications Sciences,
Inc. Mr. Saunders holds a Master of Business Administration degree from Seton
Hall University's School of Business and is the recipient of the 1998
Outstanding Achievement Award from the American Marketing Association.

   Steven E. Turner has been Vice President of Product Support since July 1994
where he is the senior manager for manufacturing, client support and SafeNet
Trusted Services. He joined the Company in March 1988 and has served as
Technician, Engineer, Production Manager, and Director, Product Support. Prior
to joining the Company, Mr. Turner has held various positions with the U.S.
Naval Research Lab and E-Systems.

   David A. Skalitzky has been Secretary and Treasurer of the Company since
March 1993 and December 1990, respectively. He was Vice President, Finance from
July 1989 to July 1998. Prior to joining the Company in 1989, Mr. Skalitzky was
an independent financial consultant.

   Thomas A. Brooks has been a director of the Company since July 1998. He held
various executive positions with AT&T from 1991 through 1998. In 1992 he was
appointed Director of the Special Accounts Business Unit of Federal Systems
Advanced Technologies ("FSAT"). In 1993 he became acting Vice President,
Information Systems within FSAT. In January 1994 he became Senior Vice
President, AT&T Paradyne, and General Manager of AT&T Secure Products Business
Unit. In January 1996 he was appointed Vice President of AT&T Government Markets
and President of AT&T Technical Services Company. He served 32 years as an U.S.
Navy Intelligence officer, retiring from active military service as a Rear
Admiral and Director of Naval Intelligence in 1991. He is a member of the
Federal Government Joint Security Commission. In 1995, President Clinton
appointed him as one of three members of the Security Policy Advisory Board.
From 1995 to 1997 he was also a member of the Defense Policy Board. He also
serves on advisory boards for the Defense Intelligence Agency and the Office of
Naval Intelligence. Mr. Brooks is a graduate of Fordham University, with a
Master's degree from Fairleigh Dickenson University. He has done post Master's
studies at George Washington University and the University of California and has
published 


                                       41
<PAGE>   42

several articles in various publications. He serves on the Board of Directors of
Navy Mutual Aid Association and several Intelligence professional associations.

   Ira A. Hunt, Jr. has been a director of the Company since December 1990. Mr.
Hunt is a graduate of the U.S. Military Academy, West Point, New York. He served
33 years in various command and staff positions in the U.S. Army, retiring from
active military service as a Major General in 1978. Subsequently he was
President of Pacific Architects and Engineers in Los Angeles, California and a
Vice President of Frank E. Basil, Inc. in Washington, D.C. Mr. Hunt has a Master
of Science degree in civil engineering from the Massachusetts Institute of
Technology; a Master of Business Administration degree from the University of
Detroit; a Doctor of the University degree from the University of Grenoble,
France; and a Doctor of Business Administration degree from George Washington
University.

   Douglas E. Kozlay is the co-founder, and was President of the Company from
1983 until March 1993. Mr. Kozlay's principal responsibilities include providing
guidance and advice on product architecture to the Chief Executive Officer and
performing engineering functions as required. Mr. Kozlay has been a director of
the Company since its inception. From 1979 to 1982 Mr. Kozlay served as
President of EMAX, Inc., a company which designed and marketed data acquisition
and control systems. Previously, Mr. Kozlay has served as a manager of a
research and development laboratory for the U.S. National Security Agency and as
a design engineer for IBM Corporation. In 1982 Mr. Kozlay was Director of
Industrial Automation for EMC Controls.

   Bruce R. Thaw has been a director of the Company since December 1990. From
1987 to the present, Mr. Thaw has served as general counsel to the Company. Mr.
Thaw was admitted to the bar of the State of New York in 1978 and the California
State Bar in 1983. Mr. Thaw is also a director of Amtech Systems, Inc., a
publicly traded company engaged in the semiconductor industry, and Nastech
Pharmaceutical Company, Inc., a publicly traded company engaged in drug delivery
technology.

   The Company's By-Laws provide for the election of directors at the annual
meeting of shareholders, such directors to hold office until the next annual
meeting and until their successors are duly elected and qualified. The By-Laws
also provide that the annual meeting of shareholders be held each year at such
time, date and place as the Board of Directors shall determine by resolution.
The Board of Directors may remove directors at any time for cause and with or
without cause by a majority of the votes cast by the shareholders entitled to
vote for the election of directors.

   Officers will normally be elected at the annual meeting of the Board of
Directors held immediately following the annual meeting of shareholders, to hold
office for the term for which elected and until their successors are duly
elected and qualified. The Board of Directors may remove officers at any time
with or without cause.

   In January 1997, the Company announced the formation of an advisory board
aimed at assisting the Company in building shareholder value by facilitating
growth. Established as part of an overall strategy to manage and maintain
Company expansion, the advisory board works as an integral part of the Company's
planning team in conjunction with the Company's executive officers and
directors. Former United States Treasury Secretary William E. Simon chairs the
advisory board. Other members are Dr. Vinton G. Cerf, MCI WorldCom, Inc.'s
Senior Vice President of Internet Architecture and Daniel L. Mosley, a partner
in the law firm of Cravath, Swaine & Moore.

   The Company's Certificate of Incorporation contains provisions indemnifying
its officers, directors, employees and agents against certain liabilities.

   ITEM 11 - EXECUTIVE COMPENSATION

   The information required by this item is incorporated herein by reference to
the definitive Proxy Statement of the Company, which will be filed with the
Securities and Exchange Commission no later than 120 days after the close of the
Company's fiscal year ended December 31, 1998.



                                       42
<PAGE>   43

ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

   The information required by this item is incorporated herein by reference to
the definitive Proxy Statement of the Company, which will be filed with the
Securities and Exchange Commission no later than 120 days after the close of the
Company's fiscal year ended December 31, 1998.

ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

   The information required by this item is incorporated herein by reference to
the definitive Proxy Statement of the Company, which will be filed with the
Securities and Exchange Commission no later than 120 days after the close of the
Company's fiscal year ended December 31, 1998.

                                         PART IV

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


<TABLE>
<S>      <C>
(a)      1.       The financial statements filed as part of this report are listed
                  separately on the Index To Financial Statements on page 18 of this
                  Form.

         2.       Financial Statement Schedules: Schedule II Valuation and
                  Qualifying Accounts

(b)      Reports on Form 8-K:  None

(c)      Exhibits required by Item 601 of Regulation S-K:

         3A       Articles of Incorporation of Registrant, as filed with the
                  Secretary of State of Delaware on November 1, 1988, as amended
                  on March 6, 1989, May 19, 1989, September 22, 1992, June 30,
                  1995 and October 4, 1995                                                I/B/R(1)

         3B       By-laws of Registrant                                                   I/B/R(2)

         4        Specimen of Common Stock Certificate of Registrant                      I/B/R(2)

         10A      Sublease dated November 2, 1993 for facility at 8029 Corporate
                  Drive, Baltimore, MD.                                                   I/B/R(3)

         10B      Stock Option Plan                                                       I/B/R(4)

         10C      Employment Agreement with Douglas Kozlay                                I/B/R(2)

         10D      Form Employee Non-Disclosure Agreement                                  I/B/R(2)

         10E      Award Contract with United States Department of the Treasury            I/B/R(4)

         10F      Agreement with GTE Government Systems Corporation                       I/B/R(5)

         10G      Agreement and Plan of Merger dated September 30, 1995 with
                  Connective Strategies, Inc.                                             I/B/R(6)

         10H      Employment Agreement with Charles D. Brown                              I/B/R(7)

         10I      Agreement between the Registrant and AT&T International, Inc.
                  for the acquisition of Gretag Data Systems AG                           I/B/R(8)

         10J      Agreement between the Registrant and MCI Telecommunications
                  Corporation                                                             I/B/R(9)

         10K      Employment Agreement between GDS and Dr. Kurt H. Mueller                I/B/R(1)

         10L      Placement Agent Warrant                                                 I/B/R(1)

         10M      Alliance and Joint Marketing Agreement between the Registrant
                  and MCI Telecommunications Corporation                                  I/B/R(11)

         10N      Joint Development and Marketing Agreement between the
                  Registrant and CyberGuard Corporation                                   I/B/R(11)

         10O      Employment Agreement with Anthony Caputo                                I/B/R(11)

         10P      Agreement between the Registrant and Lockheed Martin
                  Corporation Information Systems & Technologies                          I/B/R(10)

         10Q      Agreement between IRE Secure Solutions, Inc. (wholly-owned
                  subsidiary of the Registrant) and Analog Devices, Inc.                  I/B/R(10)

         21       Subsidiaries of Registrant

         27       Financial Data Schedule
</TABLE>



                                       43
<PAGE>   44

------------

(1)  Filed as an exhibit to the Registration Statement on Form SB-2 (File No.
     33-80161) of the Registrant and incorporated herein by reference.
(2)  Filed as an exhibit to the Registration Statement on Form S-18 (File No.
     33-28673) of the Registrant and incorporated herein by reference.
(3)  Filed as an exhibit to Form 10-KSB for the fiscal year ended December 31,
     1993 and incorporated herein by reference.
(4)  Filed as an exhibit to the Registration Statement on Form S-1 (File No.
     33-52066) of the Registrant and incorporated herein by reference.
(5)  Filed as an exhibit to Form 10-KSB for the fiscal year ended December 31,
     1995 and incorporated herein by reference.
(6)  Filed as an exhibit to Form 8-K, dated October 24, 1995 and incorporated
     herein by reference.
(7)  Filed as an exhibit to Form 10-QSB for the quarterly period ended June 30,
     1995 and incorporated herein by reference.
(8)  Filed as an exhibit to Form 8-K dated October 31, 1995 and incorporated
     herein by reference.
(9)  Filed as an exhibit to Form 10-QSB for the quarterly period ended September
     30, 1995 and incorporated herein by reference.
(10) Filed as an exhibit to Form 10-Q for the quarterly period ended September
     30,1996 and incorporated herein by reference.
(11) Filed as an exhibit to Form 10-K for the fiscal year ended December 31,
     1996 and incorporated herein by reference.



                                       44
<PAGE>   45


                                   SIGNATURES

   Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
behalf of the undersigned, thereunto duly authorized.

                                    INFORMATION RESOURCE ENGINEERING, INC.



                                     By:          /s/ ANTHONY A. CAPUTO
                                           -------------------------------------
                                                    Anthony A. Caputo
                                            Chairman, Chief Executive Officer
                                                      and President

   Date:  March 30, 1999

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

<TABLE>
<CAPTION>
          SIGNATURE                         TITLE                                        DATE         
          ---------                         -----                                        ----         
<S>                            <C>                                                    <C>             
                                                                             
    /s/ ANTHONY A. CAPUTO      Chairman, Chief Executive Officer                      March 30, 1999  
-------------------------------and President                                                          
      Anthony A. Caputo                                                                               
                                                                                                      
    /s/ DAVID A. SKALITZKY     Secretary and Treasurer                                March 30, 1999  
-------------------------------(Principal Financial and                                               
      David A. Skalitzky       Accounting Officer)                                                    
                                                                                                      
     /s/ THOMAS A. BROOKS      Director                                               March 30, 1999  
-------------------------------                                                                       
       Thomas A. Brooks                                                                               
                                                                                                      
    /s/ DOUGLAS E. KOZLAY      Director                                               March 30, 1999  
-------------------------------                                                                       
      Douglas E. Kozlay                                                                               
                                                                                                      
     /s/ IRA A. HUNT, JR.      Director                                               March 30, 1999  
-------------------------------                                                                       
       Ira A. Hunt, Jr.                                                                               
                                                                                                      
      /s/ BRUCE R. THAW        Director                                               March 30, 1999  
-------------------------------                                                      
        Bruce R. Thaw
</TABLE>




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