UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                    FORM 10-K

            |X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                         SECURITIES EXCHANGE ACT OF 1934

                   For the fiscal year ended December 31, 1998

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

                        Commission File Number: 0-220-20

                                    CASTELLE
             (Exact name of Registrant as specified in its charter)

        California                                       77-0164056
(State or other jurisdiction of              (IRS Employer Identification No.)
 incorporation or organization)

                             3255-3 Scott Boulevard,
                         Santa Clara, California 95054
                    (Address of principal executive offices,
                               including zip code)

                                 (408) 496-0474
              (Registrant's telephone number, including area code)

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

           Securities registered pursuant to Section 12(g) of the Act:
                           COMMON STOCK, NO PAR VALUE

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 any amendment to this Form 10-K. ___

The  approximate  aggregate  market  value of the voting  common  equity held by
non-affiliates  of the Registrant,  based upon the last sale price of the Common
Stock reported on the Nasdaq  National  Market was $2,821,000 as of February 22,
1999.

The number of shares of Common  Stock  outstanding  as of February  22, 1999 was
4,337,575.


                       DOCUMENTS INCORPORATED BY REFERENCE

Certain exhibits filed with the Registrant's Registration Statement on Form SB-2
(Registration  No.  33-99628-LA-),   as  amended,  are  incorporated  herein  by
reference  into Part IV of this Annual  Report on Form 10-K and  portions of the
proxy statement to be filed in connection with the annual meeting to be held May
25, 1999 are incorporated herein by reference into Part III of this Report.

<PAGE>


                                    CASTELLE
                                    FORM 10-K
                                TABLE OF CONTENTS

<TABLE>
<CAPTION>

                                                                                                                PAGE

<S>                                                                                                              <C>
PART I        ....................................................................................................1

     ITEM 1.      BUSINESS........................................................................................1

     ITEM 2.      PROPERTIES.....................................................................................25

     ITEM 3.      LEGAL PROCEEDINGS..............................................................................25

     ITEM 4.      SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS..........................................25


PART II       ...................................................................................................26

     ITEM 5.      MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS...........................26

     ITEM 6.      SELECTED FINANCIAL DATA........................................................................27

     ITEM 7.      MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATION..........28

     ITEM 7A.     QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.....................................33

     ITEM 8.      FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA....................................................34

     ITEM 9.      CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE...........34


PART III      ...................................................................................................35

     ITEM 10.     DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.............................................35

     ITEM 11.     EXECUTIVE COMPENSATION.........................................................................35

     ITEM 12.     SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.................................35

     ITEM 13.     CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.................................................35


PART IV       ...................................................................................................36

     ITEM 14.     EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K................................36


SIGNATURES    ...................................................................................................38
   
</TABLE>



<PAGE>
                                     PART I

ITEM 1.       BUSINESS

         The  following  summary  should  be read in  conjunction  with,  and is
qualified in its entirety by, the more  detailed  information  and  Consolidated
Financial Statements and Notes thereto appearing elsewhere in this Annual Report
on Form 10-K.

         Except for the historical  information  contained herein, the following
discussion   contains   forward-looking   statements   that  involve  risks  and
uncertainties.  Castelle's  actual  results could differ  materially  from those
discussed  here.  Factors  that could cause or  contribute  to such  differences
include,  but are not limited to, those discussed herein under "Risk Factors" as
well  as in the  section  entitled  "Management's  Discussion  and  Analysis  of
Financial Condition and Results of Operations."


                                  INTRODUCTION

         Castelle  (the  "Company")  designs,  develops,  markets  and  supports
network  enhancement  products,  both  software and  hardware,  that improve the
productivity,  performance and functionality of local area networks ("LANs") and
enhance the LAN user's ability to communicate.  The Company's  products  consist
of:  FaxPress,   an  integrated   hardware/software   network  faxing  solution;
Object-Fax,   an  enterprise-level  Windows  NT  fax  server  software  product;
InfoPress an enterprise-level  fax-on-demand software product and LANpress print
servers.

         In  recent  years,   organizations  have  increasingly   interconnected
personal  computers into LANs.  Originally,  these LANs consisted of a dedicated
personal  computer,  called a file server, on which the network operating system
was installed, and multiple personal computers on which the users of the LAN ran
their applications. The network operating system on the file server provided the
server  administration  and  basic  file and print  sharing.  As  networks  have
proliferated  throughout  organizations  and  client/server  architectures  have
gained  acceptance,   LANs  have  become  increasingly  complex,  the  size  and
multimedia  intensity  of  files  being  communicated  have  increased  and  the
applications  operating  on the LAN have become more  critical to the success of
the business  enterprise.  These factors have caused network  administrators  to
seek network enhancement products which can improve network performance, enhance
the  functionality of the current installed base of network hardware and convert
single-user  resources  such as  stand-alone  printers and telephone  lines into
shared LAN resources in a cost-effective  manner.  The Company has developed its
line of network enhancement products to address these needs.

         The  Company's  objective  is to be a  leading  worldwide  supplier  of
network enhancement solutions. Key elements of the Company's strategy to achieve
this objective include: maintaining market focus in order to provide the Company
with a competitive edge in innovation and time-to-market  relative to its larger
competitors; broadening its software offerings to leverage its installed base of
fax products and print servers;  continuing to develop  products that are widely
compatible  with leading network  operating  systems and adapting those products
for remote  access and Internet  connectivity  capabilities;  strengthening  and
maintaining its domestic and international  distribution  network; and expanding
existing  relationships  and  fostering  new  alliances to augment the Company's
product  offerings that enable the Company to respond  quickly to  technological
changes.

         The Company has adapted its  products  for use with the Internet and on
the World Wide Web (the  "Web"),  and will  continue  to focus on the effect the
Internet has had on network productivity. For example, the Company has developed
Internet  fax  capability  with its  FaxPress  and  Object-Fax  fax  servers and
Internet print capability with its LANpress print servers.

                                      1.
<PAGE>
         The Company  distributes  its  products  primarily  through a two-tier,
domestic and international  distribution  network, with its distributors selling
Castelle's  products to  value-added  resellers  ("VARs"),  retailers  and other
resellers. The Company's three major domestic distributors include Ingram Micro,
Inc.   ("Ingram"),  Tech  Data  Corporation  ("Tech  Data")  and  Merisel,  Inc.
("Merisel").   The  Company's   major   international   distributor  is  Macnica
Corporation  ("Macnica")  in Japan.  The  Company  also has  relationships  with
certain  original  equipment  manufacturers  and  sells  software  and  upgrades
directly to end-users.

         In April 1998, the Company  completed its acquisition of the Object-Fax
NT products,  a facsimile  software  application  designed  for LANs,  wide area
networks  ("WANs")  and  Internet-based  networks,  from  Tolvusamskipti  HF, an
Icelandic corporation.

         The Company was  incorporated  in California in 1987, and its principal
offices are located at 3255-3 Scott Boulevard,  Santa Clara,  California  95054.
The Company's telephone number is (408) 496-0474.  Castelle(R),  LANpress(R) and
JetPress(R)   are  registered   trademarks  and   FaxPressTM,   InfoPressTM  and
Object-FaxTM  are  trademarks  of the Company.  This Annual  Report on Form 10-K
includes trademarks and trade names of other companies.


                                  RISK FACTORS

         Shareholders  or  investors  considering  the purchase of shares of the
Company's Common Stock should carefully consider the following risk factors,  in
addition to other information in this Annual Report on Form 10-K.

         Except for the historical  information  contained herein, the following
discussion   contains   forward-looking   statements   that  involve  risks  and
uncertainties.  The Company's actual results could differ  materially from those
discussed  here.  Factors  that could cause or  contribute  to such  differences
include,  but are not  limited  to,  those  discussed  herein  as well as in the
section entitled  "Management's  Discussion and Analysis of Financial  Condition
and Results of Operations."

Fluctuations in Operating Results

         The Company's revenue and operating results have fluctuated in the past
and the Company's  future revenues and operating  results are likely to do so in
the future, particularly on a quarterly basis.

         The Company's  operating results may vary significantly from quarter to
quarter due to a variety of factors,  including changes in the Company's product
and customer mix,  constraints  in the Company's  manufacturing  and  assembling
operations,   shortages  or  increases  in  the  prices  of  raw  materials  and
components,  changes in pricing  policy by the  Company  or its  competitors,  a
slowdown  in the  growth  of  the  networking  market,  seasonality,  timing  of
expenditures and economic conditions in the United States,  Europe and Asia. The
Company's  backlog at any given  time is not  necessarily  indicative  of actual
sales for any succeeding  period.  The Company's sales will often reflect orders
shipped in the same quarter in which they are received. In addition, significant
portions of the Company's  expenses are relatively fixed in nature,  and planned
expenditures are based primarily on sales forecasts.  Therefore,  if the Company
inaccurately  forecasts demand for its products, the impact on net income may be
magnified  by the  Company's  inability  to adjust  spending  quickly  enough to
compensate for the net sales shortfall. The Company's performance in any quarter
is not necessarily indicative of its performance in any subsequent quarter.

                                      2.
<PAGE>

         Other factors  contributing to fluctuations in the Company's  quarterly
operating  results  include  changes in the demand for the  Company's  products,
customer  order  deferrals  in  anticipation  of new  versions of the  Company's
products,  the  introduction  of new  products and product  enhancements  by the
Company or its  competitors,  the effects of filling the  distribution  channels
following such introductions,  potential delays in the availability of announced
or  anticipated   products,   the  mix  of  license  and  service  revenue,  the
commencement  or conclusion of  significant  development  contracts,  changes in
foreign  currency  exchange  rates,  the timing of  acquisitions  and associated
costs,  and the  timing  of  significant  marketing  and sales  promotions.  See
"Management's  Discussion  and  Analysis of Financial  Condition  and Results of
Operations."

History of Losses; Accumulated Deficit

         The Company has  experienced  significant  operating  losses and, as of
December 31, 1998, had an accumulated deficit of $21.4 million.  The development
and  marketing  by  the  Company  of  new  products  will  continue  to  require
substantial product development and other expenditures. Although the Company had
been  profitable in 1996 and 1995, the Company has sustained  losses in 1998 and
1997 and there can be no  assurance  that  growth in net sales or  profitability
will be achieved or sustained in future years. See "Management's  Discussion and
Analysis of Financial Condition and Results of Operations."

Threat of Delisting from The Nasdaq National Market System

         The  Company   participated  in  a  hearing  with  The  Nasdaq  Listing
Qualifications Panel on March 5, 1999 for the purpose of determining whether the
Company's common stock will continue to be listed on The Nasdaq National Market.
The hearing was  scheduled  because the market  value of the public float of the
Company's  outstanding  common stock failed to meet the $5.0 million  minimum as
required  by The Nasdaq  National  Market  listing  maintenance  standards.  The
Company  anticipates a decision on this matter by The Nasdaq Stock Market within
the next several  weeks.  If The Nasdaq Stock Market should  determine to delist
the Company's stock,  the decision would be communicated  after the close of the
market and would be effective immediately.  Should the Company's common stock be
delisted from The Nasdaq  National  Market  System,  it might be approved by The
Nasdaq Stock Market for listing on The Nasdaq SmallCap  Market,  but the Company
can give no assurance that such approval may be granted.  In the absence of such
approval,  the Company's  common stock may be listed on the OTC Bulletin  Board.
There can be no assurance that an active trading market for the Company's common
stock will develop following listing on either The Nasdaq SmallCap Market or the
OTC Bulletin Board,  or, if it develops,  that it will be sustained.  Lack of an
active trading market would have an adverse effect on a shareholder's ability to
liquidate an investment  in the  Company's  common stock easily and quickly at a
reasonable  price. It might also contribute to volatility in the market price of
the Company's  common stock.  Delisting from The Nasdaq  National  Market System
could adversely affect the Company's  ability to raise additional equity or debt
financing on reasonable terms or at all. Failure to obtain desired  financing on
acceptable  terms  could  adversely  affect the  Company's  business,  financial
condition and results of operations.

                                      3.
<PAGE>

Rapid Technological Change; Risks Associated with New Products

         The market for the Company's  products is affected by rapidly  changing
networking technology and evolving industry standards. The Company believes that
its future success will depend upon its ability to enhance its existing products
and to develop and introduce new products  which conform to or support  emerging
network  telecommunications  standards,  are compatible  with a growing array of
computer and peripheral devices,  support popular computer and network operating
systems and  applications,  meet a wide range of evolving user needs and achieve
market acceptance. There can be no assurance that the Company will be successful
in these efforts. The Company has incurred,  and the Company expects to continue
to incur, substantial expenses associated with the introduction and promotion of
new  products.  There can be no assurance  that the expenses  incurred  will not
exceed research and development budgets or that new products will achieve market
acceptance and generate sales sufficient to offset  development  costs. In order
to develop  new  products  successfully,  the Company is  dependent  upon timely
access to information about new technological  developments and standards. There
can be no  assurance  that the Company  will have such access or that it will be
able  to  develop  new  products   successfully   and  respond   effectively  to
technological change or new product  announcements by others.  Furthermore,  the
Company  expects  that  printer  and  other  peripheral  manufacturers  will add
features to their  products  that make them more network  accessible,  which may
reduce demand for the Company's  network  enhancement  devices.  There can be no
assurance that products or technologies  developed by others will not render the
Company's  products  non-competitive  or obsolete.  The fax-on-demand  market in
general has been negatively  affected by the growth of the Web and the Internet.
Although the Company has new Web/fax/e-mail  products in development,  there can
be no assurance these products will compete successfully.  Complex products such
as those offered by the Company may contain  undetected  or unresolved  hardware
defects or software errors when they are first introduced or as new versions are
released.  Changes in the Company's or its suppliers' manufacturing processes or
the  inadvertent  use of defective  components  by the Company or its  suppliers
could adversely affect the Company's ability to achieve acceptable manufacturing
yields and product reliability.  The Company has in the past discovered hardware
defects and  software  errors in certain of its new  products  and  enhancements
after their  introduction.  Although  the Company has not  experienced  material
adverse  effects  resulting  from  any such  errors  to  date,  there  can be no
assurance  that despite  testing by the Company and by  third-party  test sites,
errors will not be found in future  releases of the  Company's  products,  which
would result in adverse product reviews and negatively  affect market acceptance
of these products.

         The  introduction of new or enhanced  products  requires the Company to
manage the transition from older  products.  The Company must manage new product
introductions so as to minimize disruption in customer ordering patterns,  avoid
excessive levels of older product  inventories and ensure that adequate supplies
of new products can be delivered to meet customer demands.  The Company has from
time to time experienced delays in the shipment of new products. There can be no
assurance that future product  transitions  will be managed  successfully by the
Company. See "Business -- Products," "-- Research and Product  Development," and
"-- Sales, Marketing and Distribution."

Key Personnel

         The  Company's  success  depends  to  a  significant  degree  upon  the
continued  contributions  of the Company's key  management,  marketing,  product
development and operational personnel. The success of the Company will depend to
a large extent upon its ability to retain and continue to attract highly skilled
personnel.  Competition for employees in the computer  industry is intense,  and
there can be no  assurance  that the Company  will be able to attract and retain
enough qualified employees.  If the business of the Company grows, it may become
increasingly  difficult for it to hire,  train and  assimilate the new employees
needed. The Company's inability to retain and attract key employees could have a
material  adverse  effect  on  the  Company's  product  development,   business,
operating results and financial condition. The Company does not carry key person
life insurance  with respect to any of its personnel.  See "Business -- Research
and Product Development."

                                      4.
<PAGE>

Competition and Price Erosion

         The network  enhancement  products  and computer  software  markets are
highly  competitive,  and  the  Company  believes  that  such  competition  will
intensify in the future.  The competition is  characterized  by rapid change and
improvements in technology  along with constant  pressure to reduce prices.  The
Company currently competes principally in the market for network fax servers and
network print servers and fax-on-demand software. Increased competition,  direct
and  indirect,  could  adversely  affect the  Company's  business and  operating
results through  pricing  pressure,  loss of market share and other factors.  In
particular,  the Company expects that, over time, average-selling prices for its
print server products will continue to decline, as the market for these products
becomes increasingly competitive.  Any material reduction in the average selling
prices of the  Company's  products  would  require the Company to increase  unit
sales in order to avoid a  reduction  in net sales and  would  adversely  affect
gross  margins.  There can be no assurance  the Company will be able to maintain
the current average selling prices of its products or the related gross margins.

         The  principal   competitive  factors  affecting  the  market  for  the
Company's  products  include  product   functionality,   performance,   quality,
reliability,  ease of use,  quality  of  customer  training  and  support,  name
recognition,  price, and compatibility  and conformance with industry  standards
and changing  operating system  environments.  Several of the Company's existing
and   potential   competitors,   most   notably  the   Hewlett-Packard   Company
("Hewlett-Packard") and Intel Corporation ("Intel"),  have substantially greater
financial,  engineering,  manufacturing  and marketing  resources  than does the
Company.  The  Company  also  experiences  competition  from a  number  of other
companies.  In  addition  to its  current  competitors,  the  Company  may  face
substantial  competition from new entrants into the network  enhancement market,
including    established   and   emerging   computer,    computer   peripherals,
communications  and software  companies.  As the Company develops and introduces
more fax server software  products,  it is experiencing  increasing  competition
from companies such as Applied Voice Technology, Inc., Omtool, Ltd. and Computer
Associates  International,  Inc. There can be no assurance that competitors will
not introduce products  incorporating  technology more advanced than that of the
Company.  In addition,  certain competing methods of communications  such as the
Internet or electronic mail could adversely  affect the market for fax products.
Certain of the Company's existing and potential competitors are manufacturers of
printers and other peripherals, and these competitors may develop closed systems
accessible only through their own proprietary servers. There can be no assurance
that the Company will be able to compete  successfully or that  competition will
not have a material adverse effect on the Company's business,  operating results
and financial condition.  See "Management's Discussion and Analysis of Financial
Condition and Results of Operations."

International Sales

         Sales  to  customers  located  outside  Canada  and the  United  States
accounted for  approximately  38% and 47% of the Company's net sales in 1998 and
1997,  respectively.  The Company  sells its  products  in 39 foreign  countries
through  approximately 73  international  distributors.  Macnica,  the Company's
principal  Japanese  distributor,  and Azlan Group PLC ("Azlan"),  the Company's
largest United Kingdom  distributor,  accounted for  approximately 67% and 9% of
the Company's international sales in 1998, respectively,  and 68% and 11% of the
Company's  international  sales in 1997,  respectively.  In  October  1998,  the
Company terminated its agreement with Azlan. As a result, Ingram Micro (UK) Ltd.
("Ingram-UK")  in the  future  will now  generate  a major  portion of the sales
previously   created  with  Azlan  in  the  past.   The  Company   expects  that
international  sales will  continue to  represent a  significant  portion of the
Company's  product  revenues  and that the Company will be subject to the normal
risks of international sales, such as export laws, currency fluctuations, longer
payment cycles,  greater difficulties in accounts receivable collections and the
requirement  of  complying  with  a wide  variety  of  foreign  laws.  See  also
"Dependence on Proprietary Rights;  Uncertainty of Obtaining Licenses." Although
the Company has not previously experienced any difficulties under foreign law in
exporting its products to other  countries,  there can be no assurance  that the
Company  will not  experience  such  difficulties  in foreign  countries  in the
future. In addition, because the Company primarily invoices its foreign sales in
U.S.  dollars,  fluctuations  in  exchange  rates  could  affect  demand for the
Company's  products by causing its prices to be out of line with products priced
in the local currency. Additionally, any such difficulties would have a material
adverse  effect on the Company's  international  sales and a resulting  material
adverse  effect on the  Company's  business,  operating  results  and  financial
condition.  The  Company may  experience  fluctuations  in  European  sales on a
quarterly  basis because  European  sales may be weaker during the third quarter
than the second  quarter due to extended  holiday  shutdowns in July and August.
See "Business -- Sales, Marketing and Distribution."


                                      5.
<PAGE>

Lack of Product Revenue Diversification

         The  Company  derives  substantially  all of its sales from its fax and
print server products.  During 1998 and 1997, both products  represented 100% of
total net sales.  The Company expects that these hardware and software  products
will continue to account for a majority of the Company's sales in the future.  A
decline in demand for these products as a result of  competition,  technological
change or other  factors would have a material  adverse  effect on the Company's
business, operating results and financial condition.

Product Transition; Risk of Product Returns and Inventory Obsolescence

         From time to time,  the  Company may  announce  new  products,  product
versions,  capabilities  or  technologies  that have the potential to replace or
shorten the life cycles of  existing  products.  The release of a new product or
product  version may result in the  write-down  of product in  inventory if such
inventory  becomes obsolete.  The Company has in the past experienced  increased
returns of a particular  product version following the announcement of a planned
release of a new  version of that  product.  Although  the  Company  provides an
allowance for anticipated  returns,  and believes its existing policy results in
the  establishment of an allowance that is currently  adequate,  there can be no
assurance that product  returns will not exceed such allowance in the future and
will not have a material  adverse  effect on the Company's  business,  operating
results and financial condition.

Concentration of Distributors; Distribution Risks

         The Company sells its products  primarily  through a two-tier  domestic
and international  distribution network, with the Company's distributors selling
the  Company's  products to VARs,  retailers and other  resellers.  The personal
computer and networking products distribution industry has been characterized by
rapid change,  including  consolidations  due to the financial  difficulties  of
distributors  and  the  emergence  of  alternative   distribution  channels.  In
addition,  an  increasing  number of companies are competing for access to these
channels.  The Company's five largest distributors  accounted for 57% of its net
sales in 1998 and 68% of the Company's net sales in 1997. Macnica, the Company's
principal  Japanese  distributor,  and Ingram,  the Company's  largest  domestic
distributor,  accounted for approximately 26% and 17% of the Company's net sales
in 1998,  respectively,  and 32% and 14% of the Company's net sales in 1997. The
Company's distributors typically represent other products that are complementary
to, or  compete  with,  those of the  Company.  While the  Company  attempts  to
encourage  its  distributors  to focus on its  products  through  marketing  and
support  programs,  these  distributors  may give higher priority to products of
other  suppliers,  thereby  reducing  the  efforts  they  devote to selling  the
Company's  products.  In  particular,  certain  of  its  competitors,  including
Hewlett-Packard  and Intel,  sell a substantially  higher total dollar volume of
products through several of the Company's large United States  distributors and,
as a result,  the Company  believes such  distributors  give higher  priority to
products  offered  by  such  competitors.  The  Company's  distributors  are not
contractually  committed to future purchases of the Company's products and could
discontinue  carrying  the  Company's  products at any time for any  reason.  In
addition, because the Company is dependent on a small number of distributors for
a  significant  portion  of the  sales of its  products,  the loss of any of the
Company's  major  distributors  or their  inability  to  satisfy  their  payment
obligations  to the  Company  could  have a  significant  adverse  effect on the
Company's business, operating results and financial condition. The Company has a
stock  rotation  policy  with  certain of its  distributors  that allows them to
return marketable inventory against offsetting orders. Should the Company reduce
its prices,  the Company credits certain of its  distributors for the difference
between the  purchase  price of products  remaining in their  inventory  and the
Company's  reduced  price  for  such  products.  In  addition,  due to  industry
conditions  or the actions of  competitors,  inventory  levels of the  Company's
products  held by  distributors  could  become  excessive  resulting  in product
returns and inventory write-downs.  There can be no assurance that in the future
returns  and price  protection  will not have a material  adverse  effect on the
Company's business,  operating results and financial condition. See "Business --
Sales, Marketing and Distribution" and "Management's  Discussion and Analysis of
Financial Condition and Results of Operations."

                                      6.
<PAGE>


Dependence on Suppliers and Subcontractors

         The   Company's   products   incorporate   or  require   components  or
sub-assemblies procured from third-party suppliers.  Certain of these components
or  sub-assemblies  are  available  only from a single  source,  and  others are
available  only from limited  sources.  Certain key  components of the Company's
products,  including a modem chip set from  Rockwell  International  Corporation
("Rockwell")  and  a  microprocessor  from  Motorola,  Inc.  ("Motorola"),   are
currently available from only single sources.  Other components of the Company's
products  are  currently  available  from only a limited  number of sources.  In
addition, the Company subcontracts a substantial portion of its manufacturing to
third parties,  and there can be no assurance that these  subcontractors will be
able to support the manufacturing  requirements of the Company. The Company does
not have material  long-term  supply  contracts  with these or any other sole or
limited source vendors and  subcontractors  other than an agreement with SerComm
Corporation ("SerComm"), and otherwise purchases components or sub-assemblies on
a purchase  order basis.  The Company's  ability to obtain these  components and
sub-assemblies  is dependent  upon its ability to accurately  forecast  customer
demand for its products and to  anticipate  shortages of critical  components or
sub-assemblies created by competing demands upon suppliers.  If the Company were
unable  to  obtain  a   sufficient   supply  of   high-quality   components   or
sub-assemblies from its current sources,  the Company could experience delays in
obtaining such components or sub-assemblies from other sources. Resulting delays
or  reductions  in  product  shipments  could  adversely  affect  the  Company's
business,   operating  results  and  financial  condition  and  damage  customer
relationships.  Furthermore,  a significant increase in the price of one or more
of these  components  or  sub-assemblies  or the  Company's  inability  to lower
component or  sub-assembly  prices in response to competitive  price  reductions
could adversely affect the Company's  business,  operating results and financial
condition.

         The Company  augments  its product  offerings  by  obtaining  access to
third-party  products and technologies in areas outside of its core competencies
or where the Company believes internal  development of products and technologies
is not cost-effective. The Company's third-party product supplier is SerComm for
certain of the Company's print server  products.  There can be no assurance that
these  products will produce gross margins  comparable to those of the Company's
internally  generated products.  There can be no assurance that the parties with
which the Company  contracts will continue to provide the quantities and quality
of products needed by the Company or they will upgrade their respective products
on  a  timely  basis.  The  termination  of  the  Company's  relationships  with
third-party product suppliers and with SerComm,  in particular,  could result in
delays or reductions in product  shipments,  which could have a material adverse
effect on the Company's business, operating results and financial condition. See
"Business -- Manufacturing."

Government Regulation

         Certain  aspects  of the  networking  industry  in  which  the  Company
competes  are  regulated  both in the United  States  and in foreign  countries.
Imposition of public carrier tariffs,  taxation of  telecommunications  services
and the necessity of incurring  substantial  costs and expenditure of managerial
resources to obtain  regulatory  approvals,  particularly  in foreign  countries
where  telecommunications  standards differ from those in the United States,  or
the inability to obtain regulatory approvals within a reasonable period of time,
could have a  material,  adverse  effect on the  Company's  business,  operating
results and  financial  condition.  The  Company's  products  must comply with a
variety of  equipment,  interface  and  installation  standards  promulgated  by
communications  regulatory  authorities  in  different  countries.   Changes  in
government  policies,  regulations  and  interface  standards  could require the
redesign of products  and result in product  shipment  delays which could have a
material,  adverse  impact on the  Company's  business,  operating  results  and
financial condition.

                                      7.
<PAGE>

Dependence on Proprietary Rights; Uncertainty of Obtaining Licenses

         The   Company's   success   depends  to  a  certain   extent  upon  its
technological expertise and proprietary software technology.  The Company relies
upon a combination  of  contractual  rights and  copyright,  trademark and trade
secret laws to establish and protect its  technologies.  Despite the precautions
taken by the Company,  it may be possible for unauthorized third parties to copy
the Company's products or to reverse engineer or obtain and use information that
the  Company  regards as  proprietary.  In  addition,  the laws of some  foreign
countries either do not protect the Company's  proprietary  rights or offer only
limited protection. Given the rapid evolution of technology and uncertainties in
intellectual property law in the United States and internationally, there can be
no assurance that the Company's  current or future  products will not be subject
to third-party claims of infringement.  Any litigation to determine the validity
of any third-party claims could result in significant expense to the Company and
divert the efforts of the Company's technical and management personnel,  whether
or not such litigation is determined in favor of the Company. In the event of an
adverse result in any such  litigation,  the Company could be required to expend
significant resources to develop non-infringing technology or to obtain licenses
to the  technology  that  is the  subject  of the  litigation.  There  can be no
assurance  that the Company would be successful in such  development or that any
such licenses would be available. The Company also relies on technology licenses
from third parties.  There can be no assurance that these licenses will continue
to be available to the Company upon reasonable  terms, if at all. Any impairment
or termination of the Company's  relationship  with third-party  licensors could
have a material adverse effect on the Company's business,  operating results and
financial  condition.  There can be no assurance that the Company's  precautions
will be adequate to deter  misappropriation  or  infringement of its proprietary
technologies.  Furthermore,  while the Company has obtained federal registration
for many of its trademarks in the United States,  certain of its trademarks have
not been registered in the United States, and the Company has registered some of
its  trademarks  in foreign  jurisdictions.  There can be no assurance  that the
Company's  use of such  registered  trademarks  will not be  contested  by third
parties in the  future.  See  "Business-Research  and Product  Development"  and
"-Proprietary Rights."

         The Company has received, and may receive in the future, communications
asserting that its products infringe the proprietary  rights of third parties or
seeking indemnification against such infringement. The Company is not aware that
any of its  products,  trademarks,  or other  proprietary  rights  infringe  the
property rights of third parties.  However, there can be no assurance that third
parties will not assert  infringement  claims  against the Company in the future
with respect to current or future  products or that any such  assertion  may not
require  the  Company to enter  into  royalty  arrangements  or result in costly
litigation. As the number of software products in the industry increases and the
functionality  of these  products  further  overlap,  the Company  believes that
software developers may become  increasingly  subject to infringement clams. Any
such claims,  with or without  merit,  can be time  consuming  and  expensive to
defend. There can be no assurance that any such intellectual property litigation
that may be brought in the future will not have a material adverse effect on the
Company's business,  operating results and financial  condition.  As a result of
such claims or  litigation,  it may become  necessary or desirable in the future
for the Company to obtain  licenses  relating to one or more of its  products or
relating to current or future  technologies,  and there can be no assurance that
it   would   be  able  to  do  so  on   commercially   reasonable   terms.   See
"Business-Research and Product Development" and "-Proprietary Rights."

                                      8.
<PAGE>

Possible Volatility of the Company's Common Stock Price

         The price of the Company's  Common Stock has  fluctuated  widely in the
past.  Sales of  substantial  amounts  of the  Company's  Common  Stock,  or the
perception that such sales could occur, could adversely affect prevailing market
prices for the Company's  Common Stock.  The management of the Company  believes
that such past fluctuations may have been caused by the factors identified above
as well as announcements of new products,  quarterly fluctuations in the results
of  operations  and other  factors,  including  changes in the  condition of the
personal computer industry in general.  These  fluctuations,  as well as general
economic,  political and market conditions,  such as recessions or international
currency  fluctuations,  may adversely  affect the market price of the Company's
Common Stock. Stock markets have experienced  extreme price volatility in recent
years.  This  volatility  has had a  substantial  effect on the market prices of
securities issued by the Company and other high technology companies,  often for
reasons unrelated to the operating  performance of the specific  companies.  The
Company  anticipates  that prices for  Castelle  Common Stock may continue to be
volatile.  Such future  stock price  volatility  for  Castelle  Common Stock may
provoke the  initiation of securities  litigation  which may divert  substantial
management  resources  and have an  adverse  effect on the  Company's  business,
operating results and financial condition.

Future Capital Requirements

         Although  the Company  believes  that its existing  capital  resources,
expected  cash flows  from  operations  and  available  lines of credit  will be
sufficient to meet its  anticipated  capital  requirements  at least through the
next 12 months,  the Company may be required to seek  additional  equity or debt
financing.  The  timing  and  amount  of such  capital  requirements  cannot  be
determined at this time and will depend on a number of factors, including demand
for the  Company's  existing and new products and changes in  technology  in the
networking  industry.  There can be no assurance that such additional  financing
will  be  available  on  satisfactory   terms  when  needed,   if  at  all.  See
"Management's  Discussion  and  Analysis of Financial  Condition  and Results of
Operations -- Liquidity and Capital Resources."

Voting Control by Officers, Directors and Affiliates

         At February 22, 1999,  the  Company's  officers and directors and their
affiliates  beneficially  owned  approximately 35% of the outstanding  shares of
Common  Stock.  Accordingly,  together  they had the  ability  to  significantly
influence the election of the Company's  directors and other  corporate  actions
requiring  shareholder  approval.  Such  concentration of ownership may have the
effect of delaying, deferring or preventing a change in control of the Company.

Certain Charter Provisions

         The Company's Board of Directors has authority to issue up to 2,000,000
shares of Preferred  Stock and to fix the rights,  preferences,  privileges  and
restrictions,  including voting rights, of these shares without any further vote
or action by the shareholders. The rights of the holders of the Company's Common
Stock will be subject to, and may be  adversely  affected  by, the rights of the
holders of any Preferred Stock that may be issued in the future. The issuance of
Preferred  Stock,  while  providing  desirable  flexibility  in connection  with
possible  acquisitions  and other corporate  purposes,  could have the effect of
making  it more  difficult  for a third  party  to  acquire  a  majority  of the
outstanding  voting  stock  of  the  Company,  thereby  delaying,  deferring  or
preventing a change in control of the Company. Furthermore, such Preferred Stock
may have other rights,  including  economic rights,  senior to the Common Stock,
and as a result,  the issuance  thereof could have a material  adverse effect on
the market value of the Company's Common Stock.

                                      9.
<PAGE>


                                    BUSINESS

General

         Castelle designs,  develops,  markets and supports network  enhancement
products, both software and hardware, that improve the productivity, performance
and functionality of LANs and enhance the LAN user's ability to communicate. The
Company's current products include:  FaxPress,  an integrated  hardware/software
network faxing solution;  Object-Fax,  an enterprise-level Windows NT fax server
software product;  InfoPress an enterprise-level  fax-on-demand software product
and LANpress print servers. See "Business -- Research and Product Development."

         In April 1998, the Company  completed its acquisition of the Object-Fax
NT  products,  a facsimile  software  application  designed  for LANs,  WANs and
Internet-based  networks,  from Tolvusamskipti HF, an Icelandic corporation,  in
exchange  for $300,000 in cash and 100,000  shares of Castelle  common stock and
the right, at Castelle's  option,  to receive the number of additional shares of
Castelle common stock on the date six months after the acquisition  necessary to
make the fair market value of the common stock received in the  transaction  not
less than $500,000,  or the cash equivalent of such additional shares. The value
of the common  stock  received in the  transaction  was less than  $500,000  six
months  after the  acquisition.  The  Company is in the  process of  determining
whether an  additional  cash payment will be made or whether  additional  shares
will  be  issued.  The  option  is  equivalent  to  either  a  cash  payment  of
approximately  $386,000,  representing  the difference  between $500,000 and the
fair  market  value of 100,000  shares six months  after the  acquisition  or an
additional 339,000 shares of the Company's common stock.

Industry Background

         In  the  mid-1980s,   organizations  began  to  interconnect   personal
computers into LANs in order to allow work groups to share files and peripherals
such as  printers.  Originally,  these LANs  consisted  of a dedicated  personal
computer,  called a file  server,  on which the  network  operating  system  was
installed,  and multiple personal  computers on which users of the LAN ran their
applications.  The  network  operating  system on the file server  provided  the
server  administration  and  basic  file and print  sharing.  As  networks  have
proliferated  throughout  organizations  and  client/server  architectures  have
gained  acceptance,   LANs  have  become  increasingly  complex,  the  size  and
multimedia   intensity  of  files  being   transmitted  has  increased  and  the
applications  operating  on the LAN have become more  critical to the success of
the business  enterprise.  These factors have caused network  administrators  to
seek network enhancement products which can improve network performance, enhance
the  functionality of the current installed base of network hardware and convert
single-user  resources  such as  stand-alone  printers and telephone  lines into
shared LAN resources in a cost-effective  manner.  Fax servers and print servers
are two of the  primary  network  enhancement  solutions  that have  emerged  to
provide cost-effective improvements in network performance and functionality.

                                      10.
<PAGE>

         Fax Products:  Fax machines typically used in business environments are
         characterized  by  relatively  low  quality  transmissions,   low  data
         transmission  rates  and  the  inability  to  send  and  receive  faxes
         simultaneously.  Fax  machines  also require  labor-intensive  sorting,
         copying and routing of faxes in paper form. Alternatively,  a dedicated
         personal computer with a fax modem,  while able to store incoming faxes
         electronically  and improve fax  quality,  is not  economical  in a LAN
         environment  because  each  user must have his or her own fax modem and
         dedicated  telephone  line.  Fax servers have emerged as an  economical
         alternative for providing high performance faxing capability to network
         users.  A fax  server  connects a LAN to one or more  telephone  lines,
         enabling a large number of users to share  dedicated  telephone  lines.
         Users  are  able  to  send  faxes  directly  from  their  computers  or
         workstations,  eliminating  the need to print a document,  take it to a
         stand-alone fax machine and wait for its transmission.  In addition,  a
         fax server can sort incoming  faxes and route them  electronically  and
         confidentially  directly to the  electronic  mailboxes  of the intended
         recipients   and  store   non-urgent   outgoing   faxes  for  automatic
         transmission  at an "off-peak"  time when telephone rates are lower. In
         addition to fax servers, the Company also has  fax-on-demand  products.
         Fax-on-Demand  is the  ability  to  use a  touch-tone  phone  and a fax
         machine to request and  receive  hard  copies of  documents  on demand.
         Although there are a wide variety of  applications  installed,  the two
         most  common   applications   are  customer   support  and   literature
         fulfillment  applications.  The largest industry using fax-on-demand is
         the high-technology sector, with applications also installed in travel,
         government,  newspapers,  manufacturing  and non-profit  organizations.
         Essentially,  any company with information to disseminate publicly is a
         potential fax-on-demand customer.

         Print Servers:  The sharing of printers,  a basic benefit of a LAN, has
         traditionally been provided by connecting a printer either to a network
         file  server  or to a  dedicated  personal  computer  on  the  network.
         However,   direct   connection   to  the  file   server   has   several
         disadvantages, including the risk of the file server being overburdened
         by the processing required to print large or graphically complex files,
         lower print  transfer  speeds and  location  inflexibility.  Similarly,
         printer connection to a dedicated  personal  computer,  while providing
         better location  flexibility,  is more costly and offers  substantially
         lower  print file  transfer  speed than a  dedicated  print  server can
         provide.  A print server  directly  connects one or more  printers to a
         LAN, providing a cost-effective,  high-speed solution to the demand for
         shared  print  resources  on a LAN. In addition to  providing  location
         flexibility and convenience,  print servers improve network performance
         by relieving the burden on the file server. Furthermore,  print servers
         enable users to access  essential  information  about the status of the
         printer  and their  print  files and to select  their  desired  printer
         configuration.

         Network enhancement  solutions,  such as fax servers and print servers,
have  emerged to gain  significant  market  acceptance  due to their  ability to
improve  network   performance  and  personal   productivity,   enhance  network
functionality  and preserve the  investment  many companies have made in network
hardware.  The  Company  believes  that  as the  client/server  computing  model
continues to gain acceptance and applications which are critical to the business
enterprise  continue to be ported from  mainframes  and  minicomputers  to LANs,
corporate  processes will become more  dependent on the LAN and the  performance
enhancement  that can be achieved on the corporate LAN will more directly impact
overall  productivity.  As LAN users and network managers  continue to recognize
the  benefits  of  network  enhancement  products,  and  as  additional  network
functionality  such as  facsimile/document  communication  across the  Internet,
remote access, scanning,  electronic mail and multimedia communications continue
to emerge,  the Company  believes  that the demand for such network  enhancement
products will increase.

Castelle Strategy

         Castelle's  objective is to be a leading worldwide  supplier of network
enhancement  solutions.  The Company  intends to continue to provide  innovative
products  focused on  enhancing  the LAN  user's  ability  to  communicate.  Key
elements of the Company's strategy include:

                                      11.
<PAGE>

         Focus on Network Enhancement Products - The Company focuses exclusively
         on providing  innovative,  reliable,  easy-to-use  network  enhancement
         products.  Since its  inception,  the Company has focused on developing
         networking products that utilize advanced software to tightly integrate
         proprietary  hardware systems with standard computing  platforms.  As a
         result, the Company believes it has developed a high level of expertise
         in  networking,  software  development,  hardware  design and telephony
         technology.  The Company  plans to  capitalize  on these  attributes by
         continuing  to focus on providing  network  enhancement  products  that
         enable users to communicate more effectively.

         Broaden  Software  Offerings  - In order to  leverage  its  significant
         installed  base of fax and print  servers,  the Company is developing a
         range of value-added  software options which increase the functionality
         of  Castelle's   products  and  enable  them  to  address   specialized
         applications  because  customers are interested in obtaining more value
         from the fax  products,  Castelle  will continue to enhance the current
         base of product  and  create new  software  options.  Additionally,  to
         increase product functionality,  Castelle will continue partnering with
         other software  companies to provide key product  options like Internet
         fax capability,  operating system  interfaces,  and contact  management
         software.   Examples  of  applications   currently   available  include
         electronic   mail   gateways,   optical   character   recognition/image
         enhancement  software and billing/analysis and other management utility
         software.  Utilizing  an  extensive  internal  database  of over  6,000
         corporate  end-users  of Castelle  products,  the Company is  marketing
         these products through a direct telemarketing team.

         Expand  Product  Line - The  Company is  leveraging  its  expertise  in
         easy-to-use,  cost-effective enhancement solutions to offer new network
         and  communications  enhancement  products.  The Company  continues  to
         expand both its fax and print server products.

         Strengthen  and  Maintain  Distribution  Channels  -  The  Company  has
         established a two-tier domestic and international  distribution network
         of leading  national  and regional  network  product  distributors  and
         resellers.  The Company has launched its "global partner program" in an
         effort to expand the reseller  channel and to strengthen  relationships
         with  existing  VARs.  The  global  partner   program  offers  enhanced
         benefits,  which  will  allow  VARs to  increase  the sale of  Castelle
         products.  The Company  also sells  through OEM vendors such as Fujitsu
         Ltd.   ("Fujitsu").   The  Company  is  focused  on   maintaining   and
         strengthening  its  current  distribution  network  in  North  America,
         Europe, and Asia-Pacific regions.

         Leverage  Strategic  Relationships  - The Company  augments its product
         offering by establishing  relationships  with companies able to provide
         products in areas outside of the Company's core technical  competencies
         or in instances  where  internal  development  of such  products is not
         cost-effective.   The  Company  also  establishes   relationships  with
         numerous  leaders in hardware and software  technology  to enable it to
         keep abreast of, and respond quickly to, technological changes that may
         affect the network enhancement market.

Products

         The Company develops and markets a broad range of products that enhance
network  productivity,  performance  and  functionality.  The Company's  current
products  include:  FaxPress,  an integrated  hardware/software  network  faxing
solution;  Object-Fax,  an  enterprise-level  Windows  NT  fax  server  software
product; InfoPress an enterprise-level  fax-on-demand software product; LANpress
print servers and a range of software  enhancements for its fax and print server
products.

                                      12.
<PAGE>


         Fax Products

                  The    Company's   fax   products    include    FaxPress   fax
         hardware/software  server  systems,  Object-Fax fax server software and
         InfoPress  fax-on-demand  software.  The Company's fax server  products
         allow network users to send,  receive,  route,  print,  store, edit and
         retrieve fax transmissions  from their own personal computers on a LAN.
         These fax  server  products  enable  all  network  users to access  fax
         services  without  requiring  a large  investment  in  stand-alone  fax
         machines, fax modem boards or additional telephone lines. Network-based
         fax capability is a logical  extension of network printing  capability,
         enabling users to transmit documents directly to a fax device as easily
         as if they were  printing to a laser  printer or sending an  electronic
         mail message. Applications running on a LAN user's personal computer or
         workstation can send a native document.  The fax software then converts
         the file to fax format and sends the fax to the intended recipient. The
         fax products also provide network administration features like control,
         monitoring,  logging,  configuration,  etc.  The  Company's  fax server
         products are designed to comply with regulatory standards in the United
         States as well as countries in Europe and the Pacific Rim.  During 1998
         and 1997, fax products represented 68% and 58%, respectively,  of total
         net sales.

                  FaxPress Systems - Castelle's  FaxPress fax server systems are
                  turnkey  network-based fax solutions  consisting of fax server
                  hardware and software.  FaxPress is a compact,  self-contained
                  fax server that  connects  directly to a LAN and  contains fax
                  modem  hardware  that  is  accompanied  by  software  that  is
                  installed  from any personal  computer or  workstation  on the
                  LAN.  FaxPress system products are available in configurations
                  that  support  one,  two,  four or eight  dedicated  telephone
                  lines. Key features of the FaxPress products  (configured with
                  its current software versions) include:

                      o   Ability  to send faxes  from many  applications:  Easy
                          faxing  from  within any  Windows,  Windows  95/98 and
                          Windows NT  application  through a print driver.  Also
                          faxing of native  documents  for many popular  formats
                          like Microsoft Office, Lotus Smart Suite and HTML.

                      o   Broad networking support: FaxPress servers install and
                          operate   in   both   TCP/IP   and   SPX/IPX   network
                          environments.  FaxPress also support file servers with
                          Windows NT and Novell NetWare operating  systems.  The
                          server supports multiple  simultaneous  clients on the
                          network.

                      o   Electronic  routing  of faxes:  Electronic  routing of
                          faxes enhances efficiency and confidentiality  through
                          electronic  delivery  direct  to the fax  inbox of the
                          intended recipient.

                      o   Full 32-bit Windows  features:  A full featured 32-bit
                          Windows application for user activities like fax send,
                          receive, queue, status, fax viewing, saving, printing,
                          phone books, etc.

                      o   Full   administrative   controls:   Through  a  32-bit
                          interface,  FaxPress  provides  server  configuration,
                          user management, transaction logs, phonebook setup and
                          printer setup, etc.

                      o   Ability   to   integrate    with    multiple    e-mail
                          environments:  FaxPress  has the ability to  integrate
                          e-mail  environments  to send  and  receive  faxes  as
                          e-mail messages from Exchange,  Notes, ccMail and SMTP
                          systems.

                                      13.
<PAGE>

                      o   Ability to use fax  servers in  tandem:  Load  sharing
                          between fax servers  provides the  capability to stack
                          up to three fax server units and share up to 24 modems
                          for outbound faxing.

                      o   Group   broadcasts/scheduled   transmission:   Delayed
                          sending  feature  allows  users to send  faxes  during
                          "off-peak" hours, facilitating low-cost communications
                          for group broadcast and other uses.

                      o   FaxPress   hardware:   FaxPress   hardware  units  are
                          complete,   self  contained  networking  devices  that
                          contain  a main  board  consisting  of a CPU,  memory,
                          controls, a network interface (10 or 100 BaseT). There
                          are optionally 1-2 fax boards  consisting of a CPU and
                          2-4 modem lines per board.

                           The Company  offers a family of  FaxPress  fax server
                  systems  ranging  from  entry-level  products to high-end  fax
                  solutions  capable of supporting over 500 users. The suggested
                  U.S. list prices for FaxPress fax server  products  range from
                  $1,695 to  $7,495.  The server  pricing  is based on  hardware
                  model,  with no per user costs. The following table summarizes
                  the Company's FaxPress system products:
<TABLE>
<CAPTION>



                                                                               -----------------------------
                                                                                    Network Environment
  ----------------------------------------------------------------------------------------------------------
                         Number of    Number of                                   NetWare      Windows NT
                          Modems        Micro-         Memory       Network    3.x, 4.x, 5.x    (IPX,IP)
                                      Processors    (Megabytes)     Topology       (IPX)
      Product Model
  ----------------------------------------------------------------------------------------------------------     
  <S>                     <C>             <C>            <C>        <C>             <C>            <C>                 
  OfficeConnect Fax          1            1              4          Ethernet        |X|            |X|
  FaxPress 1500-N         1 or 2          1              8          Ethernet        |X|            |X|
  FaxPress 3500           2 or 4         2-3             8         Ethernet /       |X|            |X|
                                                                   Token Ring
  FaxPress 5000           4 or 8         2-3             32        Ethernet /       |X|            |X|
                                                                      Fast
                                                                    Ethernet
  ----------------------------------------------------------------------------------------------------------
</TABLE>

                  FaxPress  Software - The Company's  line of FaxPress  software
                  includes  client  applications  and  interfaces  for use  with
                  FaxPress systems and software enhancements and options.

                      o   Client  Applications  and Interfaces:  The Company has
                          developed  fax  applications  which  reside on the LAN
                          user's  personal  computer and are included as part of
                          the   Company's   FaxPress   products.    The   client
                          application  allows a user to send and receive  faxes,
                          includes support for user  authentication,  as well as
                          personal and corporate cover pages and phone books.

                      o   SDK: The Company's  FaxPress SDK application  consists
                          of a set of utility functions that send, receive,  and
                          manage faxes from a FaxPress  sever on the network.  A
                          "C-based"   API  is  also   available,   which  allows
                          programmers to integrate  faxing  functions into their
                          current  applications  or  to  create  new  customized
                          applications that use the FaxPress server.

                                      14.
<PAGE>


                       o  Software  Options:  The  Company  offers  a  range  of
                          value-added   software   options  which  increase  the
                          functionality  of  Castelle's   FaxPress  systems  and
                          enable   the    FaxPress   to   address    specialized
                          applications.   Software   upgrades  and  options  are
                          available to the installed  base of FaxPress  units at
                          prices ranging from $99 to $1,375. The following table
                          describes the available software options:


<TABLE>
<CAPTION>

  ------------------------------------------------------------------------------
  Software Option                   Description
  ------------------------------------------------------------------------------
  <S>                               <C>    
  Castelle Internet Faxing          Castelle   Internet   Faxing   provides  the
                                    ability  to send  faxes  to  other  FaxPress
                                    units via the Internet.
  
  Microsoft Exchange Gateway        Integrates   the  FaxPress  into   Microsoft
                                    Outlook,  enabling users to send and receive
                                    faxes from  Outlook in  addition  to sending
                                    documents   in   native    format   as   fax
                                    attachments.

  Lotus Notes Gateway               Integrates  the  FaxPress  into Lotus Notes,
                                    enabling  users  to send and  receive  faxes
                                    from Lotus Notes.
                                    
  STMP Gateway                      Allows users to send and receive  faxes from
                                    any     e-mail     application     in     an
                                    Internet-standard STMP environment.
                                    
  Embedded Codes Gateway            Enables  mainframe  computer  users  to send
                                    faxes  using the  FaxPress  server. 
                                    
  Optical Character Recognition/    Enables an incoming fax to be converted into
  Image Enhancement                 an  editable   format.   Image   enhancement
                                    capability enables the electronic editing of
                                    a fax image to correct visual defects.                     
                                    
                                    
  Billing and Analysis Software     Analyzes  and  allocates  cost of  faxing by
                                    user,  department  or  customer  and creates
                                    "ready to print" reports.
                                    
  ------------------------------------------------------------------------------
</TABLE>
 
                  Object-Fax Software - Object-Fax runs on the Microsoft Windows
                  NT 4.0 platform. It is a 32bit multi-threaded  distributed fax
                  server  that is  designed  to  handle  up to 60 fax  ports per
                  server and supports  Windows and e-mail  clients.  The clients
                  may run on any 16 or 32 bit Windows platform.  The system also
                  supports  integration of custom applications  running on other
                  platforms through a file-based API. The Object-Fax server uses
                  intelligent  fax boards that are  installed  on the Windows NT
                  platform as an interface to fax  protocols  and the  telephone
                  systems.

                      The  Object-Fax  product  consists of the following  major
                      components.

                      o   The  Object-Fax   Server:  The  Object-Fax  server  is
                          designed to be robust and scalable. It integrates with
                          advanced Windows NT platform  technologies  like DCOM,
                          RPC,  ODBC  and SQL.  Each  Object-Fax  server  PC can
                          operate  up to 60 fax  lines at a time,  which  can be
                          analog,  DID,  ISDN, or T1 phone lines.  Each fax line
                          can be separately  configured  to send and/or  receive
                          faxes. If not configured specifically, Object-Fax will
                          detect  which  lines  are free  and  send and  receive
                          through the available lines.

                      o   Object-Fax E-mail  Integration:  The Object-Fax server
                          provides a true  integration  into Microsoft  Exchange
                          with  an  optional   add-on  module.   The  Object-Fax
                          Exchange  Connector allows users to send faxes as they
                          would send e-mail and to receive faxes in their inbox.
                          A customer can use their corporate  global cover pages
                          in faxes.  Object-Fax  also  integrates into any other
                          e-mail system that supports SMTP with an optional SMTP
                          Gateway (cc: Mail, Lotus Notes,  GroupWise),  enabling
                          e-mail  users to fax e-mail  messages  in the same way
                          they send Internet mail.

                                      15.
<PAGE>

                      o   Object-Fax   Windows  Client:   Object-Fax  offers  an
                          ease-of-use feature that enables end users to send and
                          receive from the desktop. It is designed with a 32-bit
                          client  interface for Windows 95/98 and Windows NT and
                          a  16-bit  client   interface  for  Windows  3.1.  The
                          Object-Fax   Windows   client  is  intuitive  and  has
                          received  many awards in the past for being one of the
                          easiest fax  interfaces to use.  Features  include the
                          floating   tool  bar,  fax  merge,   fax   enveloping,
                          on-screen notifications and TOM.

                      o   Object-Fax Broadcast Client: The Broadcast Client is a
                          high-performance,   32-bit  application  that  enables
                          broadcasts  to a large group of  recipients  stored in
                          any ODBC or SQL  database.  No  importing  is required
                          since the Broadcast  Client  attaches  directly to the
                          database  and  there are no size  limitations  on each
                          group.  The  Broadcast  Client is a Windows  95/98 and
                          Windows NT 4.0 application that "looks and feels" like
                          Microsoft Explorer. Equipped with an area code parser,
                          there is no need to add a 1 in front of long  distance
                          fax numbers or  removing  the local area code from the
                          fax broadcast list, as that function is  automatically
                          performed.

                      o   Object-Fax      Administration     Client:     Network
                          administrators  can oversee and manage all  Object-Fax
                          users  from  their  workstation  with  the  Object-Fax
                          Administrator, and these user accounts can be imported
                          from Novell or Windows NT file server.  The Object-Fax
                          administrator also gives complete control over routing
                          of outgoing and incoming  faxes through an intelligent
                          routing manager.

                      o   Object-Fax Report Manager: The Report Manager provides
                          access to  statistical  reports  about the  Object-Fax
                          system. These reports can be organized hierarchically,
                          and  each   report  is   connected   directly  to  the
                          Object-Fax  SQL database for live  updates.  Users can
                          easily add new reports to the library of reports since
                          the report manager supports Crystal Reports,  a widely
                          used database tool of Seagate Technology, Inc.

                      o   Integration   Tools:   Object-Fax   FAPI  2.0  enables
                          corporate developers to easily add fax capabilities to
                          their  applications  no matter on what  platform  they
                          run. This powerful  integration tool is an ASCII-based
                          integration tool that allows an application running on
                          any platform to fax ASCII,  TIFF, PCL5, and PostScript
                          files.

                                      16.
<PAGE>


                  InfoPress  Software  -  Castelle's   InfoPress   fax-on-demand
                  product suite consists of numerous  software  components  that
                  are  designed  to operate  together  in a robust and  scalable
                  manner which runs on the Microsoft Windows NT platform. The NT
                  server also requires  voice and fax  processing  hardware,  as
                  well as, telephone  system  interface  (analog or T1) hardware
                  with as few as 2 and as many as 288  ports  that are  actually
                  deployed at a customer site.

                      InfoPress  replaces  an  older  Ibex  product,  FactsLine.
                  InfoPress  software  enables the access of  information  via a
                  phone  and a fax  machine  and  allows  the  dissemination  of
                  information  via  "broadcasting"  to a select  database of fax
                  numbers.  InfoPress  allows  companies  to use one  source  of
                  documents in a Castelle  document library and to automatically
                  publish the documents  using either the  fax-on-demand  and/or
                  e-mail-on-demand methods.

                      o   Fax-on-Demand:  Fax-on-Demand allows a user to request
                          and  receive   information  on  demand  by  dialing  a
                          telephone  number.  Then the user will interact with a
                          series of voice prompts to select specific  documents,
                          by simply using the telephone  keypad,  and requesting
                          delivery of these documents to a fax number.

                      o   E-mail-on-Demand:  E-mail-on-Demand  is the ability to
                          use e-mail  (local or Internet) to request and receive
                          information on demand. Auto-reply e-mail exists today,
                          but is limited to receiving one  document,  usually in
                          text format. The main benefit of  e-mail-on-demand  is
                          the  ability to utilize a document  library  common to
                          the fax-on-demand library.

                      o   Web Integration: InfoPress supports Web HTML documents
                          in  the  document  library.   The  Web  documents  are
                          automatically   rendered  into  a  fax  document  when
                          required.

         Print Servers

                  The Company's print server products  perform  network-printing
         services  otherwise  handled by a file server or a  dedicated  personal
         computer.  The Company offers a family of  multi-protocol  external and
         internal  print servers that enhance  overall  network  performance  by
         reducing  the  burden  on  the  file  server  or a  dedicated  personal
         computer.  During 1998 and 1997,  print server  (LANpress and JetPress)
         products represented 32% and 42%, respectively, of total net sales.

                  The  Company  believes  its print  servers  provide a superior
         method  of  connecting  printers  to a LAN  for a  number  of  reasons,
         including:

                      o   Network performance  enhancement:  The Company's print
                          servers   enable   substantially   higher  print  file
                          transfer  speeds than file servers while  reducing the
                          data transfer and processing burden on file servers.

                      o   Plug-and-play  in a  multi-protocol  environment:  The
                          Company's  print servers offer easy  installation  and
                          configuration,  with  multiple  protocols  enabling  a
                          seamless integration into a mixed network environment.
                          This is not possible using either a dedicated personal
                          computer or a file server.

                      o   Location flexibility:  The Company's print servers are
                          self-contained,  can be located  anywhere on a network
                          and can support  printer-clustering  as well as single
                          printer connectivity.

                                      17.
<PAGE>

                      o   Cost-effectiveness:  The  Company's  print servers are
                          more  cost-effective than dedicated personal computers
                          or direct file server connections.

                      o   Compatibility:   The   Company's   print  servers  are
                          compatible  with  printers  from  virtually  all major
                          printer vendors and support leading network  operating
                          systems on both the Ethernet (100 Base-T or 10 Base-T)
                          and Token Ring networks.

                  LANpress  Products  -  The  Company's  LANpress  products  are
                  external  print  servers  that  are  independent  nodes  on  a
                  network.   They  represent   superior  methods  of  connecting
                  printers  to a LAN due to their  multi-protocol  capabilities.
                  With a variety of configurations for a single printer or up to
                  4 printers,  and support for NetWare (true NDS), UNIX, Windows
                  NT,  Windows  95/98,  Windows for  Workgroups  and  AppleTalk,
                  LANpress is compatible with printers with standard parallel or
                  serial  interfaces and is targeted at the large installed base
                  of stand-alone  printers.  LANpress has remote  management and
                  configuration  features enabling the network  administrator to
                  check for print queues and status,  locate sources of problems
                  and reconfigure  units within the network from anywhere on the
                  LAN. LANpress selectively routes to all networked printers and
                  thereby  improves the  productivity of all printers across the
                  network.  LANpress products can serve up to 56 print queues on
                  up to 16 file  servers.  LANpress  was  recently  enhanced  to
                  provide Internet printing  capability.  This allows the PCs to
                  submit  e-mails and  attachments  to LANpress for printing via
                  the Internet. The suggested U.S. list price for LANpress print
                  servers ranges from $149 to $549.

         The following table summarizes the Company's line of LANpress  external
print servers:
<TABLE>
<CAPTION>

                                        -----------------------------------------------------
                                                       Network Environment
----------------------------------------.....................................................-------------------------
                             Ethernet                               Windows                      Flash
   Product Configuration      Network   NetWare 3.x,  UNIX TCP/IP  3.11 / 95       Apple        Upgrade    Internet
                             Interface    4.x, 5.x                 / 98 / NT     Ethertalk    Capability    Printing
----------------------------------------------------------------------------------------------------------------------
                            
<S>                             <C>          <C>          <C>         <C>           <C>           <C>         <C>
LANpress 1P/100 MP (1)          |X|          |X|          |X|         |X|           |X|           |X|         |X|
LANpress 3P/100 (2)             |X|          |X|          |X|         |X|           |X|           |X|         |X|
LANpress Jr. MP (3)             |X|          |X|          |X|         |X|           |X|           |X|         |X|
LANpress 1P MP (1)              |X|          |X|          |X|         |X|           |X|           |X|         |X|
LANpress 2+1 MP (4)             |X|          |X|          |X|         |X|           |X|           |X|         |X|
LANpress 3+1 MP (2)             |X|          |X|          |X|         |X|           |X|           |X|         |X|
OfficeConnect Print (5)         |X|          |X|          |X|         |X|                         |X|
----------------------------------------------------------------------------------------------------------------------
   --------------------
   (1)1 Centronics parallel port
   (2)Numbers refer to the number of parallel and serial port connections, 
      respectively.
   (3)Connects directly to port on Printer
   (4)Numbers  refer to the number of  parallel  and serial  port
      connections,  respectively.  The LANpress 2+1 MP also comes
      with a Token Ring network interface.
   (5)2 Centronics parallel ports

</TABLE>

                                      18.

<PAGE>


Research and Product Development

         The Company has made  substantial  investments  in research and product
development.  The Company  believes its future  performance will depend in large
part on its  ability to enhance  its current  products,  maintain  technological
competitiveness and meet an expanding range of customer requirements.

         Castelle  continues  to invest in enhancing  the  FaxPress  products by
developing new versions of client and server software and server  hardware.  The
product  feature set is driven by the increasing  complexity of user needs.  The
increasing complexity of user needs results from the proliferation of client and
network  environments,  the continued importance of Windows NT based systems and
the increasing importance of Internet faxing.

         New  versions  of hardware  are in  development  to enable  100mbps and
higher performance at the lower end of the product group.  Further, new versions
of the client software will have enhancements in:

         o  Improved administrative convenience

         o  Management of user login/authorization via existing network 
            mechanisms (NDS, NT)

         o  Integration with 3rd Party applications, such as contact managers

         o  Integration with corporate ODBC databases

         o  Enhanced fax archiving and storage capabilities

         o  Support for e-commerce and Web integration

         The server software will have enhanced  performance,  including support
for Simple Network Management Protocol (SNMP) network management.  Castelle will
continue to further its strategy of supporting  Internet  Faxing through its own
FaxPress-to-FaxPress  communication  and  interfaces to third party Internet Fax
providers.  Castelle is also  investing in  developing a new  generation  of the
FaxPress hardware platform.

         In the Object-Fax  products,  enhancements  are planned to enable other
fax board  manufacturers  and new board types from existing  manufacturers to be
supported.  This will allow more cost  effective  solutions for high capacity T1
lines,  support  for ISDN PRI in Europe,  etc.  Development  plans also  include
greater   enhancements   of  Internet  fax  features,   more  efficient   e-mail
integration, higher performance clustering features, etc.

         The InfoPress  product line is being  enhanced to improved  integration
with the Object-Fax  product while  providing  increased  robustness and ease of
installation.

         There  can be no  assurance  that the  Company  will be  successful  in
developing  and marketing the new software and hardware  product  versions or in
responding to other emerging technological  developments or that any development
will achieve commercial acceptance.  The Company is seeking and will continue to
seek to hire additional skilled development engineers. Such engineers are likely
to be in  short  supply,  and the  Company's  business,  operating  results  and
financial  condition  could be  adversely  affected if it  encounters  delays in
hiring or fails to retain the required skilled engineers.  See "Business -- Risk
Factors -- Key Personnel."


                                      19.
<PAGE>


Sales, Marketing and Distribution

         Castelle sells its products through multiple channels, the channel used
being  determined by the product,  market and customer  need. The Company has an
established two-tier domestic and international  distribution network of leading
national and regional network product  distributors  and resellers.  The Company
also sells  through  OEM  vendors  such as Fujitsu.  Software  enhancements  and
options that complement the FaxPress products are primarily marketed directly by
the Company to registered  end-users.  The direct sales group works closely with
the  distributors  and VARs in qualifying  sales  opportunities  for the fax and
print server products.  The Company is maintaining its  distribution  network in
North  America,   Europe,  and  Asia-Pacific  regions.  The  Company's  European
headquarters  provides  sales  and  support  services  primarily  to the  United
Kingdom.

         Demand  for  Castelle's  products  is  created  through  a  variety  of
marketing programs.  These programs include targeted and active participation in
industry  networking and  communication  trade shows,  as well as advertising in
associated publications.  The Company increases awareness of Company products by
advertising,  conducting  direct mail campaigns,  sending  Company  newsletters,
offering  seminars,  trade  shows  and  conferences  and  other  forms of public
relations efforts.  The Company also employs Internet marketing tools to attract
new  customers.  The Company's  entire Web site has been updated and designed to
assist  perspective  customers obtain information about products of Castelle and
to be able to contact  sales  personnel.  The  Company  has  launched  sales and
marketing  efforts designed to encourage VARs and other resellers to promote and
sell the Company's products.

         The Company's five largest distributors accounted for approximately 57%
of the  Company's  net sales in 1998 and 68% of its net sales in 1997.  Macnica,
the Company's principal Japanese distributor,  and Ingram, the Company's largest
domestic distributor,  accounted for approximately 26% and 17%, respectively, of
the Company's net sales in 1998 and 32% and 14%, respectively,  of its net sales
in 1997.  Sales to  customers  located in the  Pacific  Rim and  Europe  made up
approximately  38%  and  47% of the  Company's  net  sales  in  1998  and  1997,
respectively. The Company's distributors typically represent other products that
are  complementary to or compete with,  those of the Company.  While the Company
attempts  to  encourage  its  distributors  to  focus  on its  products  through
marketing and support programs,  these  distributors may give higher priority to
products of other suppliers, thereby reducing the efforts they devote to selling
the Company's  products.  In particular,  certain of its competitors,  including
Hewlett-Packard  and Intel,  sell a substantially  higher total dollar volume of
products through several of the Company's large United States  distributors and,
as a result,  the Company  believes such  distributors  give higher  priority to
products  offered  by  such  competitors.  The  Company's  distributors  are not
contractually  committed to future purchases of the Company's products and could
discontinue  carrying  the  Company's  products at any time for any  reason.  In
addition, because the Company is dependent on a small number of distributors for
a  significant  portion  of the  sales of its  products,  the loss of any of the
Company's  major  distributors  or their  inability  to  satisfy  their  payment
obligations  to the  Company  could  have a  significant  adverse  effect on the
Company's business, operating results and financial condition. The Company has a
stock  rotation  policy  with  certain of its  distributors  that allows them to
return marketable inventory against offsetting orders. Should the Company reduce
its prices,  the Company credits certain of its  distributors for the difference
between the  purchase  price of products  remaining in their  inventory  and the
Company's  reduced  price  for  such  products.  In  addition,  due to  industry
conditions  or the actions of  competitors,  inventory  levels of the  Company's
products  held by  distributors  could  become  excessive  resulting  in product
returns and inventory write downs.


                                      20.
<PAGE>


Customer Service and Support

         The  Company  provides  customers  with  support  services,  which  are
available to assist customers with  installation,  use and operation issues that
will ensure smooth and reliable  operation of Castelle  products.  The Company's
network engineers, located at corporate headquarters,  provide technical support
via telephone, fax and e-mail during normal Company business days from 6:00 a.m.
to 6:00 p.m.  (Pacific Time). As part of the Company's  global partner  program,
VARs have access to "priority  technical support" via a special toll free number
that  provides  immediate  access to  Castelle  network  engineers.  Support  is
provided under warranty as well as with different extended software and hardware
support  agreements  sold  directly to the customer by the Company.  The Company
also has other customer support  activities,  including a Web site as well as an
internal  help desk system.  The Company has a call  management  automated  call
distribution  system to  provide  improved  levels of  support  to help  resolve
customer issues.

Manufacturing

         The  Company's  current  in-house   manufacturing   operations  consist
primarily of material  planning,  final test and assembly,  quality  control and
service repair. Certain of the Company's manufacturing  operations are performed
by third party manufacturers that provide customized,  integrated  manufacturing
services,  including  procurement,  manufacturing and associated printed circuit
board assembly. The Company also relies on SerComm to provide it with certain of
its print  server  products.  These  arrangements  enable  the  Company to shift
certain costs to such providers, thereby allowing the Company to focus resources
on  its  product  development   efforts.  The  failure  of  such  manufacturers,
particularly SerComm, to meet their contractual commitments to the Company could
cause delays in product shipments,  thereby potentially  adversely affecting the
Company's business, operating results and financial condition.

         The Company  does not  currently  have any  material  long-term  supply
contracts with any of its manufacturing  subcontractors  or component  suppliers
other than an  agreement  with  SerComm  relating  to the  manufacture  of print
servers.  Other  than its  relationship  with  SerComm,  the  Company  purchases
components on a purchase order basis. The Company owns all engineering, sourcing
documentation,  functional test equipment and tooling used in manufacturing  its
products,  except for the products  which are produced by SerComm,  and believes
that it could  shift  product  assembly to  alternate  suppliers  if  necessary.
Certain key  components  of the Company's  products,  including a modem chip set
from Rockwell,  and a microprocessor from Motorola, are currently available from
only single sources.  Other  components of the Company's  products are currently
available  from only a limited  number of  sources.  In  addition,  the  Company
subcontracts a substantial  portion of its  manufacturing to third parties,  and
there can be no assurance that these  subcontractors will be able to support the
manufacturing requirements of the Company. The Company's ability to obtain these
components  or  sub-assemblies  is  dependent  upon its  ability  to  accurately
forecast  customer  demand  for its  products  and to  anticipate  shortages  of
critical  components  or  sub-assemblies   created  by  competing  demands  upon
suppliers.  If the  Company  were  unable  to  obtain  a  sufficient  supply  of
high-quality  components or sub-assemblies from its current sources, the Company
could  experience  delays in obtaining such  components or  sub-assemblies  from
other  sources.  Resulting  delays or  reductions  in  product  shipments  could
adversely  affect  the  Company's  business,  operating  results  and  financial
condition  and damage  customer  relationships.  See  "Business  -- Risk Factors
Dependence on Suppliers and Subcontractors." Furthermore, a significant increase
in the  price  of one or more  of  these  components  or  sub-assemblies  or the
Company's  inability to lower  component or  sub-assembly  prices in response to
competitive  price  reductions  could  adversely  affect the Company's  business
operating results and financial condition.


                                      21.
<PAGE>


Competition

         See  "Business -- Risk Factors --  Competition  and Price  Erosion" and
"Management's  Discussion  and  Analysis of Financial  Condition  and Results of
Operations - Results of Operations."

Proprietary Rights

         The   Company's   success   depends  to  a  certain   extent  upon  its
technological expertise and proprietary software technology.  The Company relies
upon a combination  of  contractual  rights and  copyright,  trademark and trade
secret laws to establish and protect its technologies. Additionally, the Company
generally   enters  into   confidentiality   agreements  with  those  employees,
distributors,  customers and suppliers who have access to sensitive  information
and limits access to and  distribution of its software  documentation  and other
proprietary  information.  Because of the rapid pace of technological  change in
the LAN product  industry,  the Company believes that patent  protection for its
products is less  significant  to its success  than the  knowledge,  ability and
experience of its employees,  the frequent introduction and market acceptance of
new products and product enhancements, and the timeliness and quality of support
services provided by the Company. See "Risk Factors -- Dependence on Proprietary
Rights; Uncertainty of Obtaining Licenses."

         Despite the  precautions  taken by the Company,  it may be possible for
unauthorized third parties to copy certain portions of the Company's products or
to reverse  engineer or obtain and use  information  that the Company regards as
proprietary.  There can be no assurance that the Company's  precautions  will be
adequate  to  deter   misappropriation   or   infringement  of  its  proprietary
technologies.  Furthermore,  while the Company has obtained federal registration
for many of its trademarks in the United States,  certain of its trademarks have
not been  registered in the United States and the Company has registered some of
its  trademarks  in foreign  jurisdictions.  There can be no assurance  that the
Company's  use of such  unregistered  trademarks  will not be contested by third
parties in the future. In addition, the laws of some foreign countries either do
not protect the Company's  proprietary rights or offer only limited  protection.
Given the rapid  evolution  of  technology  and  uncertainties  in  intellectual
property law in the United States and internationally  there can be no assurance
that the Company's current or future products will not be subject to third-party
claims  of  infringement.  Any  litigation  to  determine  the  validity  of any
third-party claims could result in significant expense to the Company and divert
the efforts of the Company's technical and management personnel,  whether or not
such  litigation  is  determined  in favor of the  Company.  In the  event of an
adverse result in any such  litigation,  the Company could be required to expend
significant resources to develop non-infringing technology or to obtain licenses
to the  technology  that  is the  subject  of the  litigation.  There  can be no
assurance  that the Company would be successful in such  development or that any
such licenses would be available. The Company also relies on technology licenses
from third parties.  There can be no assurance that these licenses will continue
to be available to the Company upon reasonable  terms, if at all. Any impairment
or termination of the Company's  relationship  with third-party  licensors could
have a material adverse effect on the Company's business,  operating results and
financial condition.

Government Regulation

         See  "Business -- Risk Factors -- Government Regulations."


                                      22.
<PAGE>


Employees

         As of December 31, 1998,  the Company  employed a total of 96 full-time
equivalent  personnel,  22 in  manufacturing,  28 in sales and marketing,  19 in
engineering,  15 in customer service and 12 in finance and  administration.  The
Company intends to continue to hire additional  personnel in connection with the
expansion  of its  operations.  The  Company has never had a work  stoppage,  no
employees are represented by a labor  organization and the Company considers its
employee relations to be good.

         The Company has entered into  confidentiality  agreements  with all its
employees  (including  its  officers)  that prohibit  disclosure of  information
confidential  to the company to anyone  outside of the  Company  both during and
subsequent  to  employment  and  require  disclosure  to the  Company  of ideas,
discoveries or inventions  relating to or resulting from the employee's work for
the Company and  assignment  to the  Company of all  proprietary  rights to such
ideas, discoveries or inventions.





                                      23.
<PAGE>



                      EXECUTIVE OFFICERS OF THE REGISTRANT

Identification of Executive Officers

         The names of the executive officers of the Company and their ages as of
February 22, 1999 are set forth below:

      Name         Age       Position
Arthur H. Bruno    65   Chairman of the Board
Donald L. Rich     57   President and Chief Executive Officer
Jerome J. Burke    58   Executive Vice President
Prasad Raje        33    Chief Technical Officer, Vice President of Engineering


Arthur H. Bruno

     Mr. Bruno served as the Company's Chairman of the Board since October 1993,
     as Chief  Executive  Officer from October 1993 through  April 1997 and from
     November 1997 to November  1998, and as President from October 1993 through
     April 1997. From February 1996 to the present he has served as the Chairman
     of the Board  and as a  director  of  Ashlar,  a  privately  held  maker of
     computer-aided  design software.  From 1991 to 1993, he was Chairman of the
     Board and Chief  Executive  Officer of White Pine Software  Inc., a desktop
     connectivity  company.  From 1989 to 1991, he was the Chairman of the Board
     and Chief Executive Officer of Wellsley Medical Management  Corporation,  a
     primary  care  medical  service  provider.  From  1986 to 1989,  he was the
     Chairman  of the Board and Chief  Executive  Officer  of Visual  Technology
     Incorporated,  the  predecessor  to White Pine  Software Inc. Mr. Bruno has
     served as a director of White Pine  Software,  Inc. since February 1994 and
     is also a director of several privately held companies.

Donald L. Rich

     Mr.  Rich  joined  the  Company  in  November  1998 and has served as Chief
     Executive  Officer and President  from  November 1998 to the present.  From
     January 1997 until  November 1998,  Mr. Rich was  self-employed.  From 1993
     through  1997,  Mr.  Rich was Chief  Executive  Officer  and  President  of
     Talarian  Corporation.  Prior to that,  he held various sales and marketing
     management positions at Integrated Systems, Inc. and International Business
     Machines Corporation.

Jerome J. Burke

     Mr. Burke  joined the Company in December  1993 and has served as Executive
     Vice  President  from  November  1998  to the  present.  He  served  as the
     Company's  President  and Chief  Operating  Officer from  November  1997 to
     November 1998 and Executive  Vice  President from December 1993 to November
     1997.  From 1988  through  November  1993,  Mr.  Burke was  Executive  Vice
     President  of Sales and  Marketing  of White  Pine  Software  Inc.  and its
     predecessor, Visual Technology Incorporated.

Prasad Raje

     Dr. Raje joined the Company in May 1997 and was  appointed  to the position
     of Vice  President of Engineering  and Chief  Technical  Officer.  Prior to
     joining  the   Company,   Dr.  Raje  was  an   engineering   manager   with
     Hewlett-Packard  Company  from 1995 to 1997 and a member  of the  technical
     staff from 1991 to 1995.  Dr.  Raje was a founder of  Internet  Information
     Systems,  one of the early Web site  development  companies in 1994 and has
     served as its  President  from that date  through  the  present.  Dr.  Raje
     received his Ph.D.  and MS degrees,  both in Electrical  Engineering,  from
     Stanford University.
                                      24.

<PAGE>
Other Key Employees

         In addition to directors  and executive  officers,  the Company has the
following key employee:

         Donald  Masulis,  a founder of the  Company,  has served as Director of
Technology  since  October 1993.  Mr.  Masulis is  responsible  for the software
development  of various  versions of the  FaxPress  and  LANpress  products  and
directs the Company's  product quality  assurance  program.  Mr. Masulis holds a
Master of Science degree in Industrial  Engineering and Operations Research from
the  University of  California  at Berkeley and a Bachelor of Science  degree in
Information and Computer Science from the University of California at Irvine.


ITEM 2.       PROPERTIES

         The  Company's  headquarters,   including  its  executive  offices  and
corporate  administration,  development,  manufacturing,  marketing,  sales  and
technical  services/support  facilities,  are located in Santa Clara, California
with an  aggregate  of  approximately  21,400  square feet of floor  space.  The
Company  occupies  this  facility  under a lease,  the term of which  expires in
October 2000. The Company also occupies an additional 2,000 square feet of floor
space that is located in El Dorado Hills,  California.  This facility is under a
lease,  the term of which expires in March 2001. In addition,  the Company rents
office space for sales and customer  support  offices in Illinois,  Pennsylvania
and the United  Kingdom.  The Company  believes its existing  facilities will be
adequate to meet its requirements for the foreseeable future.


ITEM 3.       LEGAL PROCEEDINGS

         The Company is not a party to any material  litigation and is not aware
of any pending or  threatened  litigation  against the Company that could have a
material  adverse  effect  on the  Company's  business,  operating  results  and
financial condition.


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

         Not applicable.


                                      25.
<PAGE>


                                     PART II


ITEM 5.     MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS

         The Company's  Common Stock (Nasdaq symbol "CSTL") began trading on the
Nasdaq National  Market on December 20, 1995.  Listed below are the high and low
sale  prices on the Nasdaq  National  Market  for the  periods  indicated.  Such
quotations do not include retail markups, markdowns or commissions.

FISCAL 1997                     HIGH                 LOW
     First Quarter                  $8 1/2              $5 1/4
     Second Quarter                 $6 3/4              $3 7/8
     Third Quarter                  $5 1/16             $3 1/2
     Fourth Quarter                 $6 1/4              $1 5/8

FISCAL 1998                     HIGH                 LOW
     First Quarter                  $3 3/8              $2
     Second Quarter                 $4                  $1 1/2
     Third Quarter                  $2 1/2              $   7/8
     Fourth Quarter                 $1 5/8              $   1/2

         As of  December  31,  1998,  there  were 127  holders  of record of the
Company's  Common  Stock,  which  does not  include  those who held in street or
nominee name. On February 22, 1998,  the last sale price  reported on the Nasdaq
National Market for the Company's Common Stock was $1 per share.

Dividend Policy

         The  Company has not paid cash  dividends  on its Common  Stock.  It is
currently the intention of the Board of Directors to retain any and all earnings
for use in the  Company's  business and the Company does not  anticipate  paying
cash dividends in the foreseeable future.


                                      26.
<PAGE>


ITEM 6.  SELECTED FINANCIAL DATA

         The following selected financial  information has been derived from the
audited Consolidated  Financial  Statements.  The information set forth below is
not necessarily  indicative of results of future operations,  and should be read
in conjunction with "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and the Consolidated Financial Statements and related
Notes thereto included elsewhere in this Annual Report on Form 10-K.
<TABLE>
<CAPTION>

                                                                      Years ended December 31,
                                              --------------------------------------------------------------------------
                                                  1998           1997            1996           1995           1994
                                              -------------  -------------  --------------  -------------  -------------
                                                              (in thousands, except per share amounts)
INCOME STATEMENT DATA:
<S>                                               <C>            <C>             <C>            <C>            <C>    
     Net Sales                                    $21,746        $25,343         $29,461        $25,082        $19,486

     Gross Profit                                 $11,598        $13,507         $14,468        $11,511         $7,983
     Gross Profit as a % of Net Sales                 53%            53%             49%            46%            41%

     Net income/(loss)                            ($7,534)       ($6,895)         $5,724         $2,024          ($378)
     Net income/(loss) as a % of Net Sales           (35%)          (27%)            19%             8%            (2%)

     Net income/(loss) per share - diluted         ($1.67)        ($1.54)          $1.45          $0.78        ($0.16)

BALANCE SHEET DATA:
     Cash and Cash Equivalents                     $3,924         $6,204          $8,161         $7,268           $907
     Working Capital                               $6,763        $10,816         $13,163         $8,912           $884
     Total Assets                                 $12,494        $18,926         $27,303        $14,728         $7,124
     Long-term Liabilities                            $98            $52              --            $75           $354
     Stockholders Equity                           $7,501        $14,855         $21,616         $9,289         $1,355
</TABLE>

         Net loss for 1998 and 1997 included net charges for  restructuring  and
other non-recurring items of $5.1 million and $6.1 million,  respectively, and a
net  benefit  of $2.5  million  in  1996.  For  detailed  information  on  these
transactions see  "Management's  Discussion and Analysis of Financial  Condition
and Results of Operations - Restructuring  and Other Charges and Amortization of
Intangible Assets" and the Consolidated  Financial  Statements and related Notes
thereto  included  elsewhere in this Annual  Report on Form 10-K.  Excluding the
restructuring and other items referenced above, net income (loss) and net income
(loss) per share on a diluted basis would have been has follows:
<TABLE>
<CAPTION>

                                                                      Years ended December 31,
                                              --------------------------------------------------------------------------
                                                  1998           1997            1996           1995           1994
                                              -------------  -------------  --------------  -------------  -------------
                                                              (in thousands, except per share amounts)

<S>                                               <C>              <C>            <C>            <C>             <C>    
  Net income/(loss) excluding restructuring
     and non-recurring items                      ($2,445)         ($829)         $3,215         $2,024          ($378)

  Net income/(loss) per share, diluted,
     excluding restructuring and
     non-recurring items                           ($0.54)        ($0.19)          $0.82          $0.78        ($0.16)


</TABLE>
                                      27.

<PAGE>



ITEM 7.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND 
         RESULTS OF OPERATION

         Except for the historical  information  contained herein, the following
discussion   contains   forward-looking   statements   that  involve  risks  and
uncertainties.  Castelle's  actual  results could differ  materially  from those
discussed  herein.  Factors that could cause or contribute  to such  differences
include,  but are not limited to, those  discussed in this section as well as in
the section entitled "Business - Risk Factors".


Results of Operations

         Net Sales

                  Net sales  decreased  14% to $21.7  million in 1998 from $25.3
         million  in 1997.  The  decline of $3.6  million in net sales  resulted
         primarily  from lower sales of the Company's  print server  products in
         Japan,  increases  in the sales  return  allowance  during  the  fourth
         quarter of 1998 of approximately $1.0 million which allowed the Company
         to better manage the level of inventory in the distribution channel and
         increases in local  competition  in Europe.  Print server product sales
         declined 35% to $7.0 million in 1998 from $10.7 million during 1997.

                  In 1997,  net sales  decreased 14% to $25.3 million from $29.5
         million  in 1996.  The  $4.2  million  decline  in net  sales  resulted
         primarily  from lower sales of the Company's  print server  products in
         Japan and Europe due to increased local competition,  price erosion and
         a component  shortage in the fourth  quarter of 1997 which impacted the
         ability of the Company to fill orders for print  servers.  Print server
         product sales  declined 25% to $10.7 million in 1997 from $14.2 million
         during 1996.  Approximately  $800,000 of the shortfall is attributed to
         the component shortage.

                  International  sales were $8.3  million,  $11.9  million,  and
         $15.5 million in 1998, 1997 and 1996,  respectively,  representing 38%,
         47% and 53%,  respectively,  of net sales in 1998, 1997 and 1996. Lower
         international  sales in 1998 and 1997 were the result of a reduction in
         general demand for the Company's  products in Asia and increased  local
         competition  in Europe.  Most of the Company's  international  sales to
         date  have  been  denominated  in U.S.  dollars.  Such  sales  could be
         adversely  affected by changes in demand resulting from fluctuations in
         currency exchange rates.


         Cost of Sales

                  Cost  of  sales   includes   cost  of   materials,   including
         components,  manuals,  diskettes,  packaging  materials,  assembly  and
         shipping,  as well as certain  royalties.  Cost of sales also  includes
         compensation costs and overhead related to the Company's  manufacturing
         operations  and warranty  expenses.  Cost of sales were $10.1  million,
         $11.8 million and $15.0 million in 1998,  1997 and 1996,  respectively,
         and  represented  47%, 47% and 51% of net sales for those  years.  Most
         significantly,  cost of sales as a  percentage  of net  sales  remained
         constant in 1998 when compared to 1997. This was the result of a higher
         proportion  of net sales being derived from higher margin fax products,
         including  Object-Fax,  offset by a lower gross  margin  percentage  on
         sales  of  print  servers  and   unfavorable   manufacturing   overhead
         absorption rates due to lower volumes.

                  From  1996  to  1997,  the  decrease  in cost  of  sales  as a
         percentage  of net sales  was  primarily  attributable  to  changes  in
         product mix resulting in a higher proportion of net sales being derived
         from higher margin fax products.  Further,  in 1997,  sales of products
         acquired from Ibex,  principally  software,  helped to favorably impact
         gross  margins.  This  improvement  was somewhat  offset by unfavorable
         overhead absorption rates, due to lower volumes.

                                      28.
<PAGE>
         Research & Development

                  Research and product  development  expenses were $2.9 million,
         $3.1 million and $2.4 million in 1998, 1997 and 1996, respectively, and
         represented 13%, 12% and 8% of net sales for those periods. Most of the
         Company's product development efforts during these periods were focused
         on fax-related products,  although much of the resultant technology has
         application to the further  development  of the Company's  print server
         products.  A  significant  percentage  of the  Company's  research  and
         product development expenses are related to software  development.  The
         absolute  dollar  amount of research  and product  development  expense
         decreased  slightly in 1998 due to improved expense controls.  However,
         the Company  continues  to be committed  to the  development  of highly
         competitive new products and services through the efficient utilization
         of its engineering resources.

                  The  increase in  research  and  development  expenses in 1997
         compared to 1996 was mainly due to the integration of Ibex  development
         efforts.

         Sales & Marketing

                  Sales and marketing  expenses were $8.8 million,  $9.2 million
         and $7.4 million for 1998, 1997 and 1996, respectively, and represented
         40%, 36% and 25% of net sales for those periods. The expense decline in
         1998  compared  to 1997 was due to a  reorganization  of the  sales and
         marketing  activities  implemented  in  the  fourth  quarter  of  1997,
         resulting in more efficient  operations and a smaller staff,  which was
         partially offset by the integration of Object-Fax sales efforts.

                  Sales and  marketing  expenses  increased in 1997  compared to
         1996 due to the  integration  of the  Ibex  sales  organization  and an
         increase in the number of sales and marketing personnel.


         General & Administrative

                  General and  administrative  expenses were $2.4 million,  $2.3
         million and $1.6 million for 1998, 1997 and 1996, respectively, or 11%,
         9% and 5% of net sales for those  periods.  The increase in expenses in
         1998 was due to an increase in the  Company's  allowance  for  doubtful
         accounts and severance  costs  associated  with executives who left the
         Company,   which  was  only  partially  offset  by  expense  reductions
         resulting  from the Company's  restructuring  implemented in the fourth
         quarter of 1997.

                  The increase in 1997  expenses  over 1996  expenses was due to
         increased   utilization  of  professional   services  and  Ibex-related
         expenses.
                                      29.
<PAGE>

         Restructuring and Other Charges & Amortization of Intangible Assets

                  In April 1998,  the Company  completed its  acquisition of the
         Object-Fax   NT  products   from   Tolvusamskipti   HF,  an   Icelandic
         corporation.   A  portion  of  the  purchase  price  was  allocated  to
         in-process  research and  development,  and,  accordingly,  the Company
         recorded a one-time  charge  against  earnings in the second quarter of
         1998  of $1.1  million,  as the  technology  acquired  had not  reached
         technological  feasibility  and  had no  alternative  future  use.  The
         Company also recorded  intangible  assets of $160,000,  which are being
         amortized  over 12 months,  resulting in a $120,000  charge in 1998. In
         determining  the amount of  in-process  research  and  development,  we
         engaged an  independent  valuation  firm to conduct an appraisal of the
         acquired assets. The intangible assets acquired,  including  in-process
         research and development, were valued based on estimates of future cash
         flows  discounted  to their  present  value at  risk-adjusted  rates of
         return.  In September  1998, the Chief  Accountant of the SEC expressed
         concerns  about  the   methodologies   many  companies  were  using  in
         determining the amount of in-process  research and development.  An SEC
         working group has been formed to study this issue, however at this time
         it is unknown  what  guidelines  this group will  generate  and whether
         these guidelines will differ from the valuation  methods  traditionally
         employed.  The SEC's  concerns  appear to focus on  excluding  from the
         valuation  the costs of any effort to  complete  development  currently
         underway and an apportionment of cash flow estimates based on the stage
         of  completion  of  in-process  technology.  The Company  reviewed  the
         original valuation in light of the guidelines suggested by the SEC, and
         does not believe,  at this time,  that there would be a material change
         if  such  guidelines  were  applied.  See  the  Company's  Consolidated
         Financial  Statements and related Notes thereto  included  elsewhere in
         this Annual Report on Form 10-K.

                  In the third  quarter of 1997,  the  Company  recorded a total
         restructuring  charge of $6.2 million to restructure  its operations to
         streamline  activities  and focus on key  products  to  reduce  ongoing
         costs. Of the total  restructuring  charge, $1.2 million was to account
         for implementing and completing the  restructuring  plan which included
         relocation of the Company's European office, exit from certain lines of
         business,  a  workforce  reduction,  the  write-off  of certain  assets
         relating to Ibex and other estimated  restructuring  costs. This was in
         addition to a charge of $5.0 million  associated  with the write-off of
         the  Ibex  goodwill  and  related  intangibles.  Further,  the  Company
         recorded amortization expense of $574,000 in 1997 related to intangible
         assets  associated  with the  write-down to fair market value of assets
         acquired in the merger with Ibex in November 1996.

                  In the  fourth  quarter  of 1996,  a total of $1.2  million in
         other  charges  was booked due to a $1.1  million  write-off  of Ibex's
         in-process  research and  development,  and $96,000 of amortization for
         the  intangible  assets  and  goodwill  associated  with the  Company's
         acquisition of Ibex in November 1996.


         Interest Income, net

                  Net  interest  income was  $170,000,  $288,000 and $340,000 in
         1998, 1997 and 1996,  respectively.  The decrease in interest income in
         1998 and 1997 versus the prior years is due to declining  cash balances
         as a result of the losses realized in 1998 and 1997.


         Provision for (Benefit from) Income Taxes

                  In  the  fourth  quarter  of  1998,  due  to  the  uncertainty
         surrounding  the  realization of favorable tax attributes in future tax
         returns,  the Company provided a full valuation  allowance  against its
         deferred tax asset,  resulting in a  non-recurring,  non-cash charge of
         $4.0 million.

                  The Company  recorded a net benefit  from income taxes in 1997
         and 1996 of $732,000 and $3.5 million, respectively. At the time, these
         amounts  reflected  the  recognition  of  various  deductible  deferred
         assets,  including  prior  years' net  operating  loss carry  forwards,
         business tax credits and various temporary accounting differences.  See
         Note  9 of  the  Notes  to  Consolidated  Financial  Statements  for  a
         discussion of the Company's provision for income taxes.

                                      30.
<PAGE>
Liquidity and Capital Resources

         Since  its  inception  in 1987,  Castelle  has  funded  its  operations
primarily through the issuance of capital stock and the assumption of bank debt.
As of  December  31,  1998,  the  Company  had  $3.9  million  of cash  and cash
equivalents, down from $6.2 million for the same period in 1997. Working capital
decreased to $6.8  million at December  31, 1998 from $10.8  million at December
31,  1997.  The  decrease  in cash,  cash  equivalents  and  working  capital is
primarily due to the operating  loss incurred in 1998,  cash required to acquire
the  Object-Fax  products and cash utilized to repurchase  292,500 shares of the
Company's common stock during the fourth quarter of 1998.

         The Company has a $3.0 million secured  revolving line of credit with a
bank,  which expired in December 1998,  pursuant to which the Company may borrow
100%  against  pledges of cash at the bank's  prime rate (8.50% at December  31,
1998). Borrowings under this line of credit agreement were collateralized by all
of the assets of the Company. Under the terms of the loan agreement, the Company
was  restricted  from  loaning  money or assets or entering  into any mergers or
acquisitions  where the total  consideration  exceeds  $15,000,000,  without the
bank's  consent.  The Company was in compliance with the terms of the agreement,
and at December 31, 1998 had no borrowings under the line of credit. The Company
is currently negotiating an extension of this line of credit.

         In December 1997, as a source of capital asset  financing,  the Company
entered into a loan and security  agreement with a finance company for an amount
up to $288,000.  As of December 31, 1998, the Company had drawn $288,000 against
this amount of which  $194,000 is  outstanding at December 31, 1999. The loan is
subject to an interest  rate of 10.11%,  is  repayable  by December  2000 and is
collateralized  by a certificate of deposit of $125,000,  which is classified as
restricted cash on the Company's balance sheet.

         As of December 31, 1998, , net accounts  receivable  were $3.5 million,
up from $3.3 million for the same period in 1997. In 1998 the average DSO was 87
versus 55 at the end of 1997.  This is the result of a lower  proportion  of net
sales from Japan,  which  historically  paid promptly,  and an increase by other
customers in the amount of time it takes them to pay their bills.

         Net  inventories  as of  December  31,  1998  were $3.7  million,  down
slightly from $3.8 million in 1997.  Inventory  turnover for the year-ended 1998
was 1.9, down from 2.8 in 1997.

         Castelle acquired  additional  capital equipment of $271,000,  $732,000
and  $364,000  in 1998,  1997 and 1996,  respectively.  The  decline  in capital
equipment  spending in 1998 was primarily the result of large one-time purchases
in 1997 for the Company's customer support system and an upgrade to the internal
network infrastructure.

         Although the Company believes that its existing  capital  resources and
expected cash flows from  operations  will be sufficient to meet its anticipated
capital  requirements  at least  through the next 12 months,  the Company may be
required to seek additional  equity or debt financing.  The timing and amount of
such capital requirements cannot be determined at this time and will depend on a
number of factors,  including demand for the Company's existing and new products
and changes in technology in the networking industry.  There can be no assurance
that such  additional  financing  will be available on  satisfactory  terms when
needed, if at all.

                                      31.
<PAGE>

Year 2000 Issue

         The  Company  has  completed  a  comprehensive  review of its  business
applications,  computer systems and  infrastructure  and products.  In addition,
Castelle  is in the  process of  conducting  a  comprehensive  review of its key
business partners to identify those that could be adversely affected by the Year
2000  issue  and is  developing  and  implementing  a  plan  to  resolve  issues
identified. The Year 2000 issue refers to the inability of many computer systems
to process  accurately  dates later than  December 31, 1999.  Date codes in many
programs are  abbreviated  to allow only two digits for the year,  e.g. "98" for
the year 1998.  Unless  these  programs  are modified to handle the century date
change, they will likely interpret the year "00", that is, the year 2000, as the
year 1900.  The Year 2000 issue  creates  risk for the Company  from  unforeseen
problems in its own  computer  systems as well as in  computer  systems of third
parties  with whom the Company  does  business  worldwide,  including  banks and
credit processing entities, factories, customers and others.


         Business Applications, Computer Systems and Infrastructure

                  Castelle has completed a comprehensive review and inventory of
         its business  applications and computer systems,  including servers and
         network infrastructure, to insure that they are Year 2000 compliant. To
         date, the Company has installed  and/or  upgraded all computer  network
         file  servers and  infrastructure  (hubs,  switches,  modems and access
         devices) to hardware  and  software  that is  certified to be Year 2000
         compliant  by  its  vendors.  In  addition,  Castelle's  main  business
         application  from Computer  Associates  International,  Inc.  (Computer
         Associates)  has been  upgraded  to a Year 2000  compliant  version  as
         certified  by  Computer  Associates.  During the next three  months the
         Company  expects  to  complete  an upgrade  of all  desktop  (including
         laptop)  computers  to  Microsoft  NT software  certified  by Microsoft
         Corporation as Year 2000 compliant. The Company presently believes that
         the Year 2000 issue will not pose significant  operational problems for
         the  Company due to planned  modifications  to  existing  software  and
         conversions  to new software  which have been  implemented or are being
         implemented by the Company over the next year.


         Key business partners

                  The Company is in the process of  conducting  a  comprehensive
         review of its key business partners, including customers, suppliers and
         vendors,  to identify  those  critical to the success of the  Company's
         operations that may have Year 2000 issues which could adversely  affect
         the operations of the Company.  The Company presently believes that the
         Year 2000 issue will not pose significant  operational problems for the
         Company due to planned  modifications  by our key business  partners to
         their existing  systems and conversions to new software which have been
         implemented  or are being  implemented  by the  Company's  key business
         partners  over  the  next  year.  However,  if such  modifications  and
         conversions  are not completed in a timely manner,  the Year 2000 issue
         may have a material  adverse  impact on the  operations of the Company.
         The Company  cannot give  assurance the third parties with whom it does
         business  will  address  any Year 2000 issues in their own systems on a
         timely basis.


                                      32.

<PAGE>



         Costs

                  The total  cost  associated  with  required  modifications  to
         become  Year 2000  compliant  is not  expected  to be  material  to the
         Company's financial position. At the present time, all costs associated
         with the installation and upgrading of equipment and software have been
         related to routine upgrades of the Company's business systems, which to
         date have been approximately $90,000.  However, the Company cannot give
         any  assurance  that  significant   costs  associated  with  unforeseen
         circumstances  will not significantly  affect the future results of the
         Company.


         Products

                  The  Company  has  completed  a  comprehensive  review  of its
         products, both firmware and software, to insure that they are Year 2000
         compliant. This was done to insure that the Company's products are free
         of any Year 2000 issues  discussed above. The Company believes that the
         more recent versions of its products are Year 2000  compliant,  meaning
         the products will perform  functions  correctly when  processing  dates
         later than  December 31, 1999.  In order to avoid  difficulties,  users
         will need to install the versions of the  Company's  software  that are
         Year 2000 compliant. For example, FaxPress systems require the use of a
         software and firmware  release of at least  version 3.7.3 and InfoPress
         requires  that at least version 2.0 be installed  for  compliance  with
         Year 2000  requirements.  Full details on Year 2000  compliance  of the
         Company's products are available on the Company's Web site. The Company
         provides upgrade kits to allow customers to install these versions. The
         Company's  products work in conjunction with network  operating systems
         such as Novell NetWare and Microsoft Windows 95/98/NT,  and while these
         products  appear to be Year 2000  compliant,  the Company cannot accept
         responsibility  for  Year  2000  compliance  of any  network  operating
         system. If modifications or upgrades to these network operating systems
         are not completed in a timely  fashion,  the Year 2000 issue may have a
         material adverse impact on the Company's  business,  operating  results
         and financial condition.


         Contingency Plans


                  The Company is in the process of developing  contingency plans
         in the event that the  Company's  systems or  products  prove to not be
         Year  2000  compliant.  The  Company  is  currently  reviewing  its key
         business  activities  to  develop  plans to  support  ongoing  business
         operations  in the event of a disruption  and expects these plans to be
         completed shortly.  However, the Company cannot give any assurance that
         these  contingency  plans will be  effective  in  preventing  Year 2000
         related disruptions in the business which could have a material adverse
         impact on the  Company's  business,  operating  results  and  financial
         condition.


ITEM 7A.        QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

         The Company considered the provision of Financial Reporting Release No.
48 "Disclosure of Accounting Policies for Derivative  Financial  Instruments and
Derivative Commodity Instruments, and Disclosure of Quantitative and Qualitative
Information  about Market Risk  Inherent in  Derivative  Financial  Instruments,
Other Financial Instruments and Derivative Commodity  Instruments".  The Company
had no holdings of derivative financial or commodity instruments at December 31,
1998.  However,  the Company is exposed to  financial  market  risks,  including
changes in interest rates and foreign currency exchange rates. While much of the
Company's  revenue is  transacted  in U.S  dollars,  some  revenues  and capital
spending are  transacted  in Pounds  Sterling.  These  amounts are not currently
material to the  financial  statements  of  Castelle,  therefore we believe that
foreign  currency  exchange  rates should not  materially  affect the  Company's
overall financial position,  results of operations or cash flows. The fair value
of  the  Company's   money  market  account  or  related  income  would  not  be
significantly impacted by increases or decreases in interest rates due mainly to
the highly liquid nature of this investment. However, sharp declines in interest
rates could seriously harm interest earnings on this account.

                                      33.
<PAGE>

ITEM 8.       FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

         (a)      The  following  financial  statements  of the  Company and the
                  report of the Company's  independent  accountants are included
                  in Item 14:
<TABLE>
<CAPTION>
                                                                                                       Page in
                                                                                                      Form 10-K

                      <S>                                                                               <C>
                      Report of Independent Accountants.............................................    F-1
                      Consolidated Balance Sheets as of December 31, 1998 and 1997..................    F-2
                      Consolidated Statements of Operations for the years ended
                           December 31, 1998, 1997 and 1996.........................................    F-3
                      Consolidated Statement of Shareholders' Equity for the years ended
                           December 31, 1998, 1997 and 1996.........................................    F-4
                      Consolidated Statements of Cash Flows for the years ended
                           December 31, 1998, 1997 and 1996.........................................    F-5
                      Notes to Consolidated Financial Statements....................................    F-6


         (b)      The following  financial  statement  schedules of Castelle for
                  the years ended December 31, 1998,  1997 and 1996 are filed as
                  part of this Form 10-K and should be read in conjunction  with
                  the Company's Financial Statements.

                                                                                                       Page in
                                                                                                      Form 10-K

                      Report of Independent Accountants.............................................    F-1
                      Schedule II - Valuation and Qualifying Accounts...............................    F-21

</TABLE>

                  Schedules not listed above have been omitted  because they are
                  not  applicable  or are not  required or because the  required
                  information  is included in the Financial  Statements or Notes
                  thereto.


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

              Not applicable.


                                      34.
<PAGE>


                                    PART III


ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

         Certain  information with respect to executive officers is set forth in
Part I of this Annual Report on Form 10-K.  Additional  information  required by
this  Item  is  incorporated  herein  by  reference  to  the  sections  entitled
"Directors"  and  "Compliance  with Section 16(a) of the Securities and Exchange
Act of 1934" of the Proxy Statement related to the Company's 1999 Annual Meeting
of  Stockholders  to be filed by the Company  with the  Securities  and Exchange
Commission (the "Definitive Proxy Statement").


ITEM 11. EXECUTIVE COMPENSATION

         The  information  required  by this  Item  is  incorporated  herein  by
reference  to  the  sections  entitled  "Executive  Compensation"  and  "Certain
Transactions" in the Company's Definitive Proxy Statement.


ITEM 12.          SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

         The  information  required  by this  Item  is  incorporated  herein  by
reference to the sections  entitled  "Security  Ownership of Certain  Beneficial
Owners and Management" in the Company's Definitive Proxy Statement.


ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

         The  information  required  by this  Item  is  incorporated  herein  by
reference to the sections  entitled  "Certain  Transactions"  and  "Compensation
Committee  Interlocks  and Insider  Participation"  in the Company's  Definitive
Proxy Statement.


                                      35.
<PAGE>


                                                                    PART IV


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

         (a) The following  documents are filed as part of this Annual Report on
             Form 10-K:


              1.   Consolidated  Financial  Statements  required  to be filed by
                   Item 8 of Form  10-K.  See the list of  Financial  Statements
                   contained in Item 8 of this Report.

              2.   Financial  Statement Schedules required to be filed by Item 8
                   of Form 10-K. See the list of Financial  Statement  Schedules
                   contained in Item 8 of this Report.

         (b)  A Form 8-K was filed on November 28, 1998 reporting,  under Item 5
              of the Form 8-K,  the  appointment  of Donald L. Rich as President
              and Chief Executive Officer.

         (c)  Exhibits

               2.1(1)   Agreement  and Plan of  Merger,  dated as of August  22,
                        1996 among Castelle, Ibex Technologies, Inc. and Certain
                        Shareholders of Ibex Technologies, Inc.

               3.1(2)   Amended and Restated  Articles of  Incorporation  of the
                        Company.  

               3.4(3)   Amended and Restated Bylaws of the Company.

               4.1      Reference is made to Exhibits 3.1 and 3.4.

               4.2      Fifth Amended and Restated Registration Rights Agreement
                        dated  November 20, 1996 by and among the Registrant and
                        certain  holders  of  the  Company's  Common  Stock  and
                        Warrants to purchase Common Stock.

               10.2(2)* 1995 Non-Employee Directors' Stock Option Plan, and form
                        of Director Stock Option Agreement. 

               10.3(4)  Warrant for Common Stock issued to Unterberg Harris.
                     
               10.4(2)* Form of Indemnity  Agreement  between the Registrant and
                        each of its directors and executive officers.

               10.7(2)  OEM  Purchase  Agreement  dated  May  23,  1995,  by and
                        between the Registrant and SerComm Corporation.

               10.8(2)  Distribution  Agreement  dated February 26, 1990, by and
                        between the Registrant and Ingram Micro D Inc.

               10.9(2)  Distributor  Contract  dated June 25,  1991,  as amended
                        June 25, 1991,  by and between the  Registrant  and Tech
                        Data Corporation.
                   
               10.10(2) Distribution  Agreement dated March 26, 1992, as amended
                        March  26,  1992,  by and  between  the  Registrant  and
                        Merisel, Inc.

               10.11(2) Distributor  Agreement  dated  October 1,  1990,  by and
                        between the Registrant and Vitek.

               10.12(2) International  Distributor  Agreement dated February 24,
                        1994, by and between the Registrant and Macnica.

     ------------------
     (1) Filed as an exhibit to the Company's Form 8-K dated August 22, 1996 and
         incorporated herein by reference.
     (2) Filed as an Exhibit to the  Company's  Registration  Statement  on Form
         SB-2 (Reg. No.  33-99628-LA-)  or amendments  thereto and  incorporated
         herein by reference.
     (3) Filed herewith.
     (4) Filed  as an  exhibit  to the  Company's  Form  10-KSB  for the  fiscal
         year-ended December 31, 1995 and incorporated herein by reference.
     *   Indicates  management  contracts or compensatory  plans or arrangements
         filed pursuant to Item 601(b)(10) of Regulation S-K.

                                      36.
<PAGE>

               10.14(5)* 1988 Equity Incentive Plan, as amended.

               10.15(4) Warrant for Common Stock issued to RvR Securities Corp.
               10.16(6)*Form of  Executive  Severance  and  Transition  Benefits
                        Agreement between the Company and Messier. P. Raje.

               10.17(6)*Form of  Executive  Severance  and  Transition  Benefits
                        Agreement between the Company and Messier. J. Burke.

               10.19(3)*Employment  agreement  between the Company and  Messier.
                        D. Rich.

               11.1(3)  Computation of Net Income (Loss) Per Share. Reference is
                        made to page F-19 of the Notes to Consolidated Financial
                        Statements.

               23.1(3)  Consent of PricewaterhouseCoopers LLP.

               24.1(3)  Power of Attorney.  Reference  is made to the  signature
                        page (page 38). 27.1(3) Financial data schedule.

     ------------------
     (1) Filed as an exhibit to the Company's Form 8-K dated August 22, 1996 and
         incorporated herein by reference.
     (2) Filed as an exhibit to the  Company's  Registration  Statement  on Form
         SB-2 (Reg. No.  33-99628-LA-)  or amendments  thereto and  incorporated
         herein by reference.
     (3) Filed herewith.
     (4) Filed  as an  exhibit  to the  Company's  Form  10-KSB  for the  fiscal
         year-ended December 31, 1996 and incorporated herein by reference.
     (5) Filed as an exhibit to the  Company's  Registration  Statement  on Form
         S-8, dated March 29, 1999, (File No. 333-75247) 
     (6) Filed as an exhibit  to the  Company's  Form 10-Q for the period  ended
         September 26, 1997 and incorporated herein by reference.
     *   Indicates  management  contracts or compensatory  plans or arrangements
         filed pursuant to Item 601(b)(10) of Regulation S-K.
                                      37.
<PAGE>



                                   SIGNATURES

         Pursuant to the  requirements  of Section 13 or 15(d) of the Securities
Act of 1934,  the  Registrant has duly caused this Annual Report on Form 10-K to
be signed on its behalf by the undersigned, thereunto duly authorized.


                               By:    /S/ DONALD L. RICH                 
                                      Donald L. Rich
                                      Chief Executive Officer and President

                                                                  March 30, 1999

         KNOW BY ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears  below  constitutes  and  appoints  Arthur H. Bruno,  Donald L. Rich and
Laurie  Gee,  and each of them,  as his true and  lawful  attorneys-in-fact  and
agents,  with full power of substitution for him, and in his name in any and all
capacities,  to sign any and all  amendments to this Annual Report on Form 10-K,
and to file the same,  with exhibits  thereto and other  documents in connection
therewith,  with the  Securities  and Exchange  Commission,  granting  unto said
attorneys-in-fact  and agents,  and each of them, full power and authority to do
and perform  each and every act and thing  requisite  and  necessary  to be done
therewith,  as  fully to all  intents  and  purposes  as he might or could do in
person,  hereby  ratifying and  confirming all that said  attorneys-in-fact  and
agents,  and any of them, or his substitute or  substitutes,  may lawfully do or
cause to be done by virtue hereof.

         Pursuant to the  requirements  of the Securities  Exchange Act of 1934,
this Annual Report on Form 10-K has been signed below by the  following  persons
on behalf of the Registrant and in the capacities and on the dates indicated:

      Signature                               Title                    Date


 /S/ ARTHUR H. BRUNO    Chairman of the Board and Director        March 26, 1999
 -------------------
   Arthur H. Bruno

 /S/ DONALD L. RICH    Chief Executive Officer, President         March 30, 1999
 ------------------    and Director
   Donald L. Rich      (principal executive officer)

 /s/ LAURIE GEE        Vice President, Finance and                March 30, 1999
 ------------------    Administration 
     Laurie Gee        (principal financial and accounting officer)


 /s/ JOHN FREIDENRICH  Director                                   March 26, 1999
--------------------- 
  John Freidenrich

 /s/ ALAN KESSMAN      Director                                   March 26, 1999
------------------ 
    Alan Kessman

                       Director                                   March 26, 1999
--------------------- 
  Robert Hambrecht


                                      38.
<PAGE>

                           Castelle and Subsidiaries
                       Consolidated Financial Statements
                        as of December 31, 1998 and 1997
                     and for each of the three years in the
                         period ended December 31, 1998


<PAGE>
                        Report of Independent Accountants




To the Board of Directors and
Shareholders of Castelle


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


PricewaterhouseCoopers LLP
San Jose, California
February 5, 1999




                                       F-1

<PAGE>


Castelle and Subsidiaries
Consolidated Balance Sheets
(in thousands)
<TABLE>
<CAPTION>

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

                                                                                            December 31,
                                                                                ....................................
                                                                                      1998               1997
                                                                                -----------------  -----------------
Assets
Current assets:
<S>                                                                                   <C>                <C>      
    Cash and cash equivalents                                                         $   3,924          $   6,204
    Restricted cash                                                                         125                125
    Accounts receivable, net of allowance for doubtful accounts
           of $720 in 1998 and $490 in 1997                                               3,472              3,273
    Inventories                                                                           3,739              3,786
    Prepaid expenses and other current assets                                               398                573
    Deferred income taxes                                                                     -                874
                                                                                -----------------  -----------------
           Total current assets                                                          11,658             14,835

Property and equipment, net                                                                 666                938
Other, net                                                                                  170                 93
Deferred income taxes                                                                         -              3,060
                                                                                -----------------  -----------------

             Total assets                                                             $  12,494          $  18,926
                                                                                =================  =================

Liabilities and Shareholders' Equity
Current liabilities:
    Long-term debt, current portion                                                    $     96           $     87
    Accounts payable                                                                      2,084              1,312
    Accrued liabilities                                                                   2,715              2,620
                                                                                -----------------  -----------------
           Total current liabilities                                                      4,895              4,019

Other long-term liabilities                                                                  98                 52
                                                                                -----------------  -----------------
           Total liabilities                                                              4,993              4,071
                                                                                -----------------  -----------------

Commitments (Note 6)

Shareholders' Equity:
    Preferred stock, no par value:
      Authorized:  2,000 shares in 1998 and 1997
      Issued and outstanding:  none in 1998 and 1997                                          -                  -
    Common stock, no par value:
      Authorized:  25,000 shares
      Issued and outstanding: 4,337 shares in 1998
           and 4,490 shares in 1997                                                      29,255             28,955
    Notes receivable for purchase of common stock                                          (274)              (274)
    Deferred compensation                                                                  (120)                 -
    Accumulated deficit                                                                 (21,360)           (13,826)
                                                                                -----------------  -----------------
           Total shareholders' equity                                                     7,501             14,855
                                                                                -----------------  -----------------

             Total liabilities and shareholders' equity                               $  12,494          $  18,926
                                                                                =================  =================
</TABLE>



                                       F-2
   The accompanying notes are an integral part of these financial statements.
 
<PAGE>


Castelle and Subsidiaries
Consolidated Statements of Operations
(in thousands, except per share data)
<TABLE>
<CAPTION>

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

                                                                               Years Ended December 31
                                                               ........................................................
                                                                     1998                1997               1996
                                                               ------------------  -----------------  -----------------

<S>                                                                   <C>                <C>                <C>      
Net sales                                                             $  21,746          $  25,343          $  29,461
Cost of sales                                                            10,148             11,836             14,993
                                                               ------------------  -----------------  -----------------
        Gross profit                                                     11,598             13,507             14,468
                                                               ------------------  -----------------  -----------------

Operating expenses:
    Research and development                                              2,878              3,141              2,357
    Sales and marketing                                                   8,776              9,180              7,357
    General and administrative                                            2,443              2,296              1,566
    Amortization of intangible assets                                       120                574                 96
    Restructuring and other charges                                       1,124              6,224              1,079
                                                               ------------------  -----------------  -----------------
                                                                         15,341             21,415             12,455
                                                               ------------------  -----------------  -----------------

           Operating  income (loss)                                      (3,743)            (7,908)             2,013

Interest income, net                                                        170                288                340
Other income (expense), net                                                   4                 (7)              (157)
                                                               ------------------  -----------------  -----------------

Income (loss) before provision for (benefit from)
    income taxes                                                         (3,569)            (7,627)             2,196
Provision for (benefit from) income taxes                                 3,965               (732)            (3,528)
                                                               ------------------  -----------------  -----------------

           Net income (loss)                                         $   (7,534)        $   (6,895)         $   5,724
                                                               ==================  =================  =================

Net income (loss) per common share - basic                            $   (1.67)         $   (1.54)         $    1.55
                                                               ==================  =================  =================

Shares used in per share calculation - basic                              4,507              4,470              3,701
                                                               ==================  =================  =================

Net income (loss) per common share - diluted                          $   (1.67)         $   (1.54)         $    1.45
                                                               ==================  =================  =================

Shares used in per share calculation - diluted                            4,507              4,470              3,942
                                                               ==================  =================  =================

</TABLE>
                                       F-3
   The accompanying notes are an integral part of these financial statements.
<PAGE>


Castelle and Subsidiaries
Consolidated Statements of Shareholders' Equity
Years Ended December 31, 1998 and 1997
(in thousands)
<TABLE>
<CAPTION>


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

                                                                             Notes
                                                                           Receivable
                                                                              for
                                                                           Purchase
                                                                               of
                                                      Common Stock           Common      Deferred    Accumulated
                                                ..........................
                                                  Shares        Amount       Stock     Compensation    Deficit       Total
                                                ------------  ------------ ----------- ------------- ------------ ------------

<S>                                                  <C>       <C>           <C>           <C>        <C>           <C>     
Balances, December 31, 1995                          3,456     $  22,323     $  (379)      $     -    $ (12,655)    $  9,289

    Issuance of common stock through:
      Exercise of stock options                         23            10           -             -            -           10
      Exercise of underwriter's
        overallotment option                           150           976           -             -            -          976
    Issuance of common stock in
      connection with acquisition                      791         5,535           -             -            -        5,535
    Repurchase of common stock                           -            (1)          -             -            -           (1)
    Repayment of notes receivable                        -             -          83             -            -           83
    Net income                                           -             -           -             -        5,724        5,724

                                                ------------  ------------ ----------- ------------- ------------ ------------
Balances, December 31, 1996                          4,420     $             $  (296)      $     -    $  (6,931)   $
                                                                  28,843                                              21,616

    Issuance of common stock through
      exercise of stock options                         70           112           -             -            -          112
    Repayment of notes receivable                        -             -          22             -            -           22
    Net loss                                             -             -           -             -       (6,895)      (6,895)

                                                ------------  ------------ ----------- ------------- ------------ ------------
Balances, December 31, 1997                          4,490     $             $  (274)      $     -    $ (13,826)   $
                                                                  28,955                                              14,855

    Repurchase of common stock                        (293)         (384)          -             -            -         (384)
    Issuance of common stock through
      exercise of stock options                         40            12           -             -            -           12
    Issuance of common stock in
      connection with acquisition                      100           500           -             -                       500
    Deferred compensation related to options           
      issued to consultant                               -           160           -          (160)                        -
    Amortization of deferred compensation                -             -           -            40            -           40
    Compensation expense related to fully 
      vested options granted to consultant               -            12           -             -                        12
    Net loss                                             -             -           -             -       (7,534)      (7,534)

                                                ------------  ------------ ----------- ------------- ------------ ------------
Balances, December 31, 1998                          4,337     $  29,255     $  (274)     $   (120)   $ (21,360)    $  7,501
                                                ------------  ------------ ----------- ------------- ------------ ------------


</TABLE>
                                       F-4
   The accompanying notes are an integral part of these financial statements.
<PAGE>


Castelle and Subsidiaries
Consolidated Statements of Cash Flows
(in thousands)
<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------

                                                                                 Year Ended December 31,
                                                                   ....................................................
                                                                        1998              1997              1996
                                                                   ----------------  ----------------  ----------------
Cash flows from operating activities:
<S>                                                                   <C>               <C>                <C>       
    Net income  (loss)                                                $    (7,534)      $    (6,895)       $    5,724
    Adjustments to reconcile net income (loss) to
      net cash (used in) provided by operating activities:
        Depreciation and amortization                                         640               967               346
        Purchased in-process research and development                       1,124                 -             1,079
        Write-off of goodwill and other intangible assets                       -             5,074                 -
        Provision for doubtful accounts and sales returns                     909               220               (11)
        Provision for excess and obsolete inventory                           418               412                29
        Compensation expense related to grant of stock options                 52                 -                 -
        Loss on disposal of fixed assets                                       40                 -                 -
        Changes in assets and liabilities:
           Accounts receivable                                             (1,108)            2,289            (2,280)
           Inventories                                                       (371)           (1,357)              795
           Prepaid expenses and other current assets                          175                53               (19)
           Accounts payable                                                   772              (550)             (876)
           Accrued liabilities                                                 95            (1,205)              311
           Deferred income taxes                                            3,934              (367)           (3,567)
                                                                   ----------------  ----------------  ----------------
             Net cash (used in) provided by operating activities             (854)           (1,359)            1,531
                                                                   ----------------  ----------------  ----------------

Cash flows from investing activities:
    Acquisition of property and equipment                                    (223)             (732)             (364)
    Cash portion of Ibex acquisition, net of cash acquired                      -                 -            (1,159)
    Acquisition of Object-fax product line                                   (910)                -                 -
    (Increase) decrease in other assets                                         24              (14)               41
                                                                   ----------------  ----------------  ----------------
             Net cash used in investing activities                         (1,109)             (746)           (1,482)
                                                                   ----------------  ----------------  ----------------

Cash flows from financing activities:
    (Increase) decrease in restricted cash                                    142              (125)                -
    Proceeds from notes payable                                               (87)              146                 -
    Repayment of notes payable                                                  -                (7)             (193)
    Principal payments on capitalized leases                                    -                 -               (31)
    Proceeds from collection of note receivable for stock                       -                22               83
    Proceeds from issuance of common stock and warrants, net of              (372)              112              985
    repurchases
                                                                   ----------------  ----------------  ----------------
             Net cash provided by financing activities                       (317)              148              844
                                                                   ----------------  ----------------  ----------------

Net (decrease) increase in cash and cash equivalents                       (2,280)           (1,957)             893

Cash and cash equivalents, beginning of period                              6,204             8,161             7,268
                                                                   ----------------  ----------------  ----------------

Cash and cash equivalents, end of period                               $    3,924        $    6,204        $    8,161
                                                                   ================  ================  ================

Supplemental information:
    Cash paid during the period for:
      Interest                                                         $       27         $       3         $       6
      Income taxes                                                     $        5         $     123         $      86
    Noncash investing and financing activities:
      Conversion of preferred stock to common stock in connection      
        with merger                                                    $        -         $       -         $     300
      Issuance of common stock for acquisition of Ibex                 $        -         $       -         $   5,535
      Issuance of common stock for acquisition of Object-fax           
        product line                                                   $      500         $       -         $       -

</TABLE>
                                       F-5
   The accompanying notes are an integral part of these financial statements.

<PAGE>


Castelle and Subsidiaries
Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

                                                        
1.     Business and Organization of the Company

       Castelle (the "Company") designs,  develops, markets and supports network
       enhancement  products,  both  software  and  hardware,  that  improve the
       productivity,  performance  and  functionality  of  local  area  networks
       ("LAN") and enhance the LAN user's ability to communicate.  The Company's
       products consist of: FaxPress,  an integrated  hardware/software  network
       faxing solution;  Object-Fax,  an enterprise-level  Windows NT fax server
       software product;  InfoPress an enterprise-level  fax-on-demand  software
       product and LANpress print servers.  The Company distributes its products
       primarily  through a two-tier,  domestic and  international  distribution
       network, with its distributors selling Castelle's products to value-added
       resellers,  system  integrators,  retailers  and other  resellers  in the
       United  States,  Europe  and  the  Pacific  Rim.  The  Company  also  has
       relationships  with selected original  equipment  manufacturers and sells
       software enhancements and upgrades directly to end users.

2.     Summary of Significant Accounting Policies

       Basis of consolidation
       The consolidated  financial  statements  include the accounts of Castelle
       and its wholly  owned  subsidiaries  in the United  States and the United
       Kingdom. All intercompany balances and transactions have been eliminated.

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

       Financial instruments
       Cash  equivalents  consist of highly  liquid  investments  with  original
       maturities of three months or less.
       Amounts  reported for cash  equivalents,  receivables and other financial
       instruments   approximate  fair  values  based  upon  comparable   market
       information available at the respective balance sheet dates.

       Financial   instruments   that   potentially   subject   the  Company  to
       concentrations  of  credit  risks  consist  principally  of  cash,  notes
       receivable and trade accounts receivable.  The Company maintains its cash
       balances at a variety of financial  institutions  and has not experienced
       any losses relating to any of its money market funds or bank deposits.

       Certain risks and concentrations
       Ongoing  customer credit  evaluations  are performed by the Company,  and
       collateral  is  not  required.   The  Company  maintains  allowances  for
       potential  returns and credit  losses,  and such  returns and losses have
       generally  been  within   management's   expectations.   Three  customers
       accounted  for 60% of accounts  receivable at December 31, 1998 and three
       customers accounted for 67% of accounts receivable at December 31, 1997.
    

                                       F-6
<PAGE>
Castelle and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
--------------------------------------------------------------------------------

       The Company's products include components subject to rapid  technological
       change.  Significant  technological  change  could  adversely  affect the
       Company's operating results and subject the Company to returns of product
       and inventory losses.  While the Company has ongoing programs to minimize
       the adverse effect of such changes and consider  technological  change in
       estimating its allowances,  such estimates could change in the future. In
       addition,  one  of the  Company's  print  server  products  is  currently
       manufactured  by  a  single  supplier  and  certain  key  components  are
       currently available from only single sources.

       Inventories
       Inventories are stated at the lower of standard cost (which  approximates
       cost on a first-in, first-out basis) or market.

       Property and equipment
       Property and equipment are stated at cost less  accumulated  depreciation
       and amortization. Depreciation is provided using the straight-line method
       over the estimated useful lives of the respective assets, generally three
       to seven years.  Amortization of leasehold  improvements is provided on a
       straight-line basis over the life of the related asset or the lease term,
       if shorter. Gains and losses upon asset disposal are taken into income in
       the year of disposition.

       Accounting for long-lived assets
       The Company reviews  property,  equipment,  goodwill and other intangible
       assets  for  impairment  whenever  events  or  changes  in  circumstances
       indicate  that the  carrying  amount of an asset may not be  recoverable.
       Recoverability is measured by comparison of its carrying amount to future
       net cash flows the assets are  expected to  generate.  If such assets are
       considered to be impaired, the impairment to be recognized is measured by
       the amount by which the  carrying  amount of the asset  exceeds  its fair
       market value. Intangibles are amortized over their estimated useful lives
       (typically one to five years).

       Software production costs
       Costs  related  to the  conceptual  formulation  and  design of  software
       products are expensed as research and  development  while costs  incurred
       subsequent to establishing technological feasibility of software products
       are  capitalized  until  general  release  of  the  product.   Generally,
       technological  feasibility  is established  upon  completion of a working
       model. No significant  costs subsequent to such point have been incurred,
       and all such costs have been expensed.

       Revenue recognition
       Product revenue is recognized upon shipment if a signed contract  exists,
       the  fee  is  fixed  and   determinable,   collection  of  the  resulting
       receivables is probable and product returns are reasonably estimable. The
       Company enters into  agreements  with certain of its  distributors  which
       permit limited stock rotation  rights.  These stock rotation rights allow
       the distributor to return products for credit but require the purchase of
       additional  products of equal value.  Revenues  subject to stock rotation
       rights are reduced by  management's  estimates of anticipated  exchanges.
       Provisions for estimated warranty costs and anticipated retroactive price
       adjustments  are recorded at the time  products are shipped.  The Company
       recognizes  revenue from the sale of extended warranty  contracts ratably
       over the period of the contracts.

       Advertising costs
       Advertising costs, included in sales and marketing expenses, are expensed
       as incurred and were $1,963,000,  $2,471,000 and $2,304,000 in 1998, 1997
       and 1996, respectively.

                                       F-7
<PAGE>
Castelle and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
--------------------------------------------------------------------------------

       Foreign currency translation
       The functional  currency of the Company's foreign  subsidiary is the U.S.
       dollar.  Foreign currency gains and losses, which have not been material,
       are reported in the statement of operations.

       Net income (loss) per share
       Basic net income  (loss) per share is  computed  by  dividing  net income
       (loss) available to common shareholders by the weighted average number of
       common shares outstanding for that period.  Diluted net income (loss) per
       share is computed giving effect to all dilutive  potential  common shares
       that were  outstanding  during  the  period.  Dilutive  potential  shares
       consist of  incremental  common  shares  issuable  upon exercise of stock
       options and warrants.

       Restructuring
       In the quarter ended September 26, 1997, the Company  announced and began
       to  implement a  restructuring  plan.  The Company  recorded a $1,150,000
       restructuring  charge to account for the estimated  costs of implementing
       and completing the restructuring plan. Such charge was in addition to the
       write-off of the Ibex  goodwill and related  intangibles  as discussed in
       Note 3. These costs  consist of $402,000  to exit from  certain  lines of
       business,  $343,000  for  employee  termination  costs  and to exit  from
       various  leases  in  connection  with  the  relocation  of the  Company's
       European  office,  $340,000  for  estimated  employee  termination  costs
       associated  with  reductions  in the  workforce,  and  $65,000  for other
       estimated  restructuring  costs. As of December 31, 1998, the Company had
       completed  most of its  restructuring  plan with actual  payments made of
       $1,122,000. The remaining balance of $28,000 will be used to complete the
       payment on vacated leases.

       Comprehensive income
       Castelle has adopted the provisions of Statement of Financial  Accounting
       Standards No. 130, "Reporting Comprehensive Income," effective January 1,
       1998. This statement requires the disclosure of comprehensive  income and
       its  components in a full set of  general-purpose  financial  statements.
       Comprehensive  income is the change in equity from transactions and other
       events and  circumstances  other than those resulting from investments by
       owners and distributions to owners.  There are no significant  components
       of comprehensive income excluded from net income,  therefore, no separate
       statement of comprehensive income has been presented.

       Segment information
       The Company has adopted SFAS No. 131,  "Disclosure  about  Segments of an
       Enterprise and Related  Information," which is effective for fiscal years
       beginning  after December 31, 1997.  SFAS No. 131 supersedes SFAS No. 14,
       "Financial Reporting for Segments of a Business Enterprise." SFAS No. 131
       changes  current  practice  under  SFAS  No.  14  by  establishing  a new
       framework on which to base segment reporting and introduces  requirements
       for interim reporting of segment information.  The Company has determined
       that it  uses  one  measurement  of  profitability  of its  business  for
       internal reporting.  The Company's international operations in 1998, 1997
       and 1996 are analyzed in Note 11.

                                       F-8
<PAGE>
Castelle and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
--------------------------------------------------------------------------------

       New accounting pronouncements
       In June of 1998,  the  FASB  issued  Statement  of  Financial  Accounting
       Standards No. 133,  "Accounting  for Derivative  Instruments  and Hedging
       Activities,"  which  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 in the
       statement of financial  position and measures  those  instruments at fair
       value. Management has not yet evaluated the effects of this change on its
       operations. The Company will adopt SFAS No. 133 as required for its first
       quarterly filing of fiscal 2000.

       In December 1998, the Accounting Standards Executive Committee, or AcSEC,
       released  Statement of Position  98-9, or SOP 98-9,  Modification  of SOP
       97-2,   "Software   Revenue   Recognition,"   with   Respect  to  Certain
       Transactions.  SOP  98-9  amends  SOP  97-2 to  require  that  an  entity
       recognize  revenue  for  multiple  element  arrangements  by means of the
       "residual method" when (1) there is  vendor-specific  objective  evidence
       ("VSOE") of the fair values of all the undelivered  elements that are not
       accounted for by means of long-term contract accounting, (2) VSOE of fair
       value does not exist for one or more of the delivered  elements,  and (3)
       all revenue recognition  criteria of SOP 97-2 (other than the requirement
       for VSOE of the fair value of each delivered element) are satisfied.

       The provisions of SOP 98-9 that extend the deferral of certain paragraphs
       of SOP 97-2 became  effective  December 15, 1998. These paragraphs of SOP
       97-2 and SOP 98-9 will be  effective  for  transactions  that are entered
       into  in  fiscal  years  beginning  after  March  15,  1999.  Retroactive
       application is prohibited.  The Company is evaluating the requirements of
       SOP  98-9 and the  effects,  if any,  on the  Company's  current  revenue
       recognition policies.

3.     Acquisition of Ibex Technologies, Restatement and Related Charges

       In November 1996, the Company acquired Ibex Technologies,  Inc. ("Ibex"),
       a  company  which   designed,   developed  and  marketed   fax-on-demand,
       fax-gateway  and fax broadcast  applications.  The Company issued 790,617
       shares of its common stock in exchange for all of the outstanding  common
       stock of Ibex and accounted for the transaction as a purchase.

       The  total  purchase  price  of  Ibex,  consisting  of  stock  valued  at
       $5,534,000  (based on the closing  price at the closing date) plus direct
       costs of  $1,430,000,  was  allocated to the net tangible and  identified
       intangible assets of Ibex, including in-process research and development,
       in the amounts of $142,000, $2,739,000, and $1,079,000, respectively. The
       identified  intangible assets,  consisting primarily of the fair value of
       current  technologies,  customer lists, and the workforce were originally
       assigned a five-year life. The excess of the purchase price over the fair
       value  of the  assets  acquired  was  approximately  $3,004,000  and  was
       originally amortized on a straight-line basis over 5 years. The amount of
       the purchase  price  allocated  to  in-process  research and  development
       related to  products  for which  technological  feasibility  had not been
       established   and  for  which  there  was  no  alternative   future  use.
       Accordingly,  the in-process  research and development was written off at
       the date of the acquisition and was included with restructuring and other
       charges on the accompanying statement of operations.

       In 1997 Ibex suffered  significant  losses on its current products due to
       increasing  competition  from Internet based  applications and determined
       that its primary product under development was not economically feasible.
       As a result,  management  determined  that the value assigned to goodwill
       and other  intangible  assets was not  recoverable  and such  assets were
       written off. Such 1997  charges,  included as part of  restructuring  and
       other  charges,  was  $5,073,000,  which  amount was net of  amortization
       recorded in 1997 of $574,000.

                                       F-9
<PAGE>
Castelle and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
--------------------------------------------------------------------------------

4.     Acquisition of the Object-Fax NT Product Line

       In April 1998, the Company completed its acquisition of the Object-Fax NT
       product line, a facsimile software  application designed for LAN's, WAN's
       and  Internet-based   networks,  from  Tolvusamskipti  HF,  an  Icelandic
       corporation, in exchange for $300,000 in cash, 100,000 shares of Castelle
       common  stock  and the right to  receive  either  additional  cash or the
       number of  additional  shares of  Castelle  common  stock on the date six
       months after the  acquisition  necessary to make the fair market value of
       the common stock and additional cash received in the transaction not less
       than $500,000 (the  "Acquisition").  In connection with the  Acquisition,
       Castelle also entered into asset acquisition agreements with Traffic USA,
       Inc. and Traffic  Software USA,  Inc. in which  Castelle  acquired  fixed
       assets and  intellectual  property rights  associated with the marketing,
       sales,  distribution  and  support  of the  Object-Fax  NT  software.  In
       exchange for these  assets,  Castelle  paid  $135,000 and agreed to pay a
       royalty on sales of the Object-Fax NT software,  not to exceed $75,000 or
       to be paid beyond 24 months after the Acquisition. Additionally, Castelle
       entered into consulting and non-competition agreements with key employees
       of Traffic USA, Inc. and Traffic  Software USA, Inc. The  Acquisition has
       been accounted for as a purchase of assets and is valued at approximately
       $1.4 million,  including  acquisition-related  expenses. A portion of the
       purchase  price was  allocated to  in-process  research  and  development
       relating  to  certain  projects  which  had  not  reached   technological
       feasibility  and for which  there was no  alternative  future  use,  and,
       accordingly,  the Company recorded, a one-time charge against earnings in
       the second quarter of 1998 of $1.1 million. Further, the Company recorded
       intangible assets of $160,000, which are being amortized over 12 months.

       The value of the common stock received in the  transaction  was less than
       $500,000 six months after the acquisition.  The Company is in the process
       of determining whether an additional cash payment will be made or whether
       additional  shares will be issued.  The option is  equivalent to either a
       cash  payment of  approximately  $386,000,  representing  the  difference
       between  $500,000 and the fair market value of 100,000  shares six months
       after the  acquisition  or an additional  339,000 shares of the Company's
       common stock.


5.     Balance Sheet Detail (in thousands)
<TABLE>
<CAPTION>

       Inventories:

                                                                              December 31,
                                                                    ..................................
                                                                         1998              1997
                                                                    ----------------  ----------------

<S>                                                                       <C>               <C>     
              Raw material                                                $  1,282          $  1,544
              Work in process                                                  130               486
              Finished goods                                                 2,327             1,756
                                                                    ----------------  ----------------

                                                                          $  3,739          $  3,786
                                                                    ================  ================
</TABLE>



                                       F-10
<PAGE>
Castelle and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>




       Property and equipment:

                                                                                 December 31,
                                                                    ..................................
                                                                         1998              1997
                                                                    ----------------  ----------------

<S>                                                                        <C>               <C>    
              Production, test and demonstration equipment                 $   495           $   746
              Computer equipment                                             1,078             2,740
              Office equipment                                                  88               361
              Leasehold improvements                                           107               127
                                                                    ----------------  ----------------
                                                                             1,768             3,974
              Less accumulated depreciation and amortization                (1,102)           (3,036)
                                                                    ----------------  ----------------

                                                                           $   666           $   938
                                                                    ================  ================


       Accrued liabilities:

                                                                                 December 31,
                                                                       ..................................
                                                                            1998              1997
                                                                       ----------------  ----------------

              Accrued compensation                                           $  1,093           $   870
              Accrued sales and marketing                                         499               444
              Accrued professional fees                                            95               126
              Deferred revenue                                                    321               252
              Accrued income tax                                                  217               234
              Accrued acquisition costs                                           125                 -
              Other                                                               365               694
                                                                       ----------------  ----------------

                                                                             $  2,715          $  2,620
                                                                       ================  ================


</TABLE>

6.     Commitments

       The  Company  leases  facilities  under  noncancelable  operating  leases
       expiring through 2001. The Company is responsible for certain maintenance
       costs,  taxes and insurance  under the leases.  Future  minimum  payments
       under noncancelable operating leases are as follows (in thousands):
<TABLE>
<CAPTION>

              <S>                                                     <C>    
              1999                                                    $   387
              2000                                                        357
              2001                                                         89
              2002                                                          8
                                                                ---------------

                                                                      $   841
                                                                ---------------

</TABLE>

       Rent expense,  including the facility  lease and  equipment  rental,  was
       $584,000, $332,000, and $374,000 for 1998, 1997 and 1996, respectively.

                                       F-11
<PAGE>
Castelle and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
--------------------------------------------------------------------------------

7.     Bank Borrowings

       The Company had a $3.0 million  revolving line of credit with a bank that
       expired in December 1998. There were no borrowings outstanding under this
       line of credit at December 31, 1998. The Company is currently negotiating
       an extension of this line of credit.


8.     Long-Term Debt

       In December 1997, the Company entered into a loan and security  agreement
       with a finance  company for an amount of $288,000.  The amounts  borrowed
       are subject to interest of 10.11%,  are repayable by December  2000,  and
       are partially  collateralized  by a  certificate  of deposit of $125,000,
       which is included as restricted cash on the accompanying balance sheet.

       At  December  31,  1998,  future  minimum  payments  are as  follows  (in
       thousands):
<TABLE>
<CAPTION>

              Years Ending December 31,
              <S>                                                  <C>    
              1999                                                 $    96
              2000                                                      98
                                                            ---------------

                                                                   $   194
</TABLE>
                                                            ===============


9.     Common Stock

       In connection  with the sale of common stock to two  executives  (152,815
       shares at $0.20 per share in October 1994 and 52,500  shares at $5.00 per
       share in April 1995),  the Company had the right to repurchase the shares
       at cost in the  event of  termination  of  service.  These  rights  lapse
       ratably through 1999. At December 31, 1998,  9,800 shares were subject to
       the Company's repurchase rights.

                                       F-12
<PAGE>
Castelle and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
--------------------------------------------------------------------------------

       Non-Employee Directors' Stock Option Plan
       In November  1995,  the  Company's  Board of  Directors  adopted the 1995
       Non-Employee  Directors'  Stock  Option Plan  ("Directors  Plan").  As of
       December 31, 1998, 120,000 shares of the Company's common stock have been
       reserved for issuance  under the  Directors  Plan and activity  under the
       Plan is as follows (in thousands):
<TABLE>
<CAPTION>

                                                                               Outstanding Options
                                                            ..........................................................
                                                                                                           Weighted
                                                                                                           Average
                                              Available        Number        Exercise                      Exercise
                                              for Grant      of Shares        Price          Total          Price
                                             -------------  ------------- --------------- -------------  -------------

     <S>                                     <C>             <C>          <C>             <C>            <C>  
      Balances, January 1, 1996                      120              -         -              $    -       $0.00
      Options granted                                (10)            10       $8.00                80       $8.00
      Options cancelled                                3             (3)      $8.00               (24)      $8.00
                                             -------------  -------------                 -------------  -------------

      Balances, December 31, 1996                    113              7       $8.00                56       $8.00
      Options granted                                 (6)             6       $6.12                37       $6.12
      Options cancelled                                3             (3)   $6.12-$8.00            (19)      $7.00
                                             -------------  -------------                 -------------  -------------

      Balances, December 31, 1997                    110             10    $6.12-$8.00             74       $7.20
      Options granted                                (11)            11    $2.37-$2.38             26       $2.38
      Options cancelled                                -              -         -                   -         -
                                             -------------  -------------                 -------------  -------------

      Balances, December 31, 1998                     99             21    $2.37-$8.00        $   100       $4.69
                                             =============  =============                 =============  =============
</TABLE>

       At December 31, 1998 and 1997,  14,000 and 7,000  options,  respectively,
       were  exercisable at an aggregate  exercise price of $79,000 and $50,000,
       respectively.

       1988 Incentive Stock Plan
       Under the 1988 Incentive Stock Plan ("1988 Plan"), the Board of Directors
       may grant  either the right to  purchase  shares or  options to  purchase
       shares of the  Company's  common  stock at prices  not less than the fair
       market value at the date of grant for incentive  stock options and 85% of
       the fair market  value for  non-qualified  options and  purchase  rights.
       Options granted under the 1988 Plan generally become exercisable, and the
       Company's  right to  repurchase  shares issued and sold pursuant to stock
       purchase  rights  lapses,  at a rate of  one-quarter  of the shares under
       option or purchased  under stock purchase  rights at the end of the first
       year and  thereafter  ratably  over the next  three  years and  generally
       expire seven years from the date of grant. As of December 31, 1998, there
       were no  stock  purchase  rights  outstanding,  and no  shares  purchased
       pursuant to stock  purchase  rights  were  subject to  repurchase  by the
       Company.

                                       F-13
<PAGE>
Castelle and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>

       Option activity under the 1988 Plan was as follows (in thousands):

                                                                               Outstanding Options
                                                            ..........................................................
                                                                                                           Weighted
                                                                                                           Average
                                              Available        Number        Exercise                      Exercise
                                              for Grant      of Shares        Price          Total          Price
                                             -------------  ------------- --------------- -------------  -------------

     <S>                                     <C>            <C>           <C>             <C>            <C>           
      Balances, January 1, 1996                      422            264    $0.20-$6.00         $  857       $3.26
      Options granted                               (197)           197    $0.96-$7.75          1,075       $5.46
      Options cancelled                               65            (65)   $0.20-$7.75           (426)      $6.54
      Options exercised                                -             (9)   $0.20-$1.55            (10)      $1.24
                                             -------------  -------------                 -------------  -------------

      Balances, December 31, 1996                    290            387    $0.20-$7.75          1,496       $3.87
      Authorized                                     982
      Options granted                             (1,184)         1,184    $4.50-$5.75          5,476       $4.62
      Options cancelled                              112           (112)   $0.20-$6.88         (5,677)      $5.09
      Options exercised                                -            (70)   $0.20-$5.00           (112)      $1.59
                                             -------------  -------------                 -------------  -------------

      Balances, December 31, 1997                    200          1,389    $0.20-$7.75          1,183       $4.53
      Options granted                             (1,466)         1,466    $1.00-$3.50          2,426       $1.65
      Options cancelled                            1,448         (1,448)   $0.20-$7.75         (6,473)      $4.47
      Options exercised                                 -           (40)   $0.20-$1.55            (12)      $0.29
                                             -------------  -------------                 -------------  -------------

      Balances, December 31, 1998                    182          1,367    $0.20-$6.88         (2,876)      $1.63
                                             =============  =============                 =============  =============
</TABLE>

       At December 31, 1998 and 1997,  508,000 and 694,000 options  outstanding,
       respectively,   were  exercisable  at  an  aggregate  exercise  price  of
       $1,023,000 and $2,992,000, respectively.

       In August 1998, the company offered employees the right to cancel certain
       outstanding  stock  options at original  exercise  prices and receive new
       options with a new exercise  price.  The new exercise price was $1.56 per
       share,  based on the closing price of common stock on the date  employees
       agreed to cancel their original  outstanding  stock  options.  Options to
       purchase a total of 941,845  shares at original  exercise  prices ranging
       from $2.50 to $7.75 per share were  cancelled and new options were issued
       in August 1998.  In return for the lower  exercise  price,  each optionee
       agreed that no portion of a repriced  option would be  exercisable  until
       six (6) months after the effective date of the repricing.

       In  addition to the Plan,  Castelle  granted  options to purchase  common
       stock to  consultants  under  special  arrangements.  These  options were
       valued  consistent with the provisions of SFAS No. 123 and as a result, a
       compensation  expense of $52,000 was  recognized  in 1998.  These options
       have an exercise price ranging from $1.56 to $1.63. There were 152,056 of
       these  options  outstanding  at December  31,  1998 of which  27,056 were
       exercisable at an aggregate exercise price of $44,000.

       Stock Option Plans
       The Company has adopted the  disclosure-only  provisions  of Statement of
       Financial Accounting Standards No. 123 ("SFAS No. 123"),  "Accounting for
       Stock-Based  Compensation."  Accordingly,  no compensation  cost has been
       recognized for the Non-Employee  Directors' Stock Option Plan or the 1988
       Incentive Stock Plan.
                                       F-14
<PAGE>
Castelle and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
--------------------------------------------------------------------------------

       Had  compensation  cost for these Plans been determined based on the fair
       value at the grant date for awards in 1998, 1997 and 1996 consistent with
       the  provisions  of SFAS No. 123, the Company's net income (loss) and net
       income  (loss) per share for 1998,  1997 and 1996 would have been reduced
       to the pro forma amounts indicated below (in thousands):
<TABLE>
<CAPTION>

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

      <S>                                                           <C>                <C>                 <C>     
       Net income - as reported                                      $  (7,534)         $  (6,895)          $  5,724
       Net income - pro forma                                           (8,690)            (8,093)             5,586
       Net income per share - basic - as reported                        (1.67)             (1.54)              1.55
       Net income per share - basic - pro forma                          (1.93)             (1.81)              1.51
       Net income per share - diluted - as reported                      (1.67)             (1.54)              1.45
       Net income per share - diluted - pro forma                        (1.93)             (1.81)              1.42


       The fair value of each  option  grant is  estimated  on the date of grant
       using the  Black-Scholes  model with the following  assumptions for 1998,
       1997 and 1996:

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

       Risk-free interest rate                                       5.20%         4.88%-5.30%       5.38%-6.75%
       Expected life                                               4.4 years          5.6 years          3 years
       Expected dividends                                              -                  -                 -
       Volatility                                                     79%               100%               60%
       Average turnover                                                8%                8%                8%

</TABLE>

       The weighted average fair value of options granted in 1998, 1997 and 1996
was $1.05, $3.78 and $3.41 per share, respectively.

                                       F-15
<PAGE>
Castelle and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
--------------------------------------------------------------------------------

       The options  outstanding  and currently  exercisable by exercise price at
       December  31, 1998 are as follows  (in  thousands,  except  years and per
       share data):
<TABLE>
<CAPTION>

                                    Options Outstanding                                 Options Exercisable
             ...................................................................  .................................
                                                   Weighted
                                                   Average         Weighted                           Weighted
                Range of                          Remaining         Average                            Average
                Exercise          Number         Contractual       Exercise           Number          Exercise
                 Prices         Outstanding          Life            Price          Exercisable         Price
             ---------------- ----------------  --------------- ----------------  ---------------- ----------------

               <S>                    <C>            <C>             <C>                    <C>         <C>                     
               $0.00-$0.20                30         2.3             $0.20                    30        $0.20
               $0.51-$1.00               300         6.9             $1.00                     -        $0.00
               $1.50-$1.70             1,097         5.7             $1.55                   417        $1.56
               $2.00-$3.00                12         8.5             $2.41                     5        $2.46
               $3.01-$5.00                80          -              $4.50                    80        $4.50
               $5.01-$6.00                 1         3.9             $6.00                     1        $6.00
               $6.01-$7.00                14         5.3             $6.63                    10        $6.58
               $7.01-$8.00                 6         5.1             $8.00                     6        $8.00
                              ----------------                                    ----------------

                                       1,540         5.6             $1.65                   549        $2.09
                              ================                                    ================

</TABLE>

       Warrants
       The Company has outstanding  fully  exercisable  warrants at December 31,
       1998 as follows (in thousands except per share data):
<TABLE>
<CAPTION>

               Expiration          Stock Under         Exercise          Number of
                  Date               Warrant            Price             Shares
           --------------------   ---------------   ---------------   ----------------

           <S>                        <C>                <C>                     <C>
           December 2000              Common             $   8.40                100
           March 2000                 Common             $   1.00                133
           March 1999                 Common             $   3.00                 15
</TABLE>

       The  warrant  holders  have  certain  demand and  registration  rights as
       specified in the warrant  agreement.  No warrants were  exercised  during
       1998, 1997 and 1996.

       Notes receivable
       At December 31,  1998,  the Company  held notes  receivable  of $274,000,
       which bear interest between 6.3% and 7.05% per annum,  from two executive
       officers,  issued in  connection  with the purchase of common stock under
       restricted stock purchase agreements.  The principal and accrued interest
       on these  notes  are due at  various  dates  from  October  1999  through
       September 2000.

                                       F-16
<PAGE>
Castelle and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
--------------------------------------------------------------------------------

9.     Income Taxes

       The Company's  provision for (benefit  from) income taxes consists of the
       following (in thousands):
<TABLE>
<CAPTION>
                                         Year Ended December 31,
                           ....................................................
                                1998              1997              1996
                           ----------------  ----------------  ----------------
        Current:
           <S>                    <C>               <C>               <C>    
           Federal                $     -           $     -           $   793
           State                        -                 -               130
           Foreign                      1                 -                20
                           ----------------  ----------------  ----------------
                                        1                 -               943
                           ----------------  ----------------  ----------------
        Deferred:
           Federal                  3,495              (732)           (4,062)
           State                      469                 -              (409)
                           ----------------  ----------------  ----------------
                                    3,964              (732)           (4,471)
                           ----------------  ----------------  ----------------

                                 $  3,965          $   (732)        $  (3,528)
                           ================  ================  ================
</TABLE>


       The  Company's  tax  provision   (benefit)  differs  from  the  provision
       (benefit)  computed  using  statutory  income  tax rates as  follows  (in
       thousands):
<TABLE>
<CAPTION>

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

       <S>                                                         <C>              <C>                 <C>    
        Federal tax (benefit) at statutory rate                    $   (754)        $  (2,975)          $   778
        Permanent difference due to
            non-deductible expenses                                      21             1,586               228
        State taxes (benefit), net of federal benefit                  (173)              (91)              251
        Utilization of net operating loss carryforwards                   -                 -            (1,829)
        Change in valuation allowance                                 5,001               834            (2,519)
        General business credits                                       (131)              (86)             (123)
        Other                                                             1                 -              (314)
                                                             ----------------  ----------------  ----------------

                                                                   $  3,965          $   (732)        $  (3,528)
                                                             ================  ================  ================

</TABLE>
                                       F-17
<PAGE>
Castelle and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
--------------------------------------------------------------------------------

       The  components  of the  net  deferred  tax  assets  are as  follows  (in
       thousands):
<TABLE>
<CAPTION>
                                                       December 31,
                                            ...................................
                                                 1998               1997
                                            ----------------  -----------------

       <S>                                         <C>                <C>    
       Inventory allowances and adjustments        $   243            $   158
       Accounts receivable allowances                  287                475
       Other liabilities and allowances              1,097                428
       Net operating loss carryforwards              3,127              2,680
       Tax credit carryforwards                        785              1,027
       Depreciation and amortization                   296                  -
       Valuation allowance                          (5,835)              (834)
                                            ----------------  -----------------

            Total net deferred tax assets          $     -           $  3,934
                                            ================  =================
</TABLE>

       Due to the  uncertainty  surrounding  the  realization  of favorable  tax
       attributes in future tax returns, the Company has placed a full valuation
       allowance against its deferred tax asset balance.

       At December 31, 1998, the Company had net operating loss carryforwards of
       approximately  $8,800,000  and  $2,200,000  available  to  offset  future
       federal  and  California   taxable  income,   respectively.   These  loss
       carryforwards expire from 2003 through 2018.

       For federal and state income tax purposes, a portion of the Company's net
       operating loss  carryforward is subject to certain  limitations on annual
       utilization  in case of changes in  ownership,  as defined by federal and
       state tax laws.

       The  Company's  income  (loss)  before  provision  for  income  taxes  is
       substantially all from domestic operations.

10.    Retirement Plan

       The Company  has a  voluntary  401(k)  plan  covering  substantially  all
       employees. The plan provides for employer contributions at the discretion
       of the Board of Directors.  In 1998,  1997 and 1996,  the Company made no
       contributions to the plan.


11.    Major Customers and Segment Information

       Revenues by  geographic  area are  determined  by the location of the end
       user and are summarized as follows (in thousands):
<TABLE>
<CAPTION>
                                     Years Ended December 31,
                        ...................................................
                             1998              1997              1996
                        ----------------  ----------------  ---------------

       <S>                    <C>               <C>              <C>     
       Europe                 $  2,148          $  3,000         $  4,800
       Pacific Rim               6,156             8,900           10,700
                        ----------------  ----------------  ---------------

                              $  8,304         $  11,900        $  15,500
                        ================  ================  ===============
</TABLE>
                                       F-18
<PAGE>
Castelle and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
--------------------------------------------------------------------------------

       Customers that  individually  accounted for greater than 10% of net sales
       are as follows (in thousands):
<TABLE>
<CAPTION>

                                                            Years Ended December 31,
                          ..............................................................................................
                                      1998                             1997                            1996
           Customer          Amount        Percentage         Amount        Percentage         Amount       Percentage
       -----------------  -------------- ---------------  --------------- ---------------  --------------- -------------

              <S>              <C>            <C>              <C>             <C>              <C>            <C>
              A                $     -         -%              $  2,604        10%              $  3,833       13%
              B                  3,752        17%                 3,629        14%                 4,419       15%
              C                  5,596        26%                 8,147        32%                 9,711       33%
</TABLE>


12.    Computation of Net (Loss) Income per Share

       Basic and diluted  earnings per share are calculated as follows for 1998,
       1997 and 1996 (in thousands except per share amounts):
<TABLE>
<CAPTION>

                                                                      1998              1997              1996
                                                                 ---------------   ----------------  ----------------
       Basic:
         <S>                                                             <C>                <C>               <C>  
          Weighted average shares                                        4,507              4,470             3,701
                                                                 ===============   ================  ================

          Net (loss) income                                          $  (7,534)         $  (6,895)         $  5,724
                                                                 ===============   ================  ================

          Net (loss) income per share                                $   (1.67)         $   (1.54)         $   1.55
                                                                 ===============   ================  ================

       Diluted:
          Weighted average shares                                        4,507              4,470             3,701
          Common equivalent shares from stock options                        -                  -               241
                                                                 ---------------   ----------------  ----------------

          Shares used in per share calculation                           4,507              4,470             3,942
                                                                 ===============   ================  ================

          Net (loss) income                                          $  (7,534)         $  (6,895)         $  5,724
                                                                 ===============   ================  ================

          Net (loss) income per share                                $   (1.67)         $   (1.54)         $   1.45
                                                                 ===============   ================  ================
</TABLE>

       The calculation of diluted shares  outstanding for 1998 and 1997 excludes
       1,540,000 and 1,399,000 stock options,  respectively, as their effect was
       antidilutive in the period.
                                       F-19
<PAGE>


                                                        
       Report of Independent Accountants on Financial Statement Schedules



To the Board of Directors of Castelle:

Our audits of the consolidated  financial  statements  referred to in our report
dated  February 5, 1999 appearing on page F-1 of this Form 10-K also included an
audit of the financial  statement schedules listed in Item 14(a)(2) of this Form
10-K. In our opinion, these financial statement schedules present fairly, in all
material  respects,  the  information set forth therein when read in conjunction
with the related consolidated financial statements.


PricewaterhouseCoopers LLP

San Jose, California
February 5, 1999

                                      F-20


<PAGE>

Castelle and Subsidiaries                                            Schedule II
Valuation and Qualifying Accounts
(in thousands)
<TABLE>
<CAPTION>

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

                                                      
                                                                            Additional
                                                          Balance at        Charged to                          Balance at
                                                           Beginning         Costs and                            End of
                                                           of Period         Expenses         Deductions          Period
                                                        ----------------  ----------------  ----------------  ----------------

Year Ended December 31, 1996:
Deducted from asset accounts:
<S>                                                            <C>               <C>               <C>               <C>    
    Allowance for doubtful accounts                            $   429           $   149           $   111           $   467
    Allowance for excess and obsolete inventory                $   778           $   443           $   414           $   807

Year Ended December 31, 1997:
Deducted from asset accounts:
    Allowance for doubtful accounts                            $   467           $   107           $    84           $   490
    Allowance for excess and obsolete inventory                $   807           $   301           $   713           $   395

Year Ended December 31, 1998:
Deducted from asset accounts:
    Allowance for doubtful accounts                            $   490           $   257           $    27           $   720
    Allowance for excess and obsolete inventory                $   395           $   418           $    22           $   791

</TABLE>


                                      F-21
<PAGE>


Castelle and Subsidiaries
Index To Exhibits
-------------------------------------------------------------------------------
<TABLE>
<CAPTION>



 Exhibit
 Number    Description                                                                               
 <S>       <C>                                                  
   3.4     Amended and Restated Bylaws of the Company.
  10.19    Employment agreement between the Company and Messier. D. Rich.
  11.1     Computation of Net Income (Loss) Per Share.  Reference is made 
             to page F-19 of the Notes to Consolidated Financial Statements.
  23.1     Consent of PricewaterhouseCoopers LLP.
  24.1     Power of Attorney.  Reference is made to the signature page, 
             (page 38).
  27.1     Financial data schedule.

</TABLE>

<PAGE>

                                                                     Exhibit 3.4

                           AMENDED AND RESTATED BYLAWS

                                       OF

                                    CASTELLE

                           (A CALIFORNIA CORPORATION)

                      As amended through February 23, 1999







<PAGE>
<TABLE>
<CAPTION>


                                TABLE OF CONTENTS

                                                                                                               PAGE


<S>               <C>                                                                                            <C>
Article I         Offices.........................................................................................1

Section 1.        Principal Office................................................................................1

Section 2.        Other Offices...................................................................................1

Article II        Corporate Seal..................................................................................1

Section 3.        Corporate Seal..................................................................................1

Article III       Shareholders'Meetings And Voting Rights.........................................................1

Section 4.        Place Of Meetings...............................................................................1

Section 5.        Annual Meeting..................................................................................1

Section 6.        Postponement Of Annual Meeting..................................................................2

Section 7.        Special Meetings................................................................................2

Section 8.        Notice Of Meetings..............................................................................2

Section 9.        Manner Of Giving Notice.........................................................................3

Section 10.       Quorum And Transaction Of Business..............................................................4

Section 11.       Adjournment and Notice of Adjourned Meetings....................................................4

Section 12.       Waiver Of Notice, Consent To Meeting Or Approval Or Minutes.....................................4

Section 13.       Action By Written Consent Without A Meeting.....................................................5

Section 14.       Voting..........................................................................................6

Section 15.       Persons Entitled To Vote Or Consent.............................................................6

Section 16.       Proxies.........................................................................................7

Section 17.       Inspectors Of Election..........................................................................7

Article IV        Board Of Directors..............................................................................8

Section 18.       Powers..........................................................................................8

Section 19.       Number Of Directors.............................................................................8

Section 20.       Election Of Directors, Term, Qualifications.....................................................9

Section 21.       Resignations....................................................................................9

Section 22.       Removal.........................................................................................9

Section 23.       Vacancies.......................................................................................9

Section 24.       Regular Meetings...............................................................................10

Section 25.       Participation By Telephone.....................................................................10

Section 26.       Special Meetings...............................................................................10

                                        i
<PAGE>                                      

                                TABLE OF CONTENTS
                                   (CONTINUED)
                                                                                                               PAGE

Section 27.       Notice Of Meetings.............................................................................10

Section 28.       Place Of Meetings..............................................................................10

Section 29.       Action By Written Consent Without A Meeting....................................................10

Section 30.       Quorum And Transaction Of Business.............................................................11

Section 31.       Adjournment....................................................................................11

Section 32.       Organization...................................................................................11

Section 33.       Compensation...................................................................................11

Section 34.       Committees.....................................................................................11

Article V         Officers.......................................................................................12

Section 35.       Officers.......................................................................................12

Section 36.       Appointment....................................................................................12

Section 37.       Inability To Act...............................................................................12

Section 38.       Resignations...................................................................................12

Section 39.       Removal........................................................................................13

Section 40.       Vacancies......................................................................................13

Section 41.       Chairman Of The Board..........................................................................13

Section 42.       President......................................................................................13

Section 43.       Vice Presidents................................................................................13

Section 44.       Secretary......................................................................................14

Section 45.       Chief Financial Officer........................................................................14

Section 46.       Compensation...................................................................................15

Article VI        Contracts, Loans, Bank Accounts, Checks And Drafts.............................................15

Section 47.       Execution Of Contracts And Other Instruments...................................................15

Section 48.       Loans..........................................................................................15

Section 49.       Bank Accounts..................................................................................16

Section 50.       Checks, Drafts, Etc............................................................................16

Article VII       Certificates For Shares And Their Transfer.....................................................16

Section 51.       Certificate For Shares.........................................................................16

Section 52.       Transfer On The Books..........................................................................17

Section 53.       Lost, Destroyed And Stolen Certificates........................................................17

                                        ii
<PAGE>                                      


                                TABLE OF CONTENTS
                                   (CONTINUED)
                                                                                                               PAGE

Section 54.       Issuance, Transfer And Registration Of Shares..................................................17

Article VIII      Inspection Of Corporate Records................................................................17

Section 55.       Inspection By Directors........................................................................17

Section 56.       Inspection By Shareholders.....................................................................18

Section 57.       Written Form...................................................................................19

Article IX        Miscellaneous..................................................................................19

Section 58.       Fiscal Year....................................................................................19

Section 59.       Annual Report..................................................................................19

Section 60.       Record Date....................................................................................19

Section 61.       Bylaw Amendments...............................................................................20

Section 62.       Construction And Definition....................................................................20

Article X         Indemnification................................................................................20

Section 63.       Indemnification Of Directors, Officers, Employees And Other Agents.............................20

Article XI        Loans Of Officers And Others...................................................................24

Section 64.       Certain Corporate Loans And Guaranties.........................................................24

</TABLE>

                                        iii
<PAGE>                                      



                           AMENDED AND RESTATED BYLAWS

                                       OF

                                    CASTELLE

                           (A CALIFORNIA CORPORATION)

                      As amended through February 23, 1999

                                    ARTICLE I
                                     Offices

Section 1. Principal Office.  The principal  executive office of the corporation
shall be located at such place as the Board of  Directors  may from time to time
authorize.  If the principal executive office is located outside this state, and
the  corporation  has one or more business  offices in this state,  the Board of
Directors  shall fix and designate a principal  business  office in the State of
California.

Section 2. Other Offices. Additional offices of the corporation shall be located
at such place or places, within or outside the State of California, as the Board
of Directors may from time to time authorize.

                                   ARTICLE II
                                 Corporate Seal

Section 3.  Corporate  Seal. If the Board of Directors  adopts a corporate  seal
such seal shall have inscribed thereon the name of the corporation and the state
and date of its  incorporation.  If and when a seal is  adopted  by the Board of
Directors, such seal may be engraved, lithographed,  printed, stamped, impressed
upon, or affixed to any contract,  conveyance,  certificate for shares, or other
instrument executed by the corporation.

                                   ARTICLE III
                    Shareholders' Meetings And Voting Rights

Section 4. Place Of  Meetings.  Meetings  of  shareholders  shall be held at the
principal executive office of the corpora-tion, or at any other place, within or
outside  the  State of  California,  which  may be fixed  either by the Board of
Directors  or by the  written  consent of all  persons  entitled to vote at such
meeting,  given either  before or after the meeting and filed with the Secretary
of the Corporation.

Section 5.  Annual  Meeting.  The  annual  meeting  of the  shareholders  of the
corporation  shall be held on any date and time  which  may from time to time be
designated by the Board of Directors. At such annual meeting, directors shall be
elected and any other business may be transacted  which may properly come before
the meeting.

                                       1.
<PAGE>
Section  6.  Postponement  Of Annual  Meeting.  The Board of  Directors  and the
President  shall each have  authority to hold at an earlier date and/or time, or
to postpone to a later date and/or time, the annual meeting of shareholders.

Section 7.   Special Meetings.

     (a) Special meetings of the shareholders,  for any purpose or purposes, may
be called by the Board of Directors, the Chairman of the Board of Directors, the
President,  or the holders of shares  entitled to cast not less than ten percent
(10%) of the votes at the meeting.

     (b) Upon  written  request to the Chairman of the Board of  Directors,  the
President,  any vice president or the Secretary of the corporation by any person
or  persons  (other  than the  Board of  Directors)  entitled  to call a special
meeting of the  share-holders,  such officer  forthwith shall cause notice to be
given to the  shareholders  entitled to vote,  that a meeting  will be held at a
time requested by the person or persons calling the meeting, such time to be not
less than  thirty-five  (35) nor more than sixty (60) days after receipt of such
request.  If such notice is not given within  twenty (20) days after  receipt of
such request,  the person or persons calling the meeting may give notice thereof
in the manner  provided by law or in these  bylaws.  Nothing  contained  in this
Section 7 shall be construed as limiting,  fixing or affecting  the time or date
when a meeting of  share-holders  called by action of the Board of Directors may
be held.

Section 8. Notice Of Meetings.  Except as  otherwise  may be required by law and
subject to subsection 7(b) above, written notice of each meeting of shareholders
shall be given to each shareholder entitled to vote at that meeting (see Section
15 below),  by the Secretary,  assistant  secretary or other person charged with
that duty, not less than ten (10) (or, if sent by third class mail, thirty (30))
nor more than sixty (60) days before such meeting.

         Notice of any meeting of shareholders  shall state the date,  place and
hour of the meeting and,

     (a) in the case of a special meeting, the general nature of the business to
be transacted, and no other business may be transacted at such meeting;

     (b) in the case of an annual  meeting,  the general nature of matters which
the Board of Directors,  at the time the notice is given, intends to present for
action by the shareholders;

     (c) in the case of any meeting at which  directors  are to be elected,  the
names of the  nominees  intended  at the time of the notice to be  presented  by
management for election; and

     (d) in the  case of any  meeting,  if  action  is to be taken on any of the
following proposals, the general nature of such proposal:

       (1) a  proposal  to  approve  a  transaction  within  the  provisions  of
       California   Corporations   Code,   Section  310   (relating  to  certain
       transactions  in which a  director  has a direct  or  indirect  financial
       interest);
                                      2.
<PAGE>

       (2) a  proposal  to  approve  a  transaction  within  the  provisions  of
       California  Corporations  Code,  Section 902  (relating  to amending  the
       Articles of Incorporation of the corporation);

       (3) a  proposal  to  approve  a  transaction  within  the  provisions  of
       California   Corporations  Code,  Sections  181  and  1201  (relating  to
       reorganization);

       (4) a  proposal  to  approve  a  transaction  within  the  provisions  of
       California Corporations Code, Section 1900 (winding up and dissolution);

       (5) a proposal to approve a plan of distribution within the provisions of
       California  Corporations  Code,  Section 2007  (relating to certain plans
       providing for distribution not in accordance with the liquidation  rights
       of preferred shares, if any).

         At a special meeting, notice of which has been given in accordance with
this  Section,  action may not be taken with  respect to  business,  the general
nature of which has not been stated in such notice. At an annual meeting, action
may be taken with  respect  to  business  stated in the notice of such  meeting,
given in accordance with this Section,  and,  subject to sub-section 8(d) above,
with respect to any other business as may properly come before the meeting.

Section 9. Manner Of Giving Notice.  Notice of any meeting of shareholders shall
be given either  personally or by first-class  mail, or, if the  corporation has
outstanding shares held of record by 500 or more persons (determined as provided
in  California  Corporations  Code  Section  605) on the  record  date  for such
meeting,  third-class  mail,  or  telegraphic  or other  written  communication,
addressed to the shareholder at the address of that shareholder appearing on the
books of the  corporation or given by the shareholder to the corporation for the
purpose of notice. If no such address appears on the  corporation's  books or is
given,  notice shall be deemed to have been given if sent to that shareholder by
first-class   mail  or  telegraphic  or  other  written   communication  to  the
corporation's  principal  executive  office,  or if published at least once in a
newspaper  of general  circulation  in the county  where that office is located.
Notice shall be deemed to have been given at the time when delivered  personally
or  deposited  in the  mail  or sent by  telegram  or  other  means  of  written
communication.

         If any  notice  addressed  to a  shareholder  at the  address  of  that
shareholder  appearing  on the  books  of the  corporation  is  returned  to the
corporation  by the United  States  Postal  Service  marked to indicate that the
United States Postal Service is unable to deliver the notice to the  shareholder
at that  address,  all  future  notices  shall be deemed to have been duly given
without  further  mailing if these  shall be  available  to the  shareholder  on
written  demand by the  shareholder  at the  principal  executive  office of the
corporation for a period of one year from the date of the giving of the notice.

         An affidavit of mailing of any notice or report in accordance  with the
provisions of this Section 9, executed by the Secretary,  Assistant Secretary or
any transfer agent, shall be prima facie evidence of the giving of the notice.

                                       3.
<PAGE>

Section 10.       Quorum And Transaction Of Business.

     (a) At any meeting of the  shareholders,  a majority of the shares entitled
to vote,  represented  in person or by proxy,  shall  constitute a quorum.  If a
quorum is present,  the affirma-tive vote of the majority of shares  represented
at the  meeting  and  entitled  to vote on any  matter  shall  be the act of the
shareholders,  unless  the vote of a greater  number or  voting  by  classes  is
required by law or by the Articles of  Incorporation,  and except as provided in
subsection (b) below.

     (b) The  shareholders  present  at a duly  called  or held  meeting  of the
shareholders  at which a quorum is present may  continue  to do  business  until
adjournment, notwithstanding the withdrawal of enough shareholders to leave less
than a quorum,  provided  that any action  taken  (other  than  adjournment)  is
approved by at least a majority of the shares required to constitute a quorum.

     (c) In the absence of a quorum,  no business other than  adjournment may be
transacted, except as described in sub-section (b) above.

Section  11.  Adjournment  and  Notice of  Adjourned  Meetings.  Any  meeting of
shareholders  may be  adjourned  from time to time,  whether  or not a quorum is
present,  by the  affirmative  vote of a majority of shares  represented at such
meeting either in person or by proxy and entitled to vote at such meeting.

         In the event any meeting is  adjourned,  it shall not be  necessary  to
give notice of the time and place of such adjourned meeting pursuant to Sections
8 and 9 of these  bylaws;  provided  that if any of the  following  three events
occur, such notice must be given:

     (a)  announcement of the adjourned  meeting's time and place is not made at
the original meeting which it continues or

     (b) such meeting is adjourned  for more than forty- five (45) days from the
date set for the original meeting or

     (c) a new record date is fixed for the adjourned meeting.

         At the adjourned  meeting,  the  corporation  may transact any business
which might have been transacted at the original meeting.

Section 12.   Waiver Of Notice, Consent To Meeting Or Approval Or Minutes.

     (a) Subject to subsection  (b) of this  Section,  the  transactions  of any
meeting of shareholders, however called and noticed, and wherever held, shall be
as valid as though made at a meeting duly held after regular call and notice, if
a quorum is present either in person or by proxy, and if, either before or after
the meeting,  each of the persons  entitled to vote but not present in person or
by proxy signs a written waiver of notice or a consent to holding of the meeting
or an approval of the minutes thereof.

                                       4.
<PAGE>

     (b) A waiver of notice,  consent to the holding of a meeting or approval of
the minutes thereof need not specify the business to be transacted or transacted
at nor the  purpose  of the  meeting;  provided  that in the  case of  proposals
described in subsection (d) of Section 8 of these bylaws,  the general nature of
such proposals must be described in any such waiver of notice and such proposals
can only be  approved  by waiver of  notice,  not by  consent  to holding of the
meeting or approval of the minutes.

     (c) All waivers,  consents and approvals  shall be filed with the corporate
records or made a part of the minutes of the meeting.

     (d) A person's  attendance at a meeting shall con-stitute  waiver of notice
of and  presence  at such  meeting,  except  when  such  person  objects  at the
beginning of the meeting to transaction  of any business  because the meeting is
not lawfully called or convened and except that attendance at a meeting is not a
waiver of any right to object to the consideration of matters which are required
by law or these bylaws to be in such notice  (including those matters  described
in subsection (d) of Section 8 of these bylaws), but are not so included if such
person expressly  objects to consideration of such matter or matters at any time
during the meeting.

Section 13. Action By Written Consent Without A Meeting. Any action which may be
taken at any meeting of shareholders  may be taken without a meeting and without
prior notice if written consents setting forth the action so taken are signed by
the holders of the outstanding shares having not less than the minimum number of
votes that would be  necessary  to authorize or take such action at a meeting at
which all shares entitled to vote thereon were present and voted.

         Directors  may not be elected by written  consent  except by  unanimous
written  consent of all shares  entitled to vote for the election of  directors;
provided  that any  vacancy  on the  Board of  Directors  (other  than a vacancy
created by removal)  which has not been filled by the board of directors  may be
filled by the written  consent of a majority of outstanding  shares  entitled to
vote for the election of directors.

         Any written consent may be revoked pursuant to California  Corporations
Code Section  603(c)  prior to the time that  written  consents of the number of
shares  required  to  authorize  the  proposed  action  have been filed with the
Secretary.  Such  revocation  must be in writing and will be effective  upon its
receipt by the Secretary.

         If the  consents  of all  shareholders  entitled  to vote have not been
solicited  in  writing,  and if  the  unanimous  written  consent  of  all  such
shareholders  shall not have been  received,  the  Secretary  shall give  prompt
notice of any corporate action approved by the shareholders without a meeting to
those  share-holders  entitled to vote on such  matters  who have not  consented
thereto  in  writing.  This  notice  shall be given in the manner  specified  in
Section 9 of these bylaws.  In the case of approval of (i) a transaction  within
the provisions of California Corporations Code, Section 310 (relating to certain
transactions in which a director has an interest), (ii) a transaction within the
provisions  of   California   Corporations   Code,   Section  317  (relating  to
indemnification  of agents of the corporation),  (iii) a transaction  within the
provisions of California  Corpora-tions Code, Sections 181 and 1201 (relating to
reorganization),  and  (iv) a plan of  distribution  within  the  provisions  of
California  Corporations Code, Section 2007 (relating to certain plans providing
for  distribution  not in accordance  with the  liquidation  rights of preferred
shares,  if any),  the notice  shall be given at least ten (10) days  before the
consummation of any action authorized by that approval.

                                       5.
<PAGE>

Section  14.  Voting.  The  shareholders  entitled  to  vote at any  meeting  of
shareholders shall be determined in accordance with the provisions of Section 15
of these  bylaws,  subject to the  provisions of Sections 702 through 704 of the
California  Corporations Code (relating to voting shares held by a fiduciary, in
the name of a  corporation,  or in joint  ownership).  Voting at any  meeting of
shareholders  need not be by  ballot;  provided,  however,  that  elections  for
directors  must be by ballot if  balloting is demanded by a  shareholder  at the
meeting and before the voting begins.

         Every person entitled to vote at an election for directors may cumulate
the votes to which such person is entitled,  i.e.,  such person may cast a total
number of votes equal to the number of directors to be elected multiplied by the
number of votes to which such person's  shares are  entitled,  and may cast said
total number of votes for one or more  candidates  in such  proportions  as such
person thinks fit;  provided,  however,  no shareholder  shall be entitled to so
cumulate  such  shareholder's   votes  unless  the  candidates  for  which  such
shareholder  is voting have been placed in nomination  prior to the voting and a
shareholder has given notice at the meeting,  prior to the vote, of an intention
to cumulate  votes. In any election of directors,  the candidates  receiving the
highest  number of votes,  up to the  number of  directors  to be  elected,  are
elected.

         Except as may be otherwise provided in the Articles of Incorporation or
by law, and subject to the  foregoing  provisions  regarding  the  cumulation of
votes, each shareholder shall be entitled to one vote for each share held.

         Any shareholder may vote part of such shareholder's  shares in favor of
a proposal and refrain from voting the remaining shares or vote them against the
proposal,  other than  elections  to office,  but, if the  shareholder  fails to
specify the number of shares such shareholder is voting  affirmatively,  it will
be conclusively  presumed that the shareholder's  approving vote is with respect
to all shares such shareholder is entitled to vote.

         No  shareholder  approval,  other  than  unanimous  approval  of  those
entitled to vote, will be valid as to proposals  described in subsection 8(d) of
these bylaws unless the general nature of such business was stated in the notice
of meeting or in any written waiver of notice.

Section 15. Persons Entitled To Vote Or Consent.  The Board of Directors may fix
a record  date  pursuant  to  Section  60 of these  bylaws  to  determine  which
shareholders  are  entitled  to notice of and to vote at a meeting or consent to
corporate  actions,  as provided in  Sections  13 and 14 of these  bylaws.  Only
persons  in whose  name  shares  otherwise  entitled  to vote stand on the stock
records of the corporation on such date shall be entitled to vote or consent.

         If no record date is fixed:

     (a) The record date for determining  shareholders  entitled to notice of or
to vote at a meeting of  shareholders  shall be at the close of  business on the
business day next preceding the day notice is given or, if notice is waived,  at
the close of business on the  business day next  preceding  the day on which the
meeting is held;

                                       6.
<PAGE>

     (b) The record date for determining  shareholders  entitled to give consent
to corporate  action in writing  without a meeting,  when no prior action by the
Board of Directors  has been taken,  shall be the day on which the first written
consent is given;

     (c) The record  date for  determining  shareholders  for any other  purpose
shall be at the close of  business  on the day on which  the Board of  Directors
adopts the resolution  relating thereto, or the sixtieth (60th) day prior to the
date of such other action, whichever is later.

         A  determination  of shareholders of record entitled to notice of or to
vote at a meeting of shareholders  shall apply to any adjournment of the meeting
unless the Board of Directors fixes a new record date for the adjourned meeting;
provided,  however,  that the Board of Directors  shall fix a new record date if
the meeting is adjourned  for more than  forty-five  (45) days from the date set
for the original meeting.

         Shares of the corporation  held by its subsidiary or  subsidiaries  (as
defined in California  Corporations  Code,  Section  189(b)) are not entitled to
vote in any matter.

Section 16. Proxies. Every person entitled to vote or execute consents may do so
either in person or by one or more agents  authorized  to act by a written proxy
executed by the person or such person's duly authorized agent and filed with the
Secretary of the  corporation;  provided that no such proxy shall be valid after
the  expiration  of eleven  (11) months  from the date of its  execution  unless
otherwise   provided  in  the  proxy.  The  manner  of  execution,   suspension,
revocation, exercise and effect of proxies is governed by law.

Section 17.  Inspectors  Of Election.  Before any meeting of  shareholders,  the
Board of Directors may appoint any persons,  other than nominees for office,  to
act  as  inspectors  of  election  at the  meeting  or  its  adjournment.  If no
inspectors of election are so appointed, the chairman of the meeting may, and on
the  request  of  any  shareholder  or  a  shareholder's  proxy  shall,  appoint
inspectors of election at the meeting.  The number of inspectors shall be either
one (1) or three (3). If inspectors are appointed at a meeting on the request of
one or more  shareholders  or proxies,  the  majority of shares  represented  in
person or proxy shall  determine  whether one (1) or three (3) inspectors are to
be appointed.  If any person  appointed as inspector fails to appear or fails or
refuses to act,  the  chairman of the meeting  may,  and upon the request of any
shareholder  or a  shareholder's  proxy  shall,  appoint  a person  to fill that
vacancy.

         These inspectors shall:

     (a)  Determine  the number of shares  outstanding  and the voting  power of
each, the shares represented at the meeting,  the existence of a quorum, and the
authenticity, validity, and effect of proxies;

     (b) Receive votes, ballots, or consents;

     (c) Hear and determine all  challenges  and questions in any way arising in
connection with the right to vote;

     (d) Count and tabulate all votes or consents;

                                       7.
<PAGE>

     (e) Determine when the polls shall close;

     (f) Determine the result; and

     (g) Do any other acts that may be proper to conduct  the  election  or vote
with fairness to all shareholders.

                                   ARTICLE IV
                               Board Of Directors

Section 18. Powers.  Subject to the provisions of law or any  limitations in the
Articles of Incorporation or these bylaws,  as to action required to be approved
by the  shareholders or by the outstanding  shares,  the business and affairs of
the corpora-tion  shall be managed and all corporate powers shall be exer-cised,
by or under the direction of the Board of Directors.  The Board of Directors may
delegate  the  management  of the  day-to-day  operation  of the business of the
corporation to a management company or other person,  provided that the business
and affairs of the corporation  shall be managed and all corporate  powers shall
be exercised under the ultimate direction of the Board of Directors.

Section 19.  Number Of  Directors.  The  authorized  number of  directors of the
corporation shall be not less than a minimum of four (4) nor more than a maximum
of seven (7) (which  maximum  number in no case shall be greater  than two times
said  minimum,  minus one) and the number of directors  presently  authorized is
five (5). The exact  number of  directors  shall be set within these limits from
time  to  time  (a)  by  approval  of  the  Board  of  Directors,  or (b) by the
affirmative  vote of a majority of the shares  represented  and voting at a duly
held meeting at which a quorum is present  (which  shares  voting  affirmatively
also  constitute  at least a majority of the required  quorum) or by the written
consent of shareholders pursuant to Section 13 hereinabove.

         Any amendment of these bylaws changing the maximum or minimum number of
directors  may be adopted  only by the  affirma-tive  vote of a majority  of the
outstanding shares entitled to vote; provided, an amendment reducing the minimum
number of  directors  to less than five (5),  cannot be  adopted  if votes  cast
against its adoption at a meeting or the shares not consenting to it in the case
of action by  written  consent  are equal to more  than  16-2/3  percent  of the
outstanding shares entitled to vote.

         No reduction  of the  authorized  number of directors  shall remove any
director prior to the expiration of such director's term of office.

Section 20. Election Of Directors, Term, Qualifications.  The directors shall be
elected at each annual  meeting of  shareholders  to hold office  until the next
annual meeting. Each director, including a director elected or appointed to fill
a vacancy,  shall hold office either until the  expiration of the term for which
elected or appointed  and until a successor has been elected and  qualified,  or
until his death,  resignation or removal.  Directors need not be shareholders of
the corporation.

Section 21.  Resignations.  Any director of the corporation may resign effective
upon giving  written  notice to the Chairman of the Board,  the  President,  the
Secretary  or the Board of  Directors  of the  corporation,  unless  the  notice
specifies  a later  time  for the  effectiveness  of  such  resignation.  If the
resignation specifies effectiveness at a future time, a successor may be elected
pursuant  to  Section  23 of these  bylaws  to take  office on the date that the
resignation becomes effective.

                                       8.
<PAGE>

Section 22.  Removal.  The Board of Directors may declare vacant the office of a
director  who has been  declared of unsound mind by an order of court or who has
been convicted of a felony.

         The entire Board of Directors or any individual director may be removed
from  office  without  cause  by  the  affirmative  vote  of a  majority  of the
outstanding  shares entitled to vote on such removal;  provided,  however,  that
unless the entire Board is removed,  no individual  director may be removed when
the votes cast against such director's  removal, or not consenting in writing to
such removal,  would be sufficient to elect that director if voted  cumulatively
at an  election  at which the same total  number of votes cast were cast (or, if
such action is taken by written consent, all shares entitled to vote were voted)
and the entire  number of directors  authorized  at the time of such  director's
most recent election were then being elected.

Section 23. Vacancies. A vacancy or vacancies on the Board of Directors shall be
deemed to exist in case of the death, resignation or removal of any director, or
upon increase in the authorized  number of directors or if shareholders  fail to
elect  the  full  authorized  number  of  directors  at  an  annual  meeting  of
shareholders or if, for whatever reason,  there are fewer directors on the Board
of Directors, than the full number authorized.  Such vacancy or vacancies, other
than a vacancy created by the removal of a director, may be filled by a majority
of the remaining  directors,  though less than a quorum,  or by a sole remaining
director.  A vacancy  created by the removal of a director may be filled only by
the  affirmative  vote of a majority of the shares  represented  and voting at a
duly  held  meeting  at  which  a  quorum  is  present   (which   shares  voting
affirmatively  also constitute at least a majority of the required quorum) or by
the written consent of  shareholders  pursuant to Section 13  herein-above.  The
shareholders  may elect a director at any time to fill any vacancy not filled by
the  directors.  Any such  election  by  written  consent,  other than to fill a
vacancy  created  by  removal,  requires  the  consent  of  a  majority  of  the
outstanding  shares  entitled to vote.  Any such election by written  consent to
fill a vacancy created by removal requires the consent of all of the outstanding
shares entitled to vote.

         If, after the filling of any vacancy by the  directors,  the  directors
then in office who have been elected by the share-holders constitute less than a
majority of the directors then in office,  any holder or holders of an aggregate
of five percent (5%) or more of the shares  outstanding  at that time and having
the right to vote for such directors may call a special  meeting of shareholders
to be held to elect the  entire  Board of  Directors.  The term of office of any
director shall terminate upon such election of a successor.

Section 24. Regular  Meetings.  Regular meetings of the Board of Directors shall
be held at such times, places and dates as fixed in these bylaws or by the Board
of Directors;  provided, however, that if the date for such a meeting falls on a
legal  holiday,  then the  meeting  shall  be held at the same  time on the next
succeeding  full business day.  Regular  meetings of the Board of Directors held
pursuant to this Section 24 may be held without notice.

                                       9.
<PAGE>

Section 25.  Participation  By Telephone.  Members of the Board of Directors may
participate  in a  meeting  through  use  of  conference  telephone  or  similar
communications  equipment,  so long as all members participating in such meeting
can hear one another. Such participation  constitutes presence in person at such
meeting.

Section 26. Special Meetings. Special meetings of the Board of Directors for any
purpose may be called by the Chairman of the Board or the  President or any vice
president or the Secretary of the corporation or any two (2) directors.

Section  27.  Notice Of  Meetings.  Notice  of the  date,  time and place of all
meetings of the Board of Directors, other than regular meetings held pursuant to
Section 24 above shall be  delivered  personally,  orally or in  writing,  or by
telephone or telegraph to each director,  at least forty-eight (48) hours before
the meeting,  or sent in writing to each director by first-class  mail,  charges
prepaid, at least four (4) days before the meeting.  Such notice may be given by
the  Secretary  of the  corporation  or by the  person or  persons  who called a
meeting. Such notice need not specify the purpose of the meeting.  Notice of any
meeting of the Board of Directors  need not be given to any director who signs a
waiver of notice of such  meeting,  or a consent  to holding  the  meeting or an
approval of the minutes  thereof,  either  before or after the  meeting,  or who
attends the meeting without protesting prior thereto or at its commencement such
director's  lack of notice.  All such waivers,  consents and approvals  shall be
filed with the corporate records or made a part of the minutes of the meeting.

Section 28. Place Of Meetings. Meetings of the Board of Directors may be held at
any place within or without the state which has been designated in the notice of
the meeting or, if not stated in the notice or there is no notice, designated in
the bylaws or by resolution of the Board of Directors.

Section 29. Action By Written Consent Without A Meeting.  Any action required or
permitted to be taken by the Board of Directors  may be taken without a meeting,
if all members of the Board of Directors individually or collectively consent in
writing to such action. Such written consent or consents shall be filed with the
minutes of the  proceedings  of the Board of  Directors.  Such action by written
consent  shall  have the same  force  and  effect  as a  unanimous  vote of such
directors.

Section 30. Quorum And  Transaction  Of Business.  A majority of the  authorized
number of directors  shall  constitute a quorum for the transaction of business.
Every act or  decision  done or made by a majority of the  authorized  number of
directors  present at a meeting duly held at which a quorum is present  shall be
the act of the Board of Directors, unless the law, the Articles of Incorporation
or these  bylaws  specifically  require a greater  number.  A meeting at which a
quorum is initially present may continue to transact  business,  notwithstanding
withdrawal of directors,  if any action taken is approved by at least a majority
of the  number of  directors  constituting  a quorum  for such  meeting.  In the
absence of a quorum at any meeting of the Board of Directors,  a majority of the
directors  present may adjourn the  meeting,  as provided in Section 31 of these
bylaws.

Section 31. Adjournment. Any meeting of the Board of Directors, whether or not a
quorum is present, may be adjourned to another time and place by the affirmative
vote of a majority of the  directors  present.  If the meeting is adjourned  for
more than twenty-four (24) hours,  notice of such adjournment to another time or
place shall be given prior to the time of the adjourned meeting to the directors
who were not present at the time of the adjournment.

                                       10.
<PAGE>

Section 32.  Organization.  The  Chairman  of the Board  shall  preside at every
meeting of the Board of  Directors,  if present.  If there is no Chairman of the
Board or if the Chairman is not present,  a Chairman chosen by a majority of the
directors present shall act as chairman. The Secretary of the corporation or, in
the absence of the Secretary,  any person appointed by the Chairman shall act as
secretary of the meeting.

Section 33.  Compensation.  Directors and members of committees may receive such
compensation,  if any, for their services,  and such reimbursement for expenses,
as may be fixed or determined by the Board of Directors.

Section 34.  Committees.  The Board of Directors may, by resolution adopted by a
majority  of  the  authorized  number  of  directors,   designate  one  or  more
committees,  each  consisting  of two (2) or more  directors,  to  serve  at the
pleasure of the Board of  Directors.  The Board of  Directors,  by a vote of the
majority  of  authorized  directors,  may  designate  one or more  directors  as
alternate members of any committee,  to replace any absent member at any meeting
of such committee.  Any such committee shall have authority to act in the manner
and to the extent provided in the resolution of the Board of Directors,  and may
have all the  authority  of the  Board of  Directors  in the  management  of the
business and affairs of the corporation, except with respect to:

     (a) the approval of any action for which shareholders' approval or approval
of the outstanding shares also is required by the California Corporations Code;

     (b) the  filling  of  vacancies  on the  Board of  Directors  or any of its
committees;

     (c) the fixing of  compensation  of  directors  for serving on the Board of
Directors or any of its committees;

     (d) the adoption, amendment or repeal of these bylaws;

     (e) the  amendment  or repeal of any  resolution  of the Board of Directors
which by its express terms is not so amendable or repealable;

     (f) a  distribution  to  shareholders,  except  at a rate or in a  periodic
amount or within a price range determined by the Board of Directors; or

     (g) the  appointment  of other  committees of the Board of Directors or the
members thereof.

         Any committee  may from time to time provide by resolution  for regular
meetings at specified times and places. If the date of such a meeting falls on a
legal  holiday,  then the  meeting  shall  be held at the same  time on the next
succeeding  full business  day. No notice of such a meeting need be given.  Such
regular  meetings  need not be held if the  committee  shall so determine at any
time  before or after the time when such  meeting  would  otherwise  have  taken
place.  Special meetings may be called at any time in the same manner and by the
same persons as stated in Sections 26 and 27 of these bylaws for meetings of the
Board of  Directors.  The  provisions  of Sections  25, 28, 29, 30, 31 and 32 of
these bylaws shall apply to committees, committee members and committee meetings
as if the words "committee" and "committee member" were substituted for the word
"Board of Directors", and "director", respectively, throughout such sections.

                                       11.
<PAGE>

                                    ARTICLE V
                                    Officers

Section 35.  Officers.  The corporation  shall have a Chairman of the Board or a
President  or both,  a  Secretary,  a Chief  Financial  Officer  and such  other
officers  with such titles and duties as the Board of Directors  may  determine.
Any two or more offices may be held by the same person.

Section 36. Appointment. All officers shall be chosen and appointed by the Board
of Directors;  provided,  however,  the Board of Directors may empower the chief
executive  officer of the  corporation  to  appoint  such  officers,  other than
Chairman of the Board,  President,  Secretary or Chief Financial Officer, as the
business  of the  corporation  may  require.  All  officers  shall  serve at the
pleasure of the Board of Directors, subject to the rights, if any, of an officer
under a contract of employment.

Section 37.  Inability To Act. In the case of absence or inability to act of any
officer of the corporation or of any person authorized by these bylaws to act in
such officer's  place, the Board of Directors may from time to time delegate the
powers or duties of such officer to any other officer,  or any director or other
person  whom it may select,  for such  period of time as the Board of  Directors
deems necessary.

Section 38. Resignations. Any officer may resign at any time upon written notice
to the corporation,  without prejudice to the rights, if any, of the corporation
under any contract to which such officer is a party.  Such resignation  shall be
effective  upon its receipt by the  Chairman of the Board,  the  President,  the
Secretary or the Board of Directors, unless a different time is specified in the
notice  for  effectiveness  of such  resignation.  The  acceptance  of any  such
resignation  shall  not be  necessary  to make  it  effective  unless  otherwise
specified in such notice.

Section 39. Removal. Any officer may be removed from office at any time, with or
without  cause,  but subject to the rights,  if any, of such  officer  under any
contract of  employment,  by the Board of Directors or by any  committee to whom
such power of removal  has been duly  delegated,  or, with regard to any officer
who has been  appointed by the chief  executive  officer  pursuant to Section 36
above, by the chief executive  officer or any other officer upon whom such power
of removal may be conferred by the Board of Directors.

Section 40.  Vacancies.  A vacancy  occurring in any office for any cause may be
filled by the Board of  Directors,  in the manner  prescribed by this Article of
the bylaws for initial appointment to such office.

Section 41.  Chairman Of The Board.  The Chairman of the Board, if there be such
an officer, shall, if present, preside at all meetings of the Board of Directors
and shall  exercise  and perform such other powers and duties as may be assigned
from time to time by the Board of Directors or prescribed by these bylaws. If no
President is  appointed,  the  Chairman of the Board is the general  manager and
chief executive officer of the corporation, and shall exercise all powers of the
President described in Section 42 below.

                                       12.
<PAGE>

Section 42.  President.  Subject to such powers,  if any, as may be given by the
Board of Directors  to the  Chairman of the Board,  if there be such an officer,
the President shall be the general  manager and chief  executive  officer of the
corporation and shall have general supervision,  direction, and control over the
business and affairs of the corporation,  subject to the control of the Board of
Directors.  The President may sign and execute,  in the name of the corporation,
any instrument authorized by the Board of Directors, except when the signing and
execution thereof shall have been expressly  delegated by the Board of Directors
or by these  bylaws to some  other  officer  or agent of the  corpora-tion.  The
President  shall have all the general  powers and duties of  management  usually
vested in the president of a  corporation,  and shall have such other powers and
duties as may be prescribed from time to time by the Board of Directors or these
bylaws.  The  President  shall have  discretion to prescribe the duties of other
officers and employees of the corporation in a manner not inconsistent  with the
provisions of these bylaws and the directions of the Board of Directors.

Section 43. Vice Presidents.  In the absence or disability of the President,  in
the event of a vacancy in the office of President,  or in the event such officer
refuses to act, the Vice President shall perform all the duties of the President
and,  when so  acting,  shall  have all the powers of, and be subject to all the
restrictions  on, the President.  If at any such time the  corporation  has more
than one vice  president,  the duties and powers of the President  shall pass to
each vice president in order of such vice president's rank as fixed by the Board
of Directors or, if the vice presidents are not so ranked, to the vice president
designated by the Board of Directors.  The vice presidents shall have such other
powers and perform such other duties as may be prescribed  for them from time to
time by the Board of Directors or pursuant to Sections 35 and 36 of these bylaws
or otherwise pursuant to these bylaws.

Section 44.       Secretary.  The Secretary shall:

     (a) Keep, or cause to be kept, minutes of all meetings of the corporation's
shareholders,  Board of Directors,  and committees of the Board of Directors, if
any. Such minutes shall be kept in written form.

     (b) Keep,  or cause to be kept, at the  principal  executive  office of the
corporation,  or at the office of its  transfer  agent or  registrar,  if any, a
record of the  corpora-tion's  shareholders,  showing the names and addresses of
all  shareholders,  and the number  and  classes  of shares  held by each.  Such
records  shall  be kept in  written  form or any  other  form  capable  of being
converted into written form.

     (c) Keep,  or cause to be kept, at the  principal  executive  office of the
corporation,  or if the principal executive office is not in California,  at its
principal business office in California, an original or copy of these bylaws, as
amended.

                                       13.
<PAGE>

     (d) Give,  or cause to be given,  notice of all  meetings of  shareholders,
directors and  committees  of the Board of  Directors,  as required by law or by
these bylaws.

     (e) Keep the seal of the corporation, if any, in safe custody.

     (f) Exercise  such powers and perform such duties as are usually  vested in
the office of secretary  of a  corporation,  and exercise  such other powers and
perform such other duties as may be prescribed from time to time by the Board of
Directors or these bylaws.

         If any assistant secretaries are appointed, the assistant secretary, or
one of the  assistant  secretaries  in the  order of their  rank as fixed by the
Board of  Directors  or,  if they are not so  ranked,  the  assistant  secretary
designated  by the Board of  Directors,  in the  absence  or  disability  of the
Secretary  or in the  event of such  officer's  refusal  to act or if a  vacancy
exists in the office of  Secretary,  shall  perform the duties and  exercise the
powers of the Secretary  and discharge  such duties as may be assigned from time
to time pursuant to these bylaws or by the Board of Directors.


Section 45.       Chief Financial Officer.  The Chief Financial Officer shall:

     (a) Be  responsible  for all  functions  and duties of the treasurer of the
corporation.

     (b) Keep and  maintain,  or cause to be kept and  maintained,  adequate and
correct books and records of account for the corporation.

     (c) Receive or be responsible  for receipt of all monies due and payable to
the corporation from any source  whatsoever;  have charge and custody of, and be
responsible  for,  all  monies and other  valuables  of the  corporation  and be
responsible  for deposit of all such monies in the name and to the credit of the
corporation  with  such  depositaries  as may be  designated  by  the  Board  of
Directors  or a  duly  appointed  and  authorized  committee  of  the  Board  of
Directors.

     (d) Disburse or be  responsible  for the  disbursement  of the funds of the
corporation  as may be ordered by the Board of Directors or a duly appointed and
authorized committee of the Board of Directors.

     (e) Render to the chief  executive  officer  and the Board of  Directors  a
statement of the financial condition of the corporation if called upon to do so.

     (f) Exercise  such powers and perform such duties as are usually  vested in
the office of chief financial officer of a corporation,  and exercise such other
powers  and  perform  such  other  duties as may be  prescribed  by the Board of
Directors or these bylaws.

         If  any  assistant  financial  officer  is  appointed,   the  assistant
financial officer, or one of the assistant financial officers, if there are more
than one, in the order of their rank as fixed by the Board of  Directors  or, if
they are not so ranked, the assistant  financial officer designated by the Board
of Directors, shall, in the absence or disability of the Chief Financial Officer
or in the  event of such  officer's  refusal  to act,  perform  the  duties  and
exercise the powers of the Chief Financial  Officer,  and shall have such powers
and discharge such duties as may be assigned from time to time pursuant to these
bylaws or by the Board of Directors.

                                       14.
<PAGE>

Section 46.  Compensation.  The compensation of the officers shall be fixed from
time to time by the Board of Directors,  and no officer shall be prevented  from
receiving  such  compensation  by reason of the fact that such officer is also a
director of the corporation.

                                   ARTICLE VI
               Contracts, Loans, Bank Accounts, Checks And Drafts

Section 47. Execution Of Contracts And Other Instruments. Except as these bylaws
may  otherwise  provide,  the  Board  of  Directors  or its duly  appointed  and
authorized committee may authorize any officer or officers,  agent or agents, to
enter into any contract or execute and deliver any instrument in the name of and
on behalf of the corporation,  and such authorization may be general or confined
to specific  instances.  Except as so authorized or otherwise expressly provided
in these  bylaws,  no  officer,  agent,  or  employee  shall  have any  power or
authority to bind the corporation by any contract or engagement or to pledge its
credit or to render it liable for any purpose or in any amount.

Section 48. Loans. No loans shall be contracted on behalf of the corporation and
no negotiable paper shall be issued in its name, unless and except as authorized
by the Board of Directors or its duly appointed and authorized  committee.  When
so authorized by the Board of Directors or such committee,  any officer or agent
of the corporation may effect loans and advances at any time for the corporation
from  any  bank,  trust  company,  or  other  institution,  or  from  any  firm,
corporation or individual, and for such loans and advances may make, execute and
deliver  promissory  notes,  bonds or other  evidences  of  indebtedness  of the
corporation and, when authorized as aforesaid, may mortgage, pledge, hypothecate
or transfer any and all stocks, securities and other property, real or personal,
at any time held by the corporation, and to that end endorse, assign and deliver
the  same  as  security  for  the  payment  of  any  and  all  loans,  advances,
indebtedness,  and liabilities of the corporation.  Such  authoriza-tion  may be
general or confined to specific instances.

Section 49. Bank  Accounts.  The Board of  Directors or its duly  appointed  and
authorized  committee from time to time may authorize the opening and keeping of
general and/or special bank accounts with such banks, trust companies,  or other
depositaries  as may be selected by the Board of Directors,  its duly  appointed
and authorized committee or by any officer or officers,  agent or agents, of the
corporation  to whom such power may be delegated  from time to time by the Board
of  Directors.  The Board of  Directors  or its duly  appointed  and  authorized
committee  may make  such  rules  and  regulations  with  respect  to said  bank
accounts,  not inconsistent  with the provisions of these bylaws,  as are deemed
advisable.

Section 50.  Checks,  Drafts,  Etc.  All checks,  drafts or other orders for the
payment of money,  notes,  acceptances or other evidences of indebtedness issued
in the name of the  corporation  shall be signed by such  officer  or  officers,
agent or agents, of the corporation,  and in such manner, as shall be determined
from time to time by resolution of the Board of Directors or its duly  appointed
and  authorized  committee.  Endorsements  for  deposit  to  the  credit  of the
corporation  in any of its duly  authorized  depositaries  may be made,  without
counter-signature, by the President or any vice president or the Chief Financial
Officer or any assistant  financial  officer or by any other officer or agent of
the  corporation  to whom the  Board of  Directors  or its  duly  appointed  and
authorized  committee,  by  resolution,  shall have  delegated  such power or by
hand-stamped impression in the name of the corporation.

                                       15.
<PAGE>

                                   ARTICLE VII
                   Certificates For Shares And Their Transfer

Section 51.  Certificate  For Shares.  Every holder of shares in the corporation
shall be entitled to have a certificate signed in the name of the corporation by
the Chairman or Vice Chairman of the Board or the President or a Vice  President
and by the Chief Financial  Officer or an assistant  financial officer or by the
Secretary or an  assistant  secretary,  certifying  the number of shares and the
class  or  series  of  shares  owned  by  the  share-holder.  Any  or all of the
signatures on the  certificate may be facsimile.  In case any officer,  transfer
agent or registrar who has signed or whose  facsimile  signature has been placed
upon a  certificate  shall have  ceased to be such  officer,  transfer  agent or
registrar before such certificate is issued, it may be issued by the corporation
with the same  effect  as if such  person  were an  officer,  transfer  agent or
registrar at the date of issue.

         In the event that the corporation shall issue any shares as only partly
paid,  the  certificate  issued to represent  such partly paid shares shall have
stated  thereon  the total  considera-tion  to be paid for such  shares  and the
amount paid thereon.

Section 52.  Transfer On The Books.  Upon surrender to the Secretary or transfer
agent (if any) of the corporation of a certificate for shares of the corporation
duly endorsed,  with  reasonable  assurance that the  endorsement is genuine and
effective,  or  accompanied  by proper  evidence of  succession,  assignment  or
authority  to transfer and upon  compliance  with  applicable  federal and state
securities  laws and if the  corpora-tion  has no statutory duty to inquire into
adverse  claims  or has  discharged  any  such  duty and if any  applicable  law
relating to the collection of taxes has been complied with, it shall be the duty
of the  corporation,  by its  Secretary  or  transfer  agent,  to cancel the old
certificate,  to issue a new certificate to the person  entitled  thereto and to
record the transaction on the books of the corporation.

Section  53.  Lost,  Destroyed  And  Stolen  Certificates.  The  holder  of  any
certificate for shares of the corporation  alleged to have been lost,  destroyed
or stolen  shall  notify  the  corpora-tion  by making a  written  affidavit  or
affirmation  of such fact.  Upon receipt of said  affidavit or  affirmation  the
Board of  Directors,  or its duly  appointed  and  authorized  committee  or any
officer or officers  authorized by the Board so to do, may order the issuance of
a new certificate for shares in the place of any certificate  previously  issued
by the corporation and which is alleged to have been lost,  destroyed or stolen.
However,  the  Board of  Directors  or such  authorized  committee,  officer  or
officers  may  require  the owner of the  allegedly  lost,  destroyed  or stolen
certificate,  or such owner's legal  representative,  to give the  corporation a
bond or other adequate security  sufficient to indemnify the corporation and its
transfer  agent  and/or  registrar,  if any,  against any claim that may be made
against  it or them on  account  of such  allegedly  lost,  destroyed  or stolen
certificate or the replacement thereof.  Said bond or other security shall be in
such amount,  on such terms and conditions and, in the case of a bond, with such
surety or sureties as may be acceptable to the Board of Directors or to its duly
appointed and authorized  committee or any officer or officers authorized by the
Board of Directors to determine the  sufficiency  thereof.  The requirement of a
bond or other  security may be waived in particular  cases at the  discretion of
the Board of Directors or its duly  appointed  and  authorized  committee or any
officer or officers authorized by the Board of Directors so to do.

                                       16.
<PAGE>

Section  54.  Issuance,  Transfer  And  Registration  Of  Shares.  The  Board of
Directors may make such rules and regulations, not inconsistent with law or with
these bylaws,  as it may deem advisable  concerning  the issuance,  transfer and
registration of certificates for shares of the capital stock of the corporation.
The Board of Directors  may appoint a transfer  agent or registrar of transfers,
or both, and may require all  certificates for shares of the corporation to bear
the signature of either or both.

                                  ARTICLE VIII
                         Inspection Of Corporate Records

Section 55.  Inspection By  Directors.  Every  director  shall have the absolute
right  at any  reasonable  time to  inspect  and copy all  books,  records,  and
documents of every kind of the  corporation and any of its  subsidiaries  and to
inspect the physical properties of the corporation and any of its sub-sidiaries.
Such  inspection  may be made by the director in person or by agent or attorney,
and the right of inspection includes the right to copy and make extracts.

Section 56.       Inspection By Shareholders.

     (a) Inspection Of Corporate Records.

     (1) A shareholder or shareholders holding at least five (5%) percent in the
     aggregate of the  outstanding  voting shares of the corporation or who hold
     at least one  percent of such voting  shares and have filed a Schedule  14B
     with the United States Securities and Exchange  Commission  relating to the
     election of directors of the corporation shall have an absolute right to do
     either or both of the following:

         (i) Inspect and copy the record of  share-holders'  names and addresses
         and  shareholdings  during usual  business hours upon five (5) business
         days' prior written demand upon the corporation; or

         (ii) Obtain from the transfer agent, if any, for the corporation,  upon
         five  business  days' prior  written  demand and upon the tender of its
         usual  charges  for such a list (the amount of which  charges  shall be
         stated to the  shareholder by the transfer agent upon request),  a list
         of the  shareholders'  names and addresses who are entitled to vote for
         the  election  of  directors  and their  shareholdings,  as of the most
         recent  record  date for  which it has  been  compiled  or as of a date
         specified by the shareholder subsequent to the date of demand.

     (2) The record of shareholders shall also be open to inspection and copying
     by any  shareholder  or holder of a voting  trust  certificate  at any time
     during usual business hours upon written demand on the  corporation,  for a
     purpose  reasonably  related to such holder's  interest as a shareholder or
     holder of a voting trust certificate.

                                       17.
<PAGE>

     (3) The  accounting  books and records and  minutes of  proceedings  of the
     shareholders  and the Board of Directors and of any committees of the Board
     of Directors of the  corporation and of each of its  subsidiaries  shall be
     open to inspection,  copying and making extracts upon written demand on the
     corpora-tion of any shareholder or holder of a voting trust  certificate at
     any reasonable time during usual business hours,  for a purpose  reasonably
     related to such holder's  interests as a shareholder or as a holder of such
     voting trust certificate.

     (4) Any inspection,  copying,  and making of extracts under this subsection
     (a) may be done in person or by agent or attorney.

     (b)  Inspection Of Bylaws.  The original or a copy of these bylaws shall be
kept as provided in Section 44 of these  bylaws and shall be open to  inspection
by  the  shareholders  at all  reasonable  times  during  office  hours.  If the
principal  executive  office of the  corporation is not in  California,  and the
corporation  has no  principal  business  office in the state of  California,  a
current copy of these bylaws shall be furnished to any shareholder  upon written
request.

Section  57.  Written  Form.  If any record  subject to  inspection  pursuant to
Section 56 above is not  maintained in written form, a request for inspection is
not complied  with unless and until the  corporation  at its expense  makes such
record available in written form.

                                   ARTICLE IX
                                  Miscellaneous

Section 58. Fiscal Year.  Unless  otherwise  fixed by resolution of the Board of
Directors,  the  fiscal  year of the  corporation  shall  end on the 31st day of
December in each calendar year.

Section 59. Annual Report. Subject to the provisions of Section 59(b) below, the
Board of Directors  shall cause an annual report to be sent to each  shareholder
of the corporation in the manner provided in Section 9 of these bylaws not later
than one hundred twenty (120) days after the close of the  corporation's  fiscal
year.  Such report  shall  include a balance  sheet as of the end of such fiscal
year and an income statement and statement of changes in financial  position for
such fiscal year,  accompanied by any report thereon of independent  accountants
or, if there is no such report,  the certificate of an authorized officer of the
corpora-tion that such statements were prepared without audit from the books and
records of the corporation.  When there are more than 100 shareholders of record
of the  corporation's  shares,  as determined  by Section 605 of the  California
Corporations Code, additional  information as required by Section 1501(b) of the
California  Corporations  Code shall also be contained in such report,  provided
that if the corporation has a class of securit-ies  registered  under Section 12
of the  United  States  Securities  Exchange  Act of 1934,  that Act shall  take
precedence. Such report shall be sent to shareholders at least fifteen (15) (or,
if sent by  third-class  mail,  thirty-five  (35)) days prior to the next annual
meeting of shareholders after the end of the fiscal year to which it relates.

Section 60. Record Date.  The Board of Directors may fix a time in the future as
a record date for the determination of the shareholders entitled to notice of or
to vote at any meeting or entitled to receive  payment of any  dividend or other
distribution  or  allotment  of any rights or entitled to exercise any rights in
respect of any change,  conversion or exchange of shares or entitled to exercise
any rights in respect of any other lawful action. The record date so fixed shall
not be more than  sixty  (60) days nor less than ten (10) days prior to the date
of the meeting nor more than sixty (60) days prior to any other  action or event
for the purpose of which it is fixed. If no record date is fixed, the provisions
of Section 15 of these  bylaws  shall apply with  respect to notice of meetings,
votes,  and consents and the record date for  determining  shareholders  for any
other purpose shall be at the close of business on the day on which the Board of
Directors adopts the resolutions  relating  thereto,  or the sixtieth (60th) day
prior to the date of such other action or event, whichever is later.

                                       18.
<PAGE>

         Only shareholders of record at the close of business on the record date
shall be entitled to notice and to vote or to receive the dividend, distribution
or  allotment  of  rights  or to  exercise  the  rights,  as the  case  may  be,
notwithstanding any transfer of any shares on the books of the corporation after
the record date, except as otherwise provided in the Articles of Incorpora-tion,
by agreement or by law.

Section 61. Bylaw Amendments.  Except as otherwise provided by law or Section 19
of these  bylaws,  these  bylaws  may be  amended  or  repealed  by the Board of
Directors or by the  affirmative  vote of a majority of the  outstanding  shares
entitled to vote, including,  if applicable,  the affirmative vote of a majority
of the  outstanding  shares  of each  class  or  series  entitled  by law or the
Articles  of  Incorporation  to vote as a class or  series on the  amendment  or
repeal or adoption of any bylaw or bylaws; provided,  however, after issuance of
shares,  a bylaw  specifying  or  changing a fixed  number of  directors  or the
maximum or minimum  number or changing from a fixed to a variable  board or vice
versa may only be adopted by  approval  of the  outstanding  shares as  provided
herein.

Section 62. Construction And Definition.  Unless the context requires otherwise,
the general provisions, rules of construction,  and definitions contained in the
California Corporations Code shall govern the construction of these bylaws.

         Without  limiting  the  foregoing,  "shall" is  mandatory  and "may" is
permissive.

                                    ARTICLE X
                                 Indemnification

Section 63.  Indemnification Of Directors, Officers, Employees And Other Agents.

     (a) Directors And Executive  Officers.  The corporation shall indemnify its
directors and  executive  officers to the fullest  extent not  prohibited by the
California General Corporation Law; provided,  however, that the corporation may
limit the  extent  of such  indemnification  by  individual  contracts  with its
directors and executive officers;  and, provided,  further, that the corporation
shall not be  required  to  indemnify  any  director  or  executive  officer  in
connection with any proceeding (or part thereof) initiated by such person or any
proceeding by such person against the  corporation  or its directors,  officers,
employees or other agents unless (i) such  indemnification is expressly required
to be made by law, (ii) the  proceeding was authorized by the board of directors
of the corporation or (iii) such indemnification is provided by the corporation,
in its sole discretion,  pursuant to the powers vested in the corporation  under
the California General Corporation Law.

                                       19.
<PAGE>

     (b) Other Officers,  Employees And Other Agents. The corporation shall have
the power to indemnify  its other  officers,  employees  and other agents as set
forth in the California General Corporation Law.

     (c)  Determination By The Corporation.  Promptly after receipt of a request
for  indemnification  hereunder  (and in any  event  within 90 days  thereof)  a
reasonable,  good  faith  determina-tion  as to whether  indemnification  of the
director or  executive  officer is proper under the  circumstances  because such
director or executive  officer has met the applicable  standard of care shall be
made by:

     (1) a majority vote of a quorum consisting of directors who are not parties
     to such proceeding;

     (2) if such quorum is not  obtainable,  by  independent  legal counsel in a
     written opinion; or

     (3) approval or ratification  by the affirmative  vote of a majority of the
     shares of this corporation represented and voting at a duly held meeting at
     which  a  quorum  is  present  (which  shares  voting   affirmatively  also
     constitute  at least a  majority  of the  required  quorum)  or by  written
     consent of a majority of the outstanding  shares entitled to vote; where in
     each case the  shares  owned by the person to be  indemnified  shall not be
     considered entitled to vote thereon.

     (d) Good Faith.

     (1) For  purposes  of any  determination  under this  bylaw,  a director or
     executive  officer  shall be  deemed to have  acted in good  faith and in a
     manner  he  reasonably  believed  to  be  in  the  best  interests  of  the
     corporation and its shareholders,  and, with respect to any criminal action
     or proceeding,  to have had no reasonable cause to believe that his conduct
     was unlawful, if his action is based on information,  opinions, reports and
     statements,  including  financial  statements and other  financial data, in
     each case prepared or presented by:

         (i) one or more  officers  or  employees  of the  corporation  whom the
         director or executive  officer believed to be reliable and competent in
         the matters presented;

         (ii) counsel,  independent  accountants  or other persons as to matters
         which the  director  or  executive  officer  believed to be within such
         person's professional competence; and

         (iii) with  respect to a director,  a committee of the Board upon which
         such director  does not serve,  as to matters  within such  committee's
         designated  authority,  which committee the director  believes to merit
         confidence; so long as, in each case, the director or executive officer
         acts  without   knowledge   that  would  cause  such   reliance  to  be
         unwarranted.

                                       20.
<PAGE>

     (2) The  termination  of any  proceeding  by judgment,  order,  settlement,
     conviction or upon a plea of nolo  contendere or its equivalent  shall not,
     of itself,  create a presumption  that the person did not act in good faith
     and in a manner which he reasonably believed to be in the best interests of
     the  corporation and its  shareholders  or that he had reasonable  cause to
     believe that his conduct was unlawful.

     (3)  The  provisions  of this  paragraph  (d)  shall  not be  deemed  to be
     exclusive or to limit in any way the circumstances in which a person may be
     deemed to have met the  applicable  standard  of  conduct  set forth by the
     California General Corporation Law.

     (e) Expenses. The corporation shall advance, prior to the final disposition
of any proceeding, promptly following request therefor, all expenses incurred by
any  director or  executive  officer in  connection  with such  proceeding  upon
receipt of an  undertaking  by or on behalf of such person to repay said amounts
if it shall be  determined  ultimately  that such  person is not  entitled to be
indemnified under this bylaw or otherwise.

         Notwithstanding the foregoing,  unless otherwise determined pursuant to
paragraph (f) of this bylaw,  no advance shall be made by the  corporation  if a
determination  is  reasonably  and promptly  made by the Board of Directors by a
majority  vote of a quorum  consisting  of directors who were not parties to the
proceeding  (or, if no such quorum  exists,  by  independent  legal counsel in a
written  opinion) that the facts known to the decision  making party at the time
such determination is made demonstrate clearly and convincingly that such person
acted in bad faith or in a manner  that such person did not believe to be in the
best interests of the corporation and its shareholders.

     (f)  Enforcement.  Without  the  necessity  of  entering  into  an  express
contract,  all rights to indemnification and advances to directors and executive
officers  under  this  bylaw  shall be deemed to be  contractual  rights  and be
effective  to the same extent and as if provided  for in a contract  between the
corporation and the director or executive officer.  Any right to indemnification
or advances  granted by this bylaw to a director or executive  officer  shall be
enforceable  by or on behalf of the  person  holding  such right in the forum in
which the  proceeding  is or was pending or, if such forum is not available or a
determina-tion  is made  that  such  forum is not  convenient,  in any  court of
competent  jurisdiction  if (i) the claim for  indemnification  or  advances  is
denied, in whole or in part, or (ii) no disposition of such claim is made within
ninety (90) days of request there-for.  The claimant in such enforcement action,
if successful in whole or in part, shall be entitled to be paid also the expense
of  prosecuting  his claim.  The  corporation  shall be  entitled  to raise as a
defense  to any such  action  that the  claimant  has not met the  standards  of
conduct that make it permissible  under the California  General  Corporation Law
for the  corporation to indemnify the claimant for the amount  claimed.  Neither
the failure of the  corporation  (including its board of directors,  independent
legal counsel or its  shareholders)  to have made a  determination  prior to the
commencement  of such action that  indemnification  of the claimant is proper in
the  circumstances  because he has met the  applicable  standard  of conduct set
forth in the California General Corporation Law, nor an actual deter-mination by
the corporation (including its board of directors,  independent legal counsel or
its  shareholders)  that the  claimant has not met such  applicable  standard of
conduct,  shall be a defense to the action or create a presumption that claimant
has not met the applicable standard of conduct.

                                       21.
<PAGE>

     (g)  Non-Exclusivity  Of Rights.  To the fullest  extent  permitted  by the
corporation's  Articles of Incorporation and the California General  Corporation
Law, the rights  conferred on any person by this bylaw shall not be exclusive of
any other  right  which such  person  may have or  hereafter  acquire  under any
statute, provision of the Articles of Incorporation,  bylaws, agreement, vote of
shareholders or disinterested  directors or otherwise,  both as to action in his
official capacity and as to action in another capacity while holding office. The
corporation is specifically  authorized to enter into individual  contracts with
any  or  all  of  its  directors,   officers,  employees  or  agents  respecting
indemnification and advances,  to the fullest extent permitted by the California
General Corporation Law and the corporation's Articles of Incorporation.

     (h)  Survival Of Rights.  The rights  conferred on any person by this bylaw
shall  continue  as to a person  who has ceased to be a  director  or  executive
officer  and  shall  inure  to  the   benefit  of  the  heirs,   executors   and
administrators of such a person.

     (i) Insurance.  The  corporation,  upon approval by the board of directors,
may  purchase  insurance  on behalf of any person  required or  permitted  to be
indemnified pursuant to this bylaw.

     (j)  Amendments.  Any repeal or  modification  of this bylaw  shall only be
prospective  and shall not affect  the rights  under this bylaw in effect at the
time of the  alleged  occurrence  of any action or  omission  to act that is the
cause of any proceeding against any agent of the corporation.

     (k) Employee Benefit Plans.  The corporation  shall indemnify the directors
and officers of the  corporation  who serve at the request of the corporation as
trustees,  investment managers or other fiduciaries of employee benefit plans to
the fullest extent permitted by the California General Corporation Law.

     (l) Saving Clause. If this bylaw or any portion hereof shall be invalidated
on any ground by any court of competent jurisdiction, then the corporation shall
nevertheless indemnify each director and executive officer to the fullest extent
permitted  by any  applicable  portion  of this  bylaw  that shall not have been
invalidated, or by any other applicable law.

     (m) Certain  Definitions.  For the  purposes of this bylaw,  the  following
definitions shall apply:

     (1) The term  "proceeding"  shall be broadly  construed and shall  include,
     without limitation, the investiga-tion,  preparation, prosecution, defense,
     settlement and appeal of any threatened,  pending or completed action, suit
     or proceeding,  whether  civil,  criminal,  administrative,  arbitrative or
     investi-gative.

     (2) The term  "expenses"  shall be  broadly  construed  and shall  include,
     without  limitation,  court costs,  attorneys' fees,  witness fees,  fines,
     amounts paid in  settlement or judgment and any other costs and expenses of
     any nature or kind incurred in connection  with any  proceeding,  including
     expenses of establishing a right to indemnification under this bylaw or any
     applicable law.

                                       22.
<PAGE>

     (3) The term the "corporation"  shall include, in addition to the resulting
     corporation,  any constituent  corpora-tion (including any constituent of a
     constituent)  absorbed in a consolidation  or merger which, if its separate
     existence  had  continued,  would have had power and authority to indemnify
     its directors, officers, and employees or agents, so that any person who is
     or  was  a  director,  officer,  employee  or  agent  of  such  constituent
     corporation,  or is or was  serving  at the  request  of  such  constituent
     corporation  as  a  director,   officer,   employee  or  agent  of  another
     corporation,  partnership,  joint venture, trust or other enterprise, shall
     stand in the same position  under the provisions of this bylaw with respect
     to the resulting or surviving  corporation as he would have with respect to
     such constituent corporation if its separate existence had continued.

     (4)  References to a "director,"  "officer,"  "employee," or "agent" of the
     corporation shall include, without limitation, situations where such person
     is or was serving at the request of the corporation as a director, officer,
     employee,  trustee  or agent of  another  corporation,  partnership,  joint
     venture, trust or other enterprise.

                                   ARTICLE XI
                          Loans Of Officers And Others

Section 64. Certain  Corporate  Loans And  Guaranties.  If the  corporation  has
outstanding shares held of record by 100 or more persons on the date of approval
by the Board of Directors,  the  corporation may make loans of money or property
to, or  guarantee  the  obligations  of, any officer of the  corporation  or its
parent or any  subsidiary,  whether or not a director of the  corporation or its
parent or any subsidiary, or adopt an employee benefit plan or plans authorizing
such loans or guaranties,  upon the approval of the Board of Directors alone, by
a vote  sufficient  without  counting  the vote of any  interested  director  or
directors,  if the Board of Directors determines that such a loan or guaranty or
plan may reasonably be expected to benefit the corporation.  Notwithstanding the
foregoing,  the corporation  shall have the power to make loans permitted by the
California Corporations Code.



                                      23.

<PAGE>

                                                                   Exhibit 10.19


                              EMPLOYMENT AGREEMENT


         This Employment Agreement ("Agreement") is entered into on the 12th day
of November,  1998, by and between DONALD L. RICH ("Executive") and CASTELLE,  a
California corporation (the "Company").

         WHEREAS,  the Company desires to employ  Executive to provide  personal
services  to  the  Company,   and  wishes  to  provide  Executive  with  certain
compensation and benefits in return for his services; and

         WHEREAS,  Executive  wishes to be  employed  by the Company and provide
personal  services  to the  Company  in  return  for  certain  compensation  and
benefits;

         NOW,  THEREFORE,  in consideration of the mutual promises and covenants
contained  herein,  it is hereby  agreed by and between  the  parties  hereto as
follows:

1.       EMPLOYMENT BY THE COMPANY.

1.1 The effective date of this Agreement shall be November 10, 1998.

1.2 Subject to terms set forth herein, the Company agrees to employ Executive in
the  position of Chief  Executive  Officer and  Executive  hereby  accepts  such
employment effective as of November 10, 1998 (the "Employment Date"). During the
term of his employment with the Company,  Executive will devote his best efforts
and  substantially  all of his business time and attention  (except for vacation
periods  as set  forth  herein  and  reasonable  periods  of  illness  or  other
incapacities  permitted  by the  Company's  general  employment  policies  or as
otherwise set forth in this Agreement) to the business of the Company.

1.3 Executive shall serve in an executive capacity and shall perform such duties
as are customarily  associated the position of Chief Executive  Officer and such
other duties as are assigned to  Executive by the  Company's  Board of Directors
(the "Board").  Executive will report to the Board. Executive shall be appointed
to the Board and the  Company  will use its best  efforts to elect and  re-elect
Executive to the Board.

1.4 The  employment  relationship  between the parties shall also be governed by
the general  employment  policies and practices of the Company,  including those
relating to protection of confidential information and assignment of inventions,
except that when the terms of this Agreement differ from or are in conflict with
the Company's  general  employment  policies or practices,  this Agreement shall
control.

2.       COMPENSATION.

2.1 Salary.  Executive  shall  receive for services to be rendered  hereunder an
annualized base salary of $200,000, payable on a biweekly basis.

                                       1.
<PAGE>
2.2  Bonus.  Executive  will be  eligible  to earn a bonus,  in an  amount up to
$100,000 if performance  criteria to be developed by the Compensation  Committee
of the Board (the "Corporation  Committee") are met. These performance  criteria
will be established by the Compensation Committee prior to the end of the fourth
quarter of the previous  year. In the event  Executive  exceeds the  performance
criteria  established by the Compensation  Committee in a given year,  Executive
will be eligible to earn a bonus in excess of $100,000.

2.3 Standard  Company  Benefits.  Executive  shall be entitled to all rights and
benefits for which he is eligible under the terms and conditions of the standard
Company benefits and compensation  practices which may be in effect from time to
time and provided by the Company to its executive employees generally.

2.4  Compensatory  Stock  Awards.  On November 12,  1998,  the Board shall grant
Executive an option to acquire three hundred  thousand  (300,000)  shares of the
common stock of the Company.  Such options  shall be granted under the Company's
1988 Incentive Stock Plan (the "Option  Plan").  The exercise price per share of
these  options  will be equal to one hundred  percent  (100%) of the fair market
value of the Company's  common stock, as determined under the Option Plan on the
date of grant.  Subject to  Executive's  continued  employment  by the  Company,
one-sixth  (1/6) of the  options  shall  vest on the date that is six (6) months
after  the  date on  which  Executive  commences  employment  and an  additional
one-thirty-sixth (1/36) of the options shall vest each calendar month for thirty
(30) months thereafter for each subsequent month of service Executive  completes
with  the  Company.  The  vesting  of such  options  may be  accelerated  upon a
termination  of  Executive's   employment  with  the  Company  pursuant  to  the
provisions of the Executive  Severance and  Transition  Benefits  Agreement that
Executive will enter into with the Company.

2.5 Executive Severance And Transition  Benefits Agreement.  Effective as of the
Employment Date, Executive will be eligible to enter into an Executive Severance
and Transition  Benefits  Agreement with the Company in the form attached hereto
as Exhibit A (the "Severance  Agreement").  The Severance Agreement will provide
the sole benefits that  Executive will receive upon  Executive's  termination of
employment with the Company for any reason.

3.       PROPRIETARY INFORMATION OBLIGATIONS.

3.1  Agreement.  Executive  agrees  to  execute  and  abide  by the  Proprietary
Information and Inventions Agreement attached hereto as Exhibit B.

3.2  Remedies.   Executive's  duties  under  the  Proprietary   Information  and
Inventions  Agreement  shall  survive  termination  of his  employment  with the
Company.  Executive  acknowledges  that  a  remedy  at law  for  any  breach  or
threatened  breach by him of the provisions of the  Proprietary  Information and
Inventions  Agreement  would be  inadequate,  and he  therefore  agrees that the
Company  shall be  entitled to  injunctive  relief in case of any such breach or
threatened breach.

                                       2.
<PAGE>

4.       OUTSIDE ACTIVITIES.

4.1 Except  with the prior  written  consent of the  Board,  Executive  will not
during the term of this Agreement  undertake or engage in any other  employment,
occupation  or  business  enterprise,  other than ones in which  Executive  is a
passive investor. Executive may engage in civic and not-for-profit activities so
long as such activities do not materially  interfere with the performance of his
duties hereunder.

4.2 During the term of his  employment  by the Company,  except on behalf of the
Company,  Executive  will not  directly  or  indirectly,  whether as an officer,
director,   stockholder,   partner,   proprietor,   associate,   representative,
consultant,  or  in  any  capacity  whatsoever  engage  in,  become  financially
interested  in, be employed by or have any  business  connection  with any other
person,  corporation,  firm,  partnership or other entity  whatsoever which were
known by him to compete directly with the Company,  throughout the world, in any
line of  business  engaged  in (or  planned to be  engaged  in) by the  Company;
provided,  however, that anything above to the contrary notwithstanding,  he may
own, as a passive investor, securities of any competitor corporation, so long as
his  direct  holdings  in any one such  corporation  shall not in the  aggregate
constitute more than 1% of the voting stock of such corporation.

5.  TERMINATION  OF  EMPLOYMENT.  Both the Company and Executive  shall have the
right to terminate Executive's  employment with the Company at any time, with or
without  cause,  and without prior notice.  If Executive's  employment  with the
Company is terminated,  Executive will be eligible to receive severance benefits
to the extent provided as set forth in the Severance Agreement.

6.       NONINTERFERENCE.

         While  employed  by the  Company,  and  for one  (1)  year  immediately
following  the  Termination  Date,  Executive  agrees not to interfere  with the
business of the Company by  soliciting,  attempting  to  solicit,  inducing,  or
otherwise causing any employee of the Company to terminate his or her employment
in order to become an employee,  consultant or independent  contractor to or for
any competitor of the Company.

7.       GENERAL PROVISIONS.

7.1  Notices.  Any notices  provided  hereunder  must be in writing and shall be
deemed  effective  upon the earlier of  personal  delivery  (including  personal
delivery by telex) or the third day after  mailing by first  class mail,  to the
Company at its primary office location and to Executive at his address as listed
on the Company payroll.

7.2 Severability.  Whenever  possible,  each provision of this Agreement will be
interpreted  in such manner as to be effective and valid under  applicable  law,
but if any  provision  of  this  Agreement  is held to be  invalid,  illegal  or
unenforceable   in  any  respect  under  any  applicable  law  or  rule  in  any
jurisdiction,  such invalidity,  illegality or unenforceability  will not affect
any  other  provision  or any other  jurisdiction,  but this  Agreement  will be
reformed,  construed  and  enforced  in such  jurisdiction  as if such  invalid,
illegal or unenforceable provisions had never been contained herein.

                                       3.
<PAGE>

7.3 Waiver.  If either party should waive any breach of any  provisions  of this
Agreement,  he or it shall not thereby be deemed to have waived any preceding or
succeeding breach of the same or any other provision of this Agreement.

7.4  Complete  Agreement.  This  Agreement  and  its  Exhibit  A and  Exhibit  B
constitute the entire  agreement  between  Executive and the Company and are the
complete, final, and exclusive embodiment of their agreement with regard to this
subject  matter.  They are  entered  into  without  reliance  on any  promise or
representation  other than those expressly contained herein or therein, and they
cannot be  modified or amended  except in a writing  signed by an officer of the
Company.

7.5 Counterparts.  This Agreement may be executed in separate counterparts,  any
one of which need not  contain  signatures  of more than one  party,  but all of
which taken together will constitute one and the same Agreement.

7.6 Headings.  The headings of the sections  hereof are inserted for convenience
only and shall  not be deemed to  constitute  a part  hereof  nor to affect  the
meaning thereof.

7.7 Successors and Assigns.  This Agreement is intended to bind and inure to the
benefit of and be enforceable by Executive and the Company, and their respective
successors, assigns, heirs, executors and administrators,  except that Executive
may not  assign  any of his  duties  hereunder  and he may not assign any of his
rights hereunder without the written consent of the Company,  which shall not be
withheld unreasonably.

7.8 Attorneys'  Fees. If either party hereto brings any action to enforce his or
its rights hereunder, each party in any such action shall be responsible for its
own attorneys' fees and costs incurred in connection with such action.

                                       4.
<PAGE>

7.9 Choice of Law.  All  questions  concerning  the  construction,  validity and
interpretation  of this  Agreement  will be  governed by the law of the State of
California.

         IN WITNESS WHEREOF, the parties have executed this Agreement on the day
and year first above written.

                                                     CASTELLE
                                                     By:/S/ Jerome Burke
                                                            Jerome Burke
                                                            President


                                                    Date:  12th November, 1998


Accepted and agreed this
12th day of November, 1998



/s/ Donald L. Rich
DONALD  L. RICH

                                       5.

<PAGE>

                                    EXHIBIT A




<PAGE>
                                                                  
                            EXECUTIVE SEVERANCE AND
                          TRANSITION BENEFITS AGREEMENT


         THIS  EXECUTIVE   SEVERANCE  AND  TRANSITION  BENEFITS  AGREEMENT  (the
"Agreement")  is entered into  effective  as of the 10th day of  November,  1998
between DONALD L. RICH,  ("Executive")  and CASTELLE,  a California  corporation
(the  "Company").  This  Agreement  is  intended to provide  Executive  with the
compensation  and  benefits  described  herein upon the  occurrence  of specific
events.  Certain capitalized terms used in this Agreement are defined in Article
5.

         The Company and Executive hereby agree as follows:

                                   ARTICLE 1

                            EMPLOYMENT BY THE COMPANY

1.1 The Company and Executive  wish to set forth the  compensation  and benefits
which  Executive  shall be  entitled  to  receive  (i) in the event  Executive's
employment with the Company  terminates,  or (ii) in the event there is a Change
in Control of the Company, under the circumstances described herein.

1.2 The duties and  obligations of the Company to Executive under this Agreement
shall  be in  consideration  for  Executive's  past  services  to  the  Company,
Executive's  continued employment with the Company, and Executive's execution of
the general waiver and release described in Section 3.2.

1.3 This Agreement shall remain in full force and effect so long as Executive is
employed by the Company; provided,  however, that Executive's rights to payments
and benefits under Article 2 shall  continue  until the Company's  obligation to
provide such payments and benefits is satisfied.

1.4 This Agreement shall supersede any other agreements  relating to Executive's
termination of employment with the Company.

                                   ARTICLE 2

              SEVERANCE, CHANGE IN CONTROL AND TRANSITION BENEFITS

2.1  Severance  Benefits.  If  Executive's   employment  terminates  due  to  an
Involuntary Termination Without Cause or a Voluntary Termination for Good Reason
after the date of execution of this Agreement,  and without regard to any Change
in Control of the  Company,  the  termination  of  employment  will be a Covered
Termination.  Executive  shall  receive Base Pay and bonus that have accrued but
are unpaid as of the date of such Covered  Termination,  and, within thirty (30)
days following such Covered Termination, Executive shall also receive a lump sum
payment equal to one hundred percent (100%) of Executive's  Base Pay, all of the
foregoing  subject to  applicable  tax  withholding.  In  addition,  following a
Covered  Termination,  Executive  and  Executive's  covered  dependents  will be
eligible to continue  their health care  benefit  coverage as permitted by COBRA
(Internal Revenue Code Section 4980B) at the same cost to Executive as in effect
immediately  prior  to the  Covered  Termination  for  the one  (l)-year  period
following the Covered Termination.
                                   
                                       1.
<PAGE>

2.2      Transition Bonus.

(a) In the event  there is a Change in  Control  of the  Company  and  Executive
continues to render  services to the Company for ninety (90) days  following the
closing of the transaction resulting in such Change in Control, then, if:

(i)  Executive's  employment has been  terminated and such  termination is not a
Covered Termination,  Executive shall be entitled to a lump-sum payment equal to
fifty percent (50%) of Executive's Base Pay, subject to applicable  withholding;
or

(ii)  Executive's  employment  has been  terminated  and such  termination  is a
Covered Termination,  Executive shall be entitled to a lump-sum payment equal to
the Severance  Benefits set forth in Section 2.1 of this  Agreement,  subject to
applicable withholding.

(b) If Executive does not terminate  employment with the successor company on or
before the ninetieth  (90th) day after the closing of the transaction  resulting
in a Change in Control and continues to render  services to the Company from and
after the ninetieth  (90th) day following such closing,  then Executive shall be
entitled to a lump-sum  payment equal to fifty percent (50%) of Executive's Base
Pay, subject to applicable  withholding,  and without regard to any payment that
might be received by Executive with respect to a Covered Termination.

2.3      Acceleration of Vesting of Outstanding Options.

(a) If  Executive's  employment  terminates on a date that is less than eighteen
(18) months after the date Executive  commences  employment with the Company and
such  termination  is a Covered  Termination,  the  vesting  of any  options  to
purchase common stock of the Company then held by Executive shall accelerate and
such options  shall become  immediately  vested as to fifty percent (50%) of the
total number of shares of common stock subject to such options.

(b) If Executive's  employment terminates on a date that is eighteen (18) months
or more after the date Executive commences  employment with the Company and such
termination  is a Covered  Termination,  the  vesting of any options to purchase
common  stock of the Company then held by Executive  shall  accelerate  and such
options shall become  immediately vested as to one hundred percent (100%) of the
total number of shares of common stock subject to such options.

(c) Notwithstanding (a) and (b) above, if Executive's  employment  terminates in
connection with a Change in Control that is a transaction  that is accounted for
as a pooling of interests for financial accounting purposes,  then no portion of
any option to purchase  common stock of the Company  granted to Executive  after
November  10,  1998 shall  accelerate  unless the  Company  receives  reasonable
assurances  from its  independent  public  accountants  (and from the  acquiring
party's  independent public  accountants) that in their good faith judgment such
acceleration  will not affect the pooling of interests  accounting  treatment of
such Change in Control transaction.
 
                                      2.
<PAGE>

2.4  Mitigation.  Executive  shall not be required  to  mitigate  damages or the
amount of any payment  provided under this Agreement by seeking other employment
or  otherwise,  nor shall the  amount of any  payment  provided  for under  this
Agreement  be reduced by any  compensation  earned by  Executive  as a result of
employment  by  another  employer  or by any  retirement  benefits  received  by
Executive after the date of the Covered Termination, or otherwise.

2.5 Possible  Outcomes.  The chart  attached  hereto as Exhibit B is intended to
summarize  the  possible  cash  benefits  payable  under  this  Article 2 in the
circumstances  indicated  and  is  incorporated  into  this  Agreement  for  the
convenience of the parties.

                                   ARTICLE 3

                     LIMITATIONS AND CONDITIONS ON BENEFITS

3.1 Withholding of Taxes. The Company shall withhold appropriate federal, state,
local (and foreign, if applicable) income and employment taxes from any payments
hereunder.

3.2  Employee  Agreement  and  Release  Prior to Receipt of  Benefits.  Upon the
occurrence  of a Covered  Termination,  and prior to the receipt of any benefits
under this Agreement on account of the  occurrence of such Covered  Termination,
Executive  shall execute the Employee  Agreement and Release (the  "Release") in
the form attached hereto as Exhibit A. Such Release shall specifically relate to
all of Executive's  rights and claims in existence at the time of such execution
and shall confirm  Executive's  obligations under the Company's standard form of
proprietary   information  agreement.   It  is  understood  that  Executive  has
twenty-one (21) days to consider whether to execute such Release,  and Executive
may revoke such Release within seven (7) business days after  execution.  In the
event  Executive does not execute such Release  within the  twenty-one  (2l)-day
period,  or if Executive  revokes such Release within the  subsequent  seven (7)
business day period,  no benefits shall be payable under this Agreement and this
Agreement shall be null and void.

                                   ARTICLE 4

                            OTHER RIGHTS AND BENEFITS

4.1 Nonexclusivity.  Except as otherwise  expressly provided herein,  nothing in
the  Agreement  shall  prevent  or  limit   Executive's   continuing  or  future
participation  in any  benefit,  bonus,  incentive  or  other  plans,  programs,
policies  or  practices  provided by the  Company  and for which  Executive  may
otherwise  qualify,  nor shall  anything  herein limit or otherwise  affect such
rights as Executive may have under other agreements with the Company.  Except as
otherwise expressly provided herein,  amounts which are vested benefits or which
Executive is otherwise entitled to receive under any plan,  policy,  practice or
program of the  Company at or  subsequent  to the date of a Covered  Termination
shall be payable in accordance with such plan, policy, practice or program.

                                       3.
<PAGE>

4.2  Parachute  Payments.  If the  severance  and  other  benefits  provided  to
Executive under this Agreement (i) constitute  "parachute  payments"  within the
meaning of Section  280G of the Internal  Revenue Code of 1986,  as amended (the
"Code") and (ii) but for this Section 4.2,  such  severance  and other  benefits
would be subject to the excise  tax  imposed by Section  4999 of the Code,  then
Executive's benefits under this Agreement shall be payable either:

(a) in full; or

(b) as to such lesser amount which would result in no portion of such  severance
and other benefits being subject to excise tax under Section 499 of the Code,

whichever of the foregoing amounts,  taking into account the applicable federal,
state and local income taxes and the excise tax imposed by Section 4999, results
in the receipt by Executive,  on an after-tax  basis,  of the greatest amount of
severance  benefits  under this  Agreement.  Unless the  Company  and  Executive
otherwise agree in writing,  any  determination  required under this Section 4.2
shall be made in  writing by  independent  public  accountants  agreed to by the
Company  and  Executive  (the  "Accountants"),   whose  determination  shall  be
conclusive  and binding upon  Executive  and the Company for all  purposes.  For
purposes  of  making  the  calculations   required  by  this  Section  4.2,  the
Accountants  may make  reasonable,  good faith  interpretations  concerning  the
application  of Sections  280G and 4999 of the Code.  The Company and  Executive
shall  furnish  to  the  Accountants  such  information  and  documents  as  the
Accountants may reasonably  request in order to make a determination  under this
Section 4.2. The Company  shall bear all costs the  Accountants  may  reasonably
incur in connection with any calculations contemplated by this Section 4.2.

                                   ARTICLE 5

                                   DEFINITIONS

         For  purposes  of the  Agreement,  the  following  terms are defined as
follows:

5.1 "Base Pay" means  Executive's  annual base pay at the rate in effect  during
the  last  regularly   scheduled  payroll  period   immediately   preceding  any
termination of Executive's employment or, if higher, Executive's annual base pay
in effect as of the date of this  Agreement if subsequent to that time Executive
has agreed to a reduction in base pay in connection with a general  reduction in
the base pay of other similarly situated employees of the Company.

5.2 "Change in Control" means (1) a  dissolution,  liquidation or sale of all or
substantially all of the assets of the Company; (2) a merger or consolidation in
which the  Company is not the  surviving  corporation;  (3) a reverse  merger in
which the Company is the surviving  corporation  but the shares of the Company's
common  stock  outstanding  immediately  preceding  the merger are  converted by
virtue of the merger  into other  property,  whether in the form of  securities,
cash or otherwise;  or (4) the acquisition by any person, entity or group within
the meaning of Section 13(d) or 14(d) of the Securities Exchange Act of 1934, as
amended (the "Exchange Act"), or any comparable successor provisions  (excluding
any employee  benefit  plan,  or related  trust,  sponsored or maintained by the
Company or any Affiliate of the Company) of the beneficial ownership (within the
meaning  of Rule  13d-3  promulgated  under  the  Exchange  Act,  or  comparable
successor rule) of securities of the Company representing at least fifty percent
(50%)  of the  combined  voting  power  entitled  to  vote  in the  election  of
directors.

                                       4.
<PAGE>

5.3 "Covered  Termination" means an Involuntary  Termination  Without Cause or a
Voluntary Termination for Good Reason.

5.4  "Involuntary  Termination  Without  Cause" means  Executive's  dismissal or
discharge  for  reasons  other than  fraud,  misappropriation,  embezzlement  or
intentional misconduct on the part of Executive which resulted in material loss,
damage or injury to the Company. The termination of Executive's  employment will
not  be  deemed  to  be an  "Involuntary  Termination  Without  Cause"  if  such
termination occurs as a result of Executive's death or disability.  For purposes
of the foregoing,  "disability"  means a disability,  as that term is defined in
the long term disability  plan maintained by the Company that covers  Executive,
that continues for ninety (90) days.

5.5 "Voluntary Termination For Good Reason" means that the Executive voluntarily
terminates  employment  within  ninety (90) days after any of the  following are
undertaken without Executive's express written consent:

(a) the assignment to Executive of any duties or  responsibilities  which result
in a material  diminution or adverse change of Executive's  position,  status or
circumstances of employment;

(b) a reduction by the Company in Executive's Base Pay;

(c) any  failure  by the  Company to  continue  in effect  any  benefit  plan or
arrangement,  including  incentive  plans or plans to receive  securities of the
Company,  in  which  Executive  is  participating  (hereinafter  referred  to as
"Benefit  Plans"),  or the  taking of any  action  by the  Company  which  would
adversely affect  Executive's  participation in or reduce  Executive's  benefits
under any Benefit Plans or deprive  Executive of any fringe benefit then enjoyed
by  Executive,  provided,  however,  that  Executive  may not terminate for Good
Reason if the Company offers a range of benefit plans and programs which,  taken
as a whole,  are  comparable to the Benefit Plans as determined in good faith by
the Company;

(d) a relocation of Executive or the Company's  principal  business offices to a
location  more  than  twenty  (20)  miles  from the  current  location  at which
Executive  performs  duties,  except for  required  travel by  Executive  on the
Company's  business  to an  extent  substantially  consistent  with  Executive's
business travel obligations;

(e) any breach by the Company of any provision of this  Agreement or Executive's
Employment Agreement dated November 10, 1998; or

(f) any failure by the Company to obtain the assumption of this Agreement by any
successor or assign of the Company.

                                       5.
<PAGE>

                                   ARTICLE 6

                               GENERAL PROVISIONS

6.1  Employment  Status.  This  Agreement  does not  constitute  a  contract  of
employment  or impose on Executive any  obligation to remain as an employee,  or
impose on the Company any  obligation  (i) to retain  Executive  as an employee,
(ii) to change  the status of  Executive  as an  at-will  employee,  or (iii) to
change the Company's policies regarding termination of employment.

6.2 Notices.  Any notices provided hereunder must be in writing and such notices
or any other written communication shall be deemed effective upon the earlier of
personal  delivery  (including  personal delivery by facsimile) or the third day
after mailing by first class mail, to the Company at its primary office location
and to  Executive  at  Executive's  address as listed in the  Company's  payroll
records.  Any payments made by the Company to Executive  under the terms of this
Agreement shall be delivered to Executive  either in person or at the address as
listed in the Company's payroll records.

6.3 Severability.  Whenever  possible,  each provision of this Agreement will be
interpreted  in such manner as to be effective and valid under  applicable  law,
but if any  provision  of  this  Agreement  is held to be  invalid,  illegal  or
unenforceable   in  any  respect  under  any  applicable  law  or  rule  in  any
jurisdiction,  such invalidity,  illegality or unenforceability  will not affect
any  other  provision  or any other  jurisdiction,  but this  Agreement  will be
reformed,  construed  and  enforced  in such  jurisdiction  as if such  invalid,
illegal or unenforceable provisions had never been contained herein.

6.4 Waiver.  If either party should waive any breach of any  provisions  of this
Agreement,  he or it shall not thereby be deemed to have waived any preceding or
succeeding breach of the same or any other provision of this Agreement.

6.5  Arbitration.  Unless  otherwise  prohibited by law or specified  below, all
disputes,  claims  and  causes of  action,  in law or  equity,  arising  from or
relating  to  this  Agreement  or  its  enforcement,   performance,  breach,  or
interpretation  shall be resolved  solely and  exclusively  by final and binding
arbitration held in San Francisco,  California  through  Judicial  Arbitration &
Mediation  Services/Endispute  ("JAMS") under the then existing JAMS arbitration
rules. However, nothing in this section is intended to prevent either party from
obtaining  injunctive  relief in court to prevent  irreparable  harm pending the
conclusion of any such arbitration.  Each party in any such arbitration shall be
responsible  for its own  attorneys'  fees,  costs and necessary  disbursements;
provided,  however,  that in the event one party  refuses to  arbitrate  and the
other  party seeks to compel  arbitration  by court  order,  if such other party
prevails,  it shall be entitled to recover reasonable attorneys' fees, costs and
necessary  disbursements.  Pursuant to California  Civil Code Section 1717, each
party  warrants  that it was  represented  by  counsel  in the  negotiation  and
execution of this Agreement, including the attorneys' fees provision herein.

6.6 Complete Agreement. This Agreement,  including Exhibit A, Exhibit B, and any
other written agreements  referred to in this Agreement,  constitutes the entire
agreement between  Executive and the Company and it is the complete,  final, and
exclusive  embodiment of their agreement with regard to this subject matter.  It
is entered into  without  reliance on any promise or  representation  other than
those expressly contained herein.


                                       6.
<PAGE>
6.7  Amendment or  Termination  of Agreement.  This  Agreement may be changed or
terminated  only upon the mutual  written  consent of the Company and Executive.
The written  consent of the Company to a change or termination of this Agreement
must be signed by an  executive  officer of the  Company  after  such  change or
termination  has been  approved by the  Compensation  Committee of the Company's
Board of Directors.

6.8 Counterparts.  This Agreement may be executed in separate counterparts,  any
one of which need not  contain  signatures  of more than one  party,  but all of
which taken together will constitute one and the same Agreement.

6.9 Headings.  The headings of the Articles and Sections hereof are inserted for
convenience  only and shall not be deemed to  constitute  a part  hereof  nor to
affect the meaning hereof.

6.10 Successors and Assigns. This Agreement is intended to bind and inure to the
benefit of and be enforceable by Executive and the Company, and their respective
successors, assigns, heirs, executors and administrators,  except that Executive
may not  assign  any duties  hereunder  and may not assign any rights  hereunder
without the written consent of the Company,  which consent shall not be withheld
unreasonably.

6.11 Attorneys' Fees. Except as otherwise  provided in Section 6.5, if Executive
brings  any  action  to  enforce  his  rights  hereunder,   Executive  shall  be
responsible  for his own attorneys'  fees and costs incurred in connection  with
such action, regardless of the outcome of such action.

6.12 Choice Of Law. All  questions  concerning  the  construction.  validity and
interpretation  of this  Agreement  will be  governed by the law of the State of
California, without regard to such state's conflict of laws rules.

6.13  Non-Publication.  The parties mutually agree not to disclose  publicly the
terms of this  Agreement  except to the extent  that  disclosure  is mandated by
applicable law or to respective personal advisors.

6.14  Construction Of Agreement.  In the event of a conflict between the text of
the Agreement and any summary,  description or other  information  regarding the
Agreement, the text of the Agreement shall control.

                                       7.
<PAGE>

         IN WITNESS WHEREOF, the parties have executed this Agreement on the day
and year written above.


CASTELLE                                                     DONALD  L. RICH
By:   /s/Jerome Burke                                    /s/ DONALD  L. RICH

Name: Jerome Burke

Title: Executive Vice President




Exhibit A: Employee Agreement and Release
Exhibit B: Chart of Possible Outcomes


                                       8.
<PAGE>


                                    EXHIBIT A

                         EMPLOYEE AGREEMENT AND RELEASE


         I  understand  and  agree  completely  to the  terms  set  forth in the
foregoing agreement.

         I  hereby  confirm  my  obligations  under  the  Company's  proprietary
information agreement.

         I  acknowledge  that I have  read and  understand  Section  1542 of the
California Civil Code which reads as follows: "A general release does not extend
to claims which the  creditor  does not know or suspect to exist in his favor at
the time of executing  the release,  which if known by him must have  materially
affected  his  settlement  with  the  debtor."  I  hereby  expressly  waive  and
relinquish  all  rights  and  benefits  under  that  section  and any law of any
jurisdiction  of similar  effect with  respect to my release of any claims I may
have against the Company.

         Except as  otherwise  set forth in this  Agreement,  I hereby  release,
acquit and forever  discharge  the Company,  its parents and  subsidiaries,  and
their  officers,   directors,   agents,   servants,   employees,   shareholders,
successors, assigns and affiliates, of and from any and all claims, liabilities,
demands,   causes  of  action,  costs,   expenses,   attorneys'  fees,  damages,
indemnities  and  obligations  of every  kind and  nature,  in law,  equity,  or
otherwise,  known  and  unknown,   suspected  and  unsuspected,   disclosed  and
undisclosed (other than any claim for  indemnification I may have as a result of
any third party  action  against me based on my  employment  with the  Company),
arising out of or in any way related to agreements,  events,  acts or conduct at
any time prior to and including the Effective Date of this Agreement,  including
but not limited to: all such claims and demands  directly or indirectly  arising
out of or in any way  connected  with my  employment  with  the  Company  or the
termination  of  that  employment,  including  but not  limited  to,  claims  of
intentional  and negligent  infliction of emotional  distress,  any and all tort
claims  for  personal  injury,  claims or demands  related  to salary,  bonuses,
commissions,  stock,  stock  options,  or any other  ownership  interests in the
Company, vacation pay, fringe benefits,  expense reimbursements,  severance pay,
or any other form of  compensation;  claims  pursuant to any  federal,  state or
local law or cause of action  including,  but not limited to, the federal  Civil
Rights Act of 1964, as amended; the federal Age Discrimination in Employment Act
of 1967, as amended  ("ADEA");  the federal  Americans with  Disabilities Act of
1990; the  California  Fair  Employment  and Housing Act, as amended;  tort law;
contract law; wrongful discharge;  discrimination;  fraud; defamation; emotional
distress;  and breach of the implied  covenant  of good faith and fair  dealing;
provided,  however, that nothing in this paragraph shall be construed in any way
to release the  Company  from its  obligation  to  indemnify  me pursuant to the
Company's indemnification  obligation pursuant to agreement or applicable law or
to reduce or eliminate any coverage I may have under the Company's  director and
officer liability policy, if any.

                                       1.
<PAGE>

         I acknowledge that I am knowingly and voluntarily waiving and releasing
any rights I may have under  ADEA.  I also  acknowledge  that the  consideration
given  for the  waiver  and  release  in the  preceding  paragraph  hereof is in
addition  to  anything  of value  to which I was  already  entitled.  I  further
acknowledge  that I have been advised by this writing,  as required by the ADEA,
that:  (A) my waiver and  release do not apply to any rights or claims  that may
arise  after  the  Effective  Date of this  Agreement;  (B) I have the  right to
consult  with  an  attorney  prior  to  executing  this  Agreement;  (C) I  have
twenty-one  (21) days to  consider  this  Agreement  (although  I may  choose to
voluntarily execute this Agreement earlier); (D) I have seven (7) days following
the execution of this Agreement by the parties to revoke the Agreement;  and (E)
this Agreement  shall not be effective  until the date upon which the revocation
period has  expired,  which  shall be the eighth  day after  this  Agreement  is
executed by me,  provided that the Company has also  executed this  Agreement by
that date (the "Effective Date").

CASTELLE                                                     DONALD  L. RICH



By:    ___________________________                 __________________________

Name:  ___________________________                 Date:_____________________ 

Title: ___________________________          

                                       2.
<PAGE>


                                    EXHIBIT B

                          POSSIBLE CASH PAYMENTS UNDER
              EXECUTIVE SEVERANCE AND TRANSITION BENEFITS AGREEMENT


<TABLE>
<CAPTION>

---------------------------------------- -------------------------------------- --------------------------------------
<S>                                      <C>                                       <C>    
                                         Termination that Does Not Qualify as      Termination that Qualifies as a
                                                 a Covered Termination                   Covered Termination
---------------------------------------- -------------------------------------- --------------------------------------
---------------------------------------- -------------------------------------- --------------------------------------
Prior to Change in Control               Cash:  -0-                             Cash:  12 months base pay
---------------------------------------- -------------------------------------- --------------------------------------
---------------------------------------- -------------------------------------- --------------------------------------
0 - 89 days after Change in Control      Cash:  -0-                             Cash:  12 months base pay
---------------------------------------- -------------------------------------- --------------------------------------
---------------------------------------- -------------------------------------- --------------------------------------
90 days after Change in Control          Cash:  6 months base pay               Cash:  12 months base pay
---------------------------------------- -------------------------------------- --------------------------------------
---------------------------------------- -------------------------------------- --------------------------------------
90+ days after Change in Control         Cash:  6 months base pay               Cash:  18 months base pay
---------------------------------------- -------------------------------------- --------------------------------------

</TABLE>

<PAGE>


                                    EXHIBIT B
<PAGE>
                                    CASTELLE

            EMPLOYEE PROPRIETARY INFORMATION AND INVENTIONS AGREEMENT




In  consideration  of my  employment  or continued  employment  by Castelle (the
"Company"), and the compensation now and hereafter paid to me, I hereby agree as
follows:



1.      NONDISCLOSURE

1.1  Recognition  of  Company's  Rights;  Nondisclosure.  At all times during my
employment  and  thereafter,  I will hold in strictest  confidence  and will not
disclose,  use,  lecture  upon  or  publish  any  of the  Company's  Proprietary
Information (defined below),  except as such disclosure,  use or publication may
be required in connection with my work for the Company,  or unless an officer of
the  Company  expressly  authorizes  such in writing.  I will  obtain  Company's
written  approval  before  publishing or submitting for publication any material
(written,  verbal,  or  otherwise)  that  relates to my work at  Company  and/or
incorporates  any  Proprietary  Information.  I hereby assign to the Company any
rights I may have or acquire in such Proprietary  Information and recognize that
all  Proprietary  Information  shall be the sole property of the Company and its
assigns.

1.2 Proprietary Information.  The term "Proprietary  Information" shall mean any
and all confidential  and/or proprietary  knowledge,  data or information of the
Company.  By way of illustration but not limitation,  "Proprietary  Information"
includes (a) trade secrets, inventions, mask works, ideas, processes,  formulas,
source and object codes, data,  programs,  other works of authorship,  know-how,
improvements,  discoveries,  developments,  designs and techniques  (hereinafter
collectively  referred to as "Inventions");  and (b) information regarding plans
for research,  development, new products, marketing and selling, business plans,
budgets  and  unpublished  financial  statements,  licenses,  prices  and costs,
suppliers  and  customers;   and  (c)  information   regarding  the  skills  and
compensation of other employees of the Company.  Notwithstanding  the foregoing,
it is understood that, at all such times, I am free to use information  which is
generally  known in the trade or  industry,  which is not  gained as result of a
breach of this Agreement, and my own, skill, knowledge,  know-how and experience
to whatever extent and in whichever way I wish.

1.3 Third Party  Information.  I understand,  in addition,  that the Company has
received  and in the future will  receive  from third  parties  confidential  or
proprietary  information  ("Third Party  Information")  subject to a duty on the
Company's part to maintain the confidentiality of such information and to use it
only  for  certain  limited  purposes.  During  the  term of my  employment  and
thereafter,  I will hold Third Party Information in the strictest confidence and
will not disclose to anyone (other than Company  personnel who need to know such
information  in  connection  with their work for the Company) or use,  except in
connection  with my  work  for  the  Company,  Third  Party  Information  unless
expressly authorized by an officer of the Company in writing.

                                       1.
<PAGE>

1.4 No Improper Use of  Information  of Prior  Employers  and Others.  During my
employment by the Company I will not improperly use or disclose any confidential
information or trade secrets, if any, of any former employer or any other person
to whom I have an obligation of  confidentiality,  and I will not bring onto the
premises of the Company any unpublished  documents or any property  belonging to
any  former  employer  or any  other  person  to  whom I have an  obligation  of
confidentiality  unless  consented  to in writing  by that  former  employer  or
person.  I will use in the  performance of my duties only  information  which is
generally  known and used by persons with training and experience  comparable to
my own,  which is common  knowledge in the industry or otherwise  legally in the
public domain, or which is otherwise provided or developed by the Company.

2.      ASSIGNMENT OF INVENTIONS.

2.1  Proprietary  Rights.  The term  "Proprietary  Rights"  shall mean all trade
secret,  patent,  copyright,  mask work and other  intellectual  property rights
throughout the world.

2.2 Prior Inventions.  Inventions, if any, patented or unpatented,  which I made
prior to the  commencement  of my employment  with the Company are excluded from
the scope of this Agreement.  To preclude any possible  uncertainty,  I have set
forth on Exhibit B (Previous  Inventions) attached hereto a complete list of all
Inventions that I have,  alone or jointly with others,  conceived,  developed or
reduced to practice or caused to be conceived,  developed or reduced to practice
prior to the commencement of my employment with the Company,  that I consider to
be my property or the property of third parties and that I wish to have excluded
from  the  scope  of  this  Agreement   (collectively   referred  to  as  "Prior
Inventions").  If  disclosure  of any such  Prior  Invention  would  cause me to
violate any prior confidentiality  agreement, I understand that I am not to list
such Prior  Inventions  in Exhibit B but am only to disclose a cursory  name for
each such invention, a listing of the party(ies) to whom it belongs and the fact
that full disclosure as to such inventions has not been made for that reason.  A
space is  provided  on  Exhibit B for such  purpose.  If no such  disclosure  is
attached,  I represent that there are no Prior Inventions.  If, in the course of
my employment  with the Company,  I incorporate a Prior Invention into a Company
product,  process or  machine,  the  Company is hereby  granted and shall have a
nonexclusive,  royalty-free,  irrevocable,  perpetual,  worldwide  license (with
rights to sublicense through multiple tiers of sublicensees) to make, have made,
modify,  use and sell such Prior  Invention.  Notwithstanding  the foregoing,  I
agree  that  I  will  not  incorporate,  or  permit  to be  incorporated,  Prior
Inventions  in any  Company  Inventions  without  the  Company's  prior  written
consent.

2.3 Assignment of Inventions.  Subject to Sections 2.4, and 2.6, I hereby assign
and agree to assign in the  future  (when  any such  Inventions  or  Proprietary
Rights are first  reduced to practice or first  fixed in a tangible  medium,  as
applicable)  to the Company all my right,  title and  interest in and to any and
all Inventions (and all Proprietary  Rights with respect thereto) whether or not
patentable or registrable under copyright or similar statutes, made or conceived
or reduced to practice or learned by me,  either  alone or jointly  with others,
during the period of my employment with the Company.  Inventions assigned to the
Company, or to a third party as directed by the Company pursuant to this Section
2, are hereinafter referred to as "Company Inventions."

2.4  Nonassignable  Inventions.  This  Agreement  does not apply to an Invention
which  qualifies  fully as a  nonassignable  Invention under Section 2870 of the
California  Labor  Code  (hereinafter  "Section  2870").  I  have  reviewed  the
notification  on Exhibit A (Limited  Exclusion  Notification)  and agree that my
signature acknowledges receipt of the notification.

                                       2.
<PAGE>

2.5 Obligation to Keep Company Informed.  During the period of my employment and
for six (6) months after  termination of my employment with the Company,  I will
promptly  disclose to the Company fully and in writing all Inventions  authored,
conceived or reduced to practice by me, either alone or jointly with others.  In
addition,  I will promptly disclose to the Company all patent applications filed
by me or on my behalf within a year after termination of employment. At the time
of each such disclosure,  I will advise the Company in writing of any Inventions
that I believe fully qualify for  protection  under Section 2870;  and I will at
that  time  provide  to  the  Company  in  writing  all  evidence  necessary  to
substantiate  that belief.  The Company will keep in confidence and will not use
for any purpose or disclose to third parties without my consent any confidential
information  disclosed  in writing to the  Company  pursuant  to this  Agreement
relating to Inventions that qualify fully for protection under the provisions of
Section 2870. I will preserve the confidentiality of any Invention that does not
fully qualify for protection under Section 2870.

2.6  Government or Third Party.  I also agree to assign all my right,  title and
interest in and to any particular Company Invention to a third party,  including
without limitation the United States, as directed by the Company.

2.7 Works for Hire. I acknowledge  that all original  works of authorship  which
are made by me (solely or jointly with others) within the scope of my employment
and which are  protectable  by copyright are "works made for hire,"  pursuant to
United States Copyright Act (17 U.S.C., Section 101).

2.8 Enforcement of Proprietary Rights. I will assist the Company in every proper
way to  obtain,  and  from  time to time  enforce,  United  States  and  foreign
Proprietary Rights relating to Company  Inventions in any and all countries.  To
that end I will  execute,  verify and deliver  such  documents  and perform such
other acts  (including  appearances  as a witness) as the Company may reasonably
request for use in applying for, obtaining, perfecting,  evidencing,  sustaining
and enforcing such Proprietary Rights and the assignment thereof. In addition, I
will execute,  verify and deliver  assignments of such Proprietary Rights to the
Company or its  designee.  My  obligation  to assist the Company with respect to
Proprietary  Rights relating to such Company Inventions in any and all countries
shall continue  beyond the  termination of my employment,  but the Company shall
compensate me at a reasonable  rate after my  termination  for the time actually
spent by me at the Company's request on such assistance.

In the event the Company is unable for any reason,  after reasonable  effort, to
secure my  signature  on any  document  needed in  connection  with the  actions
specified in the preceding paragraph, I hereby irrevocably designate and appoint
the Company and its duly authorized officers and agents as my agent and attorney
in fact,  which  appointment  is coupled with an interest,  to act for and in my
behalf  to  execute,  verify  and file any such  documents  and to do all  other
lawfully permitted acts to further the purposes of the preceding  paragraph with
the same  legal  force  and  effect  as if  executed  by me. I hereby  waive and
quitclaim to the Company any and all claims, of any nature  whatsoever,  which I
now or may hereafter have for  infringement of any  Proprietary  Rights assigned
hereunder to the Company.

                                       3.
<PAGE>

3. RECORDS.  I agree to keep and maintain  adequate and current  records (in the
form of notes, sketches,  drawings and in any other form that may be required by
the Company) of all Proprietary  Information  developed by me and all Inventions
made by me during the period of my  employment  at the  Company,  which  records
shall be available to and remain the sole property of the Company at all times.

4. ADDITIONAL ACTIVITIES. I agree that during the period of my employment by the
Company I will not, without the Company's express written consent, engage in any
employment or business  activity which is competitive  with, or would  otherwise
conflict with, my employment by the Company. I agree further that for the period
of my  employment  by the  Company  and for  one  (l)  year  after  the  date of
termination  of my  employment  by the Company I will not induce any employee of
the Company to leave the employ of the Company.

5. NO CONFLICTING  OBLIGATION.  I represent that my performance of all the terms
of this Agreement and as an employee of the Company does not and will not breach
any agreement to keep in confidence  information acquired by me in confidence or
in trust prior to my employment by the Company.  I have not entered into,  and I
agree I will not enter into,  any agreement  either  written or oral in conflict
herewith.

6. RETURN OF COMPANY  DOCUMENTS.  When I leave the employ of the Company, I will
deliver to the Company any and all drawings,  notes, memoranda,  specifications,
devices,  formulas,  and documents,  together with all copies  thereof,  and any
other  material  containing or disclosing  any Company  Inventions,  Third Party
Information or Proprietary  Information of the Company. I further agree that any
property situated on the Company's premises and owned by the Company,  including
disks and other storage media,  filing  cabinets or other work areas, is subject
to inspection by Company personnel at any time with or without notice.  Prior to
leaving,  I will  cooperate  with the  Company in  completing  and  signing  the
Company's termination statement.

7. LEGAL AND EQUITABLE REMEDIES. Because my services are personal and unique and
because  I may  have  access  to and  become  acquainted  with  the  Proprietary
Information  of the  Company,  the Company  shall have the right to enforce this
Agreement and any of its provisions by injunction, specific performance or other
equitable  relief,  without  bond and without  prejudice to any other rights and
remedies that the Company may have for a breach of this Agreement.

8. NOTICES.  Any notices  required or permitted  hereunder shall be given to the
appropriate party at the address specified below or at such other address as the
party shall specify in writing.  Such notice shall be deemed given upon personal
delivery to the appropriate  address or if sent by certified or registered mail,
three (3) days after the date of mailing.

9.  NOTIFICATION  OF NEW  EMPLOYER.  In the event that I leave the employ of the
Company,  I hereby consent to the  notification  of my new employer of my rights
and obligations under this Agreement.


                                       4.
<PAGE>


10.  GENERAL PROVISIONS.

10.1 Governing  Law;  Consent to Personal  Jurisdiction.  This Agreement will be
governed by and construed  according to the laws of the State of California,  as
such laws are applied to  agreements  entered into and to be performed  entirely
within California  between California  residents.  I hereby expressly consent to
the personal jurisdiction of the state and federal courts located in Santa Clara
County,  California  for any lawsuit filed there  against me by Company  arising
from or related to this Agreement.

10.2 Severability.  In case any one or more of the provisions  contained in this
Agreement shall, for any reason, be held to be invalid, illegal or unenforceable
in any respect, such invalidity, illegality or unenforceability shall not affect
the other provisions of this Agreement, and this Agreement shall be construed as
if such invalid,  illegal or  unenforceable  provision had never been  contained
herein.  If  moreover,  any  one or  more of the  provisions  contained  in this
Agreement  shall for any reason be held to be excessively  broad as to duration,
geographical  scope,  activity or subject, it shall be construed by limiting and
reducing  it,  so as  to be  enforceable  to  the  extent  compatible  with  the
applicable law as it shall then appear.

10.3  Successors  and  Assigns.  This  Agreement  will be binding upon my heirs,
executors,  administrators and other legal  representatives  and will be for the
benefit of the Company, its successors, and its assigns.

10.4 Survival. The provisions of this Agreement shall survive the termination of
my  employment  and the  assignment  of this  Agreement  by the  Company  to any
successor in interest or other assignee.

10.5  Employment.  I agree and understand  that nothing in this Agreement  shall
confer any right with respect to continuation of employment by the Company,  nor
shall it interfere in any way with my right or the Company's  right to terminate
my employment at any time, with or without cause.

10.6 Waiver. No waiver by the Company of any breach of this Agreement shall be a
waiver of any  preceding or succeeding  breach.  No waiver by the Company of any
right under this  Agreement  shall be  construed as a waiver of any other right.
The Company shall not be required to give notice to enforce strict  adherence to
all terms of this Agreement.


                                       5.
<PAGE>


10.7  Entire  Agreement.  The  obligations  pursuant to Sections 1 and 2 of this
Agreement shall apply to any time during which I was previously employed,  or am
in the future  employed,  by the Company as a consultant  if no other  agreement
governs  nondisclosure  and  assignment of inventions  during such period.  This
Agreement  is the final,  complete and  exclusive  agreement of the parties with
respect  to the  subject  matter  hereof  and  supersedes  and  merges all prior
discussions  between us. No modification of or amendment to this Agreement,  nor
any  waiver of any rights  under this  Agreement,  will be  effective  unless in
writing and signed by the party to be charged.  Any subsequent change or changes
in my duties,  salary or  compensation  will not affect the validity or scope of
this Agreement.

This Agreement  shall be effective as of the first day of my employment with the
Company, namely: 10 November, 1998.

        I HAVE READ THIS  AGREEMENT  CAREFULLY AND  UNDERSTAND ITS TERMS. I HAVE
COMPLETELY FILLED OUT EXHIBIT B TO THIS AGREEMENT.



Dated: 12 November, 1998                                                  


/s/ Donald L. Rich
(Signature)

Donald L. Rich
(Printed Name)


ACCEPTED AND AGREED TO:

CASTELLE



/s/ Jerry Bruke                                                       
By:Jerry Bruke                                                       

Title: President                                                    

3255-3 Scott Boulevard
Santa Clara, California  95054



Dated:   12 November, 1998                                                


                                       6.
<PAGE>


                                   EXHIBIT A

                         LIMITED EXCLUSION NOTIFICATION


         THIS IS TO NOTIFY you in accordance with Section 2872 of the California
Labor Code that the  foregoing  Agreement  between you and the Company  does not
require you to assign or offer to assign to the Company any  invention  that you
developed  entirely  on your own time  without  using the  Company's  equipment,
supplies,  facilities or trade secret  information  except for those  inventions
that either:

         1. Relate at the time of  conception  or  reduction  to practice of the
invention  to the  Company's  business,  or actual or  demonstrably  anticipated
research or development of the Company;

         2. Result from any work performed by you for the Company.

         To the  extent a  provision  in the  foregoing  Agreement  purports  to
require  you to  assign  an  invention  otherwise  excluded  from the  preceding
paragraph,  the  provision  is against  the  public  policy of this state and is
unenforceable.

         This  limited  exclusion  does not  apply to any  patent  or  invention
covered by a contract  between the  Company and the United  States or any of its
agencies  requiring  full title to such patent or  invention to be in the United
States.

         I ACKNOWLEDGE RECEIPT of a copy of this notification.

By:       /s/  DONALD L. RICH                 
          DONALD L. RICH

Date:  12 November, 1998                                            



WITNESSED BY: 


Jerome J. Burke
CASTELLE



                                     
<PAGE>


                                    EXHIBIT B

TO:            Castelle

FROM:          Donald Rich                      

DATE:          12 November, 1998                    

SUBJECT:       Previous Inventions


1. Except as listed in Section 2 below,  the following is a complete list of all
inventions or  improvements  relevant to the subject  matter of my employment by
Castelle  (the  "Company")  that have been made or conceived or first reduced to
practice  by me alone or  jointly  with  others  prior to my  engagement  by the
Company:


          |X|  No inventions or improvements.

          | |  See below:







| |      Additional sheets attached.

         2. Due to a prior  confidentiality  agreement,  I cannot  complete  the
disclosure  under  Section 1 above with respect to  inventions  or  improvements
generally listed below, the proprietary rights and duty of confidentiality  with
respect to which I owe to the following party(ies):

         Invention or Improvement        Party(ies)       Relationship

1.       ________________________        __________       _________________ 

2.       ________________________        __________       _________________ 

3.       ________________________        __________       _________________ 
                                                                            

| |      Additional sheets attached.

<PAGE>

                                                                    Exhibit 23.1




                      Consent of PricewaterhouseCoopers LLP
                             Independent Accountants




We consent to the  incorporation by reference in the  registration  statement of
Castelle and  subsidiaries  on Form S-8 (File  No.333-75247) of our report dated
February 5, 1999,  on our audits of the  consolidated  financial  statements  of
Castelle and  subsidiaries as of December 31, 1998 and 1997, and for each of the
three years in the period ended December 31, 1998, and our report dated February
5, 1999, on our audit of the  financial  statement  schedule,  which reports are
included in this Form 10-K.

PricewaterhouseCoopers LLP

San Jose, California
March 26, 1999



<PAGE>